J Sainsbury shares have slipped 1% after analysts suggested the supermarket group might need to raise £2bn over the next three years, which would involve a dividend cut, a rights issue or property sales.
JP Morgan Cazenove put an underweight rating on the group's shares and cut its target price from 362p to 301p. The bank said Sainsbury's headline growth was slowing, with like-for-like sales figures and debt levels both likely to be worse than the market expected. It said:
In the face of heavily negative volumes and benign inflation, we consider Sainsbury's earnings under pressure and financing questions arise as a result for the medium term. [So] we cut our pretax profits by 1.6% for 2011 and by 5.6% for 2012.
Maintaining the status quo "growth story" (£435m) and returning to sector standard debt ratios (£1.6bn) would indicate a funding requirement of £2bn for the next 3 years. Adding an "average" international acquisition would increase this requirement to £3bn.
Without available debt financing at sensible terms, step one would be to cut the dividend in our view. Cutting the dividend to an average of Morrison and Tesco would save £213m over 3-4 years.
Assuming the dividend were to be cut to appropriate levels, funding the remaining gap of £1.825bn (status quo) and £2.813bn (status quo plus international) could be financed by either property disposals or an equity raise. The value dilution via an equity raise (19.3%) appears less favourable than the dilution in value created by selling further property (7.1%) although investors should note the structural disadvantages of selling [property].
Given the shares are back to the level of the prior funding round, it appears the market is not accepting growth at the expense of returns and cashflow. Reflecting a potential funding event and earnings cuts, we lower our target price to 301p, which offers 11% downside at current levels.
The downgrade has helped push Sainsbury shares down 3.6p to 338.6p.
