FINANCIAL
CAPITAL
Tahua Hautaonga

Our financial capital initiatives continue to focus on ensuring financial resilience while deploying capital to execute our strategy. Our demand for capital within the Group reached a new high in FY23, with core systems and investment in our store network being the largest areas of investment. This demand for capital is reducing as we are through the peak of this investment.

Our strategy on financial capital focuses on the following key areas:

  • Financial resilience through tough economic times;
  • Preserving gross profit margin while maximising gross profit;
  • Efficient allocation and prioritisation of capital based on Group strategy and return metrics; and
  • Providing sustainable and long-term returns to shareholders.

Financial Resilience

This has been a challenging year, operationally and financially, as our customers face increased cost of living pressures driven by inflation and interest rates impacting their disposable income, while our own cost of doing business increased. Although we have seen sales growth in The Warehouse, other brands faced sales declines as customers experienced a tightening of their disposable income. Our margins were put under pressure as we absorbed increased costs of product and freight that we did not pass on to customers.

After a disappointing decline in gross profit margin and increased CODB in the first half of the year, margin management initiatives have improved gross margin in the second half across all brands. We made the difficult decision to restructure areas of the business, particularly in the Store Support Office, and have carefully managed store labour. As a result, we have seen efficiency gains and employee expenses have remained flat year on year despite wage pressures.

This pressure on financial performance has seen us further ration capital investment. We expect total project spend for FY24 to be between $70 million and $80 million.

Financial Performance – preserving gross profit margin

Total Group revenue was $3.4 billion, up 3.2% from FY22. We are pleased to report sales growth in FY23 following a decrease in sales last year, resulting in FY23 sales returning to FY21 record levels. While the first half experienced relatively strong sales growth of 4.8%, the second half saw softer growth of 1.4% as the increased cost of living constrained customers’ discretionary spending. Driving profitable sales growth has been challenging in a constrained economic environment. Category mix has changed year on year as COVID-19 driven spending behaviour in categories like office furniture, bikes and large discretionary items normalise and move to growth in categories such as grocery, pantry and chilled items in The Warehouse and smart home, mobile phones, and appliances in Noel Leeming.

Gross margin was disappointing in the first half as the costs of products and freight were impacted by inflation and global supply chain disruption. While striving to continue to deliver value to our customers by keeping prices as low as possible, we did not move quickly enough to manage these costs through our margin. In the second half we took action through margin management initiatives to recover some of this loss while preserving value on critical items. Overall Group margin increased from 32.7% in the FY23 half year to 33.4% for the FY23 full year. Gross profit margin decline in the second half was 180 basis points versus 200 basis points in the first half. Although an improvement, this is still down from 35.3% in FY22, and we continue to put in place initiatives to recover this.

Operating profit1 was $61.2 million, down from $116.8 million in FY22. Lower operating profit for the year was significantly impacted by the decrease in gross margin, combined with increased CODB. While the CODB increased in dollar terms we were able to decrease this as a percentage of sales from 31.8% in FY22 to 31.6% in FY23. The CODB increased mainly due to the immediate expensing of key information systems costs (Software as a Service) and incremental depreciation driven by increased capital expenditure in recent years.

Adjusted net profit after tax (NPAT)2 was $37.5 million, compared to $85.5 million in FY22.

In the second half of the year, the Group undertook a number of actions including a restructuring of our Store Support Office, integration of TheMarket.com into the Group’s agile structure and the closure of the unprofitable 1-day business. Restructuring costs of $10.9 million ($7.9 million after tax) are made up of staff redundancy costs, the writeoff 1-day business assets and the costs connected with the disposal of 1-day inventory.

Reported NPAT was $29.8 million, compared to $89.3 million in FY22. The Warehouse sales increased 9.6% in FY23 to $1,892 million – the brand’s highest annual sales ever. Following a very strong first half with 13.2% sales growth, the second half was softer with 5.7% sales growth. Gross profit margin declined in the first half to 36.3% but recovered in the second half to 38.7%, resulting in a full year Gross profit margin of 37.4%, compared to 40.3% in FY22. Gross profit margin was particularly impacted by freight cost increases, MarketClub promotional activity and changes in product mix with sales growth in lower-margin categories such as grocery, pantry and chilled, and sales decline in higher-margin categories such as home furnishings and apparel.

Warehouse Stationery sales held up relatively well, declining slightly by 0.4% to $248.6 million in FY23. While customers purchased working and learning from home equipment during COVID-19 in FY20 and FY21, sales plateaued in FY22 and FY23. FY23 saw sales growth of 1.7% in the first half, while sales declined 2.5% in the second half. Similar to its red counterpart, gross profit margin declined in the first half to 45.9% but improved in the second half to 47.9%, resulting in a full year gross profit margin of 46.9%, compared to 47.5% in FY22.

Noel Leeming sales were impacted by customers’ reduced and redeployed discretionary income and follows a global trend of a reduction in sales of big-ticket items. Sales decreased 3.3% in the year to $1,061 million; however, this is lapping very strong years in FY21 and FY22 which saw an increase in customers purchasing big-ticket items as they lived, worked and learnt from home during COVID-19, and reflects 14.7% sales growth on FY19 (preCOVID-19). The Noel Leeming gross profit margin was also impacted by product mix with growth in lower-margin categories such as communication products offset by decreased sales in higher-margin categories such as televisions.

While Torpedo7 sales decreased 5.4% compared to FY22 to $162.2 million, this brand was most impacted by customers’ reduced discretionary income. Comparisons are impacted by exceptionally strong COVID-19 impacted sales growth in FY21 and FY22. There has also been a significant dislocation of the bike market, Torpedo7’s largest category, which had a negative effect on gross profit margin with the current brand and range mix. As at FY23 we provided for an inventory impairment of $4.6 million against Torpedo7 to manage excess and aged stock. Decreased gross profit margin, increased COBD, combined with the inventory impairment, have resulted in an operating loss for the year of $22.2 million. We have a recovery plan in place for the business and this will be a major focus in FY24.

Cash Flow and Financial Position

Operating cash flows were $214.2 million, an increase of 103.2% with a decrease in trading earnings before interest, taxes, depreciation and amortisation(EBITDA) offset by a material improvement in working capital due to reduced inventory and receivables. Other benefits to operating cash flow include lower taxes paid in FY23 compared to FY22.

The capitalised portion of Project Spend amounted to $113.2 million in FY23 (FY22: $107.5 million). Cash flows in relation to this investment amounted to $115.1 million for the year, after adjustments for timing of cash payments (FY22: $107.5 million).

During the year, we sold the Royal Oak property which was one of our owned store sites. The sale proceeds were $30.5 million under a sale-and-lease-back arrangement with the proceeds being used to reduce debt.

Dividend payments were lower this year due to no FY23 interim dividend declared. Therefore, dividends paid in FY23 were $35.0 million being the FY22 final dividend of 10.0 cents per share paid during the year.

The above receipts and payments resulted in net debt of $48.1 million at FY23 year end, compared to $41.2 million as at FY22 year end, and a significant improvement on the net debt of $83.4 million at FY23 half year.

Efficient allocation of capital

During a challenging trading period, we have invested a significant amount of capital in addressing our core systems, store development, Store Support Office and North Island Distribution Centre facilities. We are excited about the efficiencies and operational improvements these investments will bring to the Group.

We are conscious that we spend capital on the right initiatives and projects which will deliver our strategic priorities and drive shareholder value.

Much of the investment undertaken in FY23 related to key Software as a Service (SaaS) projects that are a blend of capitalised and expensed spend. The combination of capitalised and expensed investment is referred to as Total Project Spend.

Total project expenditure was $154.4 million including capital expenditure, prepayments, SaaS expenditure and operating expenditure. This comprised capitalised project spend of $113.2 million in FY23 (FY22: $107.5 million) and prepayments of $11.4 million in relation to SaaS projects in FY23 (FY22: $8.2 million).

In addition to the capitalised portion, expensed project spend relating to SaaS projects amounted to $21.9 million and non-SaaS-related expensed project spend amounted to $7.9 million in FY23.

Similar to last year, the Group’s major investments in the year were in core systems, including the development of ERP Finance and Inventory (ERPFI) for which the Finance module was deployed in FY22. Testing on the final end-toend inventory module will continue through the first half of FY24 with go-live scheduled for the second half of FY24.

Our core systems investment also included delivery of our Group Order Management System, Warehouse Management System, Master Data Management, and the implementation of our new people and HR system, Human Capital Management (HCM).

Store development continued in FY23, but at a lesser pace than in FY22. New stores opened this year included a new Warkworth retail centre including The Warehouse, Warehouse Stationery and Noel Leeming, a new Torpedo7 store in Botany Auckland, and the relocation of Torpedo7 Christchurch to a bigger site. Our Warehouse Stationery SWAS integration programme continues, with five new SWAS stores opening during the year including Lower Hutt, Palmerston North, Timaru, Warkworth and Hillcrest (Hamilton) – taking the total number of SWAS stores to 40.

Capitalised project spend as a percentage of depreciation and amortisation was 170% in FY23, compared to 209% in FY22 (after SaaS adjustment).

As we near the end of many of our large core system investment projects, capital expenditure is expected to decrease in FY24 to be between $60 million to $70 million (after SaaS adjustments), and total project expenditure will be capped at $80 million.

Access to capital

To ensure financial resilience and to maintain our liquidity policy thresholds, we maintain access to a variety of capital sources. The Group manages three primary sources of capital – operating cash flow, debt and equity.

The Group’s operating cash flow has increased significantly in FY23 due to an improvement in working capital, with operating cash flow of $214.2 million in FY23, compared to $105.4 million in FY22.

The Warehouse Group has been listed on the NZX for 29 years, and we were pleased to be included in the NZX50 index again from May 2022. The last year has seen a significant decline in the Group’s share price, driven by our financial performance against a backdrop of a weakening macroeconomic environment, consumers under cost of living pressures and uncertainty in outlook. The company share price has decreased from $3.25 at FY22 to $1.80 at FY23 year end and a market capitalisation of $624 million.

During FY23, the Group secured additional bank facilities of $50 million, increasing our total facilities to $470 million. Bank facilities include $145 million of Sustainability Linked Loans which affirm our commitments and targets under sustainable packaging, ethical sourcing, reduction of carbon emissions, and gender equity.

The Sustainability Linked Loans include commitments to four key performance indicators (KPIs), including:

  • Sustainable packaging – at least 50% of private label sales (by $ value) to have sustainable packaging by 31 July 2025;
  • Ethical sourcing – achieve traceability of all Tier 2 sources for at least 50% of Tier 1 suppliers by 31 July 2025;
  • Greenhouse gas (GHG) emissions – reduction in annual Scope 1 and Scope 2 GHG emissions by at least 20% against baseline by 31 July 2025; and
  • Gender pay equity and women in leadership – achieve at least 100% gender pay equity and at least 50% women in senior leadership roles by 31 July 2025.

Ernst & Young Limited have provided limited assurance over the annual performance of the KPIs within our Sustainability Linked Loans, and the disclosures against these made in this Annual Report.

Cash on hand of $28.3 million, combined with committed bank facilities of $470.0 million, less Group borrowings of $76.4 million, provides total liquidity of $421.9 million at FY23 year end, compared to $378.8 million at FY22 year end. This is in line with the Group’s Liquidity Policy target range of between $350 million and $450 million.

Sustainable and long-term return to shareholders

The Group has declared a final dividend of 8.0 cps for the 2023 financial year. Due to trading at the time, uncertain outlook and liquidity below Group policy, no interim dividend was declared at the FY23 half year.

The Group Total Shareholder Return (TSR) was down 41.5% in FY23, compared to 2.5% in FY22, due to a share price decrease of 44.6% from $3.25 to $1.80 as at 30 July 2023, and the FY22 final dividend paid during the year with no FY23 interim dividend declared.

The Group’s TSR compares with the performance of the market with the NZX50 gross index growth of 4.8% in FY23.

The Group measures and monitors return on invested capital (ROIC) as one of the key indicators of business performance. ROIC represents the return generated by the operating assets of the business and, relative to return on funds employed, includes the value of right-of-use assets which largely relate to leased premises of physical stores, distribution centres and fulfilment centres. The Group is delivering shareholder value where ROIC is greater than its cost of capital. In FY23, ROIC was 6.3% (FY22: 9.9%).

  1. Operating Profit excludes the impact of IFRS 16 but includes Cloud Computing Arrangements accounting adjustments (“SaaS”) which is now taken to the Profit and Loss rather than Balance Sheet capital expenditure.
  2. Adjusted NPAT is before unusual items and is a non-GAAP measure. A reconciliation between Adjusted and Statutory NPAT is located in Note 5 of the financial statements for the year ended 30 July 2023.
  3. The difference between Capital Expenditure of $113.2 million and Capital Expenditure per Statement of Cash Flows of $115.1 million is due to timing of accruals and creditor payments.
  4. Liquidity comprises cash on hand plus committed bank facilities less Group borrowings.