Hardware wars

Andrew Reitzer relishes the role of the combative underdog fighting out of his weight division against the grocery heavyweights in Woolworths and Coles and doing better than surviving. Metcash's attempt to join the imminent hardware wars may, however, be asking for punishment.

The Metcash CEO today put a proposal to the Mitre 10 hardware wholesaling group, offering to subscribe for an initial 50.1 per cent interest but with an option to move to full ownership in either 2012 or 2013.

The offer came the same day that Bunnings announced plans to invest over $420 million in at least 12 new Bunnings Warehouse stores in NSW over the next three years and follows Woolworths acquisition, in partnership with the US hardware retailer Lowe's, of the Danks hardware distribution business as the prelude to their entry into the big box hardware sector.

Woolworths targeted Danks after several years of studying the sector dominated by Wesfarmers' Bunnings because the company gave it instant access to a hardware supply chain that would have been costly and time-consuming to create from scratch.

One assumes that Reitzer regards Mitre 10, now the last big independent wholesaler to independent hardware retailers, as a similar opportunity.

He has made no secret of his desire to add a fourth dimension to the Metcash portfolio, which currently contains the IGA distribution business, a liquor wholesaling arm and the Campbells Cash and Carry food wholesaling business. Reitzer has said he is prepared to spend up to $1 billion for the right opportunity.

If it weren't for the imminent collision of the titans, Mitre 10 would look like a rational expansion. While Metcash's expertise might be in food and liquor wholesaling and distribution, the relationship it has with independent supermarkets is analogous to that of Mitre 10 with its retailers. Metcash has a lot of experience and considerable success in supporting local supermarkets in the endless battle with the chains.

Mitre 10 probably needs some help of its own. In a KGB Interrogation posted today, its chief executive, Mark Burrowes, said that if an opportunity came up to raise capital from a strategic investor he'd ''have a conversation'' with them.

In response to the Metcash announcement, he has subsequently revealed there had been months of discussions with Metcash and others, initiated by Mitre 10, and said Mitre 10 expected a number of formal proposals from interested parties by the close of business today.

Metcash is, at face value, the most obvious and best-resourced player in this market with which Mitre 10 could partner without the kind of conflicts that will now impact the Danks business.

Burrowes took up his position earlier this year and has presided over a major and quite surgical restructuring of the group to extricate it from the consequences of failed past strategies.

That has had a financial impact – Mitre 10 lost $11.6 million last financial year after $20 million of costs and write-downs from exiting from its corporate-owned stores and restructuring the continuing business. It ended the year with negative equity of about $2 million in a $200 million-plus balance sheet that contained about $74 million of borrowings. Its underlying earnings, however, are rebounding.

For Mitre 10 – and therefore for Metcash if it were able to do a deal with Burrowes and his board – the looming hardware store wars represent both a threat and an opportunity.

The threat, of course, is that a full-scale fight between Bunnings and Woolworths could decimate the independents, although Burrows sees (as Metcash would see the IGA stores) as convenience stores rather than the destination shopping provided by the big box formats.

The immediate opportunity lies in the concern among the Danks-supplied independents about their supplier being owned by, not just a competitor but by Woolworths. Mitre 10 should be able to recruit Danks' customers to its own banner.

Nevertheless, it is brave of Metcash to even contemplate picking this particular fight. Woolworths didn't believe it had sufficient hardware expertise to take Bunnings on by itself and therefore recruited Lowe's as a partner. They plan to open 150 stores over five years at a cost estimated by analysts of between $3 billion and $4.5 billion.

Bunnings already has about 260 stores, about 180 of them big box formats, and plans to open between 10 and 14 new stores each year. It has stepped up its rate of expansion and is expanding its product range in anticipation of the opening of Woolworths' first stores in 2011. It is evident it plans to aggressively defend its dominance.

If Woolworths didn't think it could compete with Bunnings without Lowe's experience and buying power, Reitzer would be either very brave, or very foolish, to voluntarily enter this particular ring. Then again, if Metcash can survive and even prosper in a three-cornered contest with Woolworths and Coles in the grocery sector, maybe it can help Mitre 10 carve out a bigger niche in hardware and create the fourth pillar for its portfolio in the process.