M&S suspends dividend amid coronavirus crisis

Marks & Spencer’s battens down the hatches amid coronavirus crisis

Marks & Spencer (M&S) has said it is bunkering down as it evaluates the early impact of the coronavirus outbreak. The company has already seen ‘substantial sales declines’ in its clothing and homeware divisions and, although it is actively redeploying staff and resources to its food business that is holding up, M&S is expecting the new financial year that starts at the beginning of April to be a tough one.

How will the coronavirus impact M&S’s financial results?

The company’s financial year runs until the end of March, meaning the coronavirus outbreak has hit the tail end of its year. M&S said the outbreak has hit adjusted pre-tax profit and that it now expects to deliver the very bottom of its profit guidance range of £440 million to £460 million. That suggests profits will be down 15% to 16% year-on-year (YoY).

The bulk of the negative effects caused by the coronavirus will hit M&S in its new financial year and the company has warned it is ‘too early to make any reasonable forecast for revenues’. It has said it is preparing for the possibility that it will have to close some stores in the future. It expects revenue from its clothing and home division to take a substantial hit for the first three to four months of the new year ‘at the very least’ and warned it will be burdened with stock issues too.

‘Although it is possible that this may ease as we get into summer trading, margins are likely to be severely impacted by the surplus of unsold seasonal stock and probable clearance activity in the marketplace. We are therefore taking all possible steps to defer supply. However, a very large part of our core business is less seasonal year round essential product, and this should provide some scope for carrying forward stock. At this stage we are not assuming a return to normal trading in the Autumn,’ M&S said.

Its international business that serves 57 countries outside of the UK is also expected to see sales decline as the virus spreads to other nations. The international business generates less than 10% of total revenue.

How has the coronavirus impacted M&S’s dividend?

As a result of the uncertainty, M&S has decided to claw back £130 million it was due to pay shareholders as a final dividend for the current financial year to the end of March 2020. That will particular unnerve investors considering M&S made a steep 40% cut to the dividend last year.

M&S is not the first to suspend dividend payments and it will not be the last. The list of UK stocks to have taken action is growing: chemical firm Elementis, gambling software provider Playtech, housebuilder Crest Nicholson, bookmaker William Hill, and hotel group PPHE have all suspended payouts in light of the coronavirus crisis. Others, such as software giant Sage Group, have also stopped buying-back stocks from investors.

M&S has said it will review its dividend policy when it releases its interim results for the new financial year in November 2020, when it hopes it has more clarity on the impact of the virus.

Does M&S have a strong enough balance sheet to weather the coronavirus crisis?

M&S was already in trouble last year when it had to strengthen its balance sheet with a £250 million bond issue, a rights issue and the cut it made to the dividend. It also started to cut costs and close stores. Although this won’t fill investors with confidence, M&S is fortunate to have got its finances in order before the coronavirus outbreak started to take its toll.

M&S says it has ‘substantial liquidity’ to see it through this year. In total, it has £1.34 billion in liquidity through a £1.1 billion revolving credit facility and £185 million in cash. The revolving credit facility, if used, would need to be paid back by April 2023.

Importantly, there is one covenant attached to the facility. M&S would need the ratio between earnings before interest, tax, depreciation and amortisation (ebitda) to net interest plus depreciation to be less than 2.6x. M&S has said ‘accurate forecasting is difficult at this present time, but the group will monitor compliance with this covenant closely.’

How is M&S trying to tackle the coronavirus crisis?

The company is doing what it can to mitigate the challenging conditions in its clothing and homeware divisions. Fortunately, M&S makes most of its money from its food business, which is proving far more resilient. In the UK, which accounts for over 90% of total revenue, M&S makes 62% of its sales from food and 38% from clothing and homeware. M&S is redeploying staff from its clothing and homeware division to throw its full weight behind the food arm.

Although M&S expects its food business to ‘trade profitably throughout’ the coming months, investors will be disappointed to hear that the company has not benefited like other more mainstream supermarket chains from panic buying and stockpiling.

‘At this stage we have benefited on a small scale as customers stock up but our heavy bias to chilled and fresh means we are not seeing the forward buying uplift experienced by the major grocers. The significant shift to eating in home should however continue to benefit sales in the months ahead. Although there will undoubtedly be supply interruptions, we do not expect these to be prolonged or financially material,’ M&S said.

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M&S will be hoping the food business can keep cash coming through the door this year, especially if it has to close stores. Still, it is not taking its chances and has announced a number of measures to hoard cash and reduce costs over the short-term. This includes cutting its capital expenditure in the new financial year to end in March 2021 from up to £400 million to just £80 million and reducing all non-essential spending at all levels – including a freeze on recruitment and pay rises as well as slashing marketing spend. It will also save £100 million by reducing the amount of stock it holds in clothing and home while business is subdued.

What does this mean for M&S’s long-term future?

The evolution of the coronavirus outbreak and the impact it has on the economy and society is hard to forecast, but most businesses are operating on the basis that things will start to recover in the latter half of 2020. At present, M&S seems to be expecting subdued sales in clothing and homeware until Autumn, suggesting coronavirus will weigh on the business for at least half of the new financial year.

Although M&S is not without its troubles, the company has proven how important a diversified business in times of crisis. Some have urged M&S to spin-off the food business in the past, but this crisis highlights its importance. The demand for food and groceries will remain resilient during the coronavirus outbreak and should allow M&S, especially after its early cost-cutting efforts, to remain cash-generative.

The lack of traffic to physical stores in recent weeks has also lit a fire under the M&S board and showed them how important it is to move online. ‘We are the UK's second largest online clothing business and the largest in many essential product categories, so will use this opportunity to increase our online penetration,’ M&S said. Plus, its online food business should be significantly enhanced by its new 50:50 online grocery operation with Ocado Group that is expected to take effect in September.

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M&S has said it ‘does not believe the long-term value of M&S beyond the coming year will be impacted by the virus’. If that proves true, then investors could have a buying opportunity considering M&S shares have plunged 46% since the start of 2020 – especially if it reinstates the dividend in November. The suspension of pay-outs will be disappointing for investors but it does look like a cautious and temporary measure – and M&S won’t be the last stock to do so.