Business Analysis: Morrisons keen to show it hasn't lost its magic touch

Safeway purchase yet to convince City doubters

When WM Morrison launched its "more reasons" marketing push earlier this year, the aim was to lure more shoppers through its doors. Yet one profits warning down and the country's newest retailing force suddenly finds itself with more reasons to do more than just brag about its fresh fruit.

When WM Morrison launched its "more reasons" marketing push earlier this year, the aim was to lure more shoppers through its doors. Yet one profits warning down and the country's newest retailing force suddenly finds itself with more reasons to do more than just brag about its fresh fruit.

For starters, the notoriously media-shy company has more reasons to open up to the City about just how it intends to integrate Safeway, a company almost three times its size. Which is how Bob Stott and Marie Melnyk, the group's managing directors, yesterday found themselves giving guided tours of the first ever Morrisons megastore, in the salubrious confines of Milton Keynes.

The pair were surprisingly relaxed, given the scale of their challenge and the fact that two months ago analysts sliced £150m off their forecasts for annual pre-tax profits after Morrisons admitted finding a surfeit of Safeway gremlins when it was finally given free rein at the chain's headquarters in Hayes, west London. Most shocking was the discovery, just five weeks before the deal closed, that Safeway had introduced a new accounting system. Mr Stott said: "At best I could describe the decision as cavalier."

Of the group's massive makeover mission to convert more than 300 former Safeway stores to Morrisons, Mr Stott was more sanguine. "It's an awful lot of work, but so far, so good." By tomorrow, 23 old Safeway sites will have had the black-and-yellow treatment, and with just six weeks to go until the group issues its next trading update, investors are hoping there is no sting in their tail. The state of the old Safeway estate means each store conversion is costing Morrisons £1.5m - £500,000 more than it had bargained for. "I'm afraid that in the last year, Safeway's basic maintenance programme had been sacrificed to save the bottom line," Mr Stott said. However, the total cost of the conversion would still come in within budget, he added.

The Milton Keynes site itself cost more than £2m to convert, but despite its size, the job was done within the four-day deadline Morrisons has set for each store. It will proceed at a rate of three per week, finishing 53 in time for the crucial Christmas trading period. The job will take until late 2006 to complete. In terms of bang for its buck, the group needs sales to soar an average of 25 per cent for its sums to add up. It is using Safeway's trading performance last November - when core like-for-like sales were down between 3 and 5 per cent - as its benchmark. "We've got a lot of work to do, absolutely, but the initial signs are encouraging," Mr Stott said. Sales at the four trial stores that Morrisons converted in April are still up by more than one-third, although these sites are unusual in that the group had the choice of keeping its old site or the better-positioned Safeway one.

For shoppers, the new-look stores boil down to choice, choice and more choice. For starters, the group has been able to draw on the recipe books of two food retailers when deciding what to serve up. By autumn it hopes to have one group menu, offering 22,000 different lines. This will compare with the 30,000-plus that Safeway used to stock and Morrisons' own 20,000 or so. The 2,400 Morrisons products that it sells in Safeway stores already account for one quarter of the chain's total volumes.

Ms Melnyk says: "The integration process gets a bit bumpy at times but we're pleased and surprised by how well our products have been received."

On the whole comments from shoppers interviewed at random yesterday backed this up. Mrs Singh, a former Safeway stalwart, certainly agreed. "I prefer this. It's better value and there is more variety," she said. Mr Philips, who was shopping with his wife, was initially more damning with his "it's just as good" as Safeway remark. But he went on to say he was "quite delighted" by the additional choice, highlighting the novelty of Morrisons' Market Street offering - a collection of traditional stalls dotted around the store, selling fresh cakes, bread, fruit, vegetables, fish and meat.

The big unknown is how well the, frankly, quaint northern feel travels south. Some City scribes are sceptical. Andrew Fowler, at Merrill Lynch, has already aired his criticisms in a note to clients. "Shoppers in Southport and Chester [the two store conversions he visited during the summer] 'aren't short of a few bob', as they say in those parts, and yet Morrisons had put in its own 'a quarter the size' of range of ready meals, to both store managers' dismay," he wrote.

Yet the Morrisons' shopping experience is nothing if not lively. Tesco's "everyday low pricing" may be good for the bank balance but it does nothing for the soul. Morrisons, on the other hand, has plenty to enliven the weekly tedium of the supermarket shop: 1,000 monthly promotions, including 150 buy-one-get-one-frees, are dotted around its multicoloured shop floor. And the overall effect of its quasi-market stalls gives the feel of a giant covered market.

The group's attention to detail - epitomised in the bunches of dyed florescent blue and pink chrysanthemums it sells - does not come cheap. Milton Keynes now employs 600 staff, almost twice the previous tally. Morrisons is investing some £300m a year in slashing Safeway's prices, which were raised to mask its sliding top line last year.

With its shares trading 25 per cent below their post-acquisition peak, the group has its work cut out to prove that the £3bn deal hasn't just destroyed shareholder value. But for all those sceptics who fear profits warnings come in threes, Mr Stott could offer this solace: "We're comfortable that we're where we're at and we don't believe there is anything else to find."

Some sign that Safeway's sales are beginning to stabilise would give investors more reason to believe him, though.