End of Woolies’ Masters disaster

It’s a messy finish, but Woolworths has finally closed the door on one of its worst ever strategic decisions.

The disastrous saga of Woolworths’ foray into the home improvement sector is almost over, six years and several billion dollars after its launch.

While it has taken seven months since Woolworths (WOW) and its one-third partner, Lowe’s, decided to pull the plug on the loss-making Masters chain after years of mounting damage, about $600 million worth attributable to Woolworths’ — and another $1.9 billion of Woolworths’ impairments and write-offs at the half-year — the series of deals announced today will see them exit the sector, almost.

In separate deals Woolworths announced the sale of the Home Timber & Hardware group to Metcash for $165 million, an underwriting of the liquidation of Masters’ inventory by an international inventory liquidation specialist that should recover gross proceeds of about $500 million, and the sale of a vehicle that contains the joint venture — and the properties and leases within it.

Woolworths will keep three of the Home Timber leases, three Masters freehold sites and 12 of its leases.

It expects gross proceeds of $1.5 billion from the deals, but expects to net only $500 million after the costs of winding down the business and “any shareholder payments.”

That last phrase is presumably a reference to unfinished business with Lowe’s.

Back in January, Lowe’s exercised a “put” option it had over its interest in the joint venture vehicle, Hydrox, which should have enabled Woolworths to take full control of the vehicle and its liquidation. Despite months of negotiations the partners were unable to agree a valuation of Lowe’s interest and therefore it still holds 33 per cent of Hydrox.

In today’s announcement Woolworths said Lowe’s had approved the Home Timber sale but it is apparent that there is still no agreement on the terms of Lowe’s exit.

The property component of the Masters exit involves a consortium of three private companies — a grouping of Arrum Group, Spotlight Group and Chemist Warehouse under the umbrella of ‘Home Consortium’ — gaining a call option over Woolworths’ 67 per cent interest in Hydrox and agreeing to the terms for an acquisition of 100 per cent of the vehicle.

That deal needs Lowe’s consent and it doesn’t appear it has yet gained it. It would appear that Lowe’s wants something more for its shareholding than the Home Consortium offer implies, which presumably would have to come out of the net proceeds of $500 million that Woolworths expects to gain “prior to any shareholder payments.”

While it’s messy, with the dispute with Lowe’s — and its cost — yet to be resolved, at face value Woolworths has done a little better from the dealings than the worst-case scenarios but, more importantly, it has almost completed the exit from one of the worst strategic decisions in its history.

The strategy of taking on Bunnings’ dominance of the home improvement sector with a largely greenfields strategy, deployed at an ambitious rate and with a completely bungled execution, was taken by former chief executive Michael Luscombe and planned and overseen by his successor, Grant O’Brien, in what turned out to be a career-ending and company-destabilising nightmare.

It also had a distracting and destructive impact on Woolworths’ core supermarket business, which protected its margins to protect profitability as the Masters’ losses escalated, enabling Wesfarmers’ Coles business to be rehabilitated and gather a momentum and superior growth path that it retains today.

With the exception of the dangling threat of Lowe’s unresolved demands, today’s announcements create a punctuation point of sorts to the gift that kept giving to Coles and Woolworths critics, and will bring to an end the losses that have flowed from the Masters business.

That will enable new CEO Brad Banducci and his remade board to concentrate even more closely on the supermarkets and liquor businesses, and the also-ailing BigW discount department store chain. We’ll get a better feel for how the turnaround strategy at Woolworths is progressing, or not, when it reports for the full year on Thursday.

It wouldn’t surprise anyone if the new broom also decides to exit petrol retailing or eventually sells BigW, and there has even been speculation of a sale of the hotels operations that are housed in a joint venture with the Mathieson family.

Woolworths, in exiting home improvements, will honour Masters gift cards, warranties, returns, lay-bys and contracts with customers as well as trying to absorb as many of its employees as it can. It has a corporate reputation and relationships with customers and suppliers, to protect.

The deals will be a major boost for Metcash, and will effectively double its sales base in hardware and create obvious synergies by bringing Home Timber next to its Mitre 10 business. It will also give it a bigger non-supermarket base of earnings. Its supermarkets are finally stabilising their sales but earnings are still being eroded by the crossfires of competition between Coles, Woolworths and Aldi.

The property deals — the 40 freehold trading sites, 21 development sites and 21 leasehold sites — that will be left within Hydrox represent a major property play by the Home Consortium. They plan, Woolworths said, to re-purpose the Masters sites into multi-tenant large-format centres.

Given the difficulty of finding new large-format sites, the portfolio represents an opportunity for some of the ambitious new retailers that have invaded the domestic market in recent years, along with the established Harvey Normans and JB Hi-Fis. Bunnings was quick to announce that it has its own deal with Home Consortium that could give it access to 15 of the properties.

All Masters stores will have ceased trading by 11 December this year, which implies some potential disruption for Bunnings and Metcash — and bargains for home improvement and hardware shoppers — as the Masters stock is liquidated.