"Mr. Ruthless" Returns to Lead Supermarket Spinoff to Long-Term Growth
Steven Cain was fired from Coles Group Ltd (CGJ AU) back in 2003 for his aggressive strategies (earning him the nickname "Mr. Ruthless"). However, now that CGJ has stiff competition and needs growth initiatives to boost its market share post-Spin from Wesfarmers Ltd (WES AU), he's back at the helm and ready to implement the very same changes he tried introducing 14 years ago.The Edge View (WES AU, Parent)...
Currently the 7th largest company in Australia, the conglomerate Wesfarmers Ltd. (WES) is all set to Spinoff its supermarkets business, Coles Group Ltd. (CGJ), (the 2nd largest supermarket chain in Australia) which over the decade has been dragged down by fierce competition and bureaucratic inertia and now needs a complete overhaul. For this task, the management have re-appointed Mr. Steven Cain in March 2018, popularly known as “Mr. Ruthless†as CEO of the Coles (Spinoff). Interestingly, he was with Coles Group way back in 2003, but got fired 14 months in due to his aggressive steps such as implementing Australia’s first self-scanning checkouts, which led to job losses and suppliers constrains at that time. However, with the increase in competitiveness over the years, Coles (Spinoff) now needs the exact same thing he tried implementing and was criticized for 14 years back.
Before joining CGJ, Mr. Cain was with Metcash Ltd. (MTS AU), a A$2.6bn market cap wholesale distribution chain in Australia as Head of IGA stores for 3 years (from Jul 2015 to Mar 2018), where his efforts led to tripling (2.9x) the share price of MTS compared to moderate index return of 8.5% over the same period. Now with Mr. Cain back in charge and over a decade of experience since his removal, we see Mr. Cain as a catalyst to help speed up the three strategic reforms: (i) overhaul of the key loyalty program flybuys- to bring additional revenue in the near-term (ii) a shift towards every-day low price model from promotional discounts in the fresh food business- will take on non-supermarkets fresh food revenue (iii) a A$700m investment into the automated distribution centres- this will lower the operating cost thereby improving margins in the long run.
On the other hand, post-Spin, WES (Parent ex-Spin) will be positioned as a high margin conglomerate business with FY17 EBIT margin of 8.7%, compared to the low-margin profile of 3.8% at CGJ (Spinoff). Moreover, WES is already in the process of divesting non-core businesses such as the sale of a 40% stake in Bengalla Coal Mine for A$840m (completed), the sale of K-Mart Tyre & Auto Service for A$350m and the sale of its 13.2% stake in Quadrant Energy for A$293m ($170m), all announced in August 2018. Further, we believe that WES (Parent ex-Spin) could divest/sell its Industrial division (FY18 sales of A$4.0bn) to focus on its three core businesses (i) Bunnings (a chain of hardware retail stores), (ii) K-Mart (departmental stores) and (iii) Officeworks (office supplies stores). This divestiture/sale would enable WES (ex-Spin) to position itself as a pure play, consumer focused entity free from the cyclicality of industrial business.
The Edge View (CGJ AU, Spinoff)...
With the winds of transformation in sight, we see Coles (CGJ - Spinoff) positioning itself as a future ready supermarkets chain. With a significant A$700m investment in the automated distribution along with flybuys overhaul, these transformations will help improve its EBITDA margins towards 5.9% by FY21E from current 5.2% in FY18. Having said this, these strategic reforms will take time to translate into the financial performance of CGJ. Additionally, the share price of WES (Combined) has already moved up by 21.6% Vs. index returns of 10.5% since the announcement of its Spinoff on March 16, 2018, thereby limiting further upside. Moreover, we see Coles (CGJ - Spinoff) offering a more compelling investment opportunity over its Parent, WES (ex-Spin) considering its potential strategic transformation under Mr. Cain’s leadership.
Wesfarmers is engaged in the retailing operations including supermarkets, merchandise and department stores, fuel, liquor and convenience outlets; retailing of home improvement and outdoor living products and supply of building materials; retailing of office and technology products; coal mining and production; gas processing and distribution; industrial and safety product distribution; and chemicals and fertilisers manufacture; and investments. Co.'s retail operations includes Coles, which operates Coles Supermarkets, Coles Express, Liquorland, Vintage Cellars, First Choice Liquor, and Spirit Hotels, among others; while its departmental operations include Kmart and Target retailers.
The Edge Group - Global Fundamental Catalyst Investing. The Edge provides investors with access to hidden corporate value from Global Special Situations using a pioneering approach to investments. Founded in 2005 by fund management and investment banking professionals to provide high quality, private equity-level research on Global Corporate Divestitures for the benefit of fundamental event-driven, growth and value-oriented investors in this difficult to track, but proven investment space.
The Edge will look to screen and analyze include Spinoffs; Reverse Morris Trusts; Squeeze Outs; Privatizations; Demutualization; Deep Discounted; Rights Issues; Rights Offering; Restructuring; Insider Purchases / Buying Change of Management / CEO Change; Deteriorating fundamentals; Post-Bankruptcy; Reorganization; Tender Offer; M&A Deals; Secondary Offering; Share Swap; Thrift Conversions; Share Buybacks; Activist; Mergers. All analyzed from a fundamental point of view.
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