Both of these FTSE 100 retailers face tough trading conditions, but is either firm a buy? In this piece I’ll take a closer look at each firm in the light of today’s figures.
Better than expected
Like-for-like (LFL) sales rose by 2% at Morrisons during the second quarter, meaning that the supermarket has now delivered three consecutive quarters of LFL growth. In a market where food prices are falling, that’s a fairly impressive achievement.
Total sales were almost unchanged at £8.03bn, while underlying pre-tax profit rose by 11% to £157m. Underlying earnings per share rose by 35% to 5.04p, while net debt fell by £477m to £1,269m.
Shareholders will be rewarded by an increase in the interim dividend, which rises 5.3% to 1.58p.
What’s the secret?
The secret to Morrisons’ LFL success appears to be attracting customers into stores more often, however little they buy. Like-for-like transaction numbers rose by 4.3% during the second quarter, while the average number of items per basket fell by 5%.
The other key aspect of Morrison’s strong performance is the group’s cash generation. Free cash flow was £558m during the first half — that’s four times reported pre-tax profit.
You might be wondering how this is even possible. The answer is that chief executive David Potts has reduced the amount of cash needed to run the business — a figure that’s known as working capital. As a result, Morrisons now gets more cash in from customers before it has to pay its own suppliers.
Historically, its working capital was high when compared to Tesco and J Sainsbury. But working capital has fallen by £318m so far this year, and by £872m over the last 2.5 years. The group is targeting a total improvement of £1bn, which I estimate would put Morrison on a level with Sainsbury and Tesco.
I’m impressed with Morrison’s performance, but I feel that at on a forecast P/E of about 18, the shares may be approaching their fair value. I’d hold.
A high street buy?
Investors may have been hoping that Next would beat its own forecasts this morning, as it often has done in the past. But the group’s results were pretty much as expected. While Next group sales rose by 2.6% to £1,957.1m, pre-tax profit fell by 1.5% to £342.1m.
The impact of share buybacks was enough to lift earnings per share by 0.8% to 188.6p, while the interim dividend was unchanged at 53p per share. Next shares fell by 3% in early trading, but what do today’s results really show?
The group’s mail order Directory business is trading well. Profits were up by 10.9%, thanks to a 7.1% rise in sales. High street conditions are much tougher. Retail sales were flat while store profits fell by 16.8% to £133m.
Perhaps the biggest surprise in today’s results is that Next is planning to combat falling like-for-like store sales by opening new stores totalling 350,000 square feet.
I’m not sure if this strategy will be successful. Next’s growth appears to be levelling off, but the group remains very profitable. The shares now trade on a forecast P/E of about 12, with a prospective dividend yield of 4%. This could be a buying opportunity.
Roland Head owns shares of Tesco and Wm Morrison Supermarkets. The Motley Fool UK has no position in any of the shares mentioned. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.