Vol 28 No 2 Spring 1999

SECTION 2: STRUCTURE OF INDUSTRY

Marks and Spencer ­ a retailer under strain

ROBERT PAISLEY

Deputy Head, Stanborough School, Welwyn Garden City

1 Introduction

In January 1999 Marks and Spencer (M&S) shocked the City by announcing that profits for the current financial year would be almost half those for 1998. The sharp decline in profitability, and a consequent fall in share price, saw questions raised about the management of M&S, culminating in recent major boardroom changes.

2 Company performance

Marks and Spencer is one of the most profitable companies in the UK. It has had a reputation as a safe 'blue chip' investment for decades. Figure 1 shows that between 1992 and 1998, M&S pre-tax profits increased every year. It has probably the most marketable brand on the high street. For its customers, Marks and Spencer's reputation is built on quality, dependability and good value. For its employees, M&S offers high quality training, staff development, and welfare, and relatively good job security. In return, the employees subscribe to the firm's values and methods of working.

The reputation of the M&S brand is founded to a large extent on its relatively long established relationships with its suppliers. The heavy dependence of M&S's suppliers on the company means that the company could try to offset falling profits by putting competitive pressure on suppliers to lower their costs. Employee costs at M&S could also be reduced by cutting staff and the spending on training, while, at the same time, reducing employment security. The problem is that these strategies erode the qualities that make M&S a distinctive brand.

Suppliers could consider finding alternative outlets, and high quality staff could be attracted to other employers. The expectations of shareholders for high returns have put increasing pressure on M&S to reap short-term benefits. This, in turn, has led to differences in opinion within the Board of Directors as to future corporate strategy.

In the financial year ended 31 March 1998, M&S made a pre-tax profit of 1.17 billion. Profits for the year ending 31 March 1999 are expected by M&S's own analysts to be in the range of 625 to 675m. The second half of the financial year had a particular impact on profitability. The Christmas shopping period in November and December 1998 was a crucial period for a large retailer like M&S, and sales in this period were significantly lower than expected. Sales of clothing, footwear, gifts and home furnishings in December 1998 were 6 per cent lower than a year earlier. Overall sales were 4 per cent lower than a year earlier. There were high stocks of seasonal goods left unsold after Christmas. Clearing the stock through significant price reductions incurred high short-term costs. Sales growth in European markets was also poor, particularly in Germany.

The announcement of the drastically reduced profits forecast in January 1999 resulted in a fall in the share price to 339.75p, the lowest level since 1993. This compared with a share price of nearly 600p in April 1998.

The decline in M&S's profitability partly reflects low consumer confidence, with retail sales growing at only 1.5 per cent in 1998. But the negative growth in M&S sales and the unprecedented profits performance in the last year suggests that M&S is beset by more than short-run consumer confidence problems.

3 Reasons for the decline in performance

Reasons for the decline in M&S's performance include the holding of excessive stock due to over-expansion. At the same time, their product, pricing and sourcing strategies have been deficient. Over the last year, M&S has bought 250m worth of stock. Decisions on 1998 winter stock levels were made last April and May when trading was reasonably buoyant and selling space was expanding. Holding excessive winter stock has cost M&S 150m, of which 90m was lost from poor pre-Christmas sales, and 60m was the cost of clearing the excess stock.

The considerable build-up of stock was to some extent driven by the increase in floor space. Over the last year, M&S has acquired 19 Littlewoods stores in UK towns as part of its three-year expansion programme up to the year 2000. As Figure 2 shows, the plan is to increase total floor space from 13.3m to 16.3m square feet (i.e. by 23 per cent) over the period 1997­2000. In some towns there was already an M&S store in the town centre before the Littlewoods acquisition. In these cases, the former Littlewoods store would normally be converted to the M&S corporate style, with particular departments of the M&S business, such as Menswear, operating in these separate shops. This build-up of floor space helped to put pressure on M&S to acquire enough stock to fill the increased floorspace. As well as producing excess capacity, the Littlewoods acquisition was costly in terms of conversion to M&S shops, and the conversion took longer than anticipated. At almost the same time, M&S was expanding in relatively depressed European markets such as Germany, simply because the opportunities for acquisition were available.

The inability to utilise fully the available floorspace and stock has been the result of M&S's difficulties in selling its products. This, in turn, has been, due to both depressed market conditions and, more seriously, a loss of M&S's share of the existing market. Competitors have developed some of M&S's successful marketing strategies and improved their market position. Tesco have developed their range of ready cooked meals. Boots have improved their range of children's clothes and gift ideas. 'The Gap' and other clothes retailers have exploited the demand for classic but fashionable children's clothes. The criticism directed at M&S's spring/summer collection, unveiled in January 1999, suggested that it was not as successful as M&S had previously been in getting the right balance between classic and contemporary styles.

Increased competition has also put pressure on M&S's pricing policies, and in particular the ability to charge a quality premium on clothes. The pressure to control prices has, in turn, put strain on M&S's buying policies. The reliance on a limited range of mainly UK-based suppliers has, over the long term, contributed to the dependability of the M&S brand. However, it has also made costs more difficult to control. This is partly the result of the long-established buying structure within M&S. Buyers were able to dictate the product ranges that the stores would take, and even how they were presented. This led to a more product-led and less customer-focused approach than those of some of its rivals.

4 Management changes

As it became clear that there were doubts about M&S's corporate strategy in the second half of 1998, boardroom differences emerged. As a result, Sir Richard Greenbury stepped down as Chief Executive and was replaced by Peter Salsbury in November 1998. Sir Richard remains as non-executive chairman. In January 1999, changes to the M&S management structure were announced in an attempt to improve corporate strategy.

Three main business units were created ­ UK Retail, Overseas Retail and Financial Services. The streamlined structure is designed to reduce bureaucracy, give clearer lines of communication and accountability, and provide shorter reporting lines to the Board of Directors. The number of senior managers has been reduced, with 3 directors, 11 divisional directors and 17 executives being relieved of their posts. M&S will now have one director looking after UK clothing, and another responsible for UK foods and home. Peter Salsbury argues that 'decision making will be devolved, enabling us to respond more effectively to our customers and to compete better in all our markets'.

A company-wide marketing department has been set up, headed by the first marketing director in M&S's history. This is very much the norm for most UK companies, but for M&S it is radical. This is because of the traditional power of the buying departments within M&S, which were developed around individual product lines, rather than developing a corporate marketing strategy more closely linked to consumer tastes.The key to the success of these changes in management structure is whether they can effectively loosen Head Office's grip on the whole company's processes from design to distribution. Other companies have not only developed some of M&S's best business practices, but are also better able to respond more quickly to market changes and encourage innovation, enterprise and creativity among their managers.

5 Prospects for the future

Marks and Spencer remains one the UK's most profitable companies. Competitors are catching up rapidly, and M&S has had to evolve to respond to these challenges. The recent changes in management structure reflect this. The difficulty for M&S is achieving the right balance between the corporate values that gave it its strong market position, and the innovation that is required to stay competitive. Past experience suggests that M&S has the capability to achieve this. It is the strength of the M&S brand and its product quality that has enabled it to sustain profitability over the long term, and to be less vulnerable to changes in market conditions. In the shorter term, a number of factors, such as the effect of lower interest rates and undisrupted trading at the converted Littlewoods stores, should help to improve profitability later on in 1999.

Questions

1 What are the reasons for the recent change in Marks and Spencer's profitability?

2 To what extent should Marks and Spencer change its corporate strategy in response to its recent difficulties?