Safeway setback puts Morrison's management in hot seat

WM Morrison admitted yesterday its £3bn acquisition of Safeway has run into further trouble, prompting its second profit warning in nine months.

WM Morrison admitted yesterday its £3bn acquisition of Safeway has run into further trouble, prompting its second profit warning in nine months.

More than one year after closing the deal, the Yorkshire-based supermarket group is still struggling to get its head around Safeway's accounting system. Just days before it is due to release its preliminary results, it warned that changing its suppliers' terms will blow another £40m hole in its bottom line. This is on top of a £180m hit it took last July and is only the second time the group has issued a profit warning in its 37-year stock market history.

Shares in Morrisons Supermarkets, which hit a record 253.5p after it bought Safeway, slid 3 per cent to 206.5p. Analysts slashed their profit forecasts before tax and exceptionals to about £325m, which means the group will barely increase its profits despite merging with a group twice its size.

Before the integration came unstuck, Morrison was expected to make up to £590m this year.

Analysts said the warning could claim the latest in a line of finance director scalps in the troubled retail sector. Iain McDonald, at Numis, said the fresh upset "must raise massive questions over whether the management has control of the Safeway business and must, at least, put pressure on the finance director, Martin Ackroyd". Boots' finance director, Howard Dodd, quit on Monday, just days after a profits warning.

Morrisons said it discovered the latest profits hole during its annual audit. "This shortfall arises from our review of Safeway supplier balances and follows issues encountered with the Safeway accounting systems during 2004," it said. Morrisons said it was unaware that Safeway had introduced a new accounting system one month before Sir Ken Morrison's group took control.

After July's warning, Sir Ken admitted the company had not been able to do detailed due diligence before buying Safeway. "This was one public company buying another in a share purchase. We weren't allowed, in the nature of the deal, to go in and examine the business," he told The Independent at the time.

Although Morrisons blamed its profits hit on accounting issues, the group hinted it was struggling in "an increasingly competitive marketplace". It declined to comment further, leaving the City to draw its own conclusions about the extent of Morrisons' troubles.

Andrew Fowler, at Merrill Lynch, told investors: "We don't think the market's grown more difficult, just that 'life' is proving more difficult than Morrisons expected." Mark McCullough, at Goldman Sachs, said a "health warning" needed to be attached to Morrisons' forecasts, adding that the warning "underscores just how hazardous major retail acquisitions and integration programmes can be.... This is the second time in nine months that the market is left questioning the quality of Morrisons' earnings".

Yesterday's profit hit was sparked by the different approach that Morrisons and Safeway took to supplier rebates - a bonus the supplier promises to pay its customer if sales of its products exceed expectations. In contrast with other retailers, Safeway's accounting practice was to book the rebates upfront, while Morrisons waits until they are actually paid.

Morrisons said it would report operating profits of £380m to £390m after depreciation of £265m but before about £100m of exceptional costs, relating to its store conversion programme and redundancy payments.