How much is Morrisons (LSE: MRW) (NASDAQOTH: MRWSY.US) really worth?
Fair Value: £1bn or £5bn?
Morrisons reported total assets of £10.7bn in 2014. It has a market cap of £4bn, or about three times the value of its current assets.
But assuming its inventories are actually only worth 50% of their book value, the grocer’s current assets are really only worth about £1bn. That’s a possible valuation for the equity of Morrisons under a worst-case scenario, in which case the implied downside is 75%.
Yet taking a bullish stance on the value of the grocer’s long-term assets, the equity valuation of Morrisons goes up to £5bn/£6bn, for a 25%/50% upside from its current level.
In truth, the shares of Morrisons seem properly priced right now, and the speed at which management will address operational and financial issues is also important to determine the fair value of the fourth-largest retailer in the UK. Morrisons reports half-year financials next week. Don’t hold your breath — the results won’t move the needle, in my view.
Morrisons: Bulls Vs Bears
The bulls may argue that:
- Morrisons doesn’t strictly need to cut its payout ratio now, as proceeds from divestments may fund dividend payments.
- Morrisions can wait some time to determine whether its turnaround plan will yield dividends. Things may get better before they get worse.
- Recent trends have been encouraging, with Morrisons gaining traction in the last 12 weeks of trading.
- Consumers who have enjoyed a sixteenth consecutive month of falling prices won’t enjoy food deflation forever!
The bears could point out that:
- Morrisons must follow Tesco’s strategy and slash its payout ratio as soon as possible.
- There is little Morrisons can do to make its turnaround plan work, particularly if it doesn’t splash-out in the on-line shopping segment.
- Things may get worse before they get better as food deflation will continue for a long time and Morrisons, which is the smallest grocer in the UK’s top four, will be the inevitable loser.
Outlook
Estimates for revenue, operating profit and net income aren’t promising, while net leverage may become problematic if the grocer’s turnaround plan doesn’t work. The shares trade at 16x, 12x and 10x earnings for 2015, 2016, 2017, respectively. They are cheap, but further pressure on prices, volumes and margins render Morrisons one of the riskiest investments in the sector.
As I wrote back on 8 May, in the deep-discount arena Morrisons is faced with several hurdles that could turn out to be a blessing for ailing shareholders if a change of ownership takes place. This would be by far the best plan B for shareholders.
