Convenience Food - There are more ways than one of digging for money

In August I wrote about the potential sale of M Local by Morrisons. That sale has now been confirmed, 10 previously closed stores are reopening, and the business is being rebranded My Local - a great name by the way.

In its results announcement today, Morrisons said that

'Convenience remains an important growth channel, and we will continue to consider capital-light, returns-enhancing opportunities in the future.'

Back in August I also mentioned franchising as being a model that could work well for Morrisons. Using its integrated supply chain to better effect by supplying franchised convenience stores seems to make a lot of sense, and neatly fits the returns-enhancing, capital light opportunity that Morrisons is looking for.

In my view we will see the battle for a greater share of the convenience market fought on two fronts now, by direct opening of stores  by retailers; and by increasing use of franchising by national multiples to take market share from the symbol groups. Simply Food is well used to the franchise model and Tesco (using the One Stop fascia) is aiming to open over 180 franchised stores this financial year.

"There are more ways than one of digging for money."

Tesco Store Valuations

Hidden in the announcement yesterday by Tesco of the sale of Homeplus in Korea was  a statement about the use of proceeds that included Tesco's intention to

'consider value accretive opportunities across the group including the selective purchase of some existing leasehold stores in the UK.'

It will be interesting to see whether such a policy will provide a cap on Tesco superstore yields. Theoretically, that should be the case, but the important question is at what yield level purchases are accretive to Tesco - perhaps a case of watch this space.

Tesco property values - Still not adding up

Tesco has today announced that, as part of its programme of rebuilding trust and transparency, it is providing 'increased disclosure, including additional details on property valuation and ownership'.

So what has Tesco told us?

It has told us that the estimated market value for its fully owned property was £22.9 bn. Note please that this is an estimate not an external valuation notwithstanding that Tesco later says that "This valuation represents an estimated surplus of £2.7 bn over the year-end net book value".

Tesco also tells us that the £22.9 bn represents a reduction of £7.6 bn year on year. By my calculation that is just short of a 25% reduction in value. That reduction is described by Tesco as 'driven mainly by a significant weakening of the UK retail property market....'

I'm fairly confident that the UK retail property market didn't fall by 25% last year nor did the supermarket sector. In respect of the latter, the latest figures (to 30th Sept 2014) from British Land showed its superstore portfolio growing by 3.1% year on year.

Notwithstanding Tesco's claim of improved transparency, it seems to me that something still does not add up.

Monday News

There were a couple of apparently unrelated items that caught my eye this morning.

Firstly, the news reported in The Times that "supermarkets and discount retailers are expected to enter the race to buy BHS".

Despite the fact that many of these stores have planning to allow the sale of food I doubt that the location, size and tenure of the BHS stores will make more than a handful of them attractive for convenience food stores without substantial investment.

I would expect Aldi and Lidl to show most interest. Tesco and Sainsbury less so as they will already be represented in many of the towns where BHS trade. Morrisons may show interest in some if the price is right.

However, in my view a trade sale is the more likely outcome.

The second item was the Q3 IMS from LondonMetric with Chief Executive Andrew Jones highlighting the "greater alignment to the growth of eCommerce through retail led distribution assets and the convenience of click and collect...."

Click and Collect is still strongly preferred by many customers and existing retail locations, close to transport links or houses themselves will continue to benefit from that.

Andrew is right to highlight the benefit of Click and Collect, but the question remains open about how to value that, both for occupiers and for landlords.

If there is an eCommerce value in the BHS trading locations then perhaps these two items are not as unrelated as they first appear.

Superstore Yields and Rents

Following the recent news flow from Tesco and the increasing competition in the grocery sector, I have been asked a number of times recently about my views on yields and rents.

There has been a noticeable outwards shift in the bond prices of the securitisations that are secured by Sainsbury and Tesco stores, with Tesco's in particular suffering from the downgrade of its rating by Moody's.

Clearly, tenant quality is a factor, but the more important drivers of yield are, in my view, the underlying fundamentals of the property. For that you need to look at demographics, competition, and of course actual and market rental levels.

With retailers starting to scale back new openings (and even exit from existing stores) it is certain that the demand dynamics in the market are changing which will almost certainly have an affect on rental levels. Given that there has always been a shortage of market rental evidence in the sector it is difficult to know exactly how that will feed through. The picture for future rental growth remains unclear, the reduction in supply caused by the reduction in new schemes could be a positive, yet that is also a symptom of reduced demand.

In my view continued price deflation and the consequent margin erosion is likely to put downward pressure on rents, and that is almost certain to have an impact on yields. Investors in RPI linked lease income will need to start to consider the impact on value if indexed linked increases outstrip market rental growth.