Marks and Spencer (LON:MKS) past the sales slump
The main relief here is that pre-tax profit is a little above the average City forecast of c.£593m-£600m. At £613.8m, down 11% on the year, there are even grounds to see some of the slippage as due to the 2015/16 financial year having benefited from an additional week.
Other impacts, like planned Clothing and Home volume reductions, new space costs, and adjusted items totalling £437.4m, were well-flagged. We expect investors to be more wary of the deeper than forecast declines in both underlying Food and Clothing and Home sales in the fourth quarter, which fell 2.1% and 5.9% respectively against expectations that Food would inch a little higher and C&H’s contraction would be contained to about 3%.
A certain degree of disruption was widely accepted as being inevitable as Steve Rowe pushes through his comprehensive foundation plan, but the concern is that the revamp might temporarily fray margins more than some investors had anticipated, particularly whilst unpredictable pressures like input price inflation can shave as much as 50 basis points (bps) off the gross margin, as the group anticipates could happen in the current half. Furthermore, whilst few shareholders will be particularly alarmed by the loss of a quarter of a percentage point of margin in the past financial year, slippage being partly attributed to “higher than anticipated waste” underlines the risk that the normal run of minor retail mishaps could bite deeper during the group’s transition.
Looking at M&S’s most recent performance, it’s not entirely clear whether the adverse impact from allocation of the December sale to Q3 was a very material negative for Q4 food sales. We think that adding back the 1.9% (gross) impact estimated by M&S still leaves food like-for-likes negative in the quarter, and that suggests competitors gained from marginal dispersal of Marks turnover in Q4.
Still, with calendar effects removed, the CEO finds performance in clothing more than satisfactory at the end of the year, suggesting there are signs of sustainable market share growth from an 8% rise in full-price clothing sales. It’s difficult to disagree with the advantages of improved visibility from curbing discounts . The strategy of switching space over to food to extend dominance of the mid-to-upper price bracket also remains attractive.
All in, with few additional significant negatives emerging since Q3, risks to execution of the comprehensive plan and to its effectiveness are still considerable, though at least stable in our view. However, until the Clothing and Home reshape bears fruit, we do see scope for M&S’s uprating to 13.2 times 17/18 since last autumn—compared to Next (LON:NXT) on 11.31—to be pared back. Without signs of firming clothes sales, it’s difficult to justify a rise in the midpoint of profit consensus provided by M&S. And at £576m, those profit expectations are a little out of sync with the current market rating.
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