Wesfarmers investors back Rob Scott’s Coles tactics

Wesfarmers’ stock closed at a three-year high yesterday in a positive reaction to the company’s annual strategy day.

Inghams chief Mick McMahon. Illustration: Eric Lobbecke

Wesfarmers’ stock closed at a three-year high yesterday of $46.48 on a 1.7 per cent gain in a positive reaction to the company’s annual strategy day.

New boss Rob Scott has impressed the market, but ultimately he will be judged on his acquisitions, which will set the tone for the conglomerate going forward.

Scott has proved a canny trader, exiting the UK Bunnings fiasco at a lower than expected loss and also proposing to trade out of Coles while retaining a 20 per cent stake.

Given he was playing down the Bunnings UK and Ireland business sale right to its execution, we can also take with a grain of salt his caution on imminent deals.

Yes, asset prices are inflated and acquisitions are not easy, but Scott didn’t hire KKR’s Ed Bostock as business development manager to sit on his hands.

Talk around the traps says veteran Wesfarmers director James Graham will be the chair of the new retail vehicle, with former supermarket boss Steven Cain the chief executive.

Cain steps into the role in September, while Graham, of course, has already said this is his last term after two decades on the Wesfarmers board.

No one was confirming the name of the new chair yesterday and the float is targeted for November, so there is some time yet to make the formal call.

Wesfarmers chairman Michael Chaney likes to keep his circles tight, as shown by Richard Goyder’s elevation to the Woodside chair after a global search of Mosman Park and Peppermint Grove in Perth.

Director Dianne Smith-Gander was primed for the Officeworks chair before that float was pulled.

The Coles sale is not without risks, given Woolworths has the operating momentum right now and the supermarket group will be on its own without the benefit of head office capital.

As a supermarket chain, Coles is 20 per cent smaller than Woolies and doesn’t have the Dan Murphy’s behemoth beside it, but then again it is also without a laggard like Big W.

As a guide, its earnings are roughly similar to those of Bunnings, yet the latter requires just $3 billion in capital, against $16.5bn for Coles.

Wesfarmers has $3.3bn in debt and, given Coles’s earnings before interest tax, depreciation and amortisation are around the $2.2bn mark, you could expect Scott to park about $2bn in debt with the 20 per cent-owned ­vehicle.

Any more and the stock would trade poorly as a debt dump for Wesfarmers.

Outgoing boss John Durkan will be doing all he can to make sure the full-year profit is strong and the outlook better before he hands over in October and formally leaves Wesfarmers next July.

He flagged strong online growth up 25 per cent with 1000 click-and-collect centres operating by the end of the month.

Home-brand sales are also targeted at 40 per cent of group sales in five years, and this category is profit-rich for the supermarket.

Right now house brand goods are 28 per cent of sales and this includes fresh food such as fruit, vegetables, meat, deli and chilled dairy, which in total account for 45 per cent of supermarket sales.

Fresh is the big area of expansion for the supermarkets, with Coles and Woolies already controlling about 70 per cent of dry grocery sales.

Durkan is also targeting more products sold at everyday low ­prices, up from the 20 per cent today, which means fewer special promotions.

The aim here is more control, because while customers like better prices, they hate it when something is out of stock, so it doesn’t make much sense having a great promotion one day and no product the next.

Throw in the obligatory new boss writedown and Wesfarmers’ Scott has played right to the text book of new bosses — push the old management reputations under a bus, and lower the base to boost ­future personal and shareholder returns.

So far, so good, and chairman Chaney can only feel good about his choice of chief executive.

That is if you forget the fact that it was Chaney’s decision to proceed with the UK expansion for Bunnings and to oversee the execution of the business. Even the greats make mistakes and this was a big one for Saint ­Michael.

Yesterday’s presentation revealed something about Scott’s plans for the future, particularly around an emphasis on data analytics.

He has hired well with Alan Lowthorpe to head his Advanced Analytics Centre in Melbourne, with the former Woolworths (Quantum) adviser to both boost talent and train existing executives in the new world.

This follows last year’s hires such as former KKR operative Edward Bostock as business development chief and David Baxby running industrials.

Baxby has already showed his hand with the purchase of a small stake in online workwear group ONTHEGO. All the ground work is being done.

The Bunnings machine rolls on as does Kmart and Officeworks.

There are a few more loose ends to complete and one wonders just how long the company can afford to maintain two department store bosses now Ian Bailey has proved his worth running Kmart. Guy Russo’s tenure cannot have long to go.

But at day’s end, Scott’s term as boss will be measured by the success of his acquisition strategy.

Goyder did the Coles deal that transformed the company into a retail-based conglomerate and, while earnings improved and value was added, the scorecard on this deal was mixed.

Scott’s landmark will be set on his next big acquisition or restructure of the company.

Like all bosses, he doesn’t like the targets being set, but the clock is ticking and the revival in the company’s stock will be short-lived unless he can complete the next big step.

Playing chicken well

On some counts, Mick McMahon earned about $40 million from his almost four years running Inghams, firstly for TPG and then as a publicly listed vehicle. The 9 per cent, or roughly $200m, fall in the company’s market value yesterday to $1.6bn shows what investors thought of his departure.

He is telling anyone who will listen that his attention will now turn full time to running the family sheep property in his home state of Tasmania that he owns with brother Phil, while lobbying part time to get an AFL team for the state.

The Shell veteran was at Coles when Wesfarmers acquired the company in 2007 and he was one of the few executives it wanted to retain but instead he went to private equity. A stint turning around Skilled Engineering before it was eventually sold to Programmed Maintenance in 2015 saw McMahon return to TPG and before long Inghams.

Yesterday’s departure news, then, was right out of the private equity song book, a classic turnaround including a sale and leaseback of the assets to send returns into the stratosphere, combining the old state operations into a single desk, improving scale and margins, and the result being a cash-generating vehicle.