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Marks & Spencer - profits down but ahead of expectations

Nicholas Hyett | 6 November 2019 | A A A
Marks & Spencer - profits down but ahead of expectations

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Marks & Spencer Group plc Ordinary 1p

Sell: 237.80 | Buy: 238.10 | Change -4.50 (-1.87%)
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Half year revenue fell 2.2% at constant exchange rates to £4.9bn, following another tough period in Clothing & Home. That fed into a 17.1% decrease in underlying pre-tax profit, to £176.5m. However, this was a touch better than analysts had expected, after a strong result in Food.

As previously announced, there will be a rebased interim dividend of 3.9p.

The shares rose 4.3% following the announcement.

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Our view

M&S's core Clothing & Home business is still feeling the pain. Online competition and the burdensome costs of maintaining a high street presence are taking their toll on group profits.

But CEO Steve Rowe's turnaround plan is in full swing, and there may be some cracks of light at the end of the tunnel.

Store closures, reduced spending and higher digital capacity don't come cheap, but there are early signs the hard work is paying off. Operational improvements means current trends are looking stronger in Clothing & Home, and this is expected to continue in the second half of the year. We'd still like a longer run of good news here before turning more positive though.

There's plenty of action in the food business too.

Prices are falling as the group tries to eek out market share gains, that's seeing sales creep up, but it's hurting margins. You can't cut prices forever, so sales need a shot in the arm. That's where the Ocado deal comes in.

Ocado is growing rapidly, and there should be numerous cross-selling opportunities between the two client bases. Then there's the fact that running it as a JV means it's more of a plug and play option, so execution risk is reduced. All sounds good, but given the deal had a price tag of £750m, and was funded by a dilutive rights issue, there's pressure for the deal to pay off.

And that's not the only expense, the wider strategy has incurred massive costs; M&S has written off over £975m in exceptional costs in just the last two and a half years. The group's vintage heritage is a key strength, but also means transforming the in-house culture and how the nation sees it will be continue to be difficult, and expensive.

Overall, there are green shoots at M&S, but the heavy lifting is far from over. The prospective yield is 5.9%, but with the dividend set to rise in line with earnings, the strategy needs to deliver growth if the payout's to increase.

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Half year results

Revenues in Food rose 1.2% to £2.8bn, which was better than the market hoped. That reflects a 0.9% increase in like-for-like (LFL) sales, and higher volumes. Gross margins were down slightly at 31%, as M&S lowered prices. Gross profit rose 0.5%, to £881.3m. The joint venture deal with Ocado is complete, and plans for the integrate M&S products is on track.

In Clothing & Home revenue declined 7.8%, to £1.6bn. That was partly driven by store closures, and LFLs dipped 5.5%. There were issues with the availability of stock across online and in store ranges too, and online revenue was flat year-on-year.

Gross margins declined just over 1 percentage point to 57.1%. That reflects higher sourcing costs and discounting. Gross profit was down 9.4% at £895.6m.

Ignoring the impact of exchange rates, International revenue decreased by 1.7%. That was driven by a weak performance in Ireland and the timing of shipments.

M&S bank income was flat, following an increase in bad debt, although that excluded a significant PPI provision.

The group delivered cost savings of around £75m in the half, and operating costs are now expected to fall by 1 to 2% this year, ahead of guidance of 0 to -1%. 17 full line stores closed so far this year.

Lower profits, combined with higher levels of stock meant adjusted free cash flow was £91.9m, compared to £294.7m last year. Adjusted Net debt stands at £4.1bn, down 3.7% on last year.

M&S now expects full year capital expenditure to be £300-£350m, down from £350-£400m.

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Unless otherwise stated estimates, including prospective yields, are a consensus of analyst forecasts provided by Thomson Reuters. These estimates are not a reliable indicator of future performance. Yields are variable and not guaranteed. Investments rise and fall in value so investors could make a loss.

This article is not advice or a recommendation to buy, sell or hold any investment. No view is given on the present or future value or price of any investment, and investors should form their own view on any proposed investment. This article has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is considered a marketing communication. Non-independent research is not subject to FCA rules prohibiting dealing ahead of research, however HL has put controls in place (including dealing restrictions, physical and information barriers) to manage potential conflicts of interest presented by such dealing. Please see our full non-independent research for more information.