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July 31, 2006

Coles restructures in shadow of Wal-Mart rumours

Poor John Fletcher. The Coles Group chief executive was just about to announce a brave and much needed restructuring when his thunder was stolen by rumours of Wal-Mart preparing to buy its way into Australia.

Poor John Fletcher. The Coles Group chief executive was just about to announce a brave and much needed restructuring when his thunder was stolen by rumours of Wal-Mart preparing to buy its way into Australia.


There are only two retailers of any notable size in Australia, Woolworths and Coles, and speculation has focussed on these two as possible targets. With Woolworths trading at a substantial premium to its rival, and Coles struggling in recent years, the most likely target is obvious.


Fletcher had to spend a good portion of his press conference today (31 July) insisting no approach has been made by Wal-Mart. Indeed, Wal-Mart has given very little indication recently that it intends to make overseas acquisitions – and after the Germany debacle perhaps the Americans will be shy about further foreign adventures.


If Wal-Mart does decide on global expansion Australia would be an obvious market for it to enter but the price it would have to pay – between A$10bn and A$20bn – could be a turn-off for the notoriously frugal men from Bentonville, Arkansas.


Wal-Mart aside, Fletcher’s restructuring is extremely important as Coles has some catching up to do.


When Fletcher took over in 2001 Coles Myer was Australia’s biggest retailer but Woolworths has stripped A$3.6 bn of costs out of its supply chain and driven post-tax profits to A$1bn on sales of A$37bn. Coles’ post-tax profits are A$785m on sales of A$33bn.


But more importantly Coles has felt tired, lacking in ideas and desperately off the pace compared with its rival.


Fletcher has at last started to implement some changes and breathe new life into the company. He sold the Myer department store chain for A$1.4bn earlier this year and today’s restructing will see other Coles divisions rebranded.


Bi-Lo, Kmart and the liquor businesses will now all wear the same Coles name with a subheading to tell consumers whether they are entering a food, general merchandising or liquor store.


Target and Officeworks will be kept separate – and if Wal-Mart really is looking to move into Australia a bid for this stand-alone division might make more sense.
Coles was previously trying to be the ultimate retailer with department stores, supermarkets, discount food and discounted general merchandise within group. High costs, low synergies and lack of management focus have conspired to ruin this strategy.


The new Coles will attempt to merge concepts so Kmart can be located next to a supermarket, building (ironically) a more Wal-Mart-like shopping environment.
The other good news is that Coles will be investing in its stores – a much needed improvement.


These changes will come at a price and costs will blow out to A$850m next year, up from A$511m. This has inevitably given some analysts something to moan about but Coles must absorb the pain now if it is to catch Woolworths and fend off predators.


One note of caution, however: Merging supermarkets with stores like Kmart and Bi-Lo could drive the quality of goods and the general shopping experience towards the lowest common denominator. Coles needs to raise its game, not lower it.

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