Supermarket wars part two: occupy the enemy's territory

A property deal cloaked in secrecy has left Coles the proud owner of a prime Woolworths store, write Adele Ferguson and Chris Vedelago.

A property deal cloaked in secrecy has left Coles the proud owner of a prime Woolworths store, write Adele Ferguson and Chris Vedelago.

In the fiercely competitive supermarket industry, buying a high-performing store from under a competitor's nose is known as the "black truffle" - the Holy Grail.

The stakes are high and a play can take years to execute but to the victor go the spoils. Price wars are the obvious way to win customers and bolster sales, but a vicious property war can wreak havoc on a competitor by transferring sales and customers to the new owner.

Coles decided to go after the "black truffle" before Christmas 2011 when it hatched a plan to blindside Woolworths by buying one of its top 2 per cent performing outlets.

After the high volume, high sales store on Grosvenor Street in Neutral Bay was put up for sale in November, Coles decided to seize the opportunity. When it discovered the property came with a short lease, expiring next year with a 10-year option to extend, it was game on.

To this end, it constructed an elaborate structure cloaked in secrecy to conceal the purchase from Woolworths, which has been leasing the site for nearly 18 years and reaping more than $75 million in sales a year.

The aggressive move did catch Woolworths out. A spokeswoman for the company expressed "surprise" when informed by Fairfax Media that Coles was now its landlord. "This is a surprise, and it's not common practice by any means," she said. "I'm not going to commentate on what Coles' motivation is, that's for them to answer."

Coles has remained silent about what it hopes to achieve with the purchase, but it's clear the strategy was carefully calculated and discreetly executed.

Before signing a deal that would instantly make it Woolworths' new landlord, finance director Terry Bowen is understood to have asked some of Coles' key property executives to conduct a risk analysis of the supermarket chain's own sites in the event of a counter-attack from Woolworths.

The fear was that if Woolworths discovered what happened, it could spark a tit-for-tat war that could create chaos in the Coles property portfolio and inflate property prices, which would have an adverse impact on the group's balance sheet and profit figures.

For the past few years, the battle between Coles and Woolworths has been ferocious as the two behemoths have spread their tentacles from food and liquor into hardware, pokies, petrol, clothes and loyalty cards.

The contest had also spilt over into property as the chains increased the number of new and refurbished stores to lift sales. The more stores they rolled out, the higher the sales figures climbed.

But stores are expensive to build and it can take years to navigate the labyrinthine council and community approvals. Since the global financial crisis, there has been a drop in commercial property development. To bridge the gap, Coles and other supermarkets have increasingly developed their own retail space.

Against this backdrop, on December 16, 2011, a handful of property executives on their way to the Coles Christmas party were asked to return to their offices and create a list of supermarkets with leases that would expire by 2024.

The spreadsheet revealed a total of 120 stores - about 16 per cent of their portfolio - with a combined turnover of $3 billion. Each was assigned a risk rating based on whether Coles could lose the lease.

The top secret document identified stores - including Coles' Pacific Fair supermarket on the Gold Coast - as "medium risk" with a lease expiry of 2015. Others included the Mandurah store in Western Australia, which has a lease expiry in 2018, Oakleigh Central in Victoria, its Eastpoint store at Edgecliff in Sydney's eastern suburbs and the Coles supermarket at the Westfield Hurstville centre, which has a 2017 lease expiry.

When the job was done, the property executives joined the party. It wasn't long before alcohol loosened tongues as discussions turned to the plot to snare a prime piece of real estate from Woolworths and give it a blinding commercial headache in the process.

Five days later, on December 21, the Coles divisional board gave the green light to the Neutral Bay property deal.

Concealing the deal from Woolworths remained paramount, and Coles covered its tracks by using an elaborate international company structure based in the British Virgin Islands.

On December 20, the day before the purchase, the company - Sino Ace Investment Pty Ltd - was registered by Bernard Chiu, a wealthy Sydney lawyer. That company was owned by Sino Ace Investment Ltd, an entity created the month before in the infamous Caribbean tax haven, making it impossible to trace the identity of the true owners.

The terms of the sale were equally complex and mysterious. NSW government records show that Sino Ace Investment bought the prime Neutral Bay real estate from owner Vanbridge Pty Ltd.

Vanbridge is owned by Phun Lim and six members of the Mok family - Daniel, Anthony, Wong, Beatrice, Christopher and Edwin - who list their company address in Sydney's Pitt Street but home addresses in the same Hong Kong building.

The relationship between Sino Ace Investment and Vanbridge is not known.

Fairfax Media uncovered the true identity of the owner as Coles from internal board papers that state Coles bought the property for $40 million, believed to be a record price for a free-standing supermarket in Sydney.

The Coles board paper of January 2012, titled "Monthly Director's Performance and Strategy Review", stated that "significant acquisition opportunities continue to arise given the status of the property development market". It said Coles had spent $200 million in the year to date on freehold property for future redevelopment.

Coles confirmed it was the new owner but said it used "a number of corporate entities to sell and acquire property to avoid being leveraged by bidders for a higher or lower price because of the size of the company".

Coles has not told Woolworths that it is its new landlord. "We would not discuss any commercial matters with a competitor," a spokesman for Coles said.

Chiu was even more evasive, saying "contact the vendor" before hanging up the phone twice.

A representative of Vanbridge requested to see various documents before commenting, but ultimately failed to respond.

Coles' position as its competitor's landlord offers numerous benefits. Under the terms of the lease, the landlord gets access to Woolworths' sales data as part of normal rent reviews. When the lease expires, Coles can boot them out and occupy the site, leaving Woolworths with the headache - and cost - of finding a new home.

A source close to Coles said it was an industry-wide practice to conceal the identity of a property buyer. He said agents could add 30 per cent on to the bidding price if they knew who the buyer was. "Shelf companies are used to minimise the cost."

However, Coles is believed to have paid a hefty premium to secure the property, potentially as much as $12 million.

But the elaborate and costly deal is also likely to have involved an element of payback for Coles after Woolworths scored its own "black truffle" over Coles last year. Coles and fellow Wesfarmers subsidiary Kmart lost a prime location in Katoomba last year after operating for 30 years in the Blue Mountains town.

Woolworths bought the location in November 2000 and waited 12 years for the lease to run out.

Coles spent $6.6 million in 2003 to buy land for a new home but ultimately had to pick a different site in Katoomba in 2005 that took another seven years to develop in conjunction with the council and state government. As part of the deal, Coles covered the cost of constructing the $49.5 million Blue Mountains Cultural Centre in exchange for a place in the building.

The bitter struggle resulted in Coles lodging planning objections to Woolworths' redevelopment of its former location. With the lease ending in November, Woolworths refused permission for Kmart to continue trading through Christmas, forcing the discount retailer to open a special collection point elsewhere for customers to pick up their goods on layby.

A property source who asked not to be named described the purchase of the Katoomba property as a disaster for Coles. "It cost Coles $6 million to buy the new site, then millions of dollars on development and they ended up in an inferior location with less turnover and its competitor Woolworths is now in the Katoomba catchment."

As competition between Coles and Woolworths intensifies and the regulators focus on the impact of the price wars on suppliers, some industry observers believe the fight will shift to property.

Woolworths has become an avid property developer. It recently floated a $1.5 billion property portfolio on the Australian Stock Exchange. In 2011, it opened a series of complexes around the country including a $90 million shopping centre in Murray Bridge with 45 speciality shops. It now has 887 supermarkets in Australia with a floor space of 2.37 million square metres, compared with 750 stores and 1.63 million square metres of floor space for Coles.

Since the milk and bread wars flared in 2010, the power of the supermarkets, which together generate more than $100 billion a year from their ever-expanding retail activities, has spilt into the political and regulatory arenas. The use - or misuse - of shop-a-dockets, petrol prices and private label brands selling foreign produce has added to concerns.

The Australian Competition and Consumer Commission is on high alert as it investigates accusations that the duopoly is using improper practices against suppliers and the Coalition has promised to hold a root-and-branch investigation into the power of supermarkets if it comes to power at the federal election.

The two groups have also been put on notice about their aggressive property strategies, with the ACCC looking into whether two recent proposed acquisitions by Woolworths in the ACT and NSW could "substantially lessen competition" in the market.

It also appears that any hopes Coles has that Woolworths will leave Neutral Bay rather than pay rent are set to be dashed.

"The current lease is up in November 2014 with a 10-year option to extend. We will take up this option," the Woolworths spokeswoman said.

With Coles' plan now exposed, the supermarket war is set to heat up again.

aferguson@fairfaxmedia.com.au