How blue-chip stock Woolies lost its way

Woolworths has failed to keep up with changes to the retail environment and the company faces big challenges.

MELBOURNE, AUSTRALIA - MAY 25: A shopper walks out of Woolworths supermarket on May 25, 2015 in Melbourne, Australia. In a bid to regain its title as Australia's distinguished retailer, Woolworths are set to cut costs and reduce prices on thousands of grocery products to compete with rival supermarket giants Coles and Aldi. (Photo by Quinn Rooney/Getty Images)

It was late August 2006 and Woolworths chief executive Roger Corbett, painted as an austere figure not known for bravado, was celebrating yet another year of double-digit profit growth and the first time in the supermarket group’s history that its profit had punched through the $1 billion barrier.

“Woolworths is well placed for continued success in the future,” he preached as he also handed down his last full-year report as CEO.

Soon he would hand the keys to an even more downbeat character, Michael Luscombe, who would inherit a business that had strung together, year after year, 10 per cent-plus profit growth — profit had leapt nearly 24.3 per cent in 2006 and would stay above 25 per cent for the next two years.

Coles, under John Fletcher, who to the embarrassment of everyone admitted he hadn’t been inside a supermarket for 25 years when he took charge of the business, was buried deep in the latest strategic review, the company was in a court fight with its biggest shareholder, Solomon Lew, and it could not match Woolworths growth.

When Wesfarmers walked in the following year, it discovered a Coles plagued by broken cash registers, broken trolleys, dispirited staff and stock missing from the shelf — no wonder Woolworths was flying.

The title of blue-chip stock in Australia isn’t given, it’s earned, and Woolworths had done just that after decades of outperforming the market. It was a favourite of fund managers, it had a special place in the hearts of pensioners and retirees who tucked their share certificates in the bottom of the drawer. It was the stock that every self-respecting equities portfolio just had to include.

Today, Woolworths is one of the most shorted stocks on the market, and its ranks are in turmoil following the announcement this week of CEO Grant O’Brien’s early retirement less than a month into his three-year turnaround strategy. And Coles is stronger than ever and wiping the floor with Woolworths after beating it for the past 28 quarters in terms of like-for-like sales.

From 2002 to 2010, Woolworths had a run of profit growth above 10 per cent. This year it will report flat profits, while in 2012 profit fell 14.5 per cent.

What went wrong? Plenty. A disastrous push into hardware made by Luscombe and designed by his replacement O’Brien that for the past three years has lost $500 million. Its supermarket business is off the pace on price and service, Coles and Aldi are peeling away customers. Its Big W general merchandise chain has seen sales fall off a cliff.

Retail conditions have vastly changed since Corbett pulled the strings — Woolies hasn’t kept up.

The retailer’s once simple advertising message of “the fresh food people” has been lost and weakened by a series of poorly created advertising campaigns culminating in its latest “cheap, cheap” TV ads, which even company insiders admit are annoying and a mistake.

Customers lost faith in Woolworths first. Now shareholders have. Even senior executives have taken to labelling themselves “the challenger” — it’s doubtful Corbett would have ever thought of using those words.

The train wreck, probably six years in the making, all came crashing through at the Bella Vista headquarters in Sydney this week, when O’Brien and his senior team saw the food and grocery figures for its Australian supermarkets. Food and grocery sales at the unit that had generated 98 per cent of pre-tax earnings had gone backwards.

Throwing $125m at lower ­prices and attempts to convince shoppers Woolworths was as cheap as Coles had failed.

O’Brien knew it would trigger yet another profit warning, and it was the prospect of a second downgrade in three months that left him no choice but to “retire” from the group after 28 years.

With O’Brien falling on his sword, the chairman and the board would be safe — for now.

O’Brien’s problem was that his biggest supporters within the boardroom had long gone, particularly the late James Strong who, as Woolies chairman, had championed his rise to CEO and been one of his biggest backers.

“You need those connections with the board, at the boardroom level, those links with directors, and many of the directors that appointed O’Brien had gone, and he lost that support. He did his best to form new connections with the new directors, but too late,” a former senior Woolworths executive says. “And … CEOs can get too much credit when times are good and probably get too much of the blame when things go bad.”

Since February, week-by-week internal trading data had revealed a progressively deteriorating trading position, far beyond what management had anticipated. ­Finally it became apparent that further negative guidance to the market was required.

It is understood that O’Brien began canvasing confidants three weeks ago about whether he should be the one to leave. Discussions were had with the likes of McKinsey management consultant Angus Dawson, who runs McKinsey’s strategy and corporate finance practice in Asia. McKinsey had been called in early in the new year to review the supermarket business.

Two weeks ago, when O’Brien was getting closer to his decision, he went to his chairman Ralph Waters, who was paid $720,000 last year to sit at the top of the retailer’s board, to reveal his thinking and seek the chair’s view on how succession should best be played out.

From there, O’Brien began discussing his intentions with other directors.

On Tuesday, the board met in a 5.30pm telephone hook-up and by mutual agreement quickly decided that O’Brien had to go.

Jason Beddow, managing director of equities investor Argo Investments, says Woolworths had been struggling for several years, especially as Coles and Aldi stripped customers from its supermarkets.

Argo, an investment company based in Adelaide and chaired in the 1980s by cricket legend Don­ald Bradman, is one of Woolworths’ biggest shareholders with $150m worth of its stock.

“I don’t think it’s a massive surprise that O’Brien is leaving Woolies. I think for the last few years Coles has been a step ahead of them and Masters (Woolworths hardware chain) may well work out in the long term, but is clearly not delivering on its initial business model.

“Maybe Woolworths had been a bit complacent with their historically superior position to competitors in the past.”

But Woolworths is far from a lost cause. “They still have the most square metres of supermarket space in the country,” says Beddow, “Population growth is still up in Australia so there is still potential for this to be a very good returning business.

“But clearly the retail environment in Australia has changed. You have had Aldi come in and become a very successful ­competitor.

“You have consumers who have become, probably as a result of the global financial crisis and other issues, more price conscious and price sensitive and happy to do a half shop at Aldi and a half shop at Coles or Woolworths.”

The challenges that await the next CEO are as massive as the network of thousands of Woolworths-owned stores and pubs that stretch across Australia and New Zealand.

It will come down to convincing shoppers that they are at the centre of everything Woolworths does.

O’Brien was the 12th Woolworths CEO that was drawn from the ranks. Perhaps it’s time to consider an outsider.