Monday, 11 November 2002

AFR BOSS CLUB

Speaker: Peter Wilkinson
David Jones boss: The CEO of David Jones, Peter Wilkinson, was the guest speaker at the AFR BOSS Club in Sydney on November 11, 2002.

Transcript

This is an edited transcript of the address given by PETER WILKINSON, the out-going CEO of David Jones to an AFR BOSS Club seminar in Sydney on November 11.

I joined David Jones in 1997, not that long after the IPO in 1995. It is a wonderful company. It¹s arguably the oldest Western department store surviving under its original name ­ 164 years. That says something about its longevity and its origins.

But in 1997 it wasn¹t in good shape in any way one cared to look at it. It was losing market share, it was losing profitability, it was building up its requirement for operating cash, there wasn¹t an indicator that one could have had great comfort in, and unfortunately, while there was some tremendous people in the organisation, there were also, whenever you get self-satisfied groups, a lot of people who were well paid passengers in the organisation. When you look at what you might do to rebuild a brand, recapture the heritage in a way that is acceptable in the contemporary market, what do you do?

Financial markets are baying for your blood ­ still are today. Some things never change. But the company by any measure was in poor shape. We ­ by we I mean the management team, supported by the board ­ took the view that the one hope for the future was to rebuild our brand, that the whole premise of the work we did recognised that long-term sustainable good financial outcomes could only come on the back of a long-term, sustainable, substantial brand.

Our choice was to try to get technology to work. To do that, we put in place a simple blueprint which is not much different today than it was then, albeit that we each year take a three-year look at where we go. We looked at all the things that we needed to do back in the 1997-99 period, and really went through a period of recovery of back-to-basics, pretty simple stuff, nothing complicated whatsoever.

But, you know, looking at a company that lives and dies by its capacity to service people, we were out of stock of any item 27 per cent of the time, so more than one in four items that a person wished to buy from us, they couldn¹t. So even if we got the choices right and if we got the sizes and colours right, 27 per cent of the time we didn¹t have it. We had a 22-year-old mainframe that was no longer serviced by NCR. They told us there was only one other, but they couldn¹t think where in the world it was.

There were some intriguing issues. Our Bondi store, which could arguably be in the best demographic (in) Australia, and one of the best in the world, was approaching its 30th birthday and still its infant clothing department had never been refurbished. The average life of a refurbishment of a department store is somewhere between eight and 12 years, maybe 13 or 14 tops. Even our downtown store hadn¹t been refurbished for that period of time.

So there was a lot of work to do, to do nothing more than say, ³What are we going to do with this business? Let¹s get back to basics.² Once we¹ve got those in place and rebuilt the management muscle in this organisation and got some vision as to where we¹re going, we can then get to a point where hopefully we will have a semblance of sensibility in our performance areas. Then, ultimately, when we get into the 2000s, we can actually drive hard, change the mindset and the culture of the organisation.

Given some of the pain I¹ve had about Foodchain, it suits my purpose tonight to stick with David Jones the department store.

That recovery period when we started really was the bulwark of the future of the organisation. I still think that had we not gone about it in that way, had we gone for a smoke and mirrors response that might have been in the short term more satisfying to the financial markets, in the long term I think it wouldn¹t have been. So we very firmly and very purposefully said brand before the financial structure. It wasn¹t that we ignored the financial structure, but frankly we didn¹t have the level of capability to handle it and we spent a considerable amount of time saying what proposition could we build that again recognised our heritage but understood that role in contemporary Australia, and were there enough people that could ultimately provide a return for our shareholders? And there were a series of questions that we delved in and looked our way through that.

A lot of people misunderstood some things about this market that we¹re in, because they tend to say department stores are expensive. There is a sense of expense about them, but I¹ll deal with that in a minute. They tend to say it¹s a narrow market. Well, we go for the top quintile, the top 20 per cent of average household earnings is where we really focus. They comprise, when we started doing this work, about 37 per cent of non-food retail sales. It didn¹t seem so silly to us. It actually seemed to have a lot of connotations in terms of managing of inventory, managing of labour that people were missing.

Conversely at the bottom end of the market, the bottom 20 per cent of consumers only consume 8 per cent of non-food. The multiple of product that you have to sell at the bottom to equal one item or one unit of transaction at our level, is at about 40. So you know at the end of the day our cost of labour relative to our sales and our transaction values is actually very similar to a discount business.

So a lot of the inherent qualities, when you really understood the market, said, you know, it¹s a hell of a big piece, and we only had 14 per cent share of wallet. So there was plenty of space for us to increase that. Then, when we looked at the rate at which it was growing, that market certainly as from the time we started until the previous three years, had compounded growth at 5.2 per cent against the median 3.3 per cent. So not only was it powerful and big, but it was also growing.

As we went through it, the other unique and wonderful quality we discovered was, it¹s getting younger. So more and more young people are falling into that group, and we just thought when we did all of that and contexted that, that here was a marvellously fertile and lucrative market for us to tap, and do you know what? It absolutely fitted the heritage, culture, value and ethos and standing that David Jones had built as a family entity before it ever fell into the hands of a corporate raider.

So who was that (typical) person? Well, you know she¹s a woman, that¹s where we started.... women dominate it. If you don¹t win the female mind as a retailer of almost any commodity, go home, don¹t bother. That says a lot. It starts giving you clues as to where you should start looking, and you know that drove us down saying we had to, no matter what else we did, re-earn our place as a fashion entity. It was absolutely essential to any future wellbeing of the business.

So that started giving us some clues as to how our buyers, our marketers and our sellers would deal with that. You know here is a person who¹s confident, time poor, who actually values quality above price, doesn¹t want to be ripped off but actually if you could build the relationship, this customer, this person, this woman actually understands a hell of a lot about relationships.

This gave us some leadership clues as to how we should start going about building our culture and building our marketing effort and how we would take it forward.

We carry arguably somewhere between 1 million and 1.5 million stock units at any time. Our buying team and our stores team have to be capable of managing 1.5 million pieces of floating merchandise that is by some characteristic different. That can bog you down in its complexity, but it¹s actually not that complicated because at the end of the day you¹re not selling the notion of a million items, you¹re selling the relationship and what can you do to make that work in a way that will, to be blunt, lighten the wallets of 30 to 54-year-old (high)-income women. That¹s what it¹s all about.

We needed to have something that was simple enough for the MD to understand, tight enough for the management team to be able to work with and encompassing enough for everybody in the company to understand and buy into. It¹s not a single point, it¹s a four-pillar proposition in its simplest form. We¹ve tried to bring together the ethos of our service, how we go about service, and make that congruent with the product that we put into the stores, and make that congruent with the store environment.

It's a bit tough when you've got some very old stores, but as you redo them and bring them up to date, we¹re seeing some things happen quite well, and then get the communication lined up such that we can make people understand the relationship side or the brand-building side that we¹re doing, but also drive people in our stores to shop.

We try to keep those in harmony, and we believe we¹re getting there now. We know we¹ve got areas where we¹re not perfect, but we do think we¹ve got a sustainable marketing model that is actually at a point where continuous improvement is what we¹re doing, not complete regeneration and rebuilding and restructuring.

We then moved on to trying to get to a point where we could start taking the business forward. That led to some very key decisions. Firstly, and I'll touch on this in a moment, differentiation was where we went. Mark McInnes, our marketing director (now merchandise director), just said, "Keep it simple".

It is so easy (to think) when you read as to whether you should go for price leadership, differentiation or for a very focused program. In fact, in terms of choosing who our customer is, I guess we took a few leaves out of his book in terms of focus. We said, that¹s who we¹re going to aim for, we will be unashamed about it. Everybody inside the company will understand that and we will not deviate from it.

But overarching all of that and driving all the behaviour was- we will differentiate, we will provide service that people recognise, product that was different, store ambience that met the needs of those two issues and brought our customers and us together in a good way.

We've bought Aherns, a West Australian group. We've opened a couple of stores, and more important than that, we¹re taking our high-trading stores and increasing their trading density because that¹s a no-brainer economic decision. In the Sydney store we increase our space (without a single extra dollar of rental) by 17 per cent when we finish the refurbishment program that we started a little while ago. We're about halfway through that program. There's another wave of growth to come, and that will keep that going for a little while.

We worked hard on our service program. We started off with a five-star service. We said they are five things that the worst sales assistant in David Jones will do every time they ever treat with a customer, and we track recorded it. We didn¹t let anyone break away from it. We do 3,000 tests by mystery shoppers every month. Every single shop assistant is tested by their supervisor every single month. Not to throw them out - and we do that too - but to try and make certain that the regional team can work with these people to keep moving towards service excellence.

We work so hard on succession planning, rebuilding the muscle that we lost as a company, trying to have career structures for people, trying to attract high-calibre people into the organisation. If I leave David Jones absolutely satisfied with one thing, we have got the most compelling department-store management team I have encountered anywhere in the world. It's taken us five years by bringing people in, bringing them up through the organisation, going overseas and looking for people, going to suppliers and looking for people. We're absolutely focused on having, in this quite complex business, the human capacity to make this work.

I talked a bit about differentiation and we aim very heavily at our major competitor ­ whose name we keep on forgetting. The big issue there was that when we researched the market, 60 to 70 per cent of people shop at both stores. They won¹t walk past that other place to buy cosmetics, even if they prefer David Jones. And they won¹t buy sporting goods from us because we don¹t sell it, so that there are certain things that happen and our buying team work in a very, very focused way to fundamentally differentiate the product.

I've lost count of the numbers of international designers and brands we¹ve introduced. It¹s somewhere over 200 by the end of this year. That means we've weeded them out and we keep bringing them in, and as a brand or a designer grows, we let them go and we make certain that we drive them hard. We¹ve got a very focused program to work with our suppliers on that.

But the important issue there is that in our apparel area, 65 to 75 per cent of our brands are only available from either their own store or David Jones. So those other characters who think that the road to retail success is taking a dollar and selling it for 80 cents, we don't have to do that there. It¹s not our job. What we¹re doing is selling quality innovative merchandise, recognising that this customer that I talked about, the absolute target, shops in our store 46 times a year and more and we¹ve got to have new fresh innovative merchandise all the time.

So that differentiation is something that actually sets us apart. This period just gone by has allowed us, in a very, very aggressive mark-down area, not to effect our gross margins at all. They're stable. In fact, looking pretty good. But it does allow us to go volume on the 30 to 35 per cent that we¹re not. So if we get a sniff that Country Road is going to be discounted, we go for the throat. Jockey, Bonds, you name it, we go for it. So that we¹ve got a nice volume machine at the bottom, but that doesn¹t stand in the way of keeping so much part of our business absolutely separate.

More recently (we're ) driving, together with their stores colleagues, for that younger market. A chap called Mark Keighery, probably one of the most innovative designers produced in Australia for many, many years, has amongst other things developed a brand called Baby Doll. We're always looking for those young tweenies or whatever, to get at those younger people growing into the rising young professional, and you know it¹s quite intriguing to look at a brand like Marcs and Marcs Baby Doll, where I think two or three years ago we were almost doing no business with him at all, and it looks like within the next two years they could become our biggest apparel supplier, simply because there¹s an innovative supplier who understands what we're trying to do and we understand his brands and we work awfully well together.

Of course we're working pretty hard on the home area of our business, increasingly that¹s important, it¹s a very energetic and very important part of the business, and you know we say -even things with a plug on it - why does David Jones continue to sell white goods when most department stores don't bother? Well for a couple of reasons, we sell about eight to one imported brands, whereas the rest of the market tends to sell them inverse and give it away, run it for cash. We actually run it for profit and when we last looked ...everybody who bought one piece of white goods, bought 1.57 something else. So it actually introduces people across the business.

We had to move on to looking at how we were going to build shareholder value. The market price of David Jones has been a disappointment. I think one could argue the float price, whether it was good bad or indifferent, but we¹ve sort of languished in the $8.10 field for a long, long time. So you know if your brand is so good, why ain¹t you rich?

So we had to start saying we believe the brand is in good shape, we believe the people understand it and our customers understand it. We largely believe that the process will continue to work and it's now continuous improvement not restructure. So let's start absolutely focusing on it and that caused us to have quite a major review in May of this year. (It) changed a lot about the organisation, every decision is now based on return, whether we put a new brand in, spend capital on the store, whatever we¹re doing, it is absolutely return on investment based. We have re-crafted our dividend policy. We were going to fairly high ratios in our dividend handout - we've recrafted that. We¹ve pulled back on our shareholder reward program because we think it was actually losing money for the company.

We looked at what capital we¹d need over the period in time and decided that we¹d go with the REPS (reset preference shares) issue, which was successfully conducted by our CFO and Treasurer earlier in the year, so that sets us up for managing both our portfolio of debt equity and also the cash for the next period in time.

We made some pretty hard decisions on the Foodchain business ... where we started off on something and got off on the wrong foot and it's been a very punishing thing to the business. And as part of all of that, internally and externally, we've committed to the market that our after tax pre-significant item profit growth will be no less than 15% to 20% compounding for the next two to three years, and we remain pretty committed to that.

Where has that got us? I¹ll take the licence of disaggregating Foodchain. We had a big write off there, $19.5 million. We're a small company, it's painful, but for the last year our sales growth was 7.8%, that¹s continued on to the first quarter. We announced our sales during the course of last week at just under 7.2%. So a continuing substantial performance.

The core business, department stores have now produced their best ever EBITDA and profit and EBIT, 24%, 6% growth. We¹ve had a three year run of market share gains, so we¹re doing something right in terms of how we're focusing on the market and we compare ourselves against the discount, the total department store market, which includes the discounters and ourselves, it¹s about a $13 billion market.

We've got absolute control of our gross margins and particularly through keeping our inventory under control. We've got very harsh policies to clear out stock, so we can keep fresh merchandise coming through and we are starting to see an ROI starting to emerge, where at last we'll be able to say to our shareholders, and I believe we¹re in to that cycle now, that we are no longer value destroyers, we are going to be value improvers.

And we took a really hard look and it really cut into how we spend capital, both in terms of the quantum amount, so that we¹ve had to cut our cloth a little bit more to match return that we want, but also we've tended to spread it out. I think, when we look back, we were a little bit optimistic about spending capital on the basis that every good project earns its capital, I still think that¹s true but it has a j-curve effect on your earnings and I think we were causing some weight on our stock that was unnecessary.

Our market share over the years, it's grown from 12 per cent just over 12 per cent to 12.6 per cent to 13.1 percent to 13.3 per cent. Interestingly if we disaggregate the new state that we¹ve bought into, Western Australia, it actually is 13.86%, so we¹ve gone from 12% of that $13 million market to 13.86%, and a slightly lower market share in Perth.

I think that is the one figure that is measurable and definable, other than all the brand equity research that we do and the brand equity measurement that we do that says the David Jones brand is back. Although we're not opening as much space as our competitors are, we¹re actually gaining market share and we have done through the GST, through September 11, through all the discount stores that have opened over this three year period, and we believe we will have gained a modest amount of market share again in this half year.

So I still think, were I given my time again, to go back five years and say what would we do. I have no doubt in my mind that the decision would be - build, rebuild the business, rebuild the brand. I think there are things we could have chosen on cost, operating cash, other things that we could have held slightly different views on, and there may have been some things that we could have moved fast on, faster than we did. But when I go back and look at the lessons of David Jones, I absolutely do believe that a good business starts by being a good business and actually becomes a fine financial entity, and I presume that sometime after I retire the share price will shoot up and it will all work out pretty well for us.

QUESTION:

When you were picking your talent, your management team, that sort of thing Peter, what were the things you were looking for in the people you brought in?

PETER WILKINSON:

A number of things, but it actually all started off with trust because part of the problem with the organisation was it had quite well paid and sometimes quite successful people. To be fair a lot of them - some of our best performers today were in the company and some of them are in the audience tonight. But it was trust, people that we believed we could deal with ... We did want to see a bit of track record.

We did think that people who had been successful in other retail businesses was a preference, not because we were blind sided by retail. Again some of our most successful people have come from the supply side of the industry, and have done well after that. And finally, because we wanted a big cultural change, we were driven by trying to find people who had a high personal results orientation.

QUESTION:

How did you go about telling or encouraging the employees to buy in and understand the changes?

PETER WILKINSON:

I think it¹s quite intriguing and I suppose everyone plays it differently, and what seemed to work for us ... when we started this, we had about 8,000 give or take people working for David Jones in various forms, sales people through to the top, and the first couple of things that we did was make certain that the people who were the decision makers in the organisation were ones that we believed could run the future of the business ... We spent a long time, probably some might argue too long, but about six months taking quite a big group of people through what we should do to change the company, and then we had a big meeting, we had I think from memory, we had it at the Wesley Mission, there were about 200 odd people there and we worked for two days on it and we said look we¹re going to talk for four hours and my team and I talked for four hours telling them why we were going to do the change and what the changes were, and then we stopped and we said look, we are now going to have a two hour break, you are going to be able to smoke and walk and talk, or whatever you want. If you come back you¹ve bought in, otherwise don't bother.

We then went into workshops to say okay, we¹ve given a great sense of where we're going, do we all get it, do we understand it, and then started to run with how can we add value to this, and that sort of grew moss and each of the people took it further and we keep faith every six months. We're very open in telling our company, the top 200, what we've done and what's worked, what's not worked, what we're doing for the next six months, what any strategic changes are.

So we keep that going and we use a company that uses a circumflex model for culture measurement. They had actually done one study just before this, that's why we chose to use them, just before I joined. The executive summary says - In the history of this organisation, David Jones is the most dysfunctional company with whom we've ever worked. That features in my CV I promise you.

QUESTION:

What do they say now?

PETER WILKINSON:

It's a highly outcomes-oriented company. In a small but complex organisation, unless you've got buy in, don't bother.

Venue

Sydney