Warehouse eyes costs, better products as it targets earnings growth

Warehouse Group is turning its focus to reducing costs and improving its products and productivity as it seeks to get a return from its increased spending on the business.

The Auckland-based company today lowered its forecast for annual profit after first-half earnings fell, prompting it to renege on its dividend pledge. The company's shares dropped 4.8 percent to $2.77, making the stock the biggest decliner on the benchmark NZX 50 Index today.

Warehouse shares are rated an average 'sell' and have shed 23 percent of their value over the past year as analysts and investors say they want the company to start producing profit growth after spending hundreds of millions of dollars overhauling stores and buying new businesses the past few years. Chief executive Mark Powell, who has led the spending programme after taking over almost four years ago, previously expected annual profit growth to resume this financial year.

"We have done a lot of investment, we have changed the shape of the group considerably and we have got a base there now to deliver, but we do need to deliver that profitable growth and that's well understood," Powell said on a conference call today. "We fully understand that the translation into profit growth needs to come."

Warehouse, which gets the bulk of its earnings from its 'red shed' general merchandise stores, bought 11 businesses over 18 months as part of a plan to grow the 'non-red' side of the business to be as large as the red sheds. That saw it add technology and appliance retailer Noel Leeming, sports chains Torpedo7 and R-R Sports and finance company Diners Club NZ.

It also stepped up investment in its 92 'red sheds' stores, embarking on a plan of store refits, staff training and improving the quality of its products.

"We started that journey when we had had seven years of ongoing sales decline and ultimately if you projected that forward in the sales and profit decline, you would have ended up projecting forward a profit of about half of what it is now - we just wouldn't have been able to cut costs quick enough on an ongoing basis to combat that ongoing 2 percent decline," Powell said.

Still returns from the investment hadn't met expectations, with average sales growth of about 2 percent lagging behind estimates of 3-to-4 percent and weighing on earnings, he said.

"We certainly have got a higher profit level than we would have had if we had carried on on that path but it has not delivered the growth we would have wanted," Powell said. "As we enter a phase now where we come off that investment we have to adjust our cost base and expectations to those lower sales numbers."

Powell has been phasing out "cheap and nasty" private label brands for better quality products without raising prices after some products had a 20 percent return rate, damaging the Warehouse brand. Under the new regime, products are pulled from the shelves if they have a return rate of 5 percent.

Warehouse will continue to focus on product quality as it seeks to improve sales, he said today.

"The quality image doesn't change overnight, there's still a lot of customers out there who are suspicious of Warehouse quality."

Warehouse today posted a 19 percent drop in adjusted first-half profit to $37.2 million, and said annual earnings on the same measure, which excludes one-time items and is the basis for dividend payments, will be between $52 million and $56 million, down from $60.7 million a year earlier.

Chairman Ted van Arkel reiterated on the conference call that the company is targeting improved profits.

"We continue to focus on sales growth, however a major priority is also to deliver profit growth and the board and management are very very clearly focused on that ," van Arkel said. "The board remains confident in the long-term strategy."

The company will pay a first-half dividend of 11 cents per share on April 16, representing 102.5 percent of adjusted net profit. It lowered its full-year dividend forecast to 16 cents per share, down from its previous forecast of 19 cents, which it paid last year.

In order to invest in its business to drive future earnings, the company last year cut its dividend payout ratio to between 75-85 percent of adjusted profit, from a previous policy of 90 percent of adjusted profit. To provide certainty for shareholders, it said the policy would be phased in over two years when a minimum dividend of 19 cents per share would be paid.

Warehouse today said the dividend policy for future periods will be reviewed against its business plan for the 2016 financial year and announced with its full year results.