Cube Midcap Report (12 Sep 2019) – BAT fires up workforce #MRW #BATS

Cube Midcap Report (12 Sep 2019) – BAT fires up workforce #MRW #BATS

Good morning!

In today’s midcap report, I’m planning to look at the interim results from Morrisons (MRW). There has also been a strategy update from British American Tobacco (BATS).

Morrisons (MRW)

  • Share price: 200.15p (+3%)
  • Market cap: £4,803 million

Interim results

I’ve been watching the analyst presentation at this link.

It’s a very clean set of results from the supermarket chain, with only a net £4 million of “exceptional items” over the six-month period.

The absence of exceptional items results in statutory PBT increasing by 48.5% to £202 million.

On an underlying basis, the PBT growth rate is a more modest 5.3%.

The important like-for-like sales growth is +0.2% in H1, but within that, it was down 1.9% in Q2 (excluding fuel and VAT).

Other key numbers:

  • net debt is slightly reduced to £975 million, or £2,358 million including the IFRS 16 change.
  • interim dividend up ~2% (including the special dividend).
  • free cash flow increases to £244 million, or £211 million after adjustments.

Strategically, the company is expanding its relationship with Amazon. As someone who has recently been looking at the merits of $AMZN, this bit is the most interesting to me:

We have signed an agreement to partner together over a number of years rather than on a rolling basis, and will be exploring new opportunities to innovate and improve the shopping experience for both Morrisons and Amazon customers.

This is on top of the recent agreeement to expand the Prime Now offering to more cities, allowing Amazon Prime customers to get same-day grocery delivery, perhaps as soon as within the hour! This will mean that Morrisons becomes a retailer on the Amazon Prime Now platform, instead of just being a wholesaler to Amazon.

Other new partners include the petrol filling station Harvest Energy, the forecourt operator Rontec and the Middle Eastern supermarket LuLu.

McColl’s (MCLS), which is supplied by Morrisons, is experimenting wih a rebrand to Morrisons Daily (as a sceptic of MCLS, this serves to confirm my bias – what can the McColl’s brand name be worth, if it’s considering voluntarily giving it up?).

Strategic priorities in a tough market

The first strategic priority is “to be more competitive”.

As recently as June, fresh industry data from Kantar said that the big 4 UK supermarkets, including Morrisons, were again losing market share to Aldi/Lidl.

Tesco remained in top spot with 27.3% market share, while Morrisons had 10.4%.

Aldi had 7.9% of market share, while Lidl had 5.7%.

Surely it is only a matter of time before Aldi catches up with MRW?

I’ve stayed away from investing in this entire sector, due to my understanding that above-average returns on capital are extremely hard to come by. Morrisons, for example, earns a return on capital of under 6% (Stockopedia calculation).

If forced to invest in the sector, I would be looking for a company with an edge. With Tesco, you have the biggest scale and buying power of UK supermarkets. With Aldi/Lidl, you have German efficiency. With Morrisons, what do you have? I don’t yet know the answer to this question, and that’s why I’d be very reluctant to dabble in these shares.

In its commentary today, Morrisons says that it has cut prices across hundreds of items, and this is having “a deflationary impact relative to the market”.

At the same time, it says:

Provenance and authenticity are also very important for customers. Morrisons has a strong British food manufacturing heritage, and owns some unique fresh food businesses and brands… During the first half, we introduced some exclusive low price, great value items under these brands… Being more competitive is about good quality as well as great prices,

So it wants cheapness and it wants quality, too. That’s good for customers but does it make for a solid investment proposition? I just don’t see it.

Digital development

Ocado and Morrisons are going to be non-exclusive from now on. Morrisons is looking on the bright side:

…this potentially enables other significant opportunities and partnerships, and more strategic flexibility to improve the digital offer for customers in this important growth area for us

Other strategic priorities are: 1) Find local solutions, 2) Develop popular and useful services (e.g. electrical vehicle charging stations, click-and-collect services, car washes, etc.), 3) Simplify and speed up the organisation, and 4) Make core supermarkets strong again (including the introduction of more womenswear departments and garden centres).

Little movement in stores

There was no change to the store estate in H1. Four stores will be closed in H2, with four stores opening. This year’s sales contribution from new space is expected to be ~0%.


The new accounting standard, which I will discuss at my upcoming Seminar, doesn’t affect the reported profits at Morrisons too much, since it owns 86% of its stores (incidentally, this freehold position gives the company a great deal of flexibility). But IFRS 16 still makes a difference to reported net debt, adding an extra c. £1,400 million to on-balance sheet lease liabilities.


The poor weather this summer and the World Cup/Royal Wedding last year are given as reasons for the difficult like-for-like performance.

Cost savings are key to the plans for profit growth:

During the second half, we are planning both for retail LFL to improve, and for various additional cost saving opportunities. In addition, we expect the contribution from our incremental £75m£125m profit opportunity to continue to grow, including previously guided online cost savings after our recent temporary exit from the Erith customer fulfilment centre (CFC) and lower wholesale start-up costs. We remain on track for our medium-term target of £75m£125m incremental profit from wholesale, services, interest and online.

My view

I’ve already mentioned my view above – this is not a stock that I will personally be investing in, as the returns from investing in supermarkets don’t strike me as exciting. Or if I was forced to invest in the sector, I would almost certainly choose one of the disruptors.

The Morrisons share price first crossed 200p in the year 2002. That alone should give pause for thought – why has there been such a lack of share price appreciation over the past 15-20 years? If you’re happy with dividends, then it has certainly provided plenty of those, but it has not achieved much else. This share is primarily for yield hunters, in my view.

The more interesting aspects of it for me are its partnerships, particularly with Amazon. I’ve been paying more attention to Amazon recently, and might add it to my growing portfolio of US super-high-quality holdings. With ultra-fast grocery delivery now available, thanks to the supply from Morrisons, perhaps Amazon’s power as as a go-to shopping destination is only set to increase?


British American Tobacco (BATS)

  • Share price: £30.955p (+1.7%)
  • Market cap: £71.0 billion

Simplifying BAT to drive new category growth

(At the time of publication, I have a long position in BATS.)

This is a noteworthy strategy update from the tobacco giant.

Jack Bowles has been CEO since April. He was previously COO and has been employed continuously by BAT since 2004 – this is the kind of CV that I like in a CEO.

Anyway, Mr Bowles has decided that the company needs to change if it’s going to be “efficient, agile and focused”. In order to spend more on vapour, tobacco heating and oral tobacco, there are layers of managment in the legacy organisation which need to be stripped out.

2,300 roles are on the chopping block:

“It is expected that over 20% of the senior roles in the organisation will be affected.”

It’s troubling news for the affected employees, and I do expect and hope that they will be treated fairly in the consultation process which is now underway.

From a shareholder perspective, what does it mean?

Philosophically, I do think that it might be a sensible move: the existing tobacco business lines are very mature and it makes sense to me that running them should require fewer managers in future.

The cost savings can and will be ploughed back into the company’s product set. I don’t have a very good impression of BAT’s market positioning in new product categories, but hopefully this move can herald a greater focus on the investment needed to catch up in these areas.

Mr Bowles says that his goal is:

“…to oversee a step change in New Category growth and significantly simplify our current ways of working and business processes, whilst delivering long-term sustainable returns for our shareholders. This is a vital first move to help achieve these goals”.

The proof of the pudding is in the eating, and I look forward to seeing how BAT progresses. While I don’t hold the shares with great conviction, I am content to continue holding them for now.

The company’s significant debt load is a source of risk but from the simple perspective of earnings, the £71 billion market cap looks justified against an after-tax earnings estimate for next year of over £8 billion.



That’s it for today, thanks for dropping by! If there are interesting midcap stories tomorrow morning, I’ll be back with more.





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  • comment-avatar

    Hold BATs – think I have more conviction than yourself (maybe because I am a smoker).

    What really struck me (stockopedia comparison tool) was how much bigger Tesco was than Sainsbury/Morrison (smaller than Walmart). Was interested in morissons because of amzn partnership, but given the size, I would prefer Tesco. Aldi and Lidl are both private I understand.
    Might be a little strong but only reason I feel to invest in morissons is they get bought by Amazon a la wholefoods.
    Also very torn as to whether Amazon is high quality or not (coming round to high quality and I was wrong, but very hard to accept) – they are going to have the mother of all iFRS 16 liabilities although not sure if applicable under US GAAP

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