Investors played it cautious in their reaction to the annual investor day briefing from Wesfarmers yesterday, seemingly preferring to see the company’s results in August before placing any lasting value on the information yesterday.
After the shock of the $2.3 billion of impairments, losses and write-downs for Target and the Curragh coal mine assets in Queensland in May, investors are very wary of Wesfamers.
Coming after the Target profit fiddle, which was not picked up by management (it will have no impact on the results, but is a blow to the company’s credibility), yesterday’s briefing assumed greater importance for the company and managing director Richard Goyder.
Wesfarmers shares eased 0.6% to $40.34 yesterday. They have underperformed since the Target and Curragh losses statement was issued in late May.
In fact the shares are down nearly 5% in the past month (the surprise loss statement was made on May 25). The ASX 200 is down around 0.8% in the same time.
So yesterday’s speech to start the briefing from Mr Goyder was important, but the details of the financial results for the year to June 30, and the outlook for the coming year remain more important for many investors. They know the problems and want to know the company’s solutions.
At the same time the company is moving into the home hardware business in the UK, a move that some are worried about given the weak performance of Target and poor management oversight in recent years.
Mr Goyder said yesterday while Wesfarmers is aiming to deliver long term shareholder returns in the top quartile, he concedes that returns had been dented in recent years by the underperformance of Target and a slump in profits in coal.
“Clearly we’re not happy with the performance of Target and resources," Mr Goyder said in his opening remarks yesterday.
"Coal is difficult and challenging for us now but it’s been a good investment. We’re not going to do something that would lance it now but destroy shareholder value in the process," he said.
"We are and have been looking at all strategic options … in the interests of improving returns for shareholders."
Wesfarmers will invest between $1.3 billion and $1.4 billion in net capex in 2016 – in line with its original forecasts – as Coles ramps up its attack on
Woolworths, Bunnings expands into the UK and the conglomerate steps up efforts to turn around Target.
Mr Goyder said Wesfarmers would take a disciplined approach to capital management after outlaying an initial $658 million for hardware chain Homebase earlier this year and spending a record $700 million in capex at Bunnings’ existing business last year.
"Having a robust financial capacity is very important and just as important now as ever," Mr Goyder said.
"Wesfarmers has always had financial discipline, we have a strong cash generative portfolio and a balance sheet that enables us to take advantage of opportunities such as Homebase and that will enable us to take advantage of opportunities in the future.
"We have a return on capital focus and look at capital employed on a daily basis and manage cash carefully. We are very disciplined about capex, our balance sheet is strong, our credit rating is important to us and something we pay a lot of attention to,” he said.
In a later briefing Coles boss John Durkan warned that the recent good growing conditions (which have driven down fresh fruit and vegetable prices in recent months) may not last – a statement of the bleedin’ obvious.
Mr Durkan told the briefing that there was a “raft” of fruit and vegetables coming onto the market at the same time, with supply overtaking demand to trigger deflation.
Consumer price growth fell well below the Reserve Bank’s target band in May, with a sharp 4.1% fall in the price of fruit and vegetables.
“What we have seen in the last quarter is unprecedented growing conditions in Australia, in particular in bananas," Mr Durkan told analysts yesterday.
"The natural supply and demand is driving prices down. That will subside. I don’t know how many weeks it’ll take, but it will subside."
He said the “elevated deflation in produce presents a headwind in the short term”, while in the Coles Express business, “comparable fuel volumes are expected to normalise throughout 1H17”.
But what he didn’t mention is that the good growing conditions are symptomatic of the end of the El Nino dry period – we saw it in 2009 and 2010.
But it was broken by the heavy rain in Queensland in late 2010 and early 2011, the Brisbane and other floods in Victoria and parts of NSW and several cyclones (Cyclone Yasi damaged Queensland’s banana crop).
Cyclones in Queensland also disrupted the supply of fruit in 2006 (Cyclone Larry especially damaged Queensland’s bananas crop and drove up prices and the CPI).
With Australian moving out of El Nino and into a La Nina wet period, weather will again play a big role in pushing up the prices of fruit and vegetables. The severe East Coast low three weeks ago was an early warning shot for growing areas along the East Coast and Tasmania.
Wesfarmers’ credibility problem was best seen in the Target briefing delivered by the newish Department Store boss Guy Russo, the former Kmart boss, but now in charge of the combined group of Kmart and Target.
Mr Russo confirmed Target will lose $100 million in the second half of 2016 and has to sell $100 million in excess inventory which hasn’t even landed in Australia yet.
He said that when he took control, around one third of Target’s 306 stores were losing between $1 and $2 million a year, one third were breaking even, and one third were making money.
“I’ve got a profit problem,” Mr Russo said. “I’ve got $3.4 billion worth of revenue and giving none of that back to anyone. Step one, you take $1 through the till, you’re meant to give five cents back to someone. Not zero or negative."
Mr Russo said he was confident Target could be coaxed into 10% profit margins: “That’s what I get paid to do”.
This extra cost will be in the December half year, meaning more pressure on Target’s performance and results. It might be 12 months before shareholders see any sign that Target is emerging from its problems.
This means Mr Russo will have his hands full trying to improve Target.
The excess inventory is in addition to an already announced $80 million cost of marking down inventory currently in stock.
