Retailers are in the spotlight with J Sainsbury moving higher on talk of stakebuilding but Marks & Spencer dropping after problems with its online service.
Sainsbury is up 2.3p or 1% to 240.6p after a weekend report that activist investment fund Crystal Amber was in talks with overseas investors about buying shares in the supermarket. According to the Sunday Telegraph, the fund wants to build up a stake and hopes a group of activists could encourage a bid from another international retailer or alternatively force Sainsbury to sell off some of its property assets.
Analyst Nick Bubb said:
[This] seems like a bull-market story, when it’s painfully clear that supermarkets are in a bear-market. The gloomy comments from Kingfisher boss Ian Cheshire [in the same paper] underline the point that times have changed since the Qatari bid of 2007 and that the industry is now in a serious structural crisis. And it’s not as if Sainsbury is badly managed: management seem to be making the best of a bad job.
Separating the value of freehold property from the value of the trading assets is no longer feasible, with the value of supermarket freeholds under threat and trading profitability eroding quickly. Bearing in mind the recent comments from the property company London Metric about the inevitable collapse in supermarket property yields, have Crystal Amber modelled a rise in supermarket rental yields from around 4.5% to say 6%?
Oriel was also unconvinced, with analyst James Collins saying:
This [report] is likely to spike the share price today given that there is a short interest of more than 25% in Sainsbury. However, we don’t think this will gain a great deal of traction. We’ve been here before with activist investors and while on paper the arbitrage opportunity between real estate value and equity value is greater (the real estate value is higher and the share price lower than on previous attempts) Sainsbury’s profit margins are much lower and industry risks dramatically higher.
We cannot think of a time when it has been less appropriate to put more leverage into a UK food retailer than now. There is huge uncertainty about industry margins, the whole industry is living in fear of what Tesco might do on pricing and all 3 of the quoted players have made moves to cut capex significantly in order to protect balance sheets.
Any leveraged finance model struggles if you start with the assumption of declining sales. Most industry players, including Sainsbury’s, agree that negative like-for-like are here to stay. So the idea of putting thinner operating margins on to a more leveraged vehicle with a declining top line doesn’t strike us as particularly attractive to lenders. So in conclusion we’ve been here before, with bigger, higher profile activist investors and a far better industry backdrop and nothing has got off the ground. We expect history to repeat itself.
Meanwhile Bernstein Research has issued a positive note on Sainsbury following last week’s meeting with the supermarkets management. Analyst Bruno Monteyne said:
Following on from [meeting] we have gained a better understanding of the price and cost cutting, and the balance sheet robustness. The price investments will mean margin pressure, but in terms of cash flow and valuation this is offset by the savings in capital expenditure, that means we forecast higher free cash flow than previously (from 2015/6 onwards). We therefore retain our outperform rating (target price £3.30) as we continue to believe that the balance sheet is sufficiently robust that the covenant breach and rights issue are not impending dangers.
But Marks is down 14.2p or nearly 3% to 482.7p after it had to delay deliveries of online orders by up to two weeks.
Overall the FTSE 100 has fallen 39.39 points to 6703.45 following disappointing data from both China and Japan, with the latter’s economy shrinking by more than expected in the third quarter. Chinese imports dropped unexpectedly in November while export growth slowed. Meanwhile European Central Bank policymaker Ewald Nowotny made some gloomy comments about the eurozone economy.
Mining shares were hit by the poor data from China, a key consumer of commodities, with BHP Billiton down 19p at £14.55 and Rio Tinto down 16p at £28.82.
But Randgold Resources has risen 73p to £42.62 after Deutsche Bank moved from hold to buy and raised its target price to £51.80 from £46.90. The bank said:
We estimate a 10% move in the oil price reduces Randgold’s total cash costs per ounce in 2015 by $11, or 2%. It would increase our 2015 earnings estimate by 4.6% and increase our 2015 free cash flow estimate by 1% from $635m to $639m.
Acacia Mining is up 11.9p at 248.3p as Deutsche also raised its rating from hold to buy, with a 290p target price.
InterContinental Hotels Group is up 6p at £26.45 following news it had agreed to sell its Paris-Le Grand hotel for €330m to Constellation Hotels.
