Marks and Spencer looks past food 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 & 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 & 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 foundational 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 & 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 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.

• From a technical chart perspective, M&S investors are a little bit less 'long-suffering' with the stock evidently having bottomed at last June's seven-year lows, breaking a downtrend that had been in effect since May 2015
• A broad consolidation is now clear in the daily chart which lasted all the way from the post-Brexit bounce till the middle of last month
• Whilst tortuous, thezone will serve as a formidable support from here, as the stock shows strong signs of changing course in favour of a determined upswing --  note the stock is above its 200-moving average for the first time since November 2015
• Since March, buyers have also had the added reassurance that the stock has sketched out a rising channel to guide the probabilities that the up-leg can continue; so far so good
• Fibonacci watchers will not have missed that the stock has straddled the 38.2% interval of the late-May 2015-24th June 2016 downtrend after the marker (at 384p) posed resistance before giving way earlier in the month
• Overall, there is an impression of orderliness and cohesion in the chart that has barely been perceptible over the last 3 years or so
• Topping off the optimistic picture, note our chosen momentum indicator, the relative strength index is irrepressible, looking to surge back to technically overbought regions despite tiring in thin air twice already this month
• So long as the stock remains above short-term staging posts such as the Fibo support mentioned above, for the medium term, that will represent further corroboration of the beginning of a new rising trend
• Investors should be concerned by any inclination of the stock to tarry within the flag pattern marking a shorter-term consolidation between 8th May to date. In context it would normally be a continuation pattern, unless price breaks to the downside