The Shoeshine Column: The Warehouse shrugs off its dollar doldrums but tricky bit still to come

Friday 27th October 2000

The Warehouse managing director Stephen Tindall can be grateful for small mercies. The slide in the value of the New Zealand dollar has helped the company to secure a place on Forbes Global magazine's latest 300 Best Small Companies list, which should help bring the Big Red to international investors' attention.

One of Forbes' selection criteria is companies must have revenue of less than $US500 million. At an exchange rate anywhere above 45.2USc The Warehouse's July-year $1.1 billion turnover wouldn't qualify. Right now, of course, the kiwi is struggling to keep its nose above 40USc.

Another of the main criteria is companies must have had sales and earnings growth of at least 15% over the past three years, a condition The Warehouse meets comfortably. In fact, its average annual sales growth since 1997 has been 20% and its net earnings growth 26%.

Many analysts expect more of the same over the next three years. Merrill Lynch, for instance, forecasts net earnings will rise from this year's $70.1 million to $86.8 million in 2001, $106.6 million in 2002, and $128.2 million in 2003.

And that's without factoring in much of a contribution from Australia, which, Tindall has warned, won't kick in for at least two years.

It doesn't really have to. Analysts' bullish forecasts are based on the consistent ebit (earnings before interest and tax) margin growth the company has achieved, come rain or shine.

In New Zealand that will presumably come to an end eventually. You can build only so many big red barns per head of population and Tindall has said saturation point will come around 2004. Even so the stores have been stocking an ever-growing array of goods and there's no reason that shouldn't carry on.

In the short term, however, there's that drooping exchange rate to deal with.

The company said in August, when the kiwi was worth around 44USc, that it had about six months' cover, taking it out to February.

Although a fair bit of its merchandise comes from Hong Kong or China its currency exposure is hedged against the US dollar anyway. That raises the question of whether its margins will get clobbered hard in four months' time. The answer is, probably not.

The Warehouse's modus operandi is to give its buyers a targeted budget set at a New Zealand dollar price point. This is reviewed quarterly in the light of the company's expectations of where the exchange rate is headed.

In other words buyers shop around for a supplier who can provide them with X amount of widgets at a fixed New Zealand dollar price. If they can't achieve that they don't buy.

Forward exchange cover is taken out accordingly. The percentage of cover has varied between 30% and 75%.

Nothing, of course, is foolproof and it isn't feasible to hedge yourself 100% all the time. Tindall has already warned prices are going to have to rise.

But The Warehouse's system looks as good as any. In 1998 the dollar fell all year but the chain's ebit margin suffered only slight damage, and partly for other reasons.

The greater risk is on the demand side. A doubling of petrol prices and hikes in tobacco prices have shrunk Jo Blow punter's pocket, suggesting this Christmas might not be the best retailers have ever had. Not, on the face of it, a great time to be passing on higher import prices to consumers.

Again, The Warehouse has shown a lot of resilience when consumer times are tough. When money is tight people tend to trade down and look for bargains.

The big question further ahead is whether the retailer's relative indifference to exchange rate fluctuations and consumer confidence will work in the Australian market.

With a market five times the size of New Zealand's that's where the company's future growth lies but cracking it will be a tricky business.

The company paid $A105 million last June for an operation with turnover of $A300 million and ebit of about $A15 million.

The 130-odd Clint's Crazy Bargains and Silly Solly's stores are being steadily rebranded with The Warehouse's name and colours.

The vendors get a further $A24 million if they meet ebit targets of $A20 million by 2003 and $A30 million further down the track.

Those are modest enough targets by The Warehouse's standards but Australian retailing is notoriously tough. That's partly because consumers in different states have different tastes and shopping habits.

Recognising this, Tindall has left Australian David Rickards in charge of operations as chief executive. In overall charge is Greg Foran, a New Zealander with Australian retail experience.

Tindall has acknowledged there is a lot of work to be done getting Clint's store formats, buying and hedging practices, and inventory management on a par with the parent company's. Work has already begun - a couple of weeks ago Clint's announced a new $A6 million distribution centre in Brisbane

In the meantime brokers say the higher-growth profile has started to attract the interest of fund managers from as far afield as the US. The planned listing on the local exchange later this year will also give the stock higher visibility among Australian managers.

The Warehouse joins Telecom, Lion Nathan, Carter Holt Harvey, Baycorp, Tower, Nuplex and others on the Australian expansion trail. As one broker recently put it, "if the two exchanges don't merge soon the corporate sector will have done it for them."

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