A legendary Canadian baker leaves a grocery empire – just as the prodigal son takes over. Are these events related? And what are we to make of the prominent family business getting out of the bread aisle?
When Loblaw (L) announced that Galen Weston would helm the firm, Loblaw’s parent company, George Weston (WN), simultaneously announced that it would make a strategic shift, including selling off its bakery business. We think the decision to divest makes sense as it can concentrate on retail and real estate.
Market Reaction More of a Correction
When the news came out, George Weston shares rose around 6%, which equity analyst Nicholas Johnson saw as more of an unwinding of a discount that the market put on the conglomerate. A realization by investors perhaps that the sum of parts was bigger than previously thought.
So how much do leaner operations and a change in leadership change the growth trajectory? Not much for now. “The bakery business was probably more trouble than it was worth,” says Johnson, noting that the breadmaking business was only 5% of revenues. “It is not uncommon for small franchises within a sprawling portfolio like George Weston’s to command a disproportionate share of administrative resources and management attention.”
“Given the immateriality of the Weston Foods business,” says Johnson, “the economics of the deal should not impact our assessment of the firm's intrinsic value, and with no anticipated deviation from the current strategic roadmap, Loblaw’s leadership change will also have no bearing on our fair value.”
Celebrate the Ecosystem
We continue to expect strong execution and growth from both George Weston and Loblaw – with core value in the relationships that remain between President’s Choice, PC Optimum, Choice Properties (real estate) and the largest grocery chain in Canada.
“Having established the most expansive retail store network in Canada, Loblaw benefits from unparalleled access to consumers,” says Johnson. “In food, the firm has a strong presence across store concepts. In pharmacy, Shoppers Drug Mart gives the firm disproportionate exposure to urban population dynamics. Ultimately, we believe it can continue to reinvent its core food and pharmacy offerings in alignment with a dynamic consumer ethos. One of the more fitting tools at Loblaw’s disposal is its prolific private-label program. Trademarks like President's Choice and No Name have grown to become some of the best-selling brands in Canada, even achieving distribution elsewhere in North America.”
Digital Sweet Spot
We like how the company is leveraging its retail strength to grow digital insights, which can then be used for financial and media applications. “Its digital strategy is multipronged but consists of two main funnels run by its financial-services business. The first is the PC Optimum loyalty program, and the second is the PC Financial Mastercard, which allows the firm to generate insights (and profits) outside the Loblaw network,” says Johnson. “Together, we believe these two offerings create a formidable ecosystem that, with continued investment, should bolster the firm’s value proposition and revenue streams, as evidenced by its targeted ad offering, Loblaw Media."
Road Full of Rivals
The divestment of the bakery and increased focus on ecosystem advantages seems wise considering the Loblaw will face fierce competition and high costs in the retail consumer space. “Loblaw’s path is still rife with risk,” he says, adding that in addition to the threat of rivals, some strengths are expensive. “We believe its enviable private-label position has necessitated hefty investment, and should continue to do so. Moreover, general merchandise and apparel stores remain an albatross. Its scale should enable it to compete effectively, but execution will remain challenging amid an evolving competitive environment.”
While the road ahead for Loblaw looks difficult, Johnson sees management up to task and owners equipped for the challenge. “Aided by the strategic guidance and financial flexibility of George Weston’s corporate leadership, we see the combined entity continuing to navigate its dynamic marketplaces.”
