Retailer Marks & Spencer (MKS) is the gift that keeps on giving. Its share price is up 162% since October 2022, dividends are back after a four-year absence, and analysts keep finding reasons to upgrade earnings forecasts. In fact, the analyst consensus earnings estimate has increased 11 times this year, according to Stockopedia data.

Earnings growth is a key driver for share price growth so it makes sense the shares have done so well in 2023. The business has finally found its groove after a long time in the doldrums.

This is also a classic example of why it can pay to invest in a company delivering good news. Marks & Spencer has made considerable progress this year and each trading update or set of results has provided enough information for investors to keep wanting to pay a higher price for the shares.

Can the company sustain this momentum? Analysts and fund managers seem to think so. Peel Hunt called the half-year results on 8 November ‘embarrassingly good’, adding: ‘We believe Marks & Spencer is doing many things right but there is more to do, which is true of the shares as well. It is one of our top picks in the (retail) sector.’

Peel Hunt used the word ‘embarrassing’ because the £360 million pre-tax profit figure achieved in the six months to 30 September 2023 was significantly ahead of the £275 million market consensus. Analyst predictions are rarely that wide of the mark.

It is notable that non-executive director Cheryl Potter spent £123,500 on buying shares straight after the latest results. Traditionally after a big share price rally you might see an investor take profit. Her investment amounts to a decent chunk of personal money and sends a positive signal to the market.

WHY IS THE BUSINESS DOING WELL?

Food sales continue to be strong, helped by a strategic decision to push more value ranges. Clothing sales ticked higher thanks to more appealing designs and less formalwear which is resonating with the public.

Initiatives such as freezing school uniform prices are a good move, helping to bring in shoppers and that might explain why children’s casual clothes are also selling well. Profits have also benefitted from more cost savings across the business.

Marks & Spencer positions itself as a retailer that provides value for money. Clothing products and food items are high quality and that puts the brand front of mind for shoppers who want to feel their hard-earned cash is going towards something decent.

The company has already achieved two of the five-year strategic goals set last year – namely having at least 10% margins in clothing and 4% in food. It is no wonder chief executive Stuart Machin is upbeat. However, the company’s turnaround story is far from complete.

Chairman Archie Norman wrote in this year’s annual report: ‘Of all the turnarounds I have been part of, this has been the slowest and most intractable; reflecting the deep-rooted nature of our problems and culture at the “old M&S”, but we are now at last seeing the reshaping of M&S take hold with new energetic leadership, new strong trading results and the prospect of a return to dividends.’

WHERE IT NEEDS TO DO BETTER

The key thing to consider is that Marks & Spencer’s turnaround story is still playing out. In the half-year results, Machin said: ‘We’re only just beginning. Lots done, lots to do, lots of opportunity.’

The Sparks card loyalty scheme looks muddled – to the average customer it looks like a glorified way to get a free packet of sweets when they shop or a random 10% off a certain product range such as pants and socks. Growth in the number of active Sparks card users has plateaued and the retailer must work harder to better personalise offers.

The online joint venture with Ocado (OCDO) could do better. It has ‘reset’ the strategy with a goal of improving profitability. Marks & Spencer’s own online operations still need fine-tuning to drive growth and improve returns on the investment it has made in data, digital and technology capabilities.

It also needs to right-size its physical store estate. The plan is to reduce the number of shops selling food, clothes and homeware to 180 sites while also opening 100 new food stores by full-year 2028.

THE BIG RE-RATING

A year ago, shares in Marks & Spencer traded on the bargain valuation of 6.5 times next 12 months’ earnings. The stock has subsequently re-rated and is now on 11.6-times, more in line with its historical average. That is on a par with Tesco’s (TSCO) forward PE of 11.3 and only slightly less than the 12.3-times rating from Sainsbury’s (SBRY).

What is really interesting is how both value and growth-style fund managers own shares in Marks & Spencer. We would not be surprised if value names start to bank profits given how the stock rating has gone from ‘cheap’ to ‘fair’. Value-style funds and trusts holding the stock include Temple Bar Investment Trust (TMPL), Law Debenture (LWDB) and Polar Capital UK Value Opportunities Fund (BD81XW8).

Growth funds are likely to hold the stock in the belief the turnaround story still has more to go and, importantly, strategic changes will position the company in a better place to keep growing.

Baillie Gifford is among the growth-style investors backing Marks & Spencer, holding the shares via the Baillie Gifford Managed Fund (0601016). Its co-manager Iain McCombie recently said on a webinar: ‘I think M&S is starting to get its mojo back. It feels like it is being more strategic and there is more optimisation of the assets for which it holds.

‘The company has invested in price, which made it more competitive. A lot of people used to say M&S is really expensive and they’ve had a pleasant surprise when they’ve been coming in recently. That’s why Waitrose has been struggling because M&S is basically kicking its butt in the food area. I think that’s really exciting.’

McCombie also highlighted the opportunities with the retailer’s physical stores, citing the example of a new shop in Liverpool. He said the company had a store in the centre of town which had been there for over 100 years in an area which was ‘getting a bit tired and gritty’. It has now relocated to a different part of town to an old Debenhams store.

‘It’s about 20% smaller than the old M&S store, but because it’s been repurposed with what the company thinks is what customers want, it’s selling about 30% more since it opened, compared to the old one,’ said McCombie. ‘I think there are more stores where it can do the same.’

SHOULD YOU INVEST IN MARKS & SPENCER NOW?

Shares last said to buy Marks & Spencer on 1 June 2022 at 152p. Today the shares trade 62% higher at 246p versus a 4% decline in the FTSE All-Share index over the same period.

There is much to like about the company even though its valuation is no longer in bargain basement territory. As a result, we believe the stock is still worth buying.

Analysts estimate adjusted pre-tax profit for the year to March 2024 will be £584 million, a level it has not reached since 2017, and go on to hit £631 million in 2025 and £667 million in 2026, according to LSEG data.

There is a chance analysts need to materially upgrade estimates to reflect the latest half-year results. Peel Hunt said even with major investment into service and technology during the second half, it expects the March 2024 pre-tax profit consensus will change to £640 million.

You just need to walk into a Marks & Spencer store to see there is a different atmosphere, a real buzz which reflects shoppers finding stuff they like and then buying it. The retailer has finally rediscovered the recipe for success and that bodes well for investors to enjoy further share price gains.

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