The CBI, working itself up into a fine fury, tells us the new national living wage will have a “dramatic impact” on corporate profits. Not at Next, it won’t, assuming the company’s chief executive, Lord Wolfson, has got his calculations correct, which is usually a safe bet.
Wolfson, while avoiding saying whether he supports or opposes Chancellor George Osborne’s flagship pay policy for those aged 25 and over, injected some much-needed sober analysis into the debate on Thursday. There were three main points, only one of which even vaguely supports the alarmists’ case.
First, it’s clear the immediate impact on Next will be tiny. The company was moving to a “starter” rate of £7.04 anyway, so an increase to £7.20 next April can be lost in the wash. The cost is estimated at £2m, even when the need to maintain pay differentials is included.
Second, the eventual impact is greater – £27m per annum by 2020. That is more eye-catching but requires context. Next is a big company, with annual sales of £4bn and a current payroll of £600m. Wolfson’s description of the £27m – “not immaterial ... but not transformative” – is fair. The company can handle it.
Indeed, Wolfson says compensating for the £27m would require an increase in selling prices of about 1%. But, note, that’s over four years and ignores productivity gains. Such a price rise is “unlikely to have a material effect on the trading performance of the business”, says Wolfson. Quite: foreign exchange rates and the cost of cotton are likely to be more important for profits.
So far, so good. The third point gets to the heart of the arithmetic behind the national living wage. In short, the government’s ambition, between 2016 and 2020, is to lift the rate from £7.20 to at least £9. But most of the work is assumed to be done by regular pay inflation in the economy, which the Office for Budget Responsibility forecasts at 4.5% per annum. As Wolfson argues, there could be problems if the actual rate is less than 3.5%. A “potentially harmful inflationary loop” could be created, he says, because the national living wage would have to exceed the intended goal of 60% of median wages.
That is a legitimate worry, even if it will be a couple of years before the fog clears. For the short term, however, Next’s analysis should quieten the scaremongers. Companies’ cost bases differ but this much seems clear: the national living wage will not destroy the profits of successful mainstream retailers.
Back to basics in store
David Potts’ formula for reviving Morrisons will win no prizes for revolutionary thinking. Part of the plan to “serve customers better” – one of six humdrum strategic priorities – involves displaying wines by country of origin, which is what most supermarkets already do.
Is lack of originality a drawback? Probably not. A dose of back-to-basics retailing, with a concentration on the core supermarkets, is probably what Morrisons needs. It would be more worrying if Potts had summoned a crew of consultants to invent something novel.
Will it work? The chain has now entered its fourth year of declining like-for-like sales and Potts, probably sensibly, declined to predict when the bottom will be reached. Improvement “will be a long journey”, he concluded, which is what chief executives say when the problems run deep.
On the plus side, Morrisons generates cash and has a strong balance sheet. That gives Potts freedom to undertake the long journey. But the destination for profits, down by almost by a half to £126m in the six months, is unknown.
What price risk?
“The pressure on financial performance ... will be as intense in the medium term as at any time over the last decade.” No, not Morrisons again; it’s the Lloyd’s of London insurance market.
At the moment, Lloyd’s is coping well. Profits fell from £1.65bn to £1.19bn in the six months, but a drop in investment income lay behind more than half the decline. At the underwriting level, the outcome was still strong. The combined ratio – a measure of how much premium income is paid out in claims and expenses – was 89.5%, which is decent, historically speaking.
Why the warning? It’s simple: capital continues to pour into the insurance and reinsurance markets, chasing the double-digit returns that Lloyd’s has achieved for the last three years. The result is that premium rates look too low.
On current form, Lloyd’s is better equipped than international rivals to deal with another year like 2011, which experienced floods in Thailand and Australia, a huge earthquake in New Zealand and the Japanese tsunami. But the wider message is alarming, if not surprising: in a world of low interest rates, risk is being mis-priced and, sooner or later, there will be a price to pay.
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