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Rose-tinted defence

12 Jul 2004 By Hugo Dixon

Marks & Spencer has probably done just enough to stave off Philip Green. The UK retailer’s defence plan is not a knockout. But the billionaire entrepreneur is going to find it hard to argue that it is worth much less than his own 400p a share proposal. And that’s going to make it difficult for him to rabble-rouse M&S’s shareholders into a rebellion.

M&S’s defence rests on two main planks. It is getting down to some financial engineering of its own, albeit of a much more conservative kind than Green envisages. And Stuart Rose, the new chief executive, is promising big improvements in margins.

Look first at the financial engineering. M&S plans to return £2.3bn of cash, equivalent to 100p a share, to investors. This will be mainly funded by selling Money, its financial services business, to HSBC for a total consideration of £2.1bn.

M&S has been quite clever with its financial engineering. But it has not pushed the boat out. The revaluation of its property portfolio to £3.6bn shows it could have gone much further. A sale and leaseback would have financed another 160p a share in cash on top of the 100p it is paying. The snag is that M&S would then have been junk. Under its more modest plan, it will keep its investment grade credit rating.

Meanwhile, Rose is promising £320m of cost savings by 2006/07. That number looks pretty solid. The key question, though, is how much of these cost cuts will actually drop down to the bottom line. Investors will probably apply two discounts: first because some will have to be reinvested in lower prices; and second because the full amount won’t come through for three years.

As a first stab, say they are worth £200m. Using that number – and making adjustments for all the other changes announced by Rose – the new M&S would have had 27p earnings last year, according to a breakingviews analysis.

The issue then becomes what sort of multiple these earnings deserve. Investors are unlikely to want to give M&S a sector multiple of 12-13. After all, its sales are still shrinking on a like-for-like basis by 2.8%. A multiple of 11 may be more appropriate. With that, the new M&S would be worth 297p. Add 100p for the share buyback and you get 397p – damn close to Green’s 400p.

The billionaire entrepreneur will no doubt argue that investors should prefer his 400p of cash to an uncertain plan. But the 397p valuation is already fairly conservative. What’s more, Green’s own plan isn’t totally certain. He has to contend with the probable need to pump more cash into M&S’s pension fund if the basic business was geared up to the eyeballs.

Arbitrageurs who have been buying M&S stock in recent weeks will still probably want to grab Green’s cash. But to storm the barricades, he will have to convince long-only investors that there is something seriously wrong with Rose’s plans.


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