Has Kmart, the Wesfarmers category killer, lost its mojo?

 afr.com  01/14/2019 06:09:00 

Target performed twice as well as Kmart 10 years ago but it lost its mojo under a succession of different managing directors.

Under Russo, Kmart went from being a virtual basket case to the most successful department store in the country and one of the most successful discount department stores in the world.

Between 2012 and 2017 Kmart more than doubled earnings before interest and tax to $553 million from $268 million. Its return on invested capital jumped to 38 per cent from 26 per cent over the same period.

In January 2016, Wesfarmers created the department stores division through the combination of Kmart and Target. The expanded operation was put under the management of Russo, who retired in November last year.

Guy Russo once was all smiles. That may have changed with today's profit warning.  Wayne Taylor

The first warning sign that Kmart was losing momentum came at the annual meeting in November when Wesfarmers chief executive Rob Scott said certain one-off items and seasonal factors had affected sales.

"Our department stores business continues to grow volumes with Kmart reinforcing its strong value and product development credentials while Target is showing improved sales momentum in key categories," he said.

"Kmart's sales growth has moderated since last year, particularly in apparel which was impacted by a later than expected start to spring, delaying sales of summer product. The exit from low margin DVD and music products also impacted sales growth during the quarter."

On Monday, Scott said first half sales in Kmart (excluding Kmart Tyre and Auto Services) increased by 1 per cent, with comparable sales declining by 0.6 per cent.

He said Kmart sales growth during the period was impacted by: the planned exit from the low margin DVD category that previously accounted for approximately one per cent of sales; weaker sales in apparel categories, particularly in womens wear; moderated growth in everyday products compared to the 2018 half-year, which saw significant growth in units stimulated by strong price investment."

In other words Kmart pulled back the lever on price discounting and paid the price for it.

The market had expected the department stores division to earn about $450 million EBIT in the half year to December. It will now be in a range of $385 million to $400 million. At the lower end that is a 14 per cent profit downgrade.

The overall Wesfarmers group will see its profit fall by about 2 per cent in the half year, all things being equal.

Wesfarmers shares, which fell 2 per cent to $31.11, were among the most heavily traded in terms of number of trades and value of stock traded. This suggests retail investors were selling stock through online trading platforms despite the prospect of a 70c a share capital return later this year.

The sellers were clearly ignoring advice from the chairman of Wesfarmers, Michael Chaney, who told the annual meeting not to focus on short term earnings.

Chaney said the Wesfarmers board would not be influenced by the "obsessive focus" by many investors, analysts and journalists on short term profit growth.

He said the board and management were "focused on wealth creation for shareholders over the long term, not the short term".

"That means we may make investments that take a while to generate good returns and that our short-term profit growth may not be what some analysts or journalists demand," Chaney said.


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