Concerns continue to haunt Masters

mastersWoolworths is taking some of its own medicine from arch rival, Wesfarmers, in the hardware business with the Masters Home Improvement chain accumulating heavy losses and struggling to gain momentum against Bunnings.

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Woolworths has changed the leadership of Masters as it faces the prospect that its US-based joint venture partner, Lowe’s, will exercise an exit option from its 33 per cent stake in the fledgling Australian hardware chain.

Lowe’s rolled over a put option on its stake last October when it was valued at $631 million, but may well opt to quit its stake with a payout from Woolworths of up to $800 million next October if Masters continues underwhelm.

There are rumblings in some retail quarters that Woolworths itself may decide to abandon the venture if can’t make headway and improve profitability and return on investment.

While Woolworths’ Dan Murphy’s led liquor division has been thumping Coles’ liquor for more than a decade, Australia’s biggest retailer has learned with its hardware venture just how difficult it is to gain traction against an established clever competitor.

In the first half of the current financial year, Masters lifted sales by 49.4 per cent to $393 million after opening seven new stores for a total of 38.

Woolworths did not disclose the comparable sales performance of stores, though 12 of the 38 stores are yet to cycle a full financial year.

In real terms, Bunnings posted a stronger trading performance in the first half, lifting sales by 10.4 per cent to $4.4 billion with like for like revenue growth of 7.2 per cent across a mature, but still expanding, network of 318 stores.

Masters is aiming for 90 stores within the next two and a half years and has 11 openings scheduled in the current half, but Bunnings has blunted the rollout with its own aggressive new store opening program which added 14 stores in the first half to the Woolworths chain’s seven stores.

In the current half, Bunnings is scheduled to open 10 new warehouse stores, compared to the Masters’ 11.

Grant O’Brien, Woolworths CEO, says the hardware business “remains in its development phase, with our stores having traded, on average, for 15 months”.

O’Brien says around half of the stores opened over the last 12 months are in regional and future growth areas which will take longer to mature and will have sales below the long term group average.

The skew in the store rollout program underlines the difficulty Masters has had in securing planning and development approvals in metropolitan areas and competition for suitable sites from other retailers, including Bunnings.

Increasing sales per store remains a key focus, but despite Woolworths confidence that the venture will break even in the 2016 financial year, the chain is continuing to haemorrhage in terms of profitability, notwithstanding that the fixed overhead costs of the business are spread over a greater number of stores.

bunningsHampered by rival

Woolworths’ ambitious plans have undoubtedly been dented by the aggression of Bunnings, the stabilisation of the Mitre 10 independent hardware chain under the ownership and control of Metcash, and challenging, fiercely competitive trade and retail markets in the past three years.

Woolworths remains bullish about the prospects of Masters, but financial and retail analysts are less enthusiastic.

Masters has appointed a new MD, Matt Tyson, who has built home improvement chains in  the UK, France, China, and Russia.

Tyson, who ventured in hardware retailing with UK chain, B&Q, after an initial stint in supermarkets, started work at Masters this month.

Woolworths claims Tyson has filled the role of Don Stallings, the Lowe’s executive who returned to the US in June, leaving COOO, Melinda Smith, to assume day to day control of the Masters.

The management of the hardware venture has been one of the reasons analysts have been negative about Masters, with a briefing by Smith last July, three weeks after Stallings departure, leaving them perplexed about the financial metrics and Woolworths’ understanding and competency in hardware retailing.

Smith pointed out that real losses for the chain were $40 million higher than the published figures because $40 million in lease costs had not been included in the $157 million loss reported for the 2013 financial year.

She also conceded that sales forecasts had been too optimistic – wage costs were higher than expected and gross margins lower.

Masters also admitted it has had inventory management problems from the outset and had to make changes in its replenishing systems and supply chain model.

In a bid to bolster confidence in the hardware venture, Julie Coates, MD of Big W, has been joined the Masters board alongside O’Brien and Woolworths finance director, Tom Pockett.

The appointment of Tyson is another move by Woolworths to boost the credibility of Masters, with the retailer turning to a UK retail executive with experience in challenging markets rather than recruiting or seconding another executive from Lowe’s, its US joint venture partner.

On leaving Australia, Stallings said the fact there would be no local Lowe’s representative was not an indication the US backer had lost interest in the Australian market or was planning to sell its one third stake.

Tyson contends Woolworths’ projection that the chain will break even in the 2016 financial year is achievable, but Citigroup analyst, Craig Woolford, estimates sales per store will need to increase by 24 per cent in the next two and a half years to achieve this.

In 2013 the average loss per store was more than $15 million, and some analysts estimate it will have accumulated losses of $800 million or more by the time it hits breakeven for a full trading period and, potentially, a commitment of a similar amount to buy out Lowe’s as early as October.

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