Experts wary of Morrisons

Morrisons lost £792 million in the 12 months to 1 February, four times more than the year before. Admittedly, there was an extra £370 million of impairments and onerous lease provisions this time, but sales still fell 5% and profit before tax and one-offs halved. This year's dividend could be cut by almost two-thirds, too. Investors are underwhelmed, although clearly there is hope that the new chief executive will revive fortunes at the supermarket chain.

David Potts is an experienced retailer with almost 40 years at Tesco, 15 of which were spent working alongside Morrisons' current chairman Andrew Higginson. Potts starts his new job on Monday and Higginson chose these results to flag up further investment in the business. Following £315 million of price cuts in 2014, the grocer is targeting £800 million of cost savings between now and 2017, most of which will be used to slash prices further.

"We believe the insights and emphasis that a very fit and sharp eyed Mr Potts will bring should create a firmer basis for an improvement in sales at the company, and we know that the market is particularly sensitive to sales momentum in retail at this time," said Shore Capital analyst Clive Black recently.

But he has a job on his hands. Revenue fell by almost £900 million to £16.8 billion and like-for-like sales excluding fuel and VAT dropped by 6%, double the fall the previous year. At least underlying pre-tax profit, down 52% to £345 million, was around the mid-point of the guidance range set in March 2014.

Like-for-like sales are on an improving trend, too - a 2.6% drop in the fourth quarter implies a fall of about 1.9% in the last seven weeks of the year, which compares with a 7.6% slump in Q2 then 6.3% in Q3 - and £224 million of cost savings keep Morrisons on track to hit its three-year target of £1 billion.

"Last year's trading environment was tough, and we don't expect any change this year," warns Higginson. That’s why, after raising the dividend by 5% to 13.65p, this year's payout will be "not less than 5p per share". It's harsh on shareholders, but is obviously good sense given high net debt - currently £2.34 billion and expected to be £1.9-£2.1 billion by this time next year. Capital expenditure will also be cut to £400 million, as we know.

Of course, Potts could oversee dramatic turnaround, and Morrisons is hitting targets with more to come. But Barclays is not so sure. In a note published a day ahead of the numbers, the broker flagged up a 165p price target and pointed out:

In a market that is becoming more competitive on price, Morrisons starts from a difficult position. It has a disproportionate overlap with the world's biggest grocer (Wal-Mart/ASDA) and perhaps the world's two most cost-efficient grocers (Aldi/Lidl) - and that's before we mention the possibility of a sharper UK market leader in Tesco. It is the fourth largest UK grocer in an increasingly competitive market in which scale may start to count for more.

Without the knockout dividend yield, the investment case for Morrisons rests with Potts and the continuation of that improving sales trend. However, with price cuts threatening to further erode margins, a 7% free cash flow yield, roughly in line with UK peers, and a forward price/earnings ratio of 15 do not shout value.

This article is for information and discussion purposes only and does not form a recommendation to invest or otherwise. The value of an investment may fall. The investments referred to in this article may not be suitable for all investors, and if in doubt, an investor should seek advice from a qualified investment adviser.