UK Edition
Questor: hold on to Morrisons – the dividend is secure and there’s the chance of more specials
The full-year results released last month by supermarket giant Morrisons did not go down well with investors as the shares dipped to a new 12-month low in their wake.
But the market may have overlooked the potential of the wholesale deal struck with McColl’s, the convenience store chain, especially as a key rival in this field, Palmer & Harvey, has gone bust.
Given the health of the core grocery operation and the firm’s financial solidity, long-term investors can keep faith in the turnaround programme initiated by David Potts, the chief executive.
March’s results revealed an appealing combination of rising sales, a healthy jump in pre-tax profits, lower debt, an increased ordinary dividend and even a special dividend of 4p a share. Investors chose instead to focus on margin pressure and how lower interest bills had generated all of the profit growth.
Yet the drop in net bank debt to less than £1bn, coupled with a pension surplus, means that Morrisons can hunker down for a long fight with the discounters, as well as Tesco, Sainsbury’s and Asda, without having to worry about its interest bill.
Operating profit of £458m and interest income of £5m compared with £65m of interest expense for interest cover of 7.1 times, when any figure of more than two usually gives grounds for comfort.
Further progress can already be seen in the day-to-day operations. The latest industry sales data from Kantar Worldpanel to March 25 showed that Morrisons did best out of the “big four” on a one-year and two-year view.
Shareholders have other sources of comfort. Last year’s 13p in earnings per share covered the ordinary 6.09p dividend more than twice over, to suggest that the payment is sustainable. Further debt reductions raise the prospect of increased ordinary dividends and possibly more specials.
In addition, Morrisons has strong asset backing, with tangible fixed assets of £7.2bn. That compares with a market value of £5.3bn, net bank debt of £973m and the £594m pension surplus. The chance of a positive surprise from both the wholesale and grocery arms, plus the prospect of enhanced cash returns, should keep patient investors interested.
Questor says: hold
Ticker: MRW
Share price at close: 224.7p
Update: National Grid
It is fair to say that this column’s analysis of National Grid in December 2016 has yet to cover itself in glory in capital terms, but ordinary dividends received and last April’s 84.375p-a-share special payment mean the investment is just about holding its own in total return terms.
Nor is this the time to lose faith, despite worries over tighter regulation and what any change in government at the next general election, due in 2022, may bring.
This is because the energy transmission group looks cheap relative to its “regulatory asset base” (RAB). The average American electricity utility trades at a huge premium to its RAB and applying a similar rating to National Grid’s US operations implies that the British arm is trading at a discount, even once the company’s debts are taken into account.
While this may intrigue the Labour Party, given its 2017 manifesto commitment to take key utilities back into public ownership, the rule of law and strong property rights in the UK should mean investors have a robust case for getting paid the RAB value of the group at the very least in the event of nationalisation.
Given where valuations are now, even that worst case offers potential capital gains to shareholders, and that is before the company’s 5.7pc prospective yield is added to the mix.
Questor says: hold
Ticker: NG.
Share price at close: 833.8p
Update: Severn Trent
The investment case for water utility Severn Trent is very similar to the one for National Grid. A period of weak share price performance, stoked by political and regulatory concerns and partly mitigated by dividend payments, means the company looks cheap relative to its RAB. Dangers do abound but at least they are reflected in the valuation. The yield is 5pc.
Questor says: hold
Ticker: SVT
Share price at close: £18.96
Russ Mould is investment director at AJ Bell, the stockbroker