Steady as She Goes at M&S

The Marks & Spencer trading statement is really encouraging despite the usual disappointment with clothing sales. This time that disappointment is qualified. The share look like a ‘buy’ and here I give my reasons for believing that.

I took a gander at the share price chart to see where Marks & Spencer had got to and to see if it is reasonably possible to come to some conclusions about where it might go to next from such a reading – often a subjective exercise.

The first thing to note was the strong bounce in the share price, which by lunch time was up 3.8%, to a then market price of 435p, with an extra 16p being added to the share price. Was this sharp share price rejoinder due to well received, better than expected results, or to the covering of short positions? The short-selling indicator was signalling ‘low’ so initially the alternative explanation has to be preferred.

That share price is of 435p was down 22% on the share price this time a year ago. Over a year the FTSE100 Index was down half that amount with a fall of 11%. More recently, the Marks & Spencer share price increased about 2.8% over the month and 7% over the week – the FTSE 100 Index itself being in slightly negative territory in previous seven days.

The near-term results chime well with my major conclusion about the share price chart pattern – namely, that the share price has broken out of the downtrend over the last six months. Stepping back a pace, it remains within a longer-term downtrend in which it would find ‘tram line’ trend resistance at around 500p. In other words, there is on that basis a possible short-term ‘within trend’ upside of about 65p or so should the share price move ahead that far. Have a look yourself to see if you agree…

Taking an even longer perspective, the share price over a five-year period seems to have been momentarily oversold, but has now bounced back into the bottom of that long-term share price trading range, which could possibly take the share price eventually back up to and beyond the previous (last May) peak of 600p. Again, have a look to see if you observe the pattern I see…

The results: Q4 trading statement

The trading statement covered the thirteen weeks to 26 March 2016. Note that the annual financial results are planned to be released on the coming 25 May.

The pattern of trading once more showed Food sales again moving strongly ahead and the Home and Clothing sales down. The Online business demonstrated further significant improvement.

Food, glorious food!

Food sales rose a handsome 4%. All of that was due to the opening of more retail space. There was no change in food sales on a ‘like for like’ basis. Over the year Marks & Spencer will have opened eighty new outlets. In consequence, the company increased its market share for food by 4.3%. (It is to be noted that in the grand old tradition of Marks & Spencer, the proposition that company competes on both value and price still seems to hold, with some design and flair thrown in. It is my impression that Marks continues make customers feel good about themselves!) The management invests actively in its food offer. It introduced four hundred new lines and says that it had its biggest Mother’s Day sales performance of all time.

Clothing and home products

As usual, there was some appropriate garment rending around at the home and clothing section. Sales declined by 1.9% and ‘like for like’ revenue did even worse at minus 2.7%. However, the gnashing of teeth was a little less necessary this time around because it was an improvement on earlier results. First, the trading of clothing took place in what was described as a ‘flat’ market characterised by deflationary tendencies. Nevertheless, the management did less discounting of lines which – along with an improvement in buying margins – seems to have improved gross selling margins, which the trading statement describes as “strong”. Moreover, the company reports that it was able to “sharpen” prices where it was commercially appropriate. It cited its ‘Autograph’ range where there was a 10% improvement. There was also stock availability this time – something which plagued the earlier performance (as well as that of its competitor Next). The company continues its push on design, in pursuit of its chosen ‘holy grail’ objective of the ‘classic’ well tailored items for its fabled older female customer.

Marks.com

Clearly, this is an important distribution outlet for the company. A year or two ago it did not have its own proprietary website; Marks began on a “hosted” site belonging to Amazon, if I recall correctly. When it did introduce its own site, it had the usual problems that occur with such new initiatives, which added to the disquiet amongst investors about Marks & Spencer as a seller of clothing – particularly in relation to ‘Next’ and its ‘Directory’ business, where things had been running well and smoothly for years. It inevitably appeared to make Marks & Spencer look accident prone and maladroit in comparison. For the last quarter of last year, the company was not only able to report that Marks.com sales rose 8.2% in the quarter, but also that there had been a ‘strong’ improvement in customer satisfaction. They pointed to better website speed and better navigation of the site.

Group performance overall

Despite the still-weak performance from clothing and home products, Group sales in the final quarter were up 1.9%. That in itself, is a good topline performance in a period of subnormal inflation of well below the government’s target of 2.0%. There are other encouraging indications in the shape of improved cash flow and improving margins. It will be interesting to see those when the full financial results appear in May.

Cash flow is clearly important to hopes of further increases in dividends. Last year’s operating cash flow (the highest it had been since 2012) rose 13% above the level it had been a year earlier. Partly as a result of that, net cash increased nearly 7% last year and 9% the year before that. These improvements may not be spectacular but they do tend to support hopes of a progressive dividend from a company which, until now, has been mired in all sorts of difficulties.

To remind investors, the last half-year results to end September showed continued signs of progress on the cash front. Very simply, operating cash last September was a fifth higher than it had been for the same period a year earlier; investment and capital expenditure by encouraging contrast was shown to be heading in the other direction; that is to say, the investment figure for last year was down 28% year on year. Just what the doctor would order for improving dividends.

Where do we go from here?

Volatile weather has made the fashion clothing business harder in the last year or so. The tidy pattern of reasonably predictable seasons has been disrupted. However, we live in a technological age where such an alteration in weather may be more easily managed. Marks, in any event, has been more lowly rated than Next and others. Over a year the Marks & Spencer share price actually outperformed that of the more highly rated Next.

The market consensus of forecasts and estimates suggest a noticeable healthy growth in topline revenue next year and the year after that, after a long period of near stagnant annual revenue returns. That, if attained, should help in recovering cost and increasing earnings and cash flow. That finds reflection in the consensus of earnings estimates, rising 3% this year and 6% next year and 8% the year after that.

In consequence, the market consensus of estimates, last seen, are for earnings per share of 34.2p for this year, 36p for next year and approaching 39p the year after that. That (on the latest share price) puts Marks & Spencer shares on an estimated price to earnings ratio of 13.5 times historic (actual) earnings, falling to 11.5 times estimated for this year, then 10.9 times for next year, and 10.3 times for the year after that.

The dividend outlook is more attractive, with dividend yields rising from a historic 4.1%, and then an estimated 4.8% for this year, 5.1% for next year and 5.5% estimated for the following year.

Summary and conclusion

The latest trading statement is limited largely to sales reports and not the financial results. We will need to wait until next month to see them. However, overall Group sales were up a robust looking 1.9%, and the decline in clothing and home sales, as reported, was not as dramatic as it has been previously. The reference to improving margins and cash flow is also a good underwriting of estimated future dividend prospects. In conclusion, based on the last September balance sheet, I estimate that balance sheet net assets attributable to ordinary shares are worth an estimated 210p a share, or approaching half the share price of 433p last seen. Adjusting the estimated price earnings ratios above by that amount bring down the ‘pure’ earnings PERs to about half that shown. The yield looks highly attractive. All in all I judge the shares as looking very good value with what look like good, credible prospects. The shares look good value, in my opinion.