developing a robust capital management framework · developing a robust capital management...

DEVELOPING A ROBUST CAPITAL MANAGEMENT FRAMEWORK

Colin Storrie

Group Portfolio Director, Woolworths Limited

2

Seek to increase shareholder value through the following objectives:

Capital Management Strategic Pillars

Maintain Financial Strength & Flexibility 1

Provide for Sustainable Investment

2

Offer Strong Returns to Shareholders

3

Optimise Cost of Capital, Funding & Liquidity Costs 4

3

Determine your financial risk appetite

– Ability to withstand market shocks

– Ensure no competitive disadvantage

– Adjust for industry and competitive threats

– Regardless of the measures, the objective is to take advantage of strategic opportunities, target a

level of financial flexibility to withstand operating volatility, maintain a safe buffer to debt covenants

and to provide the widest access to low cost funding

– Can use target rating metrics as a proxy for risk appetite

Maintain Financial Strength & Flexibility

4

Margin deterioration analysis—things can change quickly


Food & Liquor EBIT margins

(%)

FY15A F&L EBIT margin:

F&L EBIT margins

Historical Broker High Broker Median Rent / Sales Broker Low

Actual Forecast

Broker high

Broker median

Broker low

Rent / sales

Historical

5

Margin deterioration analysis


Current EBIT margin (%)

Historical EBIT margin range (%)

Belgium

USA

Domestic Selected offshore peers

UK France Other Europe USA

Nm

0.8%

3.4%

2.2%

3.9%

2.5% 2.2% 2.2%

4.4%

2.1% 2.5%

3.7% 3.8%

2.8% 2.4%

4.6%

2.9% 2.5%

4.2%

6.0% 6.2% 6.0% 5.5%

4.9% 4.9%

3.7%

5.3% 5.7%

4.9% 4.7% 4.9%

8.0%

5.5% 5.3%

7.3%

Avera

ge

Med

ian

6

Qantas

– Overlapped earnings shocks – early 90’s recession, Gulf War land II, SARS, September 11, GFC and

grounding of fleet.

AMP

– Life insurance strain, bank contagion, GFC (equity and interest rate shocks)

Santos/Origin

– Falling oil prices and investment

Financial institutions

– GFC

Rio Tinto, BHP

– Commodity price corrections over the past three years


Cross Industry Examples

7

Understand your corporate strategy and align your financial risk appetite accordingly

Know your business and where you fit in locally and globally

Be a student of history (use this in stress tests)

Don’t always rely on earnings strength, look to strong balance sheet measures


Summary Conclusions

8

How much capital is required to protect your business franchise?

– Determine available funding through following cash

– Understand maintenance vs growth capital requirement

– Ageing of assets versus financial capacity

– What are competitors doing (e.g. Amazon 100% re-investment)

– Dividends are an out working not a driver of capital requirements

Provide for Sustainable Levels of Investment & Growth

9

Available funding analysis


Annual available funding

by division or company

Annual available funding

(for dividends and capex)

EBITDA Working

Capital

Interest Tax Operating

cash flow

Division 1

Division 2

Company 1

Company 2

Company 3

Company 4

10

Group capex analysis—maintenance versus growth


Maintenance capex

Growth capex Gross capex Asset sales Net capex

Growth capex

Property development

Sale and lease back is a financing

tool with operating implications

Annual capex spend (FY11 – FY15 average, A$m)

11

Asset base

growth

Required

spend

(rounded)

1% $350m

2% $700m

3% $1,050m

4% $1,400m

5% $1,750m

6% $2,100m

7% $2,450m

8% $2,800m

Growth capex analysis


Required spend to

grow asset base

Asset base growth

sensitivity (gross assets)

Develop heuristics on growth versus maintenance

= Gross asset base

+ NPV of operating leases

= Total asset base

Required spend to grow

asset base by 1%

Net asset base

+ Depreciation

12

0%

10%

20%

30%

40%

50%

60%

70%

80%

FY08 FY09 FY10 FY11 FY12 FY13 FY14 FY15 FY16E FY17E FY18E FY19E

Coles Woolworths

Understand asset age


Fleet age

Fle

et

ag

e

Gearin

g d

eb

t / tota

l cap

ital

2000 2015

12

10

8

6

4

2

0

60

55

50

45

40

35

30

Gearing

An increase in both gearing and asset age

of the same time reduces financial capacity

Coles v Woolworths proportion of

supermarket fleet <5 years old (%)

Estimated cost p.a. to reduce fleet age

airlines versus – fleet age versus gearing ($m)

13

Understand growth and asset age heuristics

– Total growth, gross assets (plus Cap op lease), x growth rate and what is required for each % growth

The company requires around c.$Xm of capital p.a. to stay in business and protect its

franchise aging and from competitive deterioration

– Depreciation (economic, accounting, inflation adjusted)

– Measures of asset age and target age

– Re-invest for technology change and customer requirements

What is your target asset age (to achieve your strategic and customer requirements)?

Does your balance sheet capacity match your capital requirements?

– E.g. Age of assets versus balance sheet capacity


Conclusions

14

1 1

5

1 1

2

3

2

0

2

4

2

<60% 60%-70%

70%-80%

80%+ <60% 60%-70%

70%-80%

80%+ <60% 60%-70%

70%-80%

80%+

ABC

AGLALQ

AMC

AMP

ANN

AST

ASX

AWC

AZJBEN

BLD

BOQ

BXB

CBA

CCL

CGF

CIM

CPUCTX

CWN

DLX

DXS

FLT

FXJ

GMG

GPT

HGG

HVN

IAG

IFL

ILU

IOF

IPL JBH

LLC

MFG

MGR

MPL

MQG

NAB

NVTORA

ORG

ORI

PPTPRY

QBE

REC

SCG

SGP

SGR

SHL

SKI

SUN

TLS

VCX

WBC

WPL

2.0%

3.0%

4.0%

5.0%

6.0%

7.0%

8.0%

10.0x 12.0x 14.0x 16.0x 18.0x 20.0x

Div

idend y

ield

(F

Y16E

)

P / E (FY16E)

74%

94%89%

85%

76% 72%

68% 66%

Market Expectations


4.3% 4.9% 5.6% 5.1% 6.6% 3.5% 3.4% 5.6%

Avg. payout: 78%

Major

banks

FY16 div yield: Avg. div yield: 4.8%

Payout ratio relative to peers Dividend yield vs. valuation ASX 100 industrials (P / E range of 10.0 – 20.0x )

FY18E:

Max: 89%

Min: 69%

Avg: 75%

FY17E:

Max: 93%

Min: 50%

Avg: 73%

FY16E:

Max: 95%

Min: 50%

Avg: 73%

Consensus payout ratio

15

Who are you shareholders?

Do they want growth, dividends,

franking credits?

If you change your dividend policy or

payout what will happen?

Make tough decisions if you need to


Understand who your shareholders are

Register Analysis

Retail

45%

Local value/ neutral Funds 12%

Local

growth

Funds

9%

Offshare active

funds

20%

Index funds 14%

16

Is the payout ratio sustainable? Forecasts should also be stress tested


Holding Co =

weighted avg

payout

Bank Life

Insurance

Asset

Management

80% 30% 100%

Maintenance capex

Growth capex

Asset sales

Net available

for dividend

Financial services example Operating cash flow

Cash

generation

17

Do DRP’s make sense?

– Distribute franking credits

– Cover one-offs / catch up (aging)

– No reliance in longer term


18

Is your dividend sustainable given cash generated by the business?

What are market expectations / peers offering?

What are shareholders expecting?

Franking credits distributed?

Can you be competitive?

– e.g. sustainable re-investment to remain competitive, alignment to strategy

Growth versus yield trade-off

Have the hard conversation if you need to cut dividends


OPTIMISE COST OF

CAPITAL, FUNDING

COSTS & LIQUIDITY

20

USA

Optimal capital structure—peer comparison

Optimise Cost of Capital, Funding Costs & Liquidity

Optimal capital structure

based on peers

Australia

Moody’s and S&P Credit Ratings

Baa2 A3 - - Baa1 - Baa3 Baa2 Baa3 Ba1 - Baa3 Aa2 A2 A1 Baa2

BBB A- - - BBB+ BBB- BBB- BBB BBB BB+ - - AA A A+ BBB

A- or

above BBB+

and BBB

BBB- or

below/N

ot rated

Number of Companies

4 4 6

NPV of Operating Lease Commitments Debt Hybrid Non-interest Bearing Liabilities Equity

Look at debt, operating leases, hybrid, non interest bearing liabilities & equity

UK Europe Australia

Target

21

Lease liability and debt duration relative to peers and target


Peer 1 Peer 2 Peer 1 Peer 2

Average lease duration (years) Average debt duration (years)

22

Months of business disruption coverage (e.g. 3, 6 months+)

Ensure refinance in place 12 months out

Know if your business w/c positive or negative, under different conditions and determine

operating leverage (stress test)

Be opportunistic but remember markets are volatile and cannot always be relied upon (GFC

was a learning event)


Liquidity

23

Increase shareholder value through:

Capital Management Summary

Pillar Key principles

Maintain financial

strength and flexibility

Target a financial risk profile consistent with your strategy and your risk

appetite (credit rating)

Provides an appropriate level of financial flexibility to withstand operating

volatility, maintain a safe buffer to debt covenants, take advantage of

opportunities and obtain the widest access to funding markets

Provide for sustainable

levels of investment &

growth

Invest to remain attractive to customers, protect your franchise from ageing

and to deliver an appropriate level of growth

Offers strong returns to

shareholders

Understand shareholders expectations of sustainable returns via dividends that

are supported by free cash flow after required investment. In addition, franking

credits should be distributed to the maximum extent possible

Optimise the cost of

capital, and deliver an

efficient funding plan

Target a capital structure that is relevant and competitive for your industry

Optimise non-interest bearing liabilities and working capital to provide

additional low cost funding and stress test

Include all forms of off balance sheet funding in your capital structure analysis

and compare debt duration

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