Bunnings Earnings Results

Transcription

1 Bunnings Earnings Results FY 2014/15 Full Year Special Report

2 Both Bunnings and its parent Wesfarmers have produced good results for the 2014/15 financial year. Bunnings grew earnings before interest and taxation (EBIT) by 8.5% (excluding property) over the previous corresponding period (pcp), which is FY 2013/14. For Bunnings the trading EBIT margin was down slightly, as was the percentage of total sales growth for all the stores, but the comp (like-for-like) store growth improved from 8.4% in the pcp to 8.8% in the reported year. Return on capital (RoC) is reported by Bunnings as reaching 33%, up from 29.3% in the pcp. Wesfarmers grew overall revenue by 3.8%, and EBIT for continuing operations by 5.4% over the pcp. Net profit grew by a more substantial 8.3% contrasted with FY 2013/14. The numbers for the fourth quarter of 2014/15 show a slight slackening in results for Bunnings, with both comp sales growth and total sales growth falling by a little more than 1% compared to fourth quarter FY 2013/14. Overall, the results indicate the maturing of the current strategies at Bunnings. Past investments are yielding returns, lifting the overall RoC, but more recent investments may not be providing as rapid a lift to earnings as past expansion has. Comp sales growth in context HNN roughly estimates the background retail revenue growth in the areas where Bunnings trades, based on store distribution and the statistical growth numbers across three ANZSIC retail categories. (See the box on page 3 for further details.) The like-for-like growth rate for Bunnings for full year 2014/15 was 9.7%, and for the fourth quarter of 2014/15 it was 9.1%. As there is a fair degree of variance in these numbers, it s likely that Bunnings declared like-for-like growth of 8.8% is closely tracking the background growth rate. However, the Bunnings number of 7.7% for the fourth quarter likely indicates a small decline in overall market share. Has Bunnings reached saturation? This statistical guesswork intersects with some other issues that have been raised about Bunnings. In particular, Craig Woolford, who is managing director and head of consumer sector research at Citi, released some numbers in March 2015 that indicated the home improvement industry likely had too much floorspace. Mr Woolford s numbers indicated that: Australia has 49 home improvement or hardware Bunnings Earnings Results FY2015 2

3 stores per one million people, compared with 33 per million in the US and 27 per million in the UK This means there is one home improvement store for every 20,338 people in Australia compared with 36,822 in the US and 30,662 in the UK Bunnings has 38 per cent more floor space in Australia than Home Depot in the US Some of the numbers that have arisen from this full year results presentation would tend to support the saturation angle. The decline in like-for-like sales, for example, is likely caused by saturation resulting in a degree of store cannibalisation (intra-company, inter-store competition). Similarly, the ongoing slippage in EBIT margin could be due to saturation, as the sales effectiveness of the stores is blunted by the company competing with itself. While RoC remains healthy and seems to be growing, RoC is as much a historical rather as a present-year performance measure. The Gillam view The managing director of Bunnings, John Gillam, has earnestly disagreed with Mr Woolford s analysis. He did so again during the earnings presentation, with what might be termed some slightly edged responses to some of Mr Woolford s questions. Here is a sample of one question and response session: Craig Woolford - Citigroup Hi guys. I thought I d just have a follow-up. Firstly, in a presentation in one of the strategy days Bunnings called out 10% floor space growth. I think that was FY15 and FY16 and that was measured in square metres. Can you just clarify whether Bunnings achieved that 10% floor space growth? John Gillam - Bunnings Thanks Craig, John here. We got pretty close in that year and we ve not -- there was -- that guidance was provided at that point, I think it was two years ago, just to make sure that people understood the scale of what was coming and that scale of what s coming you ve been able to see in terms of what we ve done with our network and we spoke about today, 30 to 36 stores new Bunnings warehouses and four to eight smaller format Bunnings stores that are coming over the next two financial years with 10 to 14 Bunnings stores every year thereafter is that forecast. Background Retail Sales Growth Estimates HNN roughly estimates the background retail revenue growth in the areas where Bunnings trades. This is done in a series of steps: 1. Work out exposure to each state and New Zealand. An exposure number is generated by taking the store numbers from a year in the past for each region, adding the small format and trade store numbers together, multiplying that by 0.35, and adding the result to the number of warehouses. The percent of exposure for a region is the region number divided by the sum of all the region numbers. 2. Building a composite index per region for the current period and the prior corresponding period using retail revenue statistices, based on the following exposure estimates: Furniture, floor coverings, houseware and textile goods 5.0% Electrical and electronic goods 3.5% Hardware, building and garden supplies 91.5% 3. Subtract the older index from the newer index and divide the result by the older index to derive the proportion of change. 4. Multiply the percent of exposure by the percent of change for each region. 5. Sum the results. Bunnings Earnings Results FY2015 3

4 And we gave also some guidance in the Investor Day around the sort of -- and this is probably relevant for you to get your focus on the years out. We talked about that there was a lot of runway and that by 2019 we could see around 1.5 million households in the Aussie market that had a greater than 20 minute drive to a Bunnings store. So in terms of a couple years ago, just trying to get the scale of what we were going after in people s minds. In a similar way, that disclosure at the Investor Day of our demographic modelling and our network forecasts, and that household penetration with greater than 20 minute drive time. That s a very important disclosure in terms of opportunity for network expansion and that s why it s such an important part of our brand reach agenda within the growth drivers. Craig Woolford - Citigroup Yes just trying to wrap my head around the 10% space growth in square metres, because the store growth on my calculations was about 4.4%. So you know, I guess the conclusion from that is the size of the stores that are opening are just so much larger than the existing fleet. John Gillam - Bunnings No. What we tried to portray at the Investor Day was just how varied our brand reach was and we spoke about the smaller formats and their sizes, we spoke of multi-levels and elevated, we spoke of the warehouse store and what we could do with it and even hybrid sites. So I m sorry that that complexity creates a modelling challenge for you, but I m not sorry about what it does for us commercially because it drives an enormous market capability and gives us huge flexibility to put a very effective business model and a strong offer for customers into all sorts of markets, nooks and crannies. That s one of our real advantages and a real skill of our operational merchandising store dev - visual merchandising and property teams to be able to actually run such a varied network and it makes it very exciting when we think about what we can do with our brand reach. Who is right? At the risk of seeming indecisive, HNN believes that both individuals (and their views) are right in some senses. What is happening is that each is approaching the situation from different backgrounds, and with a different set of expectations. In fact, far from being a disagreement over Bunnings future growth prospects, this is one of the more interesting areas to emerge regarding how Australia is developing as a market, how retail is developing to serve that market, and, fundamentally, what the nature of Wesfarmers will be in the future. Bunnings Earnings Results FY2015 4

5 Understanding how this plays out is also critical to other participants in the hardware industry, whether they are retailers or suppliers to retailers. The analyst perspective: the conglomerate One way to understand what Mr Woolford is saying is to understand that he is expecting Wesfarmers to behave, as it has in the past, as a conglomerate. Another analyst, David Errington of Merrill Lynch, has been making comments for some time, including at this results presentation, that indicate he would prefer for Wesfarmers to stop acting like a conglomerate, and concentrate on its core competencies. The reason for the tension around Mr Woolford s comments has less to do with how Mr Gillam is managing Bunnings, and more to do with how Wesfarmers is seeking to define itself in the market. At the moment, this is as something of hybrid entity, a conglomerate that is pursuing its core competencies. The fear the analysts have is that this kind of hybrid is more likely to experience the downside of both a conglomerate and core competency business, rather than the upside of either. Traditional conglomerates are usually organised to take in a wide range of businesses that respond to different kinds of economic situations. Just as investors diversify their portfolios to reduce risk and increase gain, so these conglomerates look for a business mix that will enable them to maintain steady earnings. In this view, Wesfarmers has actually done not a bad job with its business mix. While it has more retailers than non-retailers, it has achieved one of the key objectives of conglomerates, in that these retailers are, at the moment, contra-cyclical. Coles, its supermarket business, has entered into a tough period of business. It is facing difficulty on two fronts. Its major competitor, Woolworths, has woken up to the competition, and begun cutting prices to compete with Coles more effectively, introducing new margin pressures. At the same time, Coles is facing competition from extreme discounter Aldi. After spending years promoting the importance of price above all else, it has opened the door for an even cheaper store to compete with it. Revenue grew at around inflation, at 2.2%, as compared to 4.5% growth for 2013/14. By contrast, Bunnings has at least for now clearly beaten its newly launched competitor, Masters Home Improvement, in the marketplace. The underlying market is very sound, and likely set to continue to be healthy for the next year at least. In these circumstances, using standard conglomerate management, what Wesfarmers is expected to do is to maximise the returns from Bunnings as much as possible. That would have meant dropping down Capex as low as possible over the past 18 to 24 months, almost halting new store development, and investing instead in productivity and cost savings. Then, once Coles has climbed out of the difficult situation it faces, in another three years or so, the pattern would reverse, and there would be additional investment put back into Bunnings. These are the expectations that are really informing Mr Woolford s comments. When he speaks of saturation in the marketplace, he is not suggesting that Mr Gillam cannot manage Bunnings effectively, or even denying the existence of the kinds of opportunities Bunnings is reaching for in the market. What he is doing is identifying risk. Coles is already subject to a strong risk factor. Making Bunnings equally subject to risk is simply not how conglomerates are expected to behave. The management perspective: core competency Mr Errington has in the past made the case for Wesfarmers to follow its core competencies rather than continue as a conglomerate. He is of the view that the businesses that Wesfarmers has outside retail are essentially loss-making, and represent a poor investment. He restated his case during this results presentation as well, though he did so by asking a question that would appear to be about other matters: Bunnings Earnings Results FY2015 5

6 David Errington My first question is on the industrial businesses. When you look at the second half performance of those businesses, the combined EBIT of the three, coal, industrial services and chemicals, would barely be $150 million, and the majority of that was in the chems and fertz business. The outlook looks as though is that two of those three businesses will probably be in losses in the not too distant future if the current trends continue. And you ve got over capital employed of over $4 billion in those businesses. The question has to be is, will you be hoping to consider an impairment on those assets? (Translation: Seriously? Those companies? ) From an investment analyst perspective, this approach parallels that of the Bunnings management team led by Mr Gillam. Rather than this being a time to throttle back and take profits, for the Bunnings team this is the time to push things further, to build the business out so that it can reap even better profits from more market share across wider categories in the future. It is not so much that Bunnings management would deny or dispute the degree of store cannibalisation that may be occurring. What is important to bear in mind is that this is happening only given the degree of market range penetration the brand has presently. At the Wesfarmers Strategy Day in May, Mr Gillam emphasised very clearly in his comments that Bunnings had built, and was continuing to build, extreme competency in terms of entering new product markets. It is a product micro-management skill set that takes into account not only individual products, but sets of associated products as well, creating buying situations for key markets. One of the markets that Mr Gillam has hinted at time and again is light commercial, which Bunnings is pursuing in part through digital means. It s worth pointing to one of the comments made by a Lowe s executive while presenting that company s first half 2015/16 results in August He noted that one of the key factors in capturing the Pro (trade) market was store proximity. Tradesmen respond to proximity because it costs them money, time and thus profit to have to travel to a hardware store. Building out the stores and creating a comprehensive network is only the first phase of the process. The future For many in the home improvement industry, the prospect of a dynamic, growing Bunnings continuing to build out its capabilities as it expands is somewhat disheartening. It is nearly always the case, however, in business that every capability set comes with some inbuilt weaknesses. If HNN were to point to any particular point of vulnerability in Bunnings we might start with the interesting fact that its website does not host comments. Other than that if we pass over, once again, the lack of e-commerce it is an averagely competent website. But why no comments? Implementing comments is actually not all that hard. You need to hire someone competent to oversee them, along with some extra help, so it would cost around $200,000 a year. In return, you get a much more informative, lively, attractive website. Just imagine what Amazon would be like without comments. The problem, of course, is that people say nasty things in comments. Some of them are untrue, even. And you have to continue to display them. You have to engage, to respond with them. There is something about that which is just antithetical to the core values of the Bunnings culture. It is unacceptable, somehow. But it is also the future. Technology is going to have an increasingly strong presence, not also in home improvement, but especially in home improvement. Will Bunnings be able to make the necessary cultural adjustment to deal with technology at that level? Will it understand the necessity in time? Acknowledgement HNN would like to sincerely thank the share market analysis website Seeking Alpha for having made the transcript of the Bunnings earnings call available, and generously permitting republication of some of this material. It is a great way to support and foster the free flow of company information on the internet. The original transcript of the earnings call can be found on Seeking Alpha at: Bunnings Earnings Results FY2015 6