Morrisons: 2005/6 results

12:20 p.m. Thu 23 Mar 2006

Wm Morrison looks likely to have substantially lower growth over the next two years than it did last year as the positive effects of the conversion of former Safeway stores to the Morrison format die away. However we expect strong medium term profit growth as management, the integration complete, turns its attention to making Morrison more efficient.

Like-for-like sales growth was positive only because of format conversions; like-for-like sales fell 3.4% in the continuing Morissons stores. Conversions have now been completed. The year-on-year comparisions are still against periods when there were far more Safeway format stores; so like-for-like growth is likely to be strong at the beginning of the year (up 3.2% so far) but fall as the year progresses.

With the conversions over, cash flow should improve: conversions were previously absorbing most of the cash Morrison generated.

Morrison is now focusing on improving efficiency, which means that there should be a continued recovery in profits even without sales growth.

At 206p Morrison is trading on a prospective PE of 30× and prospective EV/EBITDA of 13×; with a 1.8% yield. This reflects the continuing rapid margin growth that is expected as Morrison, the Safeway integration complete, concentrates on becoming more efficient.

Given that that this is a recovery stock whose profitability should improve, it is worth valuing against sales, rather than margins. The prospective EV/sales of 0.56 looks cheap compared to Tesco's 0.85.

Of course Tesco has already achieved the level of efficiency (and is making the margins) that we hope Morrison will reach improvements, and it has growth potential from its expansion into non-food. Even so, Morrison looks like good value for those willing to take the execution risk; although Tesco on a prospective PE of 17×, a 2.5% yield and a superb track record looks safer.