Does Wm. Morrison Supermarkets plc Pass My Triple Yield Test?

Wm. Morrison Supermarkets plc (LON:MRW) looks cheap and its 5.2% yield is appealing, but is this enough to justify the risks posed by slowing sales, asks Roland Head?

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Like most private investors, I drip feed money from my earnings into my investment account each month. To stay invested, I need to make regular purchases, regardless of the market’s latest gyrations.

However, the FTSE 100 has risen by 75% from its March 2009 low, and the market is no longer cheap. In this article, I’m going to run my investing eye over Wm. Morrison Supermarkets (LSE: MRW) (NASDAQOTH: MRWSY.US), to see whether it deserves a closer look.

The triple yield test

Low interest rates mean that shares have become increasingly popular with investors looking for a reliable income.

To gauge the affordability of a share, I like to look at three key trailing yield figures — the dividend, earnings and free cash flow yields. I call this my triple yield test:

Wm. Morrison Supermarkets Value
Current share price 235p
Dividend yield 5.2%
Earnings yield 10.6%
Free cash flow yield -5.3%
FTSE 100 average dividend yield 2.9%
FTSE 100 earnings yield 5.8%
Instant access cash savings rate 1.5%
UK 10yr govt bond yield 2.7%

A share’s earnings yield is simply the inverse of its P/E ratio. Morrisons’ 10.6% earnings yield reflects its modest P/E rating of just over 10.

Morrisons’ falling share price has boosted its dividend yield, which is now 5.2%, nearly double the FTSE average of 2.9%. However, Morrisons’ negative free cash flow yield highlights how much the firm is spending in an effort to arrest falling sales, and catch up with Tesco and J Sainsbury.

This spending has paid off to some extent — Morrisons now has 102 convenience stores, and its online service launched in January. However, progress has come at a cost, as Morrisons’ net debt has risen by 75% since 2012, taking its net gearing to nearly 50%.

What’s more, new figures from retail analysts Kantar Worldpanel show that Morrisons’ sales are still falling — they dropped by a further 2.5% in the 12 weeks to February 2.

Is Morrisons a buy?

It’s worth remembering that Morrisons is still robustly profitable, and is expected to report post-tax profits of around £560m for 2013. I believe Morrisons now rates as a buy, as although I do have some concerns, I don’t think that the encroachment of Aldi, Lidl and Waitrose into the big supermarkets’ territory will continue indefinitely.

Our next insight into Morrisons’ business will be the firm’s final results, on 13th March. Reports suggest that Morrisons might ease its cash flow by selling and leasing back some of its substantial freehold property portfolio, so I will be looking for news on that front, as well as any signs that the slowdown in sales is bottoming out.

Should you invest, the value of your investment may rise or fall and your capital is at risk. Before investing, your individual circumstances should be assessed. Consider taking independent financial advice.

> Roland owns shares in Wm. Morrison Supermarkets and Tesco, but not in any of the other companies mentioned in this article.  The Motley Fool owns shares in Tesco and has recommended Wm. Morrison Supermarkets.

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