Deep pockets not enough to guarantee success

About Life Shopping 2Wesfarmers knew it was buying a renovator’s delight with Homebase, but it now concedes it misjudged the challenges in the UK and Ireland.

The challenges confronting Australian retailers are also testing international retailers, including Esprit, Topshop and Topman, Gap, and Toys ‘R’ Us.

Wesfarmers was cock-a-hoop when Woolworths Group reached the inevitable conclusion that any chance of making its Masters Home Improvement chain profitable would take too long and exact too high a cost on the company. Of course, Woolworths also realised the venture might still fail, irrespective of further investment and that it was better to bite the bullet and close up shop than soldier on.

While Woolworths was starting the humiliating process of closing down the business it had expected to become a key growth engine for the company, Wesfarmers acquired the Homebase hardware chain in the United Kingdom.

The $705 million Wesfarmers acquisition was a bold move that had critics from the outset, but, as with Woolworths’ hardware play in Australia, it was a decision based on maintaining growth momentum. Wesfarmers had a successful formula with the Bunnings Warehouse concept and the opportunity to enter the UK through the acquisition of the number two brand in that market at an apparently good price seemed to support investor growth expectations.

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Wesfarmers knew it was buying a renovator’s delight with Homebase, but it now concedes it misjudged the challenges in the UK and Ireland and, like Woolworths, was forced to face the conclusion that the Homebase venture would be a financial drain for years and might never actually work.

Wesfarmers managing director, Rob Scott, said the decision to sell Homebase followed a comprehensive review of the business which considered a range of options to improve shareholder returns.

Scott said the review confirmed the business is capable of returning to profitability over time but would require further capital investment. The company sold the Homebase chain to private equity firm, Hilco Capital, for one pound.

While Woolworths was able to retrieve some of the funds invested in Masters Home Improvement, Wesfarmers has effectively burned $1.7 billion on its failed Homebase foray albeit the sale agreement does provide for a possible profit share if Hilco Capital can turn Homebase around.

At a strategy day briefing last week, Wesfarmers admitted that despite two years researching the British retail market, the company underestimated the importance of local management and had poor execution in revamping stores and rolling out its Bunnings Warehouse concept.

The sale to Hilco Capital is expected to be completed by 30 June, and Wesfarmers will then know the precise cost of the exit. But there will certainly be an impact on the company’s bottom line to follow the massive writedowns in previous accounts for both Homebase and the struggling Target discount department store chain.

It remains to be seen whether or not Hilco Capital has netted a bargain with its one-pound purchase of all Homebase assets, including the Homebase brand, its store network, freehold property, property leases and inventory for a nominal amount.

The private equity company will convert the 24 Bunnings pilot stores back to the Homebase brand. The sobering experience for Woolworths and Wesfarmers, Australia’s two largest retailers with deep pockets, demonstrates that chasing growth in the new-age retail environment is not easy.

Myer, Metcash also absorbing losses

The two Australian retailers are not the only ones facing a retreat from new markets or categories as retail trading conditions continue to be subdued in Australia, the UK and the US and e-commerce captures what growth there is in consumer spending.

While Wesfarmers will take a further hit on its 2018 financial year accounts for the Homebase venture and restructuring of the Target chain, Myer and Metcash will also be absorbing losses in their accounts.

Metcash has announced it will book a $352 million impairment to goodwill and other net assets in its supermarkets and convenience business following a year-end review of the carrying value of its assets.

The review has taken into account the loss of the Drakes Supermarkets’ supply contract in South Australia in mid-2019, as well as weakness in the Western Australian economy and the ongoing intensity of competition in the sector.

The impairments are non-cash in nature and will have no impact on the company’s debt facilities, compliance with banking covenants, or its ability to undertake capital management initiatives.

However, the Metcash writedowns on current financial year accounts continue a trend for
established retailers to reduce the carrying value of their assets, as investors and financiers become more focused on reconciling trading performance and competitive impacts on goodwill and asset valuations on balance sheets.

While Metcash is not at this stage understood to be planning any divestment of its business
operations, the listed wholesaler did exit an automotive division in June 2015 that it had been building as a potential new growth opportunity.

Metcash is now heavily reliant on its Mitre 10 and Home Timber and Hardware businesses, as its grocery business comes under increasing pressure from competitors. Wesfarmers is also planning further divestment with the possible sale of its hotel business and its Kmart automotive business in trade sales and a public listing of the Coles supermarkets, convenience and liquor businesses.

Global players not exempt

The challenges confronting Australian retailers are also testing international retailers, including Esprit, Topshop and Topman, Gap, and Toys ‘R’ Us.

Insolvency firm McGrathNicol has been appointed to manage the voluntary administration of the 44 Australian Toys ‘R’ Us stores following the collapse of the parent company in the US. While the administrators are exploring options for a sale of the business, it seems more likely that the chain will be closed, after a potential buyer for the business abandoned its offer.

Toys ‘R’ Us and sister retail brand Babies ‘R’ Us have racked up more than $100 million in losses in their Australian operations, and the prospect of another suitor emerging is slim.

The US-based Gap and UK-based Topshop and Topman both failed financially in Australia despite local partners in Oroton and Myer respectively.

Esprit is also set to exit the Australian and New Zealand markets by the end of the year, after racking up significant losses. The clothing and accessories chain will close 67 sites, including 16 standalone stores, 38 Myer concessions and 13 factory outlets.

Thomas Tang, Espirit Holdings executive director and CFO, said the chain had not been profitable in Australia and NZ for some time, despite “intensive” efforts to turn the business around, and would redirect its resources to the development of Asian markets.

Another retailer that is mulling over the future of its Australian operations is Steinhoff International, which has been pursuing debt extensions and support for a plan to repair its financial position across its global operations.

Local management for the Steinhoff International businesses in Australia, which include Harris Scarfe, Best & Less, Snooze and Freedom Furniture, insist they have funding covered. However, the international company may need to divest Australian assets as part of its international recovery plans.

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