Morrisons – Tide watching.
All,
Please find our updated analysis here.
Morrisons are prioritising market share over profits. As a result of £75m of synergies being used to reduce prices / passed on to the consumer, our Q1 EBITDA was a significant miss (£70m). We have reviewed our model to rectify this. Reducing the levels of price support will be the rising tide that frees Morrisons from the clutches of its over-leveraged balance sheet. We expect this headwind to continue through 2025, partially balanced by the improving contribution from the convenience business (led by the McColls stores). The sale of the forecourt business will bring leverage (excluding preference shares) below 6.0x. We expect LTM EBITDA to trough in July 2025 with leverage at 7x, before falling rapidly from then. Finally, with 2024/25 FCF interest at 2.0x, Morrisons can support its debt but it needs to hit our forecast EBITDA in FYE 2026 to support its refinance.
Investment Rationale:
- We continue to hold our 2% position in the SSNs and 1% in the SUNs, and both positions are performing as we expected (+3 and +8 points, respectively).
- We aim to earn a front-loaded 11% and 14% in the next 12 months while only taking a limited risk of default. Should Morrisons have to restructure, we are confident about our position and expect any fight for value to break out beneath the bonds.
- Morrisons continued to suffer cost headwinds in Q122.23, and its price support will continue to be a drag over the next two fiscal years. We expect EBITDA to increase in 2025/26 and beyond. We are disappointed that the price support hasn’t been reduced; Morrisons (and ASDA) have lost ground to the discounters and need to get volumes rising again before introducing price rises. Morrisons is a low volatility, non-discretionary spending underlying business with a bad balance sheet.
- The forecourt sale will raise £1.8bn and leave Morrisons with a 20% stake in the business. The deleveraging is less than we had hoped for, but (excluding the preference shares) leverage will be 6.0x in the next two years and fall to under 5x in 2025/26.
Morrisons Q1 23.24 Results:
- Revenue was in line with our forecast at £4,730m, inflation is falling, and volumes have troughed and are recovering slowly. Our EBITDA forecast was over-optimistic as Morrisons continues to protect market share by subsidising prices. In the quarter, £75m of cost cuts, which we had anticipated flowing through to EBITDA went into price support. Adjusted EBITDA was £189m vs £201m in Q1 last year. This negative was partially compensated by stronger working capital management than we had forecast. However, Morrisons still missed our operating cash flow forecast of £122m, coming in at £83m.
- We have adjusted our EBITDA expectations down slightly for the grocery business but up for the contribution from the Convenience business (particularly the McColl units).
- We have also updated our model for the MFG disposal.
- We expect FYE 24 Revenue of £17bn, EBITDA* of £792m and net debt of £5.5bn.
- The £600m preference equity tranche initially included in the MFG sale was sold by completion, so cash proceeds were £1.8bn, including £100m in fees. The company has confirmed that most of this cash will be used to reduce senior-secured loans.
*- EBITDA will start to recover throughout 2023/24 as:
- Price support reduces, causing gross margins to recover.
- McColls’ contribution grows. The McColls business has now turned EBITDA positive and will continue to improve. The conversion to Morrisons branding has worked so far.
- EBITDA growth will be balanced against the EBITDA lost through selling the Petrol Forecourt business to MFG. The LTM 2022 EBITDA for the forecourt business was £219m, but management said profitability was slightly lower in 2023 as fuel margins are reducing (we estimate it at around £190m. With no Competition Authority objections, we now expect the deal to close in Q2.
I look forward to speaking to you all on this
Aengus
T: +44 203 744 7055