Cash to burn from Coles

Share buyback looks likely Wesfarmers strategy

WESFARMERS does not appear afraid to shrink in order to boost shareholder returns and will be well placed to pull the trigger on a $3.5 billion share buyback following the Coles demerger, analysts have said.

Target is also likely to shut 46 stores and convert another 11 into the Kmart format as it attempts to transform into a mid-range fashion destination aimed squarely at H&M, Uniqlo and Zara.

The investment community has delivered a generally positive reaction to the first Wesfarmers strategy day held by chief executive Rob Scott.

Perth-based Wesfarmers owns Coles, Bunnings, Kmart, Target, Officeworks and a range of resource, workwear and industrial businesses.

It is in the process of spinning off Coles into a separate company listed on the local bourse and has called time on its failed Bunnings experiment in the UK and Ireland.

Both moves will give Wesfarmers the cash to either engage in deals or boost returns to shareholders.

Citi analyst Bryan Raymond said Mr Scott’s strong comments around spending control indicated Wesfarmers’ new chief was tilting towards returning cash to shareholders.

“Management has watered down expectations of imminent merger and acquisition activity,” Mr Raymond said in a note to clients. “Wesfarmers has consolidated its portfolio of businesses over the past six months and is messaging to the market a clear focus of capital discipline.”

Mr Raymond said Wesfarmers appeared well placed to undertake a $3.5 billion buyback – buying its owns shares to lift their price – and remain in line with credit rating thresholds when Coles was spun out next financial year.

Alternatively, it could fund a $5 billion acquisition without the need to raise new equity or breach its credit rating metrics, Mr Raymond said.

The decision to remove 20 per cent of Target’s unprofitable selling area over the next five years was equivalent to about 57 stores, he said.

Offsetting this, Citi expects 11 of these to be converted to the Kmart brand.

Mr Raymond said a plan by Coles to have its own privatelabel range of goods account for 40 per cent of sales by 2023 could backfire.

“We think that the shoppers’ brand preferences will be further eroded at a 40 per cent penetration,” he said. “This will reduce differentiation with Aldi and could result in lower sales productivity.”