Coles Myer might be the largest retailer in Australia but unless the company improves its performance this year, rogue shareholders may succeed in a rapid dismantling of the organisation, reports David Robertson.

Coles Myer has an 18% share of all retailing purchases in Australia (and revenues of A$26.7bn (US$15.6bn) last year); its stable includes Grace Brothers department stores, Target, Kmart and Coles and BiLo supermarkets. But this behemoth has taken a battering from some shareholders who claim the company is failing to produce the returns such a dominant position should demand.

The company was formed in 1985 from the merger of Myer Emporium and GJ Coles & Coy but it is a deal that has failed to produce synergies or significant growth. Its share of the retail market has slid from 21% to 18% and profits from retailing, at $640m, are about 10% below 1990 levels.

Supermarket division in the doldrums…

But what has really stuck in the craw of investors is the relative underperformance of the supermarket division. When Woolworths, Coles’ arch rival and the only other major supermarket chain in Australia, floated in 1993 it had a capitalisation of $2.45bn. Today Woolworths is valued at $13bn and climbing while Coles Myer has slipped in value from $7.7bn to around $7bn in the same period.

…while Woollies goes from strength to strength

Woolworths revealed this week that in the second quarter it increased sales by 10%; analysts suspect that Coles has seen sales slip in the second quarter following an even poorer first quarter. The company reports second quarter sales figures on 14 February and investors are braced for more disappointment.

The underperformance of the food division is particularly worrying to shareholders, as it is the group’s main growth motor. The non-food stores, and particularly the department stores, have been struggling in recent years and management is under pressure to turn around performance.

Bringing in new blood

The first move to do so was the appointment of the retiring Brambles chief executive John Fletcher. His recruitment was a huge relief to investors as his track record, even if it lacked retail experience, suggested he would know how to get Coles firing again.

But his reputation was severely dented when Coles Myer issued a surprise profits warning last May and opinion among analysts has hardened against the company.

There are two theories as to the cause of Coles Myer’s woes: the merger has not worked because food and non-food retailing are too different to provide any synergies and, secondly, that management has remained split and ineffectual. These theories are, of course, linked and there are now moves to rectify both.

“No coherent and plausible management strategy”

“In a sense, Coles Myer was doomed from the day it was born and has not had a coherent and plausible management strategy since,” wrote the Melbourne stockbroker Ivor Ries.

Sir Ron Brierley, chairman of the Guinness Peat investment group, told ABC television: “Essentially our view is that it’s a dysfunctional board. At the present time it’s clear it’s not cohesive and that must be very damaging for Coles Myer.” Sir Ron’s views carry weight as he is also chairman of Premier Investments, which is 51% owned by Australian businessman Solomon Lew.

Lew had been a director of Coles Myer for 17 years, and was at one point chairman as well. He is known to favour a-break up of the group in order to release some of the value that the 1985 merger has clearly failed to deliver. But when Lew stood for re-election last year the other directors contested his appointment and in a multi-million dollar campaign Lew, and his pal Sir Ron, battled for control of Coles Myer. Despite increasing his holding to more than 9%, partly through Premier, Lew was voted out of office – but he remains a prowling presence.

Lew remains ready to pounce

Analysts believe that if Fletcher is unable to produce results this year Lew will attack again, and he is in a position to call an emergency general meeting.

Fletcher will spend some anxious months waiting for Lew and Brierley to fight back although, ironically, he is thought to favour the exact strategy that Lew is proposing: break up.

When Fletcher took over at Coles Myer he is believed to have instructed UBS Warburg to investigate the benefits of a break up, dubbed Project Gold. The report recommended splitting off Myer Emporium and giving existing shareholders free stock in the new company but the board, with the exception of Lew, is thought to have got jittery at the pace of change.

A second report was commissioned, this time from investment bankers Caliburn Partners. This report also favoured a split but raised questions as to the timing and best way to generate the greatest value.

So it appears that Coles Myer’s days are numbered. The only question is how the giant will be killed. The current board, without Lew, appears to want Fletcher to take his time about reinvigorating the company to create more value.

Playing catch-up with Woollies on several fronts

Fletcher will have his hands full in achieving this; apart from a sales slump, Coles has also hit delays in introducing its new promotions. These include a Coles storecard and petrol forecourts on its properties. While both Coles projects have been delayed Woolworths has pushed ahead with its banking enterprise and also now has 300 petrol outlets.

Coles Myer has failed to click and it seems inevitable that it will be dismantled. But the timetable for doing so will be determined by the success Fletcher has in reinvigorating the supermarkets this year. If the company’s food operation cannot keep up with Woolworths then Fletcher might find himself out of a job and Solomon Lew could find himself appointed executioner of Australia’s largest retailer sooner rather than later.