Bernstein downgrades Morrisons on structural problems

“The City has been excited by Morrisons' positive Q4 2015 LFL sales growth and the deal with Amazon was a welcome surprise for shareholders. A rally in the share price followed making it the best performer of our coverage since December,” said Bernstein.

However, the bank reckons enthusiasm and valuation have run ahead of themselves, pointing out that structural problems such as a lack of differentiation and limited growth options are still there.

In terms of the weak differentiation, Bernstein noted that when it comes to private label food, Aldi and Lidl are materially cheaper, while Asda is 4% cheaper on branded and Tesco’s Farm Brands focus on value-oriented fresh food, which is the heart of Morrisons' current strength.

On growth, the bank highlighted that Morrisons’ offer is in the supermarket segment, the slowest growing part of food retail, with almost no exposure to convenience retail, which is the fastest growing UK segment, and limited online.

“Relative growth is biggest driver of food retail margins, and Morrisons has the weakest channel-mix of all three quoted retailers.”

Bernstein said that even if it gives full credit to management's recent guidance of £50-£100m of incremental pre-tax profit in the medium term, and assumes an amazing Amazon-supply business, it is still 7% below EBIT for this year and 10% below EPS.

The bank said that even if it accepts consensus EPS and EPS growth expectations, the stock still trades 20% above its fair value.

“We are one day before Morrisons' Q1 sales results, and those may get people excited. But our downgrade rests on the longer term earnings and cash generating capabilities of the business.”

At 1116 BST, Morrisons shares were down 3% top 185.10p.