Morrisons – Clean up
All,
Please find our unchanged analysis here.
Morrisons is pushing out some of its senior secured debt and up-tiering around half a turn of SUN’s debt. The transaction makes sense as the SUNs have been trading in the mid-teens, and issuing £1.2bn of subordinated debt from a retailer may be expensive even in 2028. The transaction will increase the annual interest bill by under £30m, so the impact on coverage is also modest. Morrisons still has significant maturities falling current by the end of 2026, but it also has various levers to deal with these. Operational profitability will need to improve, and this will depend on whether we are correct that competitors remain rational.
Investment Rationale:
- We have a 3% NAV long position in the £1.2bn SUNs; we did not participate in the tender offer as we are still comfortable. We expect that CD&R would not allow £2.3bn of equity (including the value of the MFG Stake) to be lost for the sake of £750m SUNs. In the next 12 months, we see 5 points of upside in the SUNs and 3 points of downside.
- The 600bp spread between the SSNs and SUNs is excessive, and we expect this to narrow to 400bp (YTW 12.75%) in the next 12 months.
- We also have a 2.7% NAV long position in the 2027 SSNs. The SSNs are trading at par, and we will be seeking an exit.
- Morrisons is unlikely to call or refinance the SUNs as the new SSNs have a springing maturity if the SUNs are called early.
- Morrisons’ EV has come down due to the recent price drops at ASDA. Although LTV is now around 75%, the equity cushion is still significant.
Morrisons’ Q2 24/25 results show a recovery from the hacking attack:
- Strong cash flow and recovery from the Hacking issues in Q1 were a relief.
- Higher taxes will be a headwind in H2, but management is still expecting FY EBITDA to rise.
- The competitive environment is not easy, but management agreed that competitor behaviour remains rational. We expect some pain in 2025, but with some relief from 2026/2027.
- Q2 volumes rose sequentially after the hit from the Blue Yonder hacking attack in Q1. Year-on-year, volumes were flat with the 3.9% sales rise largely inflation-driven. The company has also increased its cost-cutting programme to £600m (from £500m) to help reduce the impact of additional taxes, which began to kick in at the end of Q2.
- Management’s response to the ASDA price cuts is to seek to improve service levels to drive volumes. Additional price support has centred around multi-buy discounts rather than price drops. Additionally, Morrisons is being more creative with its supply chain and sourcing some non-British meat to boost margins.
Further sale and leaseback transactions are coming:
- FCF will have to rise to improve the Interest cover ratio; financing charges are not going to be cheaper than the deal CD&R got at the time of the original buyout.
- FCF/Interest coverage in 2025 will be c1.0x.
- The new GBP SSNs were placed at 8.75%, we would expect Morrisons to be able to get rates of 6.5% for the sale and leaseback of stores. At 6.5% the cost of debt is still higher than the average interest that Morrisons pays now.
- Cash interest in 2025 will be £15m higher (£30m in 2025/26) => £270m/£280m. We expect FCF/Interest coverage to be around 1.0x.
There are still maturities in November 2027.
- We had expected the 2029 SUNs to be refinanced at the same time as the 2027 TLB and SSNs. This is still possible, but only if the entire cap stack is refinanced.
- Morrisons has £1.8bn of TL B and SSNs falling due in November 2027; this will need to be dealt with by the end of 2026. The new SSNs have a springing maturity if the SUNs are refinanced early, and refinance of the 2027 maturities will likely contain a similar restriction.
- Morrisons’ bet is on better sentiment towards UK Grocery by then, allowing the new SSNs to be called along with the 2027 maturities and new SUNs being issued.
- An alternative could be an Amend and Extend of the SUNs (£750m will be easier than £1.2bn). Or an exchange offer using the proceeds of the MFG stake sale
- The company has 15 months and multiple levers to achieve this.
- After the purchase of £425m of SUNs, Morrisons has Senior Leverage of 4.2x (based on LTM adjusted EBITDA of £625m). There are also £2.1bn of lease liabilities.
- The £750m of outstanding SUNs will equate to another 1.2x turns of leverage.
-£2bn in lease liabilities add another 3x to the headline leverage figure (£2bn lease liabilities)
Aengus
T: +44 203 744 7055