Australia’s largest retailer Coles Myer has been pilloried by consumers in recent weeks for ditching popular discount schemes but it is the group’s chief executive John Fletcher and his Rambo-like talk that is troubling the investment community, says David Robertson.
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Fletcher, an ex-Army man who made his name in the 1990s doing a hatchet job on the Brambles workforce, has promised significant cost-cutting and improved earnings performance.
That is exactly what shareholders want to hear but Fletcher’s targets seem stunningly optimistic – and the way he is delivering the message is also troubling some fund managers.
The Fletcher lexicon starts with Operation Right Now, which aims to mimic Cole’s supermarket rival Woolworths in streamlining everything from warehousing to back office IT. He wants to see his managers “going over the hill” for the “walled garden” that is the Coles group.
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By GlobalDataFund managers used to more prosaic language aren’t entirely sure what to make of it all. Many are sceptical about Fletcher’s forecasts but they can’t afford not to tag along for the ride. A number admit privately that they expect the Fletcher military doctrine to be useful when it comes to cutbacks but there is concern about whether he is capable of managing the other side of the business: sales growth.
The stakes for Coles, and the entire Australian retail sector, cannot be underestimated. Coles Myer comprises the Bi Lo and Coles supermarket chains (the country’s second biggest after Woolworths), Kmart and Target general goods stores and Grace Brothers department stores. The group employs 168,000 (many of whom must now be wondering if they’ll have a job in two years time) and sees 20c (US$0.11) in every retail dollar spent in Australia. This is a staggering leverage and justifies the group’s share price, which at over A$8, is an earnings multiple of about 28 times (compared with Woolworth’s 25 times).
But despite its size and clout Coles Myer rolled out a 9.5% slip in first half profits to A$212.5m while Woolworths posted a 24.5% rise to A$295.5m (on considerably lower sales). It is this failure by Coles Myer to capitalise on its market position that forced new boy Fletcher (he was appointed last year after his predecessor Dennis Eck walked the plank) to roll out Operation Right Now last month.
The proposal that initially drew the headlines was Fletcher’s decision to drop discounts for small shareholders. These were introduced in 1993 to encourage consumers to become shareholders (and vice versa) and it was very successful with the number of small shareholders in the company increasing from 50,000 to 560,000.
These shareholders get discounts of 5% at Coles supermarkets and between 7.5% and 10% on clothing and other non-food goods. But the scheme had served its purpose and was costing the group money, about A$175m a year, so had to go. The discounts will be slashed by roughly 3 per centage points on 31 July and will be phased out completely by 2004.
Expanding financial services
In place of the shareholder discounts Coles will concentrate on expanding financial services with the usual mortgages and insurance products badged from other companies – Fletcher has obviously been keeping an eye on the massively more innovative and efficient UK supermarkets. But, worryingly, he is also proposing that customers will only be able to use his cards (credit/savings etc.) and may unwittingly waltz into the Marks&Spencer’s dilemma where punters unable to use their own credit cards simply left them in their wallets.
Fletcher will also significantly bolster capital spending to advance the food side of the group. The supermarkets have been the only really good performer in the Coles stable growing from 55% of group earnings in 1999 to 80%. Fletcher wants 30-35 new Coles and Bi-Lo stores a year and there seems no reason why he won’t be able to match Woolworths’ recent stellar performance.
But the real killer for Fletcher will be meeting his target of doubling earnings to A$800m a year by 2006. Analysts are finding it hard to see how cost cutting and growth in the food business alone will achieve this.
“In a business where margins are between 3.5% and 4%, Fletcher has set his managers a target of achieving a return on investment of at least 15% across all businesses,” pinioned the Australian Financial Review. “Fletcher calls this “going over the hill”, others may see it as jumping over the moon.”
Nobody doubts that Coles Myer needs an Operation Right Now. Everyone nods sagely and agrees that the whole gigantic conglomerate needs to be shaken into order. Thanks to powerhouse growth in the food division the group still looks attractive to investors but the non-food side is, at the moment, a long way from being able to match the expectations of the chief and no amount of war-like rhetoric will change that. When the odds become too great even John Rambo has to quit the hills eventually.
By David Robertson, just-food.com correspondent
