Is FTSE 100 Stalwart Morrison Good Value?

Published in Company Comment on 22 November 2012

Can Morrison (WM) Supermarkets' (LSE: MRW) growth continue and are the shares cheap?

Capital appreciation is surely the goal of many investors. One method of achieving that is to buy companies with steady earnings growth. If bought when the shares are cheap, two drivers could move the share price up:

  • growth in earnings, and
  • an upwards P/E re-rating.

Highly successful fund manager Peter Lynch classified steady growers as Stalwarts, which he typically traded for 20% to 50% share-price gains. But whether buying for gains like that or holding for the longer term, we need to know if reliable earnings growth can continue, and whether the shares are cheap.

Seeking durable growth

Not all companies achieve stable growth as you can see by the aggregate performance of those in London's premier FTSE 100 index (UKX), where the compound annual earnings-growth rate has been just 0.7% over the last five years:

Year to June200720082009201020112012
FTSE 100 index660856264249491759465571
Aggregate earnings per share537503427397527557

Consistent, cash flow-backed growth in profits is a promising characteristic in today's markets so, for this series, I'm examining firms with annual earnings growth between 4% and 20%.

One contender is Morrison (WM) Supermarkets (LSE: MRW), which owns the fourth largest supermarket chain in the UK. This table summarises the company's recent financial record:

Year to February20082009201020112012
Revenue (£m)12,96914,52815,41016,47917,663
Adjusted earnings per share19.7p17.35p20.5p23p25.6p

So, earnings have grown at an equivalent 6.8% compound annual growth rate putting Morrison in the Stalwart category.

From 19th Century roots in Bradford, UK, Morrison has grown to become Britain's fourth largest supermarket chain with around 475 stores. It took a leap forward during 2004 when it acquired the Safeway chain of supermarkets. The business is mainly food and grocery although the company does operate fuel service stations at some of its sites, which generate around 23% of overall revenue.

The firm reckons it uniquely sources and processes most of the fresh food it sells though its own manufacturing facilities, giving it tight control of availability and quality. Morrison says it has more people preparing food in store than any other retailer to enhance its 'fresh' offering.

Around 132,000 employees are working to move Morrison forward. It's all about differentiating the shopping experience at the company's stores from that of its competitors and several strategic initiatives are progressing well. For example, Fresh Format is performing well in terms of sales performance and customer feedback. The concept is on course to enhance 100 stores by the end of the fiscal year. There's also an 'own brand' relaunch, which involves around 10,000 products, an on-line wine business has just been started, and an ongoing IT infrastructure project, which includes a supply chain management system.

Recent trading has been difficult. However, Morrison still looks good for earnings growth going forward.

Morrison's earnings growth and value score

I analyse five indicators to determine whether earnings growth can continue and if the shares offer good value:

1. Growth: revenue, earnings and cash flow have all been growing steadily. 5/5

2. Level of debt: net gearing is around 31% with borrowings about 1.8 times earnings. 4/5

3. Outlook and current trading: difficult recent trading; a cautiously positive outlook. 4/5

4. Enterprise value to free cash flow: looking high at over 30. 2/5

5. Price to earnings: a trailing 10 or so and just above historic growth rates. 3/5

Overall, I score the Morrison 18 out of 25, which encourages me to believe this stalwart can continue earnings growth that out-paces that of the wider FTSE 100, and that the shares offer reasonable value when compared to the FTSE's price to earnings ratio of around 11 and the firm's growth predictions.

Foolish Summary

Although debt has recently increased, Morrison continues to enjoy robust cash flow, which will help to manage interest payments. The firm has to reinvest constantly in initiatives that keep its stores ahead of the competition. That's a drag on cash flow and shows in the scoring. The positive outlook is encouraging.

Right now, forecast earnings growth is 5% for year ending January 2014, and the forward P/E ratio is around nine with the shares at 258p. Considering that and the other factors analysed in this article, I think that looks reasonably attractive. At current levels, the shares will certainly seduce income investors.

Morrison (WM) Supermarkets is one of several steady-earnings-growing stalwarts on the London stock exchange, each with the potential to deliver significant capital appreciation when purchased at sensible prices.

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> Kevin does not own any shares mentioned in this article.

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