Everything is local for Woolies

There are several features of the PFD Foods deal that hark back to the Mathieson partnership success story. This augurs well for the future.

First, Woolies is partnering with a family that has a long history of success in its chosen field of wholesale food services. PFD Foods was founded as fresh fish merchant J Hill & Son in 1864. Financial Review Rich Lister Rick Smith became the sole owner in 1988.

PFD Foods chief executive Kerry Smith has overseen the company’s growth over the past 25 years, to a business with about $2.2 billion in revenue and earnings before interest, tax, depreciation and amortisation of $57 million.

Smith has ensured that PFD Foods has maintained modern facilities. The company has just completed a $100 million upgrade of its distribution centres.

National distribution footprint

Woolworths chief executive Brad Banducci admits Woolies is paying a “full” price for PFD Foods at 11 times EBITDA. But he is unapologetic.

He says the quality of the asset, its national distribution footprint, its position as the second-largest player in the sector, and its reputation for offering the best service means it will be “a really valuable part of Woolworths Group”.

The wholesale food services sector in Australia has revenue of about $18 billion a year and a profit pool of about $500 million.

In partnering with a family-owned business, Woolies will be able to ride on the back of an entrepreneurial spirit which probably would have been crushed if absorbed into Woolies’ head office.

Investors wanting a better understanding of the propensity for large corporations to slip into bureaucratic slothfulness and lack of fleet-footedness need only look at Woolies’ experience in the hardware market.

In 2009, Woolies spent about $90 million buying the Danks hardware chain and partnered with US retailer Lowe’s to launch the Masters hardware chain. The company lost about $1 billion in earnings and wrote off about $3 billion in capital.

The Woolies entering the PFD Foods deal is a very different company to the one that blew up almost $4 billion on Masters.

Banducci has been expert at extracting efficiencies from the Woolies supply chain. He has been good at installing world-leading technology for managing logistics, and the company’s data analytics is best in class.

Potential game-changer

But the company’s size and scale is actually an impediment to lifting the products and services it offers people living in different urban localities.

This is where the PFD Foods acquisition is a potential game-changer for Woolies shareholders. The deal is not about buying a business and squeezing it for synergies or turning the screws on managers to boost margins.

The transaction will allow Woolies to use the PFD Foods distribution network to offer specialised food services on its supermarket shelves. It is recognising that everything is local.

Banducci says that combining capabilities of both companies will enable Woolies to enhance the range in its stores.

Banducci says there will be synergies through better route and capacity optimisation across the Woolies network.

Woolies’ expertise in data analytics, its digital capabilities and its commodity sourcing will be made available to PFD Foods.

The deal will obviously be reviewed by the Australian Competition and Consumer Commission. ACCC chairman Rod Sims has already made clear he will be keenly interested in the impact upon competition across the sector as opposed to the impact upon competitors.

The wholesale food services market is fragmented and PFD Foods only has 11 per cent market share. The top four players control less than 25 per cent of the market.

The Smith family will have a strong incentive to keep business performing at a high level thanks to a put call option that allows them to sell their 35 per cent holding to Woolies in three years.