Grocer Dalton Philips feels the pressure

The head of Morrisons must explain its falling sales and profits to the City next week. James Thompson pinpoints the problems at the supermarket chain

Dalton Philips may have lined up a St Patrick's Day celebration with family and friends for 17 March. But before then the Irishman who runs Morrisons will have the sobering task of presenting the first fall in annual profits for seven years at the UK's fourth-biggest grocer.

Its chief executive since March 2010, Mr Philips will also this week have to defend woeful recent trading that leaves Morrisons trailing its big rivals and convince a growing number of City sceptics that he has a compelling long-term strategy to get its profits growing again. More specifically, he needs to come off the fence and set a clear date for launching food online later this year and lay out an aggressive strategy to expand its convenience store business, which are two of the key areas where Morrisons has been losing sales.

Ahead of Thursday's results, Mr Philips is under the spotlight like never before, although sources are also raising questions over the position of Sir Ian Gibson, who has been the supermarket's chairman since March 2008.

Clive Black, an analyst at Shore Capital, says: "Dalton is clearly under pressure because sales are falling and profits are being downgraded."

Morrisons is expected to post a 7 per cent fall in annual profits to £876m over the 52 weeks to February, according to the joint house broker Jefferies, and it has pencilled in a similar decline for this financial year. The grocer suffered a 2.5 per cent fall in underlying sales over Christmas and trading is not expected to have improved over the remainder of its fourth quarter.

Speaking last week, Mr Philips said: "When you are a plc there is relentless pressure. I don't feel any different now than I did in 2011 when we were having the best year ever. When you are underperforming, you want to ensure that you reverse it."

While 501-store Morrisons remains more profitable than its bigger rival Sainsbury's, the grocer's profits have not fallen since the aftermath of its troubled acquisition of Safeway in 2004.

So what has gone wrong? In simple terms, cash-strapped shoppers in Morrisons' northern heartland appear to have been deserting it for a revitalised Tesco and the German discounters Aldi and Lidl.

Certainly, when Tesco, the biggest beast in the jungle with a 30 per cent share of the grocery market, fights back someone gets bruised, and Morrisons has been left looking black and blue recently.

Much has been made of the Bradford-based grocer being hurt by not having an online grocery operation, and only a handful of smaller convenience stores. But this only tells part of the story. While internet food shopping is growing fast, it accounted for just £5.6bn of £163.2bn of total grocery spending last year, according to the food trade body IGD. Online grocery is also the least profitable activity of the big supermarkets, although it is now crucial to hanging on to existing customers.

Similarly, Morrisons has lost sales to Sainsbury's and Tesco in the buoyant convenience store market, as cash-strapped consumers top up their big weekly shop with more visits to smaller, local stores. But running convenience stores is also significantly less profitable than big-box grocery retailing. Mr Black says: "We think the problem is with its core stores."

This view is borne out by Kantar Worldpanel data, which does not include online sales. Morrisons posted a 1.3 per cent fall in sales over the 12 weeks to 17 February, which saw its market share slump from 12.4 per cent to 11.8 per cent. This compared with sales growth of 2.4 per cent at Tesco, Sainsbury's 4.6 per cent and Asda's 3.1 per cent. Some of Morrisons' woes appear to be self-inflicted.

Bryan Roberts, the insights director at Kantar Retail, said: "Store standards have slipped slightly. I was in the Camden store in London recently and there were some gaps on the shelves and cardboard on the floor. It was not as finessed as you would expect from Morrisons."

Other experts have questioned the pace of the huge change that Mr Philips is pushing through the business, such as rolling out its "fresh format", introducing clothing, modernising systems and revamping its own-brand offer.

Mr Black says: "I think Morrisons is trying to change too much, too soon." In particular, the fresh format stores with their new layout and extended range of fruit, vegetables and meat have divided opinion.

Mr Black says: "A number of Morrisons' customers are finding the new fresh offer and refurbished stores are not for them. Morrisons is losing traditional customers who like the traditional Morrisons proposition."

In January, Mr Philips said average sales at its 100-plus fresh stores were 4 to 6 per cent higher than the rest of its estate, but this only served to highlight the weakness of its core shops. Mr Roberts says: "The fresh market format is a move upmarket which is slightly counter-intuitive at a time when everyone is clamouring for value. Morrisons needs to reassure customers that this does not mean it is more expensive."

More positively, he describes the grocer's refreshed new own-brand lines as "superb". Morrisons had introduced 2,500 new own-label products by last autumn and plans to have refreshed 10,000 by next January.

Mr Philips has also snapped up 62 smaller stores from the collapsed retail chains HMV, Jessops and Blockbuster this year. One source says: "The feeling is that this has bought Dalton some more time." While these acquisitions will significantly add to its existing 14 Morrisons M Local convenience stores, questions have been raised about the desirability of the locations of some shops.

This week, Mr Philips is also widely expected to set a firm plan and date for launching groceries online. Certainly, shareholders will hope that Morrisons' £32m investment in Fresh Direct, the New York-based online grocer where the UK chain took a 10 per cent stake in 2011, has helped it to formulate a clear home shopping strategy.

The speculation that Morrisons could seek to acquire, or even do a joint venture with, the loss-making online grocer Ocado persists, but this would be a huge gamble that could eventually cost Mr Philips his job. Mr Black says: "I think they would be severely questioned by the market if they bought Ocado."

But it is on the high street and out-of-town retail parks that Mr Philips' tenure at Morrisons will be defined.

Colourfully, he has sought to highlight the supermarket's fresh-food credentials, such as its army of butchers, bakers and fishmongers, by enlisting the Geordie television duo of Ant and Dec to front a major advertising campaign this year.

A source says: "Dalton is very bright, impressive and strategic. I just get the impression he has been taken aback by the intensity and pace of the UK grocery market. I am not sure he has surrounded himself with the best people."

With him currently spinning so many plates at Morrisons, the prevailing view seems to be that Mr Philips will be given time but its shareholders will not have infinite patience. Mr Roberts says: "There is a huge amount of change across almost every aspect of the business being crammed into a very short period and I think shareholders accept this. I think there is an understanding within the business about where he [Mr Philips] wants to take it and the potential for some disruption in the short term."

Morrisons in numbers

131,000 employees

501 stores

3 abattoirs

17 food processing plants

£935m profits in 2011-12

£17.7bn sales in 2011-12

2.5% fall in like-for-like sales over the six weeks to 30 December

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