Could the Woolworths of tomorrow be substantially different from the company it is today, with its stellar food business spun out as a separate listing and even a wholesale exit from Australia?
These are the questions being asked by some fund managers about the future direction of the retail group, with some thinking a separate listing of its blue-chip food business may one day be on the cards, as well as the exit from its David Jones investment in Australia or even from that country entirely.
All Weather Capital fund manager Chris Reddy said he believes the disposal or winding down of David Jones "could still be in the works". Reddy said Covid-19 may have delayed any "due diligence and the like" for now, but this possibility could be on the table thanks to the turnaround at David Jones in Australia.
Reporting results this week for the year ended June 27 2021, Woolworths said it had effectively extinguished its Australian debt and successfully separated David Jones's balance sheet from Country Road's. Previously the balance sheets of the two businesses were linked, meaning that whatever happened to David Jones affected the fortunes of Country Road.
Over the years David Jones has been a major drain on Woolworths, with the group having impaired R13bn of the R21.4bn it paid for David Jones in 2014.
Reddy said here in SA there have also been "comments in the press about potentially splitting Woolworths Food" from the group's fashion, beauty and home division, to becomea "separate business".
The strength of the food business was highlighted this week when Woolworths reported that turnover and concession sales for the current year in that division "grew by 6.9% and by 5.7% in comparable stores". Woolworths Food "grew both market share and volumes during the period despite the high base set in the prior year driven by stockpiling ahead of the first lockdown".
Woolworths SA CEO Zyda Rylands, who is stepping down to take early retirement,agreed to defer her departure and will head Woolworths Food until she leaves in 2024.
Reddy said that apart from the potential development of Woolworths Food being separated, the "biggest opportunity" for Woolworths in terms of growth potential is its fashion, beauty and home division "because they are working off such a low base".
A July research report by analysts Rod Salmon and Chris Gilmour at Salmour Research recommends that "Woolworths management should exit Australia, not just David Jones", and "demerge the food and clothing divisions in South Africa into separate companies".
"The real beneficiary of this would, in our view, be the shareholders, which over the past five years have experienced substantial value destruction," says the report.
"We believe that Woolworths Foods, as a separately listed entity, would, with a higher operating margin and a unique position protected by high barriers to entry, have a higher rating than its peer group, being Pick n Pay, Shoprite and Spar," the report sayss.
Woolworths Group CEO Roy Bagattini said the group does not "typically comment on speculation", but he indicated there are no plans on the table to break up the group, saying Woolworths' focus "absolutely remains playing with the cards we've got and making them as strong as possible a hand".
As far as David Jones is concerned, Bagattini reiterated what he has said previously: the group is "not wedded to an outcome" when it comes to options for the business.
"At the right time we will inform the market on where we want to take the business, but not now," he said.
"Speculation around Woolies Foods has also been there for a little while and I can understand it, but we wouldn't be having this conversation if the FBH (Fashion Business Home) business was firing on all cylinders and if we were turning in the types of performance I think that business is capable of.
"The fact that we have this integrated, unique proposition of fashion and food under one banner at this end of the market, I think is a significant opportunity to grow and to exploit where we think there are further growth opportunities.
"Our focus is clearly on getting this FBH business, this fashion business, to start humming again and we've done a lot of things over the past 12 months and they continue and we are hitting the milestones we have set ourselves," said Bagattini.
Some of the changes made in FBH include shifting the division's focus to "athleisure" and casual wear, while still offering - albeit at a reduced level - formal wear.
Woolworths is also bringing in guest brands such as Levi jeans, but these will not form more than 10% of total volume in-store and will be sold in selected stores based on demand.
He said the group will continue to consistently grow the food business, which is its engine, ahead of the market as the group has done in past years.
The FBH division represents an opportunity because of the low base in this business, he said. "That division is trading at return on sales or ebit [earnings before interest and tax] margins of 6% to 7%, which at the moment is not that encouraging. However, we have intent and we've given out the guidance that we think we can get that beyond 12%," said Bagattini.
"Within that and given the scale of that business, it does have a material impact on the profitability of the company and the value of the company."
One analyst who does not see the Woolworths group breaking up over the next few years is Alec Abraham, senior equity analyst at Sasfin Wealth. "I still see Woolies together. I don't think there will be this massive break-up of the business.I think Roy [Bagattini] will give himself a lot more credit for fixing the business rather than just throwing in the towel and just breaking it all up and selling it in different parts.
"Personally, I think management will continue to have a go at this and fix the business rather than just break it up and sell it off."
Abraham said that there are definitely "plausible arguments" to be made about splitting up Woolworths and even exiting Australia because there are not any synergies between the various segments, but "the execution of a break-up of this type of business would be very difficult, especially finding buyers. The other thing is, I'm not convinced that food is big enough to be on its own."
Abraham said that overall, Woolworths has done a "huge amount of work in getting the gross margin better, getting the costs base down and getting the debt down".
Woolworths, even though it reported this week that "trading conditions over the financial year are not directly comparable to the prior year, given the extensive impact of the pandemic", announced a strong set of results with group sales increasing by 9.7% to R85.9bn, adjusted profit before tax rising 110.7% to R4.6bn and headline earnings per share up 212.5% to 374.4c.
Overall net debt at Woolworths Group was slashed by more than R10bn, or 91%, to R1.1bn, putting the group in a sound position.
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