There’s a long road ahead for struggling Metcash

The Kaufland decision to abandon the Australian market has been the only really good news for Metcash for several years.

While Jeff Adams, Metcash CEO, remains positive about the future of the publicly listed wholesaler, the challenges keep piling up and suggest radical changes are needed in the business.

Last month, Credit Suisse analyst Grant Saligari suggested Metcash should consider divesting its food wholesaling operations that have been its core business and the major revenue and earnings drivers.

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Saligari’s proposition was certainly radical, but was premised on the wholesaler’s declining market share, the fracturing of its customer base and increasing competition in the grocery category (albeit the idea was floated before the Kaufland exit announcement).

Adams rejects the spinoff proposal, believing that its investment in stores and reduced operational overheads from cutting costs will rebuild sales and earnings.

That is a big call by Adams, given that Metcash has been losing market share in its food distribution business for a decade and has had to surrender profits to underpin the price competitiveness of its independent supermarkets.

Then there are the writedowns that date back to 2012 and have totalled $500 million in the past 12 months due to the loss of two major supply contracts.

While the Kaufland decision eliminates a potentially dangerous new competitor, Metcash remains vulnerable to revenue, profit and market-share losses due to the continued expansion of Coles, Woolworths, Aldi and Costco, including into small neighbourhood store formats.

The inevitable squeeze on Metcash was recognised by former CEO Andrew Reitzer, who melded the key state-based grocery wholesalers – IGL, FAL, QIW, Davids, Composite Buyers and RG Withers – into a single national business.

Understanding the difficulty of holding out the major chains long term, Reitzer sought to leverage the company’s logistics capability by diversifying into other areas.

An attempt to move into pharmacy wholesaling didn’t eventuate but Reitzer steered Metcash into the hardware category with the acquisition of Mitre 10 and into the automotive aftermarket by purchasing the Automotive Brands Group and several other auto accessories and services businesses.

The automotive division was sold by Reitzer’s successor, Ian Morrice, at a profit of $50 million but with the loss of a potential new growth channel. Morrice made a call to focus on the core grocery wholesaling business, a call which has seen Metcash exposed to competitive pressure that has impacted on sales growth, eroded market share and reduced profits.

Metcash has invested profits and reallocated funds within the business to price reductions and store upgrades to help its independent retailers to remain competitive against the chains.

Metcash also tried to help its retailers cope with restrained consumer spending, especially in areas impacted by both droughts and floods – and now bushfires.

Adams’ current five-year business plan for the food wholesaling division, MFuture, aims to cut costs by $50 million and invest up to $300 million in store refurbishment and new digital initiatives.

The problem is that, while Metcash has attempted to support its retailers, the measures have fallen short as far as many of its customers are concerned.

Drakes supermarkets have opened their own distribution centre in South Australia, representing a loss of around $270 million in sales to Metcash, and the 7-Eleven convenience stores chain terminated its supply contract that generated an estimated $350 million in revenues for the wholesaler.

In a further blow for Metcash, some of its retailers have launched a new venture, Co-Operative Supermarkets Australia, as a buying group that will source products directly from suppliers.

Using a membership subscription model and a 2 per cent service fee on purchases, CSA believes it can improve profitability and buying flexibility for retailers.

There are at least 250 retailers aligned with Stone Advisory, which has developed the new entity.

CSA claims it is not competing with Metcash but limited shelfspace in stores inevitably means products sourced from the new buying group will reduce purchases from Metcash.

Adams remains positive about the future but investors are no doubt less bullish especially after a modest 0.5 per cent increase in revenues  to $7.21 billion and an after-tax loss of $151.6 million for the six months to December 2019.

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