Operational Review - Part 1

Marks & Spencer Group PLC
12 July 2004

Issued: Monday 12 July 2004

Part 1 of 2

         Marks and Spencer Group plc ('Marks & Spencer' or the 'Group')
                               Operational Review
                                    Summary

Stuart Rose was appointed Chief Executive of Marks & Spencer on 31st May 2004.
Since then, the management team has undertaken an extensive review of operations
to identify those areas of the business where performance can be improved. This
analysis is continuing, but the early results of that work, together with plans
for the shape of the Group and its capital structure, are covered below.

In two other Releases made today, Marks & Spencer announces Quarter 1 trading
results and the appointment of two new Non-Executive Directors.
Highlights:

   •Clear plans to improve the retail performance of the Group

     - Focus on core customers
     - Ensure product provides quality, style and value
     - Improve availability and range depth
     - Launch a new brand campaign
     - Strengthen the management team
     - Increase accountability
     - Remove distractions

   •Gross margin benefits and cost savings totalling £250 million for 2005/
    06, rising to £320 million in 2006/07 (see note 1 below)


   •Acquisition of the per una business and brand

     - Profits from the acquired business (last year £17 million, unaudited)
       will now fully accrue to Marks & Spencer
     - Consideration of £125 million

   •The sale of Money and partnering with HSBC in a business joint venture to
    manage and grow jointly this business and share in future profits


   •Return of £2.3 billion to shareholders by way of a tender offer,
    equivalent to £1 per share


   •Property portfolio valued by DTZ at £3.6 billion, £1.4 billion above book
    value

Commenting on the plans, Stuart Rose, Chief Executive said:

'Marks & Spencer is a great business with a strong brand. Today's announcement
sees us re-focusing on our core retail activities with an emphasis on delivering
great product for our 25 million customers. The business has substantial further
trading potential, which will be unlocked through a return to the core values of
quality, value, service, innovation and trust. Our aim is to give Marks &
Spencer back to our customers.'


'We have today announced plans for substantial margin benefits, cost savings,
the sale of Money together with the creation of a long-term strategic
relationship with HSBC in relation to this business, the acquisition of per una
and the return of £2.3 billion to our shareholders. The Board is confident that
these measures, together with unlocking the retail potential of Marks & Spencer,
will deliver value significantly in excess of 400p per share to our
shareholders.'

Note 1: Indicative benefits are stated relative to a base year of 2003/04. The
benefits cannot be guaranteed and the actual outturn might be higher or lower
than indicated. The benefits do not reflect any change in overall sales
performance or any possible re-investment of some benefits in selling prices.
This is not a profit forecast and nothing in this announcement should be taken
as such.

Contact details:

Investors/analysts:
Tony Quinlan            [phone]
Damian Evans            [phone]

Corporate Press Office: [phone]

Investor / Analyst Conference call details:

This will be hosted by Stuart Rose at 16.15 (BST) on Monday 12th July.

Dial in number:         [phone]
Pin Code:               190034#

A recording of this call will be available until 17.00 (BST) on Friday 16 July.

Dial in number:         [phone]
Pin Code:               275343

Citigroup               [phone]
Robert Swannell
Ian Hart
David James

Morgan Stanley          [phone]
Simon Robey
Brian Magnus
Mark Brooker

Cazenove                [phone]
David Mayhew
Duncan Hunter
Richard Wintour

Tulchan                 [phone]
Andrew Grant
Kirstie Hamilton
Katie Macdonald-Smith

The Directors of Marks and Spencer Group plc accept responsibility for the
information contained in this announcement and confirm that, to the best of
their knowledge and belief (having taken all reasonable care to ensure that such
is the case), the information contained in this announcement is in accordance
with the facts and does not omit anything likely to affect the import of such
information.

Citigroup Global Markets Limited ('Citigroup') is acting for Marks & Spencer and
no one else in relation to the matters described in this announcement and will
not be responsible to anyone other than Marks & Spencer for providing the
protections afforded to clients of Citigroup nor for providing advice in
relation to the matters described in this announcement.

Morgan Stanley & Co. Limited ('Morgan Stanley') is acting for Marks & Spencer
and no one else in relation to the matters described in this announcement and
will not be responsible to anyone other than Marks & Spencer for providing the
protections afforded to clients of Morgan Stanley nor for providing advice in
relation to the matters described in this announcement.

Cazenove & Co. Ltd ('Cazenove'), which is regulated in the United Kingdom by the
Financial Services Authority, is acting for Marks & Spencer and no one else in
relation to the matters described in this announcement and will not be
responsible to anyone other than Marks & Spencer for providing the protections
afforded to clients of Cazenove nor for providing advice in relation to the
matters described in this announcement.



         Marks and Spencer Group plc ('Marks & Spencer' or the 'Group')
                               Operational Review

Stuart Rose was appointed Chief Executive of Marks & Spencer on 31st May 2004.
Since then, the management team has undertaken an extensive review of operations
to identify areas of the business where performance can be improved. This
analysis is continuing, but the early results of that work, together with plans
for the shape of the Group and its capital structure, are covered below.

Retail - Operations

As part of our review of retail operations, we have identified the following key
weaknesses:

   •The business has become too complicated


   •The company has been too inward looking while competition has been
    increasing


   •Competitors have been allowed to encroach on our heartland


   •The stores are too cluttered


   •Too many lines exist within our product offering


   •There has been a lack of confidence in the Marks & Spencer brand


   •Womenswear is not keeping pace with the market


   •The supply chain is slow and over-committed and there is duplication in
    the supply base


   •Costs are too high as a percentage of sales


   •Lack of leadership has meant that we are not getting the best out of our
    people


The first six weeks

Since the end of May, we have taken the following actions:

   •The management team has been strengthened by moving Maurice Helfgott back
    to General Merchandise with responsibility for Menswear, Childenswear and
    Home. Kate Bostock has re-confirmed her commitment to us and further
    appointments will be made in due course


   •Stuart Rose has reviewed key product areas and is continuing to be
    closely involved with the clothing buying teams. From this Autumn, we will
    offer fewer lines in greater depth providing real choice. Ranges have been
    edited and some gaps filled. However, the real impact of these changes will
    not become evident until Spring 2005


   •Similar actions have been taken in Food, where 500 lines have been
    eliminated


   •We have taken action to amend our buying terms which will be effective in
    two stages, commencing from 1st September 2004 and 1st April 2005 (see
    below)


   •Plans to reduce costs substantially have been put in place


   •Budgeted capital expenditure for 2004/05 has been confirmed at £400
    million, with an increased proportion to be invested front of house


   •A new brand campaign has been planned


   •Stock levels and forward commitments are being reduced. By the Autumn,
    total commitments should have been reduced by c.£200 million (at selling
    value) compared to a year ago, with further improvements to come


   •Management is being simplified, cutting out unnecessary meetings, reports
    and paper and accountability is being improved


   •The number of distracting initiatives has been reduced


Driving the Retail Business

Marks & Spencer is a great business with significant core strengths. These
include a strong brand, a large customer base, leading market shares, a great
store portfolio and very good people.

However, the business has lost focus:

   •Each division operates as if it were a standalone business


   •There are too many customer segments


   •There are too many initiatives

A key priority is to make the business operate as one shop, with clear
accountabilities and a focus on the product and customer.

Brand

Our brand is one of the strongest in the UK and is trusted by customers.
However, it is also seen as formal, middle class and boring. Whilst there is a
place for sub-brands in Marks & Spencer, where they add value and enhance the
core brand, our sub-brands are seen as over-diversified and show a lack of
confidence in the core brand. We are therefore undertaking a review of all of
our brands.

We will launch a new brand campaign - 'Your M&S' - in September to reconnect
with our core customers and remind them that we sell top quality product at good
prices. It will demonstrate the best about Marks & Spencer clothing: classic,
stylish, superior cut, quality material and value for money. In Food, 'Your M&S'
is about quality, freshness, desirability and indulgence.

Customers

We have a customer base of 25 million people, with 11 million visiting our
stores every week. However, because we have failed to deliver what our broader
customer base wants in a consistent way, we are increasingly reliant on a
smaller nucleus to drive performance.

We are confident that if the product and value equation is right, our existing
customers will significantly increase spend. Longer term, we need to re-engage
with occasional and younger customers.

Market Shares

Although we have seen some slippage recently, we have significant shares in the
key categories of Womenswear (11%), Lingerie (26%), Menswear (10%) and
Childrenswear (5%) - source, fashiontrak. These and other areas provide the
platform for substantial future growth.

The market in which we operate has changed markedly over the past 10 years with
the growth of discounters and expansion into non-food by food operators.
However, there remains a large customer base who want to buy well-made, stylish
clothing offering outstanding value.

Stores

We have a great store portfolio which is profitable throughout the chain but our
customers are negative about the in-store experience. Our stores are seen as
hard to shop and customers complain of a lack of orientation and of being
overwhelmed by quantity. Wide ranges are not seen as presenting real choice.
Improving the in-store customer experience is a key priority using co-ordinated
advertising, improved windows, layouts and point of sale material. This approach
has contributed to a strong performance in our new stores in Swansea and Speke.

We will use the best lessons from these stores and incorporate them in our plans
to revitalise the store portfolio. We will also increase our presence in out of
town locations.

People

Our people are motivated and skilled. However, they have lacked clear direction
and focus. They want to be part of a successful Marks & Spencer and they are a
vital part of making Marks & Spencer successful again.

Quality, Value, Service, Innovation and Trust

Our plans will give Marks & Spencer back to its customers by addressing:

   •How we will better serve our existing customers and then attract new ones


   •How we will compete in town, out of town, at home and overseas; and


   •How we will return to the core values of Quality, Value, Service,
    Innovation and Trust


Quality is about great standards consistently delivered. At the macro level, it
is about brand perception and store experience. At the garment level, it is
about feel and weight of fabric, care and durability, style, fit and value.

Value is a function of quality, price and, in clothing, style. We will do more
to demonstrate value especially at opening price points.

Service is about clear ranging and choice, consistent sizing policy,
availability, clear labelling and knowledgeable service.

Marks & Spencer has a great record of innovation and we will introduce new
features, benefits and products that customers really want.

Trust remains the cornerstone. We insist that our goods are made by people
working in safe and fair conditions and consider the environmental impact of
everything we do.

Implementation

We have a three year plan to substantially strengthen performance. Our key
priorities in the current financial year and the next two years are as follows:

2004/05: Focus on re-establishing basic retail standards and satisfying our core
customers

2005/06: Drive substantial improvements in product, service, store layout and
supply chain

2006/07: Broaden our appeal to a wider UK customer base and build our successful
international franchise business

1. Focus on the core

Our immediate priority is to focus the business on the basics of retailing,
delivering great product at excellent value for money. We will concentrate on
our core ranges and our successful sub-brands including per una, Blue Harbour
and Simply Food. However, we have stopped a number of activities which were
diverting resources from the core business.

   • We have reviewed the strategic projects inherited by the new management
    team and will focus on just 10 key projects


   • The Marks & Spencer Lifestore in Gateshead will be closed by the end of
    January. Kingston, a much smaller unit, which is a satellite of the main
    store, will open as a Home store. Thurrock has been cancelled


   • The roll-out of Simply Food stores with lower projected financial
    returns has been stopped

The successful elements of the Simply Food programme will continue as we look to
make our outstanding range of food accessible to a wider audience. The best
returns are generated by stores which take over £3 million p.a. and are well
away from another Marks & Spencer store.

2. Better Product

We will re-focus on offering high quality, stylish clothing to our core
customers. Autumn clothing ranges are largely bought, but looking beyond this,
we will have fewer lines with ranges bought in greater depth.

Prices will be sharpened with clear emphasis on our 'good, better, best' pricing
architecture. An immediate priority will be to fill gaps in our ranges.

In Home, the core strengths of bath, bed, cookware, kitchenware and glass have
been neglected. We will therefore shift the emphasis of our ranges back to good
value product in these core areas. Re-establishing these basics is expected to
deliver annual benefits of c.£20 million compared to 2004/05.

In Food, we have excellent quality product but the business has become over
complicated with too many sub-brands and product proliferation. We have cut 500
lines and we will concentrate on our core strengths of quality and real
innovation.

3. Improve Buying Margins, Supply Chain Efficiency and Stock Commitment

We will deliver operational improvements to our sourcing and supply chain over
time, to match the best of our peers.

   •We have renegotiated our supplier terms. These revised arrangements are
    expected to deliver annual buying improvements of some £140 million by 2006/
    07


   •Our supply chain, although highly developed, is slow and over-committed.
    However, considerable savings can be achieved through being more responsive
    to sales. Benefits will flow from lower stock levels, a reduced catalogue
    and tighter operation of the supply chain. We therefore believe we can
    reduce annual supply chain costs by £35 million by 2006/07


   •Discipline around buying and stock commitment needs strengthening. In
    recent years, we have seen a significant increase in markdowns, from 3% of
    sales in 1995/96 to almost 7% in 2003/04. Although some of this increase is
    due to a more aggressive and competitive retail environment, we believe that
    it can be reduced by improved catalogue management. Strong controls and
    working practices, including the focus on detail which used to be such a
    strong part of the organisation, have been reintroduced. In addition, we
    will buy narrower and deeper. These steps are being taken with a view to
    delivering annual markdown benefits of c.£40 million by 2006/07.


   •The levels of waste in Food are too high. The cost of food waste has
    increased from 1.7% in 1995/96 to almost 2.5% by 2003/04. This has been
    driven, in part, by catalogue proliferation which we are taking action to
    reduce, with over 500 lines eliminated to date. We expect reduction in food
    waste to deliver an annual cost saving of c.£10 million by 2006/07.

4. Deliver better customer service, communication and stores

Our focus on getting back to the basics of retail will also encompass delivering
fully co-ordinated external advertising, store window displays and in-store
decor. We are also working to improve stock accuracy and therefore better
availability for our customers.

In 2005/06, we will commence a programme to modernise existing space which will
be delivered at substantially lower cost than previously planned and within an
annual capital spend budget of c.£400 million. Within this budget, we will also
open more stores on retail parks. The trial stores in Speke and Swansea are
performing well, delivering clothing sales densities significantly higher than
High Street stores of similar size.

5. Reduce Operating Costs

We are implementing plans to tighten non-merchandise expenditure which are
expected to deliver annual savings of c.£50 million by 2006/07.

We are also implementing the redundancy programme and the removal of
approximately 650 positions, which excludes the Marks & Spencer Money savings.
The programme as a whole should deliver annual savings of £45 million by 2006/
07, again taking into account the sale of the Money business.

Financial Benefits

In summary, gross margin and cost initiatives are expected to deliver benefits
(using 2003/04 as a base), estimated to be:

                              05/06 vs.         06/07 vs.
                              03/04             03/04 
                              £'million         £'million

Gross margin/supply chain:
Amendment to supplier terms      120               140
Supply chain                      15                35
Reduce clothing markdowns         40                40
Lower food waste                  10                10

Operating cost:
Savings on non-merchandise 
  procurement                     30                50
Central cost (roles) cuts         35                45
                                 ___               ___
Total benefits                   250               320

Indicative benefits are stated relative to a base year of 2003/04. The benefits
cannot be guaranteed and the actual outturn might be higher or lower than
indicated. The above table does not reflect any change in overall sales
performance or any possible re-investment of some benefits in selling prices.
This is not a profit forecast and nothing in this announcement should be taken
as such.

One-off operating costs in 2005/06 of achieving these savings are estimated to
be c.£5 million, with c.£15 million included in the 2004/05 cost guidance
(appendix 1). In addition to the provision for redundancy costs of £22.5 million
which was made in the 2003/04 accounts, other exceptional costs are estimated to
be c. £40 million, spread over the 3 years 2004/05 to 2006/07.





The table above relates only to margin benefits and cost savings with reference
to a 2003/04 base. It therefore does not include the benefit of the plans for
Home, targeted to deliver an additional contribution of £20 million compared to
2004/5, or from the acquisition of the per una business (PBT of £17 million
based on the last per una accounts (unaudited)).

In addition, the financial benefits set out above take no account of any
benefits from the action we are taking to establish a platform to grow
like-for-like sales by delivering the right products more efficiently to our
customers.

Guidance had previously been given for 2004/05 and, to aid clarity, margin and
cost information has now been revised to incorporate the part year benefit of
these initiatives and other relevant factors. This revised guidance is noted in
Appendix 1 of this Release.

The Shape of the Group

per una

per una is a £250 million turnover business for Marks & Spencer. We are
delighted to announce that we have today entered into an agreement for the
purchase of the per una business. Under the terms of the agreement we will be
entitled to acquire per una for £125 million plus up to £2 million net assets
and interim trading. Profit before tax (adjusted to reflect George Davies'
ongoing remuneration from completion) attributable to the per una business for
the year to March 2004 was £17 million (unaudited). This arrangement will give
us complete control of the per una brand and business. George Davies will remain
as Chief Executive of the per una business for a term of at least 2 years and
continue to be responsible for the per una range.

The agreement is conditional, inter alia, on

   •There having been no change of control of Marks & Spencer
   •Marks & Spencer receiving any necessary competition approvals
   •George Davies receiving any necessary tax clearances in respect of a
    pre-sale restructuring

Marks & Spencer and George Davies also confirm that the supply and pre-emption
agreements entered into in April 2001 include a change of control clause giving
George Davies the option to terminate the existing arrangements and leave
ownership of per una and the right to sell the per una brand or products to a
third party with George Davies.

International

Our overseas franchise business, where we have 155 outlets in 26 countries, has
been a success and we will continue to rollout this formula. We have significant
demand from franchise partners to extend further in existing territories and
also in new ones.

Marks & Spencer Money

Marks & Spencer Money, our financial services business, is an important partner
to the retail business. Having been established in 1985, the business has become
a significant provider of financial services. Following the successful launch of
the '&more' card last year, it is now one of the top 10 providers of credit
cards in the UK and has built a strong platform for future growth.

We are delighted to be partnering with HSBC in a business joint venture to
manage and grow jointly Marks & Spencer Money. As part of the agreement, HSBC
will acquire Marks & Spencer Money for a consideration of £762 million. In
addition, the Group will retain £60 million of net assets held in Marks &
Spencer Insurance. This represents a premium of £224 million over net asset
value. HSBC will also assume or repay net debt, which stood at £1,240 million as
at 3 April 2004, as part of the transaction. Marks & Spencer and HSBC will also
enter into an agreement under which Marks & Spencer will receive (i) a 50 per
cent. share of the profits after tax of the business, after deducting operating
and capital costs on an agreed basis, and (ii) incentive payments based on
product sales.

The agreement brings together two powerful businesses which share a commitment
to outstanding customer care. Following establishment of the business joint
venture, we will be able to focus on our retail activities whilst continuing to
benefit from the future growth and profitability of the financial services
business. Marks & Spencer Money's position will be enhanced by financial and
operational benefits resulting from HSBC's lower funding costs and expertise in
consumer finance and other retail financial services. Together, we and HSBC will
also increase the effectiveness of customer marketing, the '&more' loyalty
programme and extend product choice for our customers.

Marks & Spencer Money will continue to operate under the Marks & Spencer brand
and be managed jointly, with an Executive Committee comprising equal
representation from HSBC and us. The relationship agreement between the partners
gives each party certain termination rights after 10 years. The transaction
should be completed by the end of 2004 and is subject to customary regulatory
approvals. In certain circumstances, this transaction may be subject to Marks &
Spencer shareholder approval.

Last year, Marks & Spencer's financial services business generated operating
profits of £109 million, excluding £59 million costs associated with the launch
of the '&more' credit card. As at 3 April 2004, the business had net assets of
£598 million.

Return of Value

Our balance sheet remains strong, underpinned by our property portfolio. The
Board has set its financial strategy to support the operational requirements of
the retail business while ensuring an efficient capital structure.

We are proposing to return £2.3 billion to shareholders in September by way of a
tender offer available to all eligible shareholders. The tender range will be
set in the light of market conditions at the end of next month.

The return will be financed by the sale of Marks & Spencer Money and the
repayment of inter-company loans, existing resources and new bank facilities. We
expect to retain investment grade credit ratings following the return. The Board
will continue to review the balance sheet with a commitment to maintaining an
efficient capital structure and use future surplus cash flows to pursue a share
buy-back programme.

Our commitment to retaining a strong balance sheet, which is supported by the
strong unencumbered property portfolio, together with an investment grade credit
rating gives us confidence that no material change should be required to the
rate of contribution to the UK defined benefit pension scheme.

Property

Marks & Spencer has an exceptional property portfolio with stores in some of the
best retail locations in the UK. Of our 375 stores (12.6 million sq.ft), c.80%
of the footage is freehold, long leasehold or mixed tenure.

We commissioned DTZ, an external valuer, to produce a valuation on an existing
use value basis for Marks & Spencer's operational stores and other properties
and a market value basis for non-operational properties. The property portfolio
has been valued at approximately £3.6 billion. This compares to a current net
book value for the total property portfolio of £2.2 billion, giving a surplus
over net book value of approximately £1.4 billion. Further information including
the DTZ valuation report is included in Appendix 2 to this announcement.





Appendix 1

Revised Margin and Cost Guidance for 2004/05

Guidance for 2004/05 was given at the time of our Quarter 4 Trading Statement in
April and again when the Preliminary Results were issued in May.

This guidance on margins and costs has been amended, principally to reflect the
part year impact of the initiatives and actions announced today.

   • The planned opening of new footage, plus the annualisation of footage
    opened in 2003/04, will add c.2% new space to Clothing and c.5% to Food, on
    a weighted average basis.


   • We anticipate full-year improvements in the General Merchandise
    bought-in margin of c.1.4% points. In addition, the Food bought-in margin
    will improve by c.0.15 % points. For the first-half year, the General
    Merchandise bought-in margin will improve by c.0.5% whilst Food will be
    level.


   • Details relating to buying savings announced in this release for the
    year 2005/06 and beyond replace any previous guidance on the Clothing
    bought-in margin for these years.


   • UK retailing operating costs, including logistics, but excluding any
    accrual for performance related bonuses, are budgeted to increase by c.3.4%.
    The increase in the first half will be c.3%.


   • If performance proves to be in line with business plans agreed by the
    Board, a bonus provision will be made. Guidance, reporting the impact on
    operating costs, will be given at the appropriate time.



Appendix 2 presented in Part 2 of this Announcement



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