It’s been more of an uncomfortable half-year for Marks and Spencer (LON:MKS) than one of abject let-downs. We were however struck by some incongruity coming through over strategic sequencing and even communication.
Food fumble
Faster than expected gross margin slippage in food was the biggest disappointment. There had been signs that M&S’s price and cost mix was well-calibrated to growing challenges facing grocery retailers amid input cost inflation. Instead, M&S has managed to take almost the full brunt of the hit in in the first half. Admittedly that was the cost of limiting retail price increases. But with steady like for like declines across both quarters against pockets of growth among competitors, it is clear M&S food market share was under pressure. We think these conditions were exacerbated by M&S’s response. The group has put its opening programme for the Simply Food format on hold. It now wants to “reposition our food offer for future growth”. The statement is puzzling. Investors had thought ‘repositioning’ was the aim of the Simply Food programme itself. Essentially M&S seems to be starting from scratch. That is a worry amid strengthened offers at Tesco (LON:TSCO) and Morrisons. There is also scant further detail about the M&S’s new stance on food, apart from “sharpened prices”. Together with an aggressive promo response to the challenging environment, food moves began to blur the earlier impression of a tighter focus that emerged when Steve Rowe took control last year.
Clothing & Home encouraging
We get less of a sense of incongruity with Clothing and Home. To be sure, the 0.7% like for like decline there was poor, though no break from the norm. Additionally, the second quarter showed strong improvement to a dip of just 0.1% from -1.2% in Q1. Plus, the 5.3% uplift at full prices was notably better than arch rival Next, where stabilisation in October still left the year-to-date rate lower. Outperformance backs M&S’s view that C&H self-help is rendering “encouraging” results. Unfortunately, M&S online clothing and merchandise continues to lag. We were struck again by what appears to be poorly communicated sequencing of the group’s plans to improve digital C&H sales. We would like to think M&S had recognised some time ago that its general merchandise supply chain “needs to be faster and lower cost” and that “digital fulfilment capability” needs more investment to speed up growth. Official recognition had of course begun much earlier. But the date of a hard reset at C&H will be later than most investors were expecting.
No kitchen-sink drama
As kitchen sinking by British retails giant go, the one staged by M&S’s Steve Rowe has been a very gradual one. That pace has the advantage of reduced drama but it has possibly reduced shareholder visibility on execution. Nevertheless, the rapid resolution of lossmaking issues overseas was a clear success story. Together with headway on cost control and a cogent path to continued free cash flow growth, the next key inflection points for Marks are likelier to be improvements and not deteriorations. Indeed, we note Marks & Spencer has avoided the type of protracted discussions about its progressive dividend that other large consumer groups have wrestled with. True, underlying free cash flow growth was little more than flat in H1 and negative after the interim pay out, whilst net debt rose 5% to £2.03bn. However, excluding one-off effects from store closures and ending the defined benefit pension scheme, cash flow goals remain cogent. Low-hanging fruit from further cost initiatives also underpins the outlook for shareholder returns. Marks & Spencer’s margin for error remains limited, but little occurred in the first half that points to significant deterioration. And after the stock’s 6% decline this year, their forward rating of 11.7 times is not demanding.
Disclaimer: The information and opinions in this report are for general information use only and are not intended as an offer or solicitation with respect to the purchase or sale of any currency or CFD contract. All opinions and information contained in this report are subject to change without notice. This report has been prepared without regard to the specific investment objectives, financial situation and needs of any particular recipient.
Any references to historical price movements or levels is informational based on our analysis and we do not represent or warrant that any such movements or levels are likely to reoccur in the future. While the information contained herein was obtained from sources believed to be reliable, the author does not guarantee its accuracy or completeness, nor does the author assume any liability for any direct, indirect or consequential loss that may result from the reliance by any person upon any such information or opinions.