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Announcing last year’s demerger, Scott said the supermarket chain was well positioned to achieve long-term earnings growth but effectively did not meet Wesfarmers’ growth expectations.
Scott thought Wesfarmers’ money would provide better returns elsewhere, as Coles accounted for 60 per cent of the company’s capital employed but only 34 per cent of divisional earnings.
Maintaining investor confidence
Wesfarmers retained a stake in the new Coles entity listed on the Australian Securities Exchange in the demerger to maintain investor confidence, but that investment will undoubtedly be cashed in at an early opportunity.
The Wesfarmers exit from the retail food and liquor market underscores the competitive battle facing the two homegrown grocery goliaths, Coles and Woolworths, along with the Metcash IGA independents, against the international chains – Aldi, Costco, Kaufland and Amazon.
Interestingly, Scott appointed Steven Cain to lead the new Coles entity, despite a controversial departure from the Coles group in 2004, when it was Coles-Myer.
The appointment does have some logic for the new entity, however, as Cain has a wide range of very useful experience: he knows about the Aldi business model from his early career experience in the UK; he has knowledge of Coles itself from his brief previous stint in the chain; and he has insight into the independent supermarket sector after three years with Metcash.
Cain will need all of that experience and more if he is to fortify and generate sustained growth for Coles, and it will need a lot more than gimmick promotions such as the “little shop” collectables.
Brad Banducci, Woolworths’ CEO, faces the same challenge going forward, as Aldi continues to grow through store rollouts and category expansion. Meanwhile, Kaufland, Aldi’s main rival from its German homeland, prepares to launch in Australia with stores in Victoria and South Australia.
Costco almost doubled its profits and achieved double-digit revenue growth in Australia in 2018, while Coles and Woolworths posted much more modest growth.
Costco now has 11 stores across Australia with a 12th planned to open in Perth later this year, and a prospective target medium term of around 20 of its hypermart stores. The US retailer is also developing an online platform with a weather eye to Amazon’s ambitions in the grocery market.
Kaufland has established a headquarters in Melbourne and currently has approvals for three stores in Victoria and a hold on one site in Adelaide. The consumer acceptance of the Aldi and Costco formats has encouraged the German Schwarz Group, which also owns the Lidl chain, to enter into the mature Australia market. The new entrant will intensify competition and force Coles, Woolworths and the independents to invest more capital in store and systems upgrades to defend market share.
Redefining store concepts
With the Aldi, Costco and Kaufland business models all able to spread costs and cover lower margins on grocery sales through their general merchandise ranges, the future success of Coles, Woolworths and independent supermarkets may well depend on redefining their store concepts, services and merchandise ranges.
Technology may well provide some opportunities for further cost cutting in the established chains to support competitive pricing strategies, but there are limits on how much leaner the chains can become with rebates from the supplier golden goose just about exhausted.
It would seem likely that the independent supermarkets will be the first to feel the squeeze in the increasingly competitive grocery market, with Metcash investing $100 million in trying to bombproof its stores, including a new small-store format.
But Coles and Woolworths are arguably already feeling the pain to the bottom line as the newer market entrants have sapped their revenue growth and forced them to slice margins. Cain and Banducci will be seeking some strong measures to counter this new reality.