04/03/2010 - 00:00

A bit of Buffett in brand-builder Stokes

04/03/2010 - 00:00

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Kerry Stokes’ move is a little bit Buffett, a little bit Wesfarmers.

IT’S easy to dismiss the deal Kerry Stokes is putting forward to Seven Network shareholders as something that can only be of benefit to himself.

The track record on such activity is not great. The worst example I can recall is also, coincidently, in the media field when Kerry Packer’s private company, Consolidated Press Holdings, sold the Hoyts cinema chain to Publishing and Broadcasting, which he controlled, and West Australian Newspaper Holdings in 2004.

It was an unmitigated disaster from the WAN and PBL perspective. Both took a big haircut when they offloaded Hoyts to private equity owners a couple of years later.

Nevertheless, there is another aspect of the Stokes deal worth considering, and its one which draws in champion investor Warren Buffett and top-of-the-range conglomerate Wesfarmers.

While the executives at Mr Stokes’ private vehicle, Australian Capital Equity, moved quickly to dismiss any thought of linking the proposed Seven Group, with its disparate asset base of media and mining equipment, to diversified industrial Wesfarmers, there is actually a parallel.

The idea in my head is all about brands.

That is where Mr Buffett comes in. While the US investment guru is known as a value investor, one of the secrets of his success is that he seeks out companies with brands, believing there is a premium for the customer loyalty a top name can bring.

“Businesses in industries with both substantial over-capacity and a ‘commodity’ product (undifferentiated in any customer-important way by factors such as performance, appearance, service support etc) are prime candidates for profit troubles,” he is quoted as saying.

Mr Buffett is not a business manager per se. He is an investment manager. While on the surface that makes him substantially different from a group like Wesfarmers, which owns and manages its many different businesses, I would suggest the difference is less marked upon closer examination.

Obviously the big difference is that Wesfarmers owns most of its businesses outright (although the original Coles deal was proposed as a joint venture with private equity) and, via their board and corporate executive, takes a more active interest in their management than Mr Buffett would be able to as a minority shareholder.

Wesfarmers has always had big brand exposure. From its own status as a branded rural supplier, it bought Dalgety and then IAMA and eventually formed Landmark. From its early rural roots it expanded in chemicals under the well-known CSBP label.

While it was and still is heavily invested in energy commodities – particularly coal – it has built a significant branded business called Kleenheat.

It once had Charlie Carters grocery stores, which it sold off to Action, long before it decided to buy Coles and its myriad top brands, such as Target, Kmart, Officeworks, Liquorland et al.

And I can’t forget Bunnings. That was a commodity based forest products business when Wesfarmers bought it, acquiring a small retail operation called Alco at the time. Bunnings these days is a giant national hardware brand and the experience with it probably gave Wesfarmers the impetus to buy Coles.

The Wesfarmers selling point is that it has the know-how to build great businesses and manage them well. I would go one step further and suggest the company has adopted a Buffett-like approach with its acquisitions in terms of seeking value in brands that have had underinvestment.

It is a strong combination, as the recent half-year results attest. In contrast, the commodity coal business has struggled through no obvious fault of its own. The high Australian dollar, low coal prices and a third party royalty cost have made it an underperformer. While this may be understandable, that is the downside of commodity businesses – you have less ability to deal with the whims of the market.

Now I know it’s a long stretch to take this example and apply it to Mr Stokes’ plan, but there is an element of similarity.

The two key assets, Channel Seven and Westrac, are fantastic brands.

Being in the consumer field, and aligned with very retail areas such as football, Seven is a more obvious brand in the usual sense of the word.

But Westrac also is a great brand. In the world of resources, the ability to deliver service and reliability is highly valued by customers. Westrac sells very reliable machinery – Caterpillar – and then keeps them operating.

Both these brands are well managed, as we can see from Seven’s return to the ratings leadership over the past two years.

Of course, there is one big difference between the proposed dual-track Seven Group business and the far more diversified Wesfarmers. That is ownership.

The brands both companies have might tick that box in Mr Buffett’s checklist, but would the ownership structure and resulting management impact also meet the with the same agreement?

I doubt it. The Wesfarmers model has a traditional spread of shareholders, especially now the protection of the Franked Income Fund has been consigned to history.

But the proposed Seven Group will have one big shareholder taking a small group of investors along with him.

Given most Seven shareholders will already be used to this, perhaps it doesn’t matter.

But there is a real difference being an investor in a brand compared to investing in any company with a majority owner, brand or no brand.

Individual investors have many things that influence their decision making – gut feel, various advisers, experience, age, personal matters such as divorce, retirement and tax, to name a few.

When there is a big spread of shareholders, the CEO has to try to get the best result for all of them.

But when there is one large shareholder, their personal interests may not align with those of the minority.

This is a governance challenge, which, to me, makes all the talk of great brands and well-run businesses far less attractive.

Mr Stokes is an entrepreneur who has proved a master of business at the highest level. In some ways he is like Mr Buffett, investing and building great brands.

Somehow though, by grabbing both the Buffett model and the Wesfarmers model, his path risks falling between the two of them.

 

STANDING BY BUSINESS. TRUSTED BY BUSINESS.

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