The discount department store challenge

kmartAs Woolworths and Wesfarmers look to reinvigorate their discount department store chains, the task is only getting tougher for DDS operators.

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They were once the elite and invincible destroyers of the retail battle fleet, much more nimble than heavyweight department stores and boasted superior firepower to the specialty chains.

They were ideally suited to ever-expanding suburbs of brick veneers, a bookend anchor to full line supermarkets in sub-regional shopping centres.

However, for several years now, the discount department store chains have been ‘all at sea’, with sales earnings and market share declining as they increasingly get buffeted by newer, more nimble retailers and the seemingly nuclear powered Bunnings Warehouse.

At various times, one of the three discount department store chains has performed better than its two rivals.

Initially, Target ruled the waves, then Woolworths’ Big W swamped both of the Wesfarmers chains, before Kmart emerged more recently as the strongest performer.

The category performance has under-performed so badly in recent years that both Wesfarmers and Woolworths have given serious thought to divesting the lumbering chains.

There are some common factors in the problems that have beset each of the discount department store brands, but there are also some factors that have been of each chain’s own making.

Target

For Kmart and Target, a key issue has been flirtation with different store formats that have operational complexity and customer confusion about the brand promise.

Kmart has twice toyed with a Super Kmart model, while Target has attempted to juggle a smaller store Target Country model in a revamp of the former Fosseys softgoods stores and Urban by Target, an inner city fashion concept.

Kmart has also waxed and waned between steroid use of promotional bins and signage and a cleaner look, as well as various forays into food lines.

Kmart’s business model has arguably been the hardest hit by newer competitors. In the 1980s, Kmart reached a ratio of around 70 per cent male customers to 30 per cent female, the almost exact reverse of Target’s customer profile.

It is not surprising then that Kmart struck serious trouble when its Wesfarmers stablemate, Bunnings Warehouse, started to lure away its customers for paint, garden and other hardware and home improvement lines.

At the same time, Super Cheap Auto was savaging Kmart’s automotive accessories department and JB Hi-Fi was similarly cutting into entertainment ranges, Toys-R-Us into toys and The Reject Shop and now vanquished discount variety chains like Go-Lo, Crazy Clark’s and Sams Warehouse.

Flicking Target

Target’s problems were more of its own making and can be traced back to a disastrous two-year period when an American retailer, Warren Flick, was recruited by the then Coles Myer to beef up sales for the two discount chains.

Flick’s management strategies hurt Kmart, but did much more serious and long-term damage to Target.

Target’s positioning was strong as a value fashion retailer. Flick started to import apparel ranges from Asia that were developed for the North American market, bruising relationships with local suppliers and leaving shoppers bewildered by sizing and seasonal mismatches.

When Target’s bottom line suffered directly as a result of Flick’s follies, he audaciously took a cap around to local suppliers asking them to chip in to prop up profits, the same suppliers elbowed aside for the Federated Department store ranges that took up their former shelf space.

Following Flick, there has been a procession of international retailers occupying the MD’s chair at Target, with only Launa Inman and Stuart Machin making much headway in trying to restore Target’s integrity as a destination for fashionable clothing and homewares.

Both MDs have used leading international designers to create signature fashion ranges in a bid to re-establish its market positioning, but with limited success.

As with Kmart, Target has felt the chill of competition, which has actually included both Kmart and Big W, but more so Myer, Best & Less, Harris Scarfe, Baby Bunting, the now vanquished Mothercare as well as internet retailers.

Big W’s current problems result from the same overall competitive squeeze as well as supply chain problems and an expansion spike that boosted sales initially but provided virtually no gain in earnings because of over-capacity in the category and the fact Woolworths store locations were often inferior to those occupied by the well established Kmart and Target.

Former Oroton CEO to drive Big W turnaround

Woolworths has agonised over whether or not to divest Big W along with Masters Home Improvement and last year considered a tie-up with a private equity investor who could bring new capital and turnaround expertise to the table.

Woolworths has instead recruited Sally Macdonald as CEO of the 190-store BIG W chain, which suffered a 5.7 per cent fall in sales to $4.1 billion for the 2015 full financial year and a 25.3 per cent free-fall in earnings to $114.2 million for the same period.

BigW

The result was struck on less than flattering sales and profit tallies in the 2014 financial year and the latest half ended January 3 shows no sign of a quick fix with earnings down a further 38.7 per cent to just $67.3 million on another 3.9 per cent decline in revenues to $2.27 billion despite relatively buoyant Christmas sales.

An external candidate, Macdonald was an interesting choice as CEO to replace Alistair McGeorge, who returned to the United Kingdom in August last year after some 16 months in the chair and following a staff complaint and little evidence of a successful future under his stewardship.

Macdonald has been credited with the turnaround of the Oroton Group, having divested three businesses, launched and developed its online offer and expanded into new product categories and overseas markets.

While Woolworths has heralded McDonald’s strong knowledge of retail and consumer branded markets, online experience, management record in category development and business simplification, Oroton’s luxury brand specialty retail experience is a world away from the crowded mass merchandise battleground of Big W.

Macdonald shares a resume credit with new Woolworths CEO, Brad Banducci, as a former consultant with The Boston Consulting Group, and now both face significant challenges to fire up the Woolworths and Big W brands in fiercely competitive markets.

The appointment of Macdonald surprised many industry pundits, but it is worth remembering that Guy Russo was an unlikely choice by Wesfarmers to head Kmart given his management credentials were essentially forged with McDonalds in the take away food market.

Russo was appointed as MD of Kmart in 2008 after Wesfarmers decided to retain rather than jettison the then struggling business.

The turnaround for Kmart required considerable patience from Wesfarmers as Russo revamped and streamlined merchandise ranges and built an everyday low prices positioning. But the chain is now repaying that patience.

In the 2015 full financial year, Kmart lifted earnings by 18 per cent to $432 million on an 8.2 per cent lift in sales to $4.55 billion.

Kmart has maintained a strong growth record in the half-year ended December 31, 2015 with profits up 10.4 per cent to $319 million on a 12.6 per cent gain in sales to $2.75 billion.

Kmart’s sharper market positioning and focused range and price strategies have propelled the chain to the top of the discount department store category but the question remains whether or not the category itself is over-capacity and three brands can all succeed.

DDS category under pressure

While the three chains can improve their operational capability, the category itself is still being squeezed by other retailers with strong brands and retail offers and scale, including retailers such as Bunnings Warehouse, JB Hi-Fi, Supercheap Auto but also the grocery general merchandise formats of Aldi and Costco.

Macdonald is implementing a business transformation strategy that will need to be revisited with Woolworths exit from Masters Home Improvement and in response to manoeuvring by the two Wesfarmers chains that, in response to the category challenges, are being merged into one business operation under Russo.

Screen Shot 2016-03-08 at 4.36.11 PM

Kmart MD, Guy Russo and Big W CEO, Sally McDonald

 

Wesfarmers wants to take costs out of the business, sharpen the market positioning of Target, improve product sourcing and ensure the right stores are in the right markets both in terms of the Target and Kmart brands, but also the size of stores.

The property teams from both chains have already been assessing the combined footprint of around 500 stores and, although both brands will be retained, rationalisation could occur along with conversions to alternate branding.

Target MD, Stuart Machin, who took over the trouble chain after a very successful stint in chief operating officer in the Coles supermarkets business, is expected to stay with Wesfarmers in a senior role.

Machin’s turnaround strategy for Target will be reviewed but it has at least steadied the ship in the past 18 months with 2015 full-year sales down 1.8 per cent to $3.44 billion but up in the latest half to December 31 2015 sales up 1.9 per cent to $1.97 billion.

Profits were up 4.7 per cent to $90 million for FY2015, albeit on sickly figures for the 2014 financial year, but with a more positive ring for earnings in the first six months of the current financial year with a 5.7 per cent lift in profits to $74 million.

The merger of the back office of the two Wesfarmers chains makes sense, provided Russo can achieve the brand differentiation to develop a robust customer franchise for each business. But the merger certainly creates a greater challenge for Macdonald as she attempts to rejuvenate sales and earnings at Big W.

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