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Morrison (Wm) Supermarkets (MRW) Ordinary 10p

Sell: 198.90pBuy: 199.10p01.60p (0.81%)
FTSE 1000.53%
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HL comment (13 January 2015)

Morrison has this morning revealed a slightly improved level, albeit still negative rate of Like-for-Like (LFL) sales and also announced that CEO Dalton Philips is to leave the business after the Board decided that it was time for new leadership.

The company claims to be making progress on all components of the trading strategy they set out last March. LFL sales are improving, with sales in the six weeks to 4 January down 3.1%, excluding fuel sales. This compares to a rate of -3.6% in the company's third quarter. Total sales, including the fast declining cost of fuel, were down 5.2%.

It is a year since the company launched their online grocery sales offer and Morrison has now delivered its millionth basket to a customer. Without the online operation, Morrison said the overall LFL sales outcome would have been 1% weaker.

Key performance measures like Items per basket improved, from -2.4% to just -0.2% and the overall Number of Transactions recovered from a 3.3% decline to a fall of 1.7%. The company is pleased with the performance of their Match & More loyalty card, and the operational success of the online operation, where on time delivery was 97.5%.

The convenience chain of M Local stores grew with 17 new stores in the period, making 46 new openings in the year as a whole. Outgoing CEO Dalton Philips said:

"I would like to thank colleagues for delivering a stronger Christmas proposition for our customers. Our like-for-like sales were a step-up on recent quarters and trends in the key operational measures continued to improve. Our three-year cost saving and cash flow targets remain on track. Although there is still much to do, we are building the platform to enable us to compete better in an industry that we expect to be highly competitive in the year ahead."

In terms of financial guidance, the company has said its financial position remains strong, bolstered by an expected £400m - £500m of property sales, which will leave net debt in the range of £2.3bn - £2.4bn at year-end. Morrison make no change to their profit expectations, with underlying profit before tax expected to be in the range of £335m - £365m after £65m of new business development costs and £70m of one-off costs.

Management Changes
Morrison had already flagged that Andrew Higginson would succeed Sir Ian Gibson as Chairman in 2015 and this will now take place on January 22. Today the company announces that CEO Dalton Philips is to leave Morrison after the Board decided that new leadership was needed to return the business to growth. The company will shortly commence the search for a new CEO. No details have been given as to the compensation package that will be offered to Dalton Philips.

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Our view


Morrison is changing course. Where to, we do not yet know. But the Group say that they wish for new leadership in an attempt to return the business to growth. So farewell Dalton Philips, who arrived five years ago when Morrison was growing fast and leaves when it is the worst performing of the listed supermarkets with Like-for-Like sales (LFL) trailing far below its rivals .

It wasn't really Mr Philips' fault; Bradford-based Morrison had eschewed an online service, arguing it wasn't profitable to have one. Eventually he corrected this strategic error, but not before the group had ceded too much market share. The venture into non-food online selling was a fiasco, with Kiddicare bought dear, expanded at huge cost, then shrunk and sold for a song. Perhaps the greatest error though was to look to Leeds, not Germany when trying to understand the competitive outlook. Leeds-based Asda does matter, but it has been the surge by Aldi and Lidl that exposed the weakness of Morrison’s competitive position most cruelly.

What can Morrisons do going forwards? We know, because they have said so today, that their weakest 10 stores are to close. That will help to support margins a little, and comes on top of Tesco culling 43 loss-making outlets.
 
Pricing is going to remain the key battleground, because despite a few closures at the edges, the industry has more space than it truly needs. Step back to the start of the financial crisis and all the major players had aggressive opening plans. Those stores have since been built, but consumers' real incomes have fallen by around 10%. It was inevitable that LFL sales would be weak for all the mass market players; the rise of the Discounters compounded this, whilst online delivery capacity was the final straw.

Morrison has to reinvest into best of breed systems to lower operating costs. It cannot grow its way out of trouble by opening stores, because the demand for them is not there, until consumer incomes recover. It needs to boost efficiency to restore profit margins, which look set to run at around 3%, or half the level that the business used to consistently achieve before it bought Safeway and before the Discounters arrived en masse.

The dividend is barely covered this year, and less than 1.5x covered next year. We doubt that an incoming CEO will wish to be constrained by it and suspect the final payment will be cut or even omitted, Tesco having already blazed that trail. The consensus expectation of a 7.1% yield thus looks highly suspect to us.

It is going to be a long, tough slog. But the company has growing capacity to serve customers online, plus a loyalty card with which to retain them and gather data to better understand them. The weakness in the shares over the last year or two has left the group's Enterprise Value (the combined value of their shares and the group's debts) to sales ratio trading at about 0.4x, versus a longer term average of over 0.5x. If the group can restore operating profitability beyond the level currently forecast, there might be some scope for a re-rating.

The problem is that all the major players are cutting prices, whilst the Discounters' opening programmes are filling the gap created by the Big 4 stepping off the pedal. The incoming CEO will presumably eventually present a compelling new strategy, for without one, how would he or she get the job?

With things apparently getting no worse presently, and consumers benefitting from lower energy prices just as wage growth picks up, there could be scope for some recovery in Morrisons near term, but a durable recovery will need the group to demonstrate a sustainable return to higher profit margins than they are presently achieving.

All yield figures are variable and not guaranteed.

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