arget discount department store chain. Woolworths posted its first loss since 1993 and its worst result as a public company after deciding to cut its losses and exit the Masters Home Improvement venture. While Wesfarmers also had to make some sizeable provisions on its accounts for the 2016 financial year, its retail businesses are in better shape than Woolworths’. More significantly, despite some investor confidence about Woolworths’ mea culpa, Wesfarmers has more options for future growth and is much less threatened by the expansion of foreign food retailers, Aldi and Costco. Dan Murphy’s Woolworths is now almost entirely dependent on its supermarkets and liquor channels for growth, unless it can find a miracle remedy for the loss-making Big W or an acquisition that creates a new earnings stream. Wesfarmers, on the other hand, has growth potential in its Bunnings Warehouse business, including a hopeful foray into hardware in the United Kingdom, as well as a more certain future in the discount department store category with Kmart – even if the rejuvenation and re-engineering of Target does not succeed. Woolworths is now relying on more effective execution of its strategies in supermarkets and its better-performed liquor stores to defend market share from Aldi and Costco. While investors and financial analysts have initially backed the shrinking Woolworths strategy, the retailer faces a very big challenge to maintain market share and grow sales and earnings in a fiercely competitive market where margins are under increasing pressure. Woolworths CEO, Brad Banducci, is flagging a three to four year timeframe for the retailer to regain its momentum but that may well be optimistic unless the Metcash-driven independent supermarket sector withers. Aldi and Costco are effectively soaking up the market growth generated by population increase, while Coles and Woolworths counter strategies to the expanding global rivals rely too heavily on discounting and shaving their margins and earnings. Further emphasising the scale of the challenge, Woolworths is falling further behind Coles with its sales for its food, liquor and convenience business down 2.7 per cent, to $39.4 billion, for the 2016 financial year and earnings dipping 40.8 per cent to $1.76 billion. Coles’ sales for its food, liquor and convenience businesses were up 2.7 per cent to $39.24 billion and net earnings increased 4.3 per cent to $1.86 billion for the financial year In other words, Coles is achieving growth while Woolworths is continuing to bleed sales, in fact, despite investing in price reductions and store upgrades, seeing its sales per square metre fall by 3.7 per cent to $16,000 in the 2016 financial year. The comparative figures are ominous for Woolworths with Coles breathing down its neck on total sales but already eclipsing its rival in terms of sustained growth, and in the box seat to defend its position unless the foray into the UK hardware market stumbles badly. Coles isn’t in anyway safe from the rising tide of Aldi and Costco, it just happens to be better positioned than Woolworths. Aldi’s market share is currently estimated at 10 per cent by the Australian Competition and Consumer Commission, but is arguably slightly higher than that figure following its recent expansion into South Australia and Western Australia. Aldi CEO, Tom Daunt, has indicated that Aldi is targeting a 15 per cent slice of the market in the short term as it adds to its current 400-store network. Annual sales for the German discount chain exceed $5 billion, while the American Costco chain is generating sales of more than $1.2 billion from just eight stores. Woolies’ Masterful backfire Whether or not you could blame the Masters Home Improvement debacle for Woolworths losing its mojo in its core food and liquor business is debatable, but Coles was certainly gaining ground before the hardware venture was launched. Woolworths decided to tackle the hardware category in a bid to generate sales and earnings growth, in large measure in recognition of the challenge of Aldi and Costco to the growth prospects of its core food and liquor business. Woolworths reasoned the hardware market was large and fragmented, notwithstanding the market share and brand positioning of Wesfarmers’ Bunnings Warehouse. The move backfired spectacularly, running up around $850 million in trading losses to the end of FY16 and burning around $3 billion in capital. The stores will continue to rack up operational losses ahead of the December 11 trading closure and those losses could well exceed the $165 million pocketed from the sale of the Home Timber and Hardware operations to Metcash. Of the $3 billion of capital expended by Woolworths and its American joint venture partner, Lowe’s, half of that sum is expected to be recouped with the Metcash transaction, property sales and stock clearances under a contract with GA Australia of up to $500 million. The debacle is not entirely done and dusted, however, as Woolworths and Lowe’s are embroiled in a dispute over the value of the American retailer’s one-third share of the Masters Home Improvement venture. The two companies are making no public comment on the dispute, which revolves around the level of funds invested, the money recouped from the closure of the venture and the level of impairment on the value of the business when it was decided last January to exit Masters Home Improvement. The dispute is not without some acrimony, with Roger Corbett blaming Lowes for the failure of the venture when he completed a consultancy contract in June. Corbett said Lowes had fallen short in its support of the venture given that it was the partner with the retail hardware experience. Woolworths’ future focus For the immediate future, at least, Woolworths is now focused on improving the productivity of its remaining businesses, but in mature and competitive markets the growth potential is limited, with the real prospect of declining market share for both its food and liquor business and its Big W chain. Banducci has certainly cleared the decks since taking over as CEO at Woolworths, taking a $2.6 billion writedown on the FY16 accounts to exorcise the hardware venture and to fund restructuring costs. Exiting the lossmaking Masters Home Improvement chain and potentially returning Big W to profit will strengthen underlying earnings for Woolworths in this financial year, albeit further writedowns may yet be required. However, investor optimism about actual sales and earnings growth is yet to be affirmed, notwithstanding Banducci claiming that customers have noticed a difference in stores and have responded positively to upgraded stores. Woolworths’ Australian supermarkets suffered a 0.2 per cent decrease in sales to $34.8 billion in FY16 with comparable sales for the year down 1.3 per cent. In a small ray of light for the retailer, comparable sales for this financial year in the eight weeks to August 21 edged up by 0.3 per cent. Woolworths needs much stronger revenue growth than that to lift earnings, which have fallen by more than 40 per cent following an investment in lower prices by the retailer that in FY16 had limited impact on sales with an actual decline in items per basket. Woolworths lowered prices on average by 2.3 per cent in FY16 with the fourth quarter reduction 2.7 per cent as the retailer reduces its reliance on promotions in favor of lower shelf prices. The one bright spot for Woolworths is its drinks group, underpinned by the Dan Murphy chain which posted another year of strong total and comparable sales for FY16 and added a further 11 stores to its national network. The drinks division posted a bubbly 4.7 per cent increase in sales to $7.6 billion and a three per cent boost in earnings before interest and tax to $483.8 million for the year. In the wash up of the Masters Home Improvement exit, as expected, Metcash has acquired the Home Timber and Hardware Group for $165 million, funded by $80 million in equity and $85 million in debt. The Home Timber and Hardware Group adds around 1200 customers for Metcash, lifting its total network of independent hardware retailers to 1800 when combined with its existing Mitre 10 operations. Metcash hardware sales will now exceed $2 billion, provided the wholesaler can retain the entire customer base and is expected to contribute to earnings this financial year. Subject to Lowe’s’ consent, 40 Masters Home Improvement freehold trading sites, 21 freehold development sites and 21 leasehold sites will be sold for $1.5 billion to an entity called Home Consortium, which comprises Aurrum Group, Spotlight Group and Chemist Warehouse. The property portfolio, which accounts for around 700,000sqm in large format retail space, was acquired by Home Consortium for $725 million, trumping rival formal bids from Blackstone, Vicinity, Charter Hall and Stockland. Home Consortium will lease some of the former Masters Home Improvement sites to Bunnings Warehouse and will also become landlord to retailers such as Spotlight, Anaconda, Chemist Warehouse, JB Hi-Fi, Super Cheap Auto, Super Amart, The Good Guys, Barbeques Galore and Dan Murphys.