Marks and Spencer Group plc – Annual report – 1 April 2023
Industry: retail
C6 INVESTMENTS (extract)
A. Investments in subsidiary undertakings
Shares in subsidiary undertakings represent the Company’s investment in Marks and Spencer plc, Marks and Spencer Holdings Limited and Marks and Spencer (A2B) Limited.
During last year, the Company purchased additional shares in Marks and Spencer Holdings Limited (£33.8m). This allowed Marks and Spencer Holdings Limited to settle the contingent consideration that became payable during the prior year as a result of the investment in Ocado Retail Limited.
Impairment of investments in subsidiary undertakings
The Company evaluates its investments in subsidiary undertakings annually for any indicators of impairment or impairment reversal. The Company considers the relationship between its market capitalisation and the carrying value of its investments, among other factors, when reviewing for indicators of impairment. As at 1 April 2023, the market capitalisation of the Group was significantly below the carrying value of its investment in Marks and Spencer plc of £8,830.2m, indicating a potential impairment, despite strong Group performance.
The recoverable amount of the investment in Marks and Spencer plc has been determined based on a value in use calculation. The Company has updated its assumptions as at 1 April 2023, reflecting the latest budget and forecast cash flows covering a three-year period. The pre-tax discount rate of 12.5% (last year: 9.8%) was derived from the Group’s weighted average cost of capital, the inputs of which include a country risk-free rate, equity risk premium, Group size premium and a risk adjustment (beta). The long-term growth rate of 2.0% (last year: 2.0%), was based on inflation forecasts by recognised bodies with reference to rates used within the retail industry.
The Company has determined that the recoverable amount of its investment in Marks and Spencer plc is £7,400.7m and as a result has recognised an impairment of £1,429.5m. This impairment primarily relates to the impact of market volatility on the discount rate as a result of changes in the macro-economic environment.
Sensitivity analysis
As disclosed in the accounting policies note C1, the cash flows used within the value in use model, the long-term growth rate and the discount rate are sources of estimation uncertainty. Management has performed a sensitivity analysis on the key assumptions and using reasonably possible changes would result in the following impacts:
- A 5% reduction in cash flows from the three-year plan would result in an additional impairment charge of £374.6m;
- A 50-basis point decrease in the long-term growth rate would result in an additional impairment charge of £286.4m; and
- A 250-basis point increase in the discount rate would result in an additional impairment charge of £1,403.9m.
In the event that all three were to occur simultaneously, an additional impairment charge of £1,881.6m would be recorded.
C1 ACCOUNTING POLICIES (extract)
Key sources of estimation uncertainty
Impairment of investments in subsidiary undertakings
The carrying value of the investment in subsidiary undertakings is reviewed for impairment or impairment reversal on an annual basis. The recoverable amount is determined based on value in use which requires the determination of appropriate assumptions (which are sources of estimation uncertainty) in relation to the cash flows over the three-year strategic plan period, the long-term growth rate to be applied beyond this three-year period and the risk-adjusted pre-tax discount rate used to discount the assumed cash flows to present value.
Estimation uncertainty arises due to changing economic and market factors, the channel shift from stores to online, increasing technological advancement and the Group’s ongoing strategic transformation programmes. See note C6 for further details on the assumptions and associated sensitivities.
The Company’s financial risk is managed as part of the Group’s strategy and policies as discussed in note 21 of the Group financial statements.
C7 SHARE CAPITAL AND OTHER RESERVES (extract)
Merger reserve
The Company’s merger reserve was created as part of a Group reorganisation that occurred in 2001/02 and has an economical relationship to the Company’s investment in Marks and Spencer plc. In 2019/20, an amount equal to the impairment charge of £1,086.3m was transferred from the merger reserve to retained earnings as that amount had become a realised profit in accordance with TECH 02/17. Following the reversal of impairment recognised in 2020/21, an amount equal to the reversal of £951.0m was transferred from retained earnings to the merger reserve, in accordance with TECH 02/17. In the prior year, an amount equal to the impairment of £391.1m was transferred from the merger reserve to retained earnings in accordance with TECH 02/17. In the current year, an amount equal to the remaining merger reserve balance of £870.9m has been transferred from the merger reserve to retained earnings, as part of the £1,429.5m impairment charge for the year.
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