DJs shops for stability after retail's long winter

David Jones chief Paul Zahra has made strides in his omnichannel strategy, but will continue to grapple with how to manage physical networks alongside an online presence.

It’s not been an easy three years for Paul Zahra since he became chief executive of David Jones. And despite some stabilisation of the venerable department store group’s earnings in 2012-13, it isn’t going to get any easier.

Over the three years since Zahra was abruptly parachuted into the role after his predecessor Mark McInnes left the group in controversial circumstances, David Jones has ‘lost’ more than $200 million of sales and more than $100 million of earnings before interest and tax.

That’s despite doing a very solid job on containing its costs of doing business, which have been held virtually flat over the period.

Zahra, of course, isn’t alone. All the major discretionary retailers (other than Kmart) have had a tough time of it as consumers have become more cautious, retail has moved increasingly on line and new big brands from offshore have entered the market. David Jones’ positioning at the top end of the department store segment has made it peculiarly vulnerable.

Zahra, and his peers, will be hoping and praying that the environment has finally bottomed and that the return to a more conventional government at the federal election will see some pick-up in consumer confidence and spending.

David Jones did at least hold its ground in the latest year, with EBIT down 5.4 per cent to $149 million but after-tax earnings up 0.5 per cent to $101.6 million. That was modestly better than anticipated, and the group’s shares were marked up quite sharply as a result.

Zahra and the market know, of course, that the group’s earnings base is about to be challenged again when its financial services alliance with American Express, which has had underwritten profitability, converts to a share of actual underlying profits. That alliance generated $49.5 million of EBIT for David Jones in the year just ended but will roughly halve this financial year.

David Jones’ strategy under Zahra has been to try to control those things while repositioning the business for the new retail landscape.

On that basis, Zahra did a pretty decent job last year. The group’s cost of doing business edged up by $11.8 million because of greater investment in customer service plus increased employee costs but an 80 basis point improvement in its gross profit margin helped blunt the impact. The department store EBIT fell only 5.5 per cent to $99.5 million despite a 1.8 per cent decline in comparable stores sales.

Some of that sales decline was anticipated because Zahra had made it clear that David Jones was going to reduce its promotional activity and discounting to protect its margins.

He’d also promised better inventory management from a group that has significant issues with inventory levels in recent years. He delivered, with a 10 per cent reduction in year-end inventory and aged inventory that was in line with the group’s target of five per cent.

Like David Jones’ closest rival, Myer, Zahra is rushing into the new world of online retailing or — in the case of the department stores — ‘omnichannel’ retailing. While David Jones was a late-ish entrant into an omnichannel environment, it is making progress, with accelerating online sales growth through the year which culminated in a 711 per cent growth rate in the fourth quarter. The group is achieving three times the average transaction value online than it does in-store.

Bricks-and-mortar retailers are also confronting the online challenge through their attempts to convince suppliers to ‘’harmonise’’ the prices at which they make their products available offshore with those faced by the department store. David Jones says most of the program has been completed and that the group has been able to maintain its gross margin on the international brands.

Zahra is also driving an increase in private label products, which it expects to generate about 5 per cent of its sales this year. Private label products provide some insulation from online competitors because the brands can’t be made available elsewhere or under-cut on price.

Technology is critical to any ‘’bricks and clicks’’ strategy. Three years ago, David Jones was operating with a decades-old point-of-sale system, had no meaningful online presence and had little in the way of real time data and analytics or automated management capabilities. Zahra has addressed those deficiencies, which are fundamental to being able to manage parallel physical store networks and their online channels.

The other issue all bricks-and-mortar retailers are grappling with is how to optimise their physical network in the changing retail environment. Not so long ago, both David Jones and Myer had plans to significantly increase their portfolio of stores. Both are now reconsidering those strategies.

Zahra said today that over the next five years, the leases of six of the group’s 38 stores will expire, giving him the opportunity to review the portfolio in the light of the broader omnichannel strategy. At the very least, the impact of online retailing provides the bigger retailers leverage in discussions with their landlords.

Unlike Myer, David Jones owns its flagship stores in Sydney and Melbourne — which have been valued at about $612 million — and is continuing to investigate whether it can add/extract value by exploiting the ‘’air rights’’ above them, particularly in Sydney. It says it is still in discussion with prospective developers.

There is a lot going on within David Jones. Zahra has made significant progress in improving the basics of his retail platform over the past 18 months. Ultimately, David Jones’ prospects, like those of all the major retailers, are in the hands and the mindsets of its customers.

All the major retailers will be hoping that the long retail winter that was triggered by the financial crisis will give way to a somewhat balmier (or at least more stable) retail climate in 2014.

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