Marks & Spencer: Buy, Sell, or Hold?

LONDON -- I'm always searching for shares that can help ordinary investors like you make money from the stock market. Right now I am trawling through the FTSE 100 and giving my verdict on every member of the blue-chip index. I hope to pinpoint the very best buying opportunities in today's uncertain market, as well as highlight those shares I feel you should hold -- and those I feel you should sell!

I'm assessing every share on five different measures. Here's what I'm looking for in each company:

  1. Financial strength: low levels of debt and other liabilities;
  2. Profitability: consistent earnings and high profit margins;
  3. Management: competent executives creating shareholder value;
  4. Long-term prospects: a solid competitive position and respectable growth prospects, and;
  5. Valuation: an underrated share price.

A look at Marks & Spencer (LSE: MKS  )
Today I'm evaluating Marks & Spencer, a U.K. retailer that sells clothing, food, and home products and currently trades at 370 pence. Here are my thoughts.

1. Financial strength: M&S is in a solid financial position, with a ratio of net-debt-to-EBITDA of two and a more-than-adequate interest cover of nine times. Free-cash-flow generation has been good the last five years, averaging about 440 million pounds per year.

2. Profitability: Looking at the past 10 years, Marks & Spencer has had decent results, compounding revenue and earnings per share by 7% and 5%, respectively, and increasing dividends by 5% per year. It enjoyed a brief revival during the latter part of the last decade, reaching more than 1 billion pounds in pre-tax profit in 2008. However, profits have slumped ever since, even though revenue continued to grow, as operating margin had declined from 13% in 2008 to 8.2% in 2012. The 10-year average return on equity has been good at 18%, which was partly bolstered when the company bought back shares while taking on debt from 2004 to 2008. ROE has declined from 37% in 2008 to 19% in 2012.

3. Management: The jury is still out on CEO Marc Bolland, who replaced Sir Stuart Rose in May 2010. He came to M&S with great credentials: As chief executive of Morrison supermarkets since 2006, he has been credited for the supermarket chain's resurgence. However, nearly three years into his reign at M&S, the company's general-merchandise business -- especially the important clothing line -- continues to be in decline.

4. Long-term prospects: M&S's food business continues to be solid, growing by 4% annually, and multichannel sales are enjoying robust growth, increasing 24% per year for the last three years. However, like-for-like sales of general merchandise (primarily clothing) have been on the decline in seven out of the last eight quarters -- quite alarming, considering that more than 40% of the company's revenue comes from this segment. Despite the poor results, management has said the company is set for long-term growth, as its three-year program -- launched in 2010 with the goal of becoming a "truly international, multi-channel retailer" -- is going as planned. This included increasing capital expenditure by 900 million pounds over the next three years to rebrand products, revamp stores, improve its online presence, and increase its international capabilities.

5. Valuation: M&S's shares are currently trading below 50% of its 2007 high and about 20% above its 2003 price levels. With a forward price-to-earnings ratio of 11 and a price-to-sales ratio of 0.59, it looks cheap compared to its historical averages.

My verdict on Marks & Spencer
M&S remains a good company in solid financial health, with a history of growing revenue, earnings, cash flow, and dividends. It trades at a price below its historical multiples while returning an above-average yield of 5%, twice covered. However, business conditions remain difficult for U.K. retailers in general since recession hit in 2009, and competition has only intensified as companies compete for consumers' limited disposable incomes. While parts of M&S's business remain strong, it seems the critical clothing business is fading. While rivals such as Primark, Next, and Debenhams continue to improve their offerings each year, M&S has struggled to find its niche.

Overall, I believe at 370 pence the stock looks like a hold.

More FTSE opportunities
Although I feel Marks & Spencer is a hold right now, I am more positive on the FTSE shares highlighted in "8 Dividend Plays Held By Britain's Super Investor." This exclusive report reveals the favorite income stocks owned by Neil Woodford -- the City legend whose portfolios thrashed the FTSE All-Share by 200% during the 15 years to October 2012. The report, which explains the full investing logic behind Woodford's dividend strategy and his preferred blue chips, is free to all private investors. Just click here for your copy, but do hurry -- the report is available for a limited time only.

In the meantime, please stay tuned for my next verdict on an FTSE 100 share.


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