The Marks and Spencer Group (LSE: MKS) share price has now fallen by 50% since May 2015. One reason for this decline is the heavy selling of shares by hedge funds who have gone ‘short’ on the stock — they are betting it will keep falling.
According to the latest regulatory reports, around 12% of the group’s stock has now been sold short.
Does this mean that M&S is heading down the same troubled route as high street rivals House of Fraser and Debenhams? Not necessarily. Today’s half-year figures revealed the group’s pre-tax profit rose by 7.1% to £126.7m during the six months to 29 September.
This increase in profit was paired with an unchanged interim dividend of 6.8p per share. This suggests to me that the full-year payout of 18.7p is likely to be maintained, giving a useful 6.4% dividend yield.
So everything’s rosy?
Not so fast. Group sales fell by 3.1% to £4,997m during the period and although some of this was due to store closures, like-for-like sales were down by 1.1% in Clothing & Home and by 2.9% in Food.
Chief executive Steve Rowe said that the group has “accelerated the pace of change” but admitted that he’s having to “rebuild the foundations of the future M&S”. This process is still in its early stages.
So far, the company has closed 29 stores from a planned total of 100. This first group of store closures cost £47.6m and I suspect that troublesome long leases may mean that later closures are even more expensive.
The retailer is also still playing catch-up online, but said that 20% of Clothing & Home sales are now made through the group’s website, up from 16.5% last year.
Finally, changes are also taking place to simplify the group’s supply chain and reduce the amount of cash tied up in stock.
Why I’m tempted
A lot of risk still lies ahead for M&S. Chairman Archie Norman and Mr Rowe are trying to deal with the consequences of a changing retail market and decades of neglect.
However, this business still appears to have a number of qualities that place it ahead of some big high street rivals. An underlying operating profit margin of 5.3% isn’t bad at this stage. Although lower than in some previous years, I’d expect this figure to rise if M&S can develop its online business.
The other big attraction for me is that this big retailer still generates a lot of free cash flow. Today’s half-year figures show free cash flow of £241.2m after the one-off costs associated with store closures and restructuring.
This cash inflow helped to reduce net debt by 12% to £1,781m during the first half. It also provides cover for the dividend.
Mr Rowe confirmed today that profit guidance for the full year remains unchanged. This puts the stock on a forward price/earnings ratio of 11.1, with a prospective yield of 6.4%. If you believe that this business can be reshaped for the future, then I think the shares look cheap at this level.
I’ve added Marks and Spencer to my watch list and rate the stock as a potential turnaround buy.