Focus on Fundamentals
Readers that have been following our discussion on the prospects of Woolworths Limited (ASX: WOW) will be little surprised by the market’s reaction to its recent ‘Strategy Day’. This case study demonstrates that when it comes to investing, focus on the numbers rather than management commentary.
If you perused the commentary from Woolworths’ recent quarterly announcements you would be hard pressed to consider that a new growth strategy was necessary. While Big W has been underperforming and the breakeven of Masters has gradually been pushed back, management has generally provided the impression that existing plans were on track to maximise shareholder value.
But at the Strategy Day this week, management made the following observations within the Woolworths Food Group:
- A strong franchise – with good people, assets and capabilities
- A clear strategic plan with significant potential
- We have lost focus on our customers and this needs to be addressed with some urgency
- What needs to be done is clear but it will take time to build customer trust and regain sales momentum
- The key to success is in our hands – it will require focus, consistency and changing our ways of working.
These are rather frank admissions for a company that consistently claims the customer is at the heart of everything they do.
Management has an inherent interest to talk up the prospects of their company. Their bonus-related remuneration is typically tied to the share price and total shareholder return. With Woolworths, the optimism is heightened as the company has been a long-term holding for many investors that have grown accustomed to strong historical returns.
It’s hard for management to admit that future performance may deteriorate. As a result, investors that had analysed the industry’s trends, rather than relied on management commentary, would have been in a better position to protect their portfolio.
Discussions with management can certainly garner insights, but your primary analysis should focus on the company’s fundamentals and prospects. Only then should you consider asking a “barber for a haircut”.
Ben MacNevin is an Analyst with Montgomery Investment Management. To invest with Montgomery, find out more.
This post was contributed by a representative of Montgomery Investment Management Pty Limited (AFSL No. 354564). The principal purpose of this post is to provide factual information and not provide financial product advice. Additionally, the information provided is not intended to provide any recommendation or opinion about any financial product. Any commentary and statements of opinion however may contain general advice only that is prepared without taking into account your personal objectives, financial circumstances or needs. Because of this, before acting on any of the information provided, you should always consider its appropriateness in light of your personal objectives, financial circumstances and needs and should consider seeking independent advice from a financial advisor if necessary before making any decisions. This post specifically excludes personal advice.
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Alexander Pinnock
:
The non-numeric characters contained in a financial statement should be given as much weight as the type of paper it’s printed on. The commentary provided by an organisations management has one purpose, to assist an uncertain shareholder lean on the side of purchasing or holding an existing position. Any on-the-record written literature would likely have been generated by the PR department and moulded to fit in with the manager’s opinion, always containing best-case scenarios and simple, easily overcome hurdles to financial success such as ‘engaging more with customers’.
An audited financial statement is one of the few remaining independent tools an investor has in analysing and comparing a company’s value, ASIC should legislate that any remarks made by financially interested individuals be provided in a separate document.
At least the weight and parchment of the paper give an insight into reckless expenditure. Sorry for being so cynical Roger.
Roger Montgomery
:
Good ponts Alexander. Thanks for adding some great insights to the discussion.
Patrick Poke
:
While I do see where you’re coming from Alexander, and everything should be viewed through skeptical eyes, I’m not sure I agree. Personally I think you can gauge a lot about the attitudes and skills of the management and executive team from the non-financial portion of the annual reports. There are often interesting insights into the way the company or industry operates also.
Roger Montgomery
:
Reading ten years of Chairman’s letters (in the annual report) chronologically will usually reveal the right answer…
Patrick Poke
:
Great point Roger. After seeing your article on the ASX website I started doing this recently. I was already concerned with how to assess management so the timing was perfect. I ended up selling one of my holdings (HFA) as a result after seeing the poor track record that management had delivered over the years. I really feel that I have a much greater understanding of the management and businesses now that I do this.
It occurs to me now that I think about that a large amount of my investment process has been picked up from yours haha.
Roger Montgomery
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Thanks for the encouraging words patrick and delighted to be of some help. Keep in mind, we will make every mistake by the time we’re done, so don’t blindly follow us.
Patrick Poke
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Agreed, one must always keep a critical mind. I always look for a new idea to be backed up by logic, evidence, or ideally both.
John E
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WOW is certainly attracting a lot of attention in the mass media. This is only giving a further leg up to Aldi when shopping prices are mentioned.
It does appear wow are only early into this re-adjustment of their retail offering and the full effects are yet to be felt. What will this do to an already reduced ROE?
This is still a fantastic enterprise at the right price. But best to wait to see how the dust settles over coming quarters.
My main concern is that this isn’t a level playing and Aldi aren’t paying their fair share of Aust tax if the rumours are correct.
Roger Montgomery
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You might have to wait some years before the dust settles John.
Andrew Legget
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I always like it when you hear rather honest comments from company management. The unfortunate thing is that they still tend to happen when they cannot hide it anymore which i believe is the case with Woolworths. At the ned of the day, you have to admit you have a problem before you can fix it so good on them.
The main message here is to not be complacent regarding your customers and believe they will always stick around. Customers are becoming increrasingly savvy and will quite happily switch if they believe another business is able to meet their needs and wants better.
Retailing requires management to have their finger constantly on the pulse of what is going on with their customers as things can change so quickly. A retailer losing focus on customers is probably the biggest sin such a company can make and they will be instantly punsihed for it. It also takes a lot less effort to keep customers than it is to win them back.
I wouldn’t bet against WOW as they obviosusly have a lot of good things going for them but they are going to have to work really hard. As i said, at least they have started the process and admitted their mistakes.
Roger Montgomery
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Thanks Andrew, I reckon the big issue is not working harder but working smarter. And the problem that raises is that some very smart incumbent supermarket operators elsewhere in the world have failed to develop a smart strategy to defend themselves against Aldi.