Small Cap Value Report (Thu 24 May 2018) - MKS, SHOE, HEAD

23rd May '18 by Paul Scott

59 comments 17241 reads

Good morning,

I didn't get round to commenting on Marks and Spencer (LON:MKS) results yesterday, which a reader asked me to do. I haven't looked at MKS properly for a long time, so thought it would be interesting. So here goes, this is what I wrote last night;

Marks and Spencer (LON:MKS)

Share price: 307p (up 5.2% yesterday, on results day)
No. shares: 1,624.8m
Market cap: £4,988m

Results for 52 weeks ended 31 Mar 2018

It would take too long to comment on everything, so here are just some interesting points that I jotted down whilst reading the results.

Revenue up slightly, 0.7%, to £10,622m
Adjusted profit remarkably resilient, at £580.9m - down only 5.4% in a market where much of the competition is seriously struggling.
Adjusted free cashflow is a stand out item, at £582.4m - remember this is after capex, so MKS remains a highly cash generative business.
Huge adjustments though, covering various reorganisational costs, totalling £514.1m - so how you view these results depends on whether you accept the adjustments or not.
Adjusted EPS of 27.8p = PER of 11.0
Net debt is £1.83bn - large, but I think MKS has a substantial freehold property portfolio. I would normally disregard debt that relates to freehold properties

Property - the 2017 Annual Report shows "land & buildings" with a book value of £2,588m at 1 Apr 2017. The word "freehold" is not mentioned anywhere in the Annual Report. I've googled it, and this article from 2013 suggests that 65% of MKS's retail space was freehold. If anyone has more information on what MKS's freehold properties might be worth, then please post it in the comments below.

MKS seems to be permanently reorganising, but the narrative with yesterday's results sounds impressive for its directness - admitting that many things are wrong with the business, but can be fixed.

International profit has more than doubled to £135.2m, due to exiting from loss-making sites/countries, and forex benefits. That's an impressive improvement. I wonder what profit growth might be possible from overseas expansion?

Store closures - this is being accelerated, and will result in 25% of the "legacy" clothing and home space being closed. Whilst brutal, this should considerably boost future profits, I imagine. It also means there will be less competition in many…

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ridavies

24th May '18

Re Shoe Zone (LON:SHOE), all good points and the conclusion I reached via the long route. Especially I take your point about computers, though much more seems to be done by mobile these days and it appears very few people - rich or poor - don't have a smart phone,most do use it a lot and spend a lot on it, both the contracts and their income. In fact Shoe Zone (LON:SHOE) makes the point that a very high % of their Multi Sector I think they call it - ie internet - is via mobile.

I know Paul prefers to focus on the facts and not get too bothered about M & A possibilities, at least that is the way I read it so forgive me Paul if I am misrepresenting you!
However I did read an interesting speculative article in Money Week recently, where someone was considering what might be the next few combinations in retail after the JS/Walmart deal. He thought that Marks and Spencer (LON:MKS) and John Lewis would be a natural. He did recognise that there are the issues of ownership of the John Lewis Partnership but believed that for the experts in the City of London would be able to come up with a deal which would be beneficial to both.....so probably a defensive merger rather an acquisition. Thoughts anyone?

Re the comparisns between Marks and Spencer (LON:MKS) and Shoe Zone (LON:SHOE) Stocko scores, I understand that Herbie. It was primarily a point of near coincidence and the way an individual element in the Q/V/M range can affect the overall figure so markedly - and fairly so. Not worth further discussion I suggest, if my comment was worth discussion at all! If not, I apologise for wasting others' time!

Trident

Could someone seeing the underlying value that Paul has pointed in Marks and Spencer (LON:MKS) bid for it? I suspect it would be someone who could be bringing the delivery infrastructure but perhaps doesn't have the good brand element.

Morrisons must have been in the same position but rather than try and build out a delivery infrastructure, just went for a deal with Ocado.

aflash

MKS (Marks & Spencer) from Technical Analysis point of view:

Break Out above 12 month downtrend at beginning of May
If breaks out above yesterday's Hi of 312p will motor to 330p

Near 200 day Moving Average but closed below it. I read 200MA as 308p. Anyone have another number?

Close today probably just above psychological 3 pounds and Pivot Point but not posted yet

(Above Pivot Point = support, below means PP acts as resistance but PP moves with price changes)

RSI depends on your time frame. In the 60s five days, dropping below 50 two days.

On fundamental side yield support until May 31 when X-div.

In 2016 bought 348p and sold 367p .

Bought today 303p.

GLA

wildshot

Newriver Reit (LON:NRR) would be an interesting read for Paul and those wanting to get a feel for the traditional retail market. I was pleasantly surprised to see that the average rental per square foot of NRR properties has only slightly declined, especially in light of all the stories Paul shares on CVAs and renegotiated rental agreements.

Also the NRR occupancy rate is really high and consistent (97% from memory, please correct me if I'm wrong).

The share price of Newriver Reit (LON:NRR) has been on a decline for a number of months, I think maybe due to the washed up state of traditional retail, however these results seem to suggest that as a retail REIT maybe NRR is very well mananged.

I did however note the rate of dividend growth has declined from previously 5%. Maybe management are applying an element of caution going forward?

Threepeat

Marks and Spencer (LON:MKS)
Was in the store yesterday with Mrs Steve. Thought it was quite noticeable how many "good value" and "reduced prices" labels there were above the racks - not seen that before

Albertos

For once I disagree with you Paul.

My view is Marks and Spencer (LON:MKS) and Next (LON:NXT) will contract over the coming years - but I have the sneaking suspicion that Shoe Zone (LON:SHOE) will grow.

Time will tell.

Phil

Howard Marx

"The key advantage of holding the larger caps, is that you can buy or sell, in any size, whenever you want. So if something awful happens, and the markets plunge, you would be unable to unwind a medium size, let alone a large position in SHOE, and would have no choice but to take the losses. Whereas with NXT or MKS, you can sell any size instantly. That makes a big difference to risk:reward, if you have anything other than a small portfolio."

Paul, what you write here sounds intuitively correct.

However, empirically I think you're wrong on this, no doubt scarred by your experience with illiquid stocks during the Great Financial Crisis of 2008.

It is certainly true, I think, that most investors fear illiquidity. But the consequence of this aversion is that illiquidity is a big driver of returns - illiquid stocks perform best, liquid stocks perform worst - the so-called ILLIQUIDTY PREMIUM.

Low liquidity stocks offer better returns (both absolutely & adjusted for volatility).

This is true for all market-caps: large-cap, mid-cap, small-cap & micro-cap.

To underline this point, the following table was posted recently by the US Microcap investor, Ian Cassel:

5b0716858c160ILLIQUIDITY_PREMIUM_Ian_Cas

I guess we all are guilty of being tempted to trade off profit maximisation with emotional well-being.

mickemmanuel

great article on M&S.The high street is a minefield at the moment but possibly not as bad as many think.
Mick e

Paul Scott

Hi Howard Marx,

I lost all my money in 2008 precisely because I couldn't sell illiquid shares!

So no amount of academic studies or statistics will ever change my mind on this - because this actually happened to me. Isn't that what "empirically" means?

Admittedly, my toxic mixture was illiquidity AND gearing - the two combined are disastrous.

I use gearing now, but I'm very wary of liquidity - I have to be able to get out of any of my holdings in 1-2 days, otherwise I won't buy them. If that had been my policy in 2008, I wouldn't have lost all my money.

So forget the academic studies, and focus on real life experience!

Best wishes, Paul.

daveinthelakes

25th May '18

Ian Cassel data presumably relates to USA definition of micro caps, under £200M and small caps £200-1,500M. So the relative liquidity of the UK micro and small caps may be questionable when compared to the market caps in US?

Today, on no news, three of the micro/small caps I hold moved 6-22%. The liquidity of such stocks can't be compared to USA data.

Lloyd Garvey

I don't know if you read Robbie's blog (The Naked Trader) but he had this to say about M&S

"Sad to see Marks and Sparks doing so badly. I really
think within five years it will have gone.

Its clothing side will be closed down or go all online. The
food side is ok but I think it will simply be taken out
buy Waitrose and the Waitrose and M and S food offerings
will be merged.

It just didn't move with the times. The 84-year-old lady I speak
to for the lonely old charity says she stopped buying clothes there
ages ago. It doesn't know which market it is going for.

It needs to immediately close all its clothing departments,
concentrate on food only. And become half the size to survive.

Sadly this is just the start, in a few years time shopping centres
will disappear except for the very biggest. "

Damian Cannon

Interesting comments from Robbie but there's a sentence in there which is directly relevant to Newriver Reit (LON:NRR):

"Sadly this is just the start, in a few years time shopping centres will disappear except for the very biggest."

Now Newriver Reit (LON:NRR) are very focused on the local shopping centre market which is essentially those smaller centres which are within 30 minutes of their customers and have solid stores. From talking to Allan Lockhart, CEO, I learnt that they see these as a high return, low risk opportunity precisely because they're not the top-end, mega-centres that are competing to be the biggest and the best. So I don't think that Robbie is right on this point at least!

Damian

Fangorn

"If M&S did food deliveries we would buy off them regularly but we are not prepared to go out to get groceries."

Wow, seriously.
How lazy.

doublelutz

Fangorn - a tad late in your response which I don't think anyone but us will now be aware off! M&S are not next door to us and to visit involves getting the car out and doing a 10 mile round trip. The greens would be horrified!
I would just go there for a brisk walk but I am afraid I can't manage that any more.

In the event we use Ocado to deliver mainly Waitrose product which we think is second best to Marks.

"M&S are not next door to us and to visit involves getting the car out and doing a 10 mile round trip. The greens would be horrified!"

Snigger.

I'm sure they'd make exception given I guess you must be beset my some affliction that prevents you taking that brisk walk(Old age I am presuming) 10 miles is certainly some distance, even more so mit heavy shopping, More Greens use their cars for far shorter journeys I'd wager.

I use delivery services as well, but not for fresh produce - wouldn't dream of such and deem a visit to the supermarket a necessity in this regard.

Big fan of Waitrose too...but each supermarket has its "superb offerings"

We are spoiled for choice.

momentofclarity

22nd Jun '18

Got a voucher today 'M&S Foodhall now deliver to your door. Shop online for all your favourites'....For a limited time, get £10 off and free delivery on your first shop. Simply spend £50 and use the code*:

I think this is new, not sure I have seen this before....small step in the right direction if so.

John18v

10th Sep '18

I visited their store in Enfield on a Monday morning and was impressed to see a sales taking place. I don’t know if this store is typical, it apeared to be a low rent store next to a charity shop in a run down parade. The shop fittings were basic. The stock was cheap but was also low quality which is what you would expect give the 60%c. markup. It had the appearance of a fly by night setup. This means the company can be nimble at opening and closing stores on a whim. I doubt if it would inspire customer loyalty. Not sure I want to invest unless this is as much a real estate company as a shoe retailer. Their main competitor in Enfield was Clarks a much more attractive proposition if I wanted to buy some shoes.

mmarkkj777

Hi Paul,

Regarding your invitation below:

"As usual please do your own research. I'd particularly like to hear from anyone who disagrees with me, and views MKS negatively, and your reasons why".

I agree that with M&S there are a lot of things in the garden that still look rosey and it is not at all a basket case, but...

Revenues are shrinking. Cost cutting, reorganising, etc will help in the short term, but even good profits and cash gereration will not help in the extended longer term if revenues are shrinking in an ever reducing market place, unless they do something radical.

I've dipped my toes in the retail sector recently (and nearly got burned. Escaped with singed eyebrows), but I continue to hold Amazon and to a lesser extent Sosandar Sosandar (LON:SOS) and it would take a lot for me to sell some and buy another retailer.

Here's my view of what it would take for M&S to make me want to switch horses (even to a small extent).

1. A long term plan to deliver high quality food to the discerning (as already mentioned in a comment above) on a large scale.

2. For some of that healthy profit and cash to be used for clever diversification (how about a merger or JV with SOS, for example) or at least a progressive strategy into on-line retail. I know its late but they still have a good reputation for quality.
Think about what Warren Buffet did with Berkshire Hathaway. It was very cash generative, but in a continuously shrinking market, so he used the earnings and allocated these assets elswhere to completely change the comany's operation and mission.
They (M&S)may be worth a short term trade, but I wouldn't hold them for any long term period unless they commit to doing things very differently ( just my opinion of course).

Small Cap Value Report (Thu 24 May 2018) - MKS, SHOE, HEAD

Marks and Spencer (LON:MKS)

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Paul Scott

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