Sainsbury 8217 s shares fall more as dividend reviewed accounts queried

Sainsbury confirmed it would review its dividend policy after fierce competition from supermarket rivals hit sales and forced it to cut forecasts.

The market reaction to Sainsbury’s initial announcement this morning that second quarter same-store sales fell 2.8% compared to Q2 of the year before, was fairly moderate.

The stock actually rose slightly earlier at first, by about 1%.

But after the supermarket’s chief financial officer (CFO) later signalled the company’s dividend pay-out would be included in a wide-ranging strategic review, the shares plummeted.

Chief Financial Officer John Rogers told reporters: “If we are doing a full scale strategic review and … no stone is going to remain unturned, you’d expect the dividend to be part of that full scale review,” he said.

Sainsbury plans to provide a detailed strategic update at its interim results on 12th November.

CFO is “100% confident” accounting is correct

The CFO also faced questions about Sainsbury’s accounting practices, in the wake of revelations last week that its biggest rival Tesco had misstated profits by £250m.

He replied in robust fashion: “As the former commercial director I am 100% confident we have a culture of doing the right thing and that includes making sure that we account for all things in our business correctly.”

It looks like investors are becoming increasingly wary of the accounting and more specifically, revenue recognition practices of the major UK supermarkets.

After Tesco was caught short, at worst, investors fear the practice of recognising revenue on accounts much earlier than is conventional for UK companies, may be the norm in the British grocery sector.

Whilst Sainsbury has this morning batted insinuations about its accounting practices back hard, it appears to be the group’s strong net income margin, on a relative basis, that has piqued the curiosity of some investors recently.

The company’s trailing net income margin is higher than the median of its close peers.

At the same time, the percentage of Sainsbury’s accruals is lower than its peers’ median.

More often than not, the combination of these two factors is indicative of a company whose accounting policy can be deemed relatively aggressive.

This has implications for reported net income.

However this is a matter of earnings quality on a relative, not absolute basis.

Strategic review may also highlight strengths, not just weaknesses

And it’s a good sign that Sainsbury has taken a pro-active stance to the issue ahead of the results of what the firm has promised will be a thorough strategic review set to be published on 12th November.

We expect the review to at least confirm that Sainsbury, whilst continuing to struggle with the same cut-throat competition as its biggest rivals, has already made good progress in getting the mixes of pricing, cost-control and retail segments in sound shape. Certainly better progress than Tesco and arguably more progress than Wm. Morrison Supermarkets has made too.

This progress ought to be evident from the fact that whilst Sainsbury does not appear to display much ‘pricing power’ at the moment, its median-level of gross margin and relatively high pre-tax margins suggest tight cost control relative to peers.

This might be a first indication that having some sort of well-executed ‘buffer’ in non-food/general merchandise could be a further differentiating factor amongst the ‘Big 3’.

Clearly, Sainsbury is further along the road of shaping-up its non-food offer than Tesco and Morrison.  We look to non-food as another front in Sainsbury’s rivalry with both Asda, and even potentially Marks & Spencer.

For Sainsbury to win those battles, we would need to assume today’s trading update, revealing poor quarterly sales and triggering a dividend review, is the bottom, for the supermarket.

Investors in the grocery sector have probably remembered of late that it’s best to assume nothing.

Shares fly past 2008 lows

That helps explain the effect of today’s news on Sainsbury’s share price.

The stock has been slammed past even the lows last seen during the credit crunch of 2008.

In our article published last night, ahead of today’s trading statement, we noted the share price lows of October 2008 between 248p and 252p were expected to provide some support.

These levels have been broken.

If the shares close below prices where support was observed, the outlook for the stock is likely to darken, with attention moving on to the next area of observed support.

On 1st April 2003, the stock pivoted from a low for the day at 213.28p after a downtrend that lasted about 18 months.

We don’t expect shares to go anywhere near the above price in the medium term, and in fact the stock is showing signs of being oversold on a daily basis.

A chart using 240-minute intervals already reveals some traders showed buying interest around current levels, after above-average selling within the last complete four-hour period.

Based on relative volume alone, whilst momentum to the downside continues to dominate, an easing-off of participation for the moment could mean the stock pauses by default.

The shares are currently down 6.1%, close to the day’s lows.