Target and Wesfarmers: The long goodbye

The key question stemming from Wesfarmers’ decision to drastically overhaul Target is whether there is a buyer for what is left of the once-powerhouse discount department store chain.

The scaled-back Target does not fit Wesfarmers’ business portfolio metrics for growth, profitability or return on investment.

It has to go – the only questions are when and how.

Will there be a buyer for some or all of the stores that are to continue trading under the Target brand or will they simply be closed?

Wesfarmers has already shown with the Bunnings venture in the UK that it’s prepared to cut its losses on failing business, and it’s demonstrated with the Coles food and liquor divestment that it wants to pursue high-growth business opportunities, not stragglers.

The writing has been on the wall for Target for a long time, as it was eclipsed by stablemate Kmart, which had achieved a much stronger brand positioning, and even Woolworths’ discount department store chain Big W.

The entry into the Australian market of global retailers H&M, Uniqlo, TK Maxx and Costco as well as Amazon added to Target’s problems, but they weren’t the reason it fell from its perch as Australia’s best performing discount department store chain.

Problems with direct sourcing of apparel ranges from China and strained relations with local suppliers, a high turnover of CEOs and revolving turnaround strategies, a profit-rigging scandal and the challenge of operating both large floorspace in full line and small format country stores have all contributed to Target’s declining financial performance.

Too much floorspace

The discount department store category has been hampered by an oversupply of floorspace exacerbated by new global retail entrants as well as a struggling Myer shifting downmarket.

The rise of specialty category killers such as Adairs and Baby Bunting has also increased the pressure on Target, Big W and Kmart, as has competition from other discount strugglers Harris Scarfe and The Reject Shop.

Big W and Target both reported declining sales and earnings over several years, leading Woolworths to rework its Big W chain and to close some stores, prompting Wesfarmers to fold Target into Kmart’s management structure in February 2016.

The decision to put Target under Kmart in a department stores channel enabled Wesfarmers to reduce costs in back office and support functions, but sales and earnings continued to languish in spite of turnaround strategies.

Wesfarmers commissioned a full review of the Target business after it dragged Kmart’s performance down in the 2019 financial year.

The trade sale option for Target was on the table but would require an unravelling of the merged back-of-store and support functions and would potentially adversely impact the value of Kmart if it became a competitor with its existing 284-store network.

Divesting the department stores division of both Kmart and Target was also an option, but would not be expected to yield anywhere near full value in current investor and retail market conditions.

Wesfarmers has therefore taken a strategic decision to protect and strengthen its Kmart investment, preserving the option for a future divestment, while paring back Target so that it’s less of a liability if closed down, divested or, in the immediate future, continuing to trade.

Wesfarmers has already substantially reduced the goodwill and asset value of the Target chain in past years and will now book restructuring costs on its department stores division of between approximately $120 million and $170 million for the current financial year.

Wesfarmers will also adjust its accounts for FY20 by between $430 million and $480 million in a non-cash impairment of the Target brand.

The Target store network will effectively be halved, as between 122 and 167 stores are closed or converted to the Kmart banner.

Ten to 25 large format Target stores and 50 small format Target Country stores are marked for closure, while between and 10 and 40 full-line stores will be converted to Kmarts, subject to landlord approvals.

Wesfarmers will also attempt to create a viable small format Kmart store with the conversion of around 52 of the Target Country outlets.

Wesfarmers managing director Rob Scott said that these actions and further investment in Kmart will enhance the overall position of the Kmart Group, while also improving the commercial viability of Target.

However, a scaled-back Target will meet neither the growth or ROI criteria highlighted by Scott when the much more robust Coles food and liquor business was divested, indicating this is not the end game for Target and possibly also Kmart in Wesfarmers’ business portfolio.

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