Jeremy Warner's Outlook: M&S may be all right, but not everyone can be a winner in retailing's push for more space

Tax perks that fuel growth in leverage; Tax: heavy burden, low compliance costs
Click to follow
The Independent Online

Three clear winners have emerged in high-street clothes retailing from the wreckage of the consumer slowdown. While others have at best been holding their market shares, these three have been surging ahead. The mighty Tesco, and the success it has achieved in non-food sales, scarcely needs a mention. Though much smaller, the discount retailer Primark, part of AB Foods, has achieved equally remarkable progress. But perhaps the most surprising of the lot, given the state it was in just a few years back, is Marks & Spencer.

Figures published yesterday confirm the return to form of this one-time doyen of the high street. Like-for-like sales are soaring, and so too are profits. Though Stuart Rose, the chief executive, won't declare the turnaround complete until he's got another Christmas of robust trading under his belt, few others would now doubt that Marks & Spencer is fully returned to rude health.

The army of small shareholders that backed Marks & Spencer a few years back when the company was under siege from the retail entrepreneur Sir Philip Green has been fully vindicated. They showed better judgement than the great bulk of the press in dismissing Sir Philip's 400p-a-share offer as a steal. Today the shares once again trade at record highs.

Mr Rose may still hesitate to declare the turnaround complete, but he's nevertheless confident enough to talk openly about reversing the company's retreat from the Continent. M&S's renewed overseas ambitions have so far been largely confined to franchise operations.

Yet in future there will be direct investment too. Is not Mr Rose getting just a little bit ahead of himself? M&S's last assault on Europe turned out to be a disaster in itself which also perhaps helped undermine the company's position in its home market by diverting executive attention elsewhere. Not until it was too late did the company realise the peril its own complacency had placed it in.

Still, we don't have to worry about the possibility of another overseas nemesis quite yet. The plans are still at an early stage. For the time being, expansion at home remains the priority. On this front, Mr Rose expects to increase his selling space by between 15 and 20 per cent over the next five years. Capital spending is also being ratcheted upwards - from the £520m-£550m announced last May - to between £750m and £800m both this year and next as the company speeds the pace of its store refurbishment programme.

Unfortunately for Mr Rose, he's not the only one hitting the accelerator. Virtually all the big high street names have equally ambitious expansion plans. Is the market big enough to accommodate all of them? This seems to me to be rather unlikely given the exponential growth of e-tailing, which is already having a marked effect on bricks and mortar.

Some of these physical expansion programmes are likely to come badly unstuck. As for Mr Rose, for the time being, he has to be given the benefit of the doubt. He's got the wind in his sails and few are going to bet against him now. The expansion plans in any case look easily achievable given the company's ambitions outside traditional clothing and food retailing.

There's all those homewares and electrical goods to accommodate, and that's ignoring the extra space needed for delis, restaurants, coffee bars and all the other goodies the reinvigorated M&S has planned for the future. There's every reason to believe M&S can remain one of the winners. Quite what happens to weaker players in these markets is a different question. M&S was once counted as one of them. No one would still say that now.

Tax perks that fuel growth in leverage

An interesting omission in the FSA's otherwise exhaustively researched analysis of the private equity market, and in virtually all the coverage of it in yesterday's press, is any reference to one of the key drivers in the rush to leverage - the tax advantages of debt over publicly traded equity.

These come in two forms. First, the cost of debt, unlike equity, is tax deductible. Companies are allowed to charge their interest costs before tax; dividends on equity, by contrast, must come from after-tax profits. The overall effect of introducing large elements of leverage is therefore considerably to reduce the cost of capital. Furthermore, depending on the tax status of the investor, the debt holder may pay no tax on the interest received.

Virtually all investors, on the other hand, pay tax on dividends. Courtesy of the Chancellor's smash and grab raid on the pensions industry nine years back when he abolished the tax credit on dividends, even otherwise tax-exempt pension funds have to pay tax on income from equity.

Of course, there is nothing to stop publicly quoted companies from leveraging themselves too. A growing number of them have been doing precisely that, using debt to buy back equity, sometimes as a form of defence against private-equity bidders.

Even so, the tax advantages of debt leverage tend to be much more aggressively used in private equity than they are in publicly quoted companies, sometimes repeatedly so as cash is extracted through multiple recapitalisations. Use of offshore tax havens limits the tax payable on such payouts. The only limits are on the willingness of the debt markets to provide the capital.

With money still plentiful and cheap, it's generally not much of a problem, though as our story on page 38 reports, there is growing concern among the credit rating agencies over the quality of much of this debt. Quite what happens when credit conditions change is anyone's guess. In any case, it ill becomes the Government, through its financial regulator, to complain of the growing risks of leverage when the tax system actively encourages it.

The second advantage enjoyed by private equity lies in another of the Chancellor's tax initiatives - taper relief on capital gains. In a drive to encourage entrepreneurialism, he slashed the rate of capital gains tax held on business assets for more than two years from 40 to 10 per cent. Most private equity is not strictly speaking entrepreneurialism, even though much of it masquerades under the label "venture capital". Rather it is simply the buying and selling of existing assets. None the less, it still qualifies for the lower rate of capital gains tax, a key advantage over publicly traded markets.

What's more, under an understanding reached between the Revenue and the private equity industry, remuneration received by private equity managers in the form of free shares in the companies they buy counts for tax purposes not as income but as capital. The tax liability on such payments thus falls from 40 per cent to 10 per cent, another key advantage enjoyed by private equity over executives in the publicly listed sector.

In its discussion document, the Financial Services Authority voices concern over the way the largely closed and secretive world of private equity is replacing open access, publicly traded equity markets. There are many causes of this phenomenon, but one of the biggest is the tax system.

Tax: heavy burden, low compliance costs

Britain may again have one of the heaviest tax burdens in the developed world, but fortunately that's not the only thing that counts in measuring tax competitiveness. According to a new report by PricewaterhouseCoopers and the World Bank, the complexity of the tax system and tax collection process may be equally important. Hard to believe for a country whose volume of primary tax legislation is outweighed only by India, but on these two latter measures Britain scores relatively well. It takes far less time for business to comply with tax laws in Britain than most other places in the developed world.

So although we are ranked a lowly 42nd in the world in terms of our tax burden, we rise to 12th in terms of our overall competitiveness. The bad news is that Ireland, often cited by the CBI as a model for the UK, scores highly on virtually all measures, making it second only to the Maldives as the most tax competitive country in the world.

j.warner@independent.co.uk

Comments