Wesfarmers Limited (WES) Earnings Call Transcript & Summary

Ladies and gentlemen, thank you for holding and welcome to the Wesfarmers Media and Analyst Briefing. [Operator Instructions] This call is also being webcast live on the Wesfarmers website and can be accessed from the home page of wesfarmers.com.au. I would now like to hand the call over to the Managing Director of Wesfarmers Limited, Mr. Rob Scott. Thank you. Please go ahead.

Good morning, everyone, and thanks for joining us on the call today. Joining me is Wesfarmers CFO, Anthony Gianotti; and also the Managing Director of Kmart Group, Ian Bailey. I'll begin with an overview of the announcement today, after which I'll hand over to Ian to provide some further detail regarding the Kmart and the Target network changes. We'll then be happy to take any questions, firstly from analysts and then from the media. So today, we provided an update on the strategic review of Target as well as an update on significant items expected in our 2020 full year results. The decisions we have announced today will result in significant changes in the Target and Kmart store networks. These decisions are in response to the ongoing structural change and disruption, which has been incurring -- occurring in the retail sector in recent years. We've seen these changes around the world in retail as customer shopping behavior evolve. COVID-19 is not the cause of this shift, but it is accelerating a number of the changes. Now over the years, we've made various attempts under various different management teams to address the structural challenges in Target. And if we look back over the past decade, we've been very successful with Kmart, and in many ways, Kmart has been a disruptive force in retail with its deep discount pricing and unique products. However, Target has been more challenging. Now what's different this time is, firstly, that we're approaching the challenges with the store network on an integrated basis. That is, we're asking ourselves the question, what is the best use of our network for our customers and our shareholders from a capital allocation point of view rather than looking at Target and Kmart in silos. Secondly, we now have much stronger online capabilities, including the new Catch marketplace business that provides new channels to market and opportunities to grow our businesses and brands beyond our store network. These changes are about making Kmart an even stronger business and a more compelling choice for customers. They are also about accelerating the transition of Target to a more commercially viable and easier to run business with lower costs, fewer stores and a stronger online presence. It's important to highlight that the actions announced today relate to the first phase of the Target review. We are continuing our assessment of strategic options for Target and its remaining store network with the aim of ensuring it has a sustainable future as a leading Australian retail brand. Will provide a further update on this with the group's full year results in August. Now we know that this will be a tough day today for our Target team. And Ian and I assure them that the Kmart Group and Wesfarmers will be doing everything possible to support those affected, including offering many redeployment opportunities within the larger and stronger Kmart. Across the broader Wesfarmers group, our other businesses remain well positioned, notwithstanding the current environment, and we expect to create more new jobs in Australia over the next year. As a result of the network changes to Kmart Group and to unlock the benefits, we expect to recognize a number of significant items in our 2020 full year results. These are outlined in our news release and they include restructuring costs and provisions of approximately $120 million to $170 million before tax, reflecting store closure costs and a reduction in the Target store support office. We also expect to recognize a noncash impairment in Target of approximately $430 million to $480 million before tax, and this includes an impairment of the Target brand name. During the 2021 financial year, that is next financial year, Kmart Group is expected to incur one-off nonoperating cost of approximately $120 million to $140 million before tax relating to the conversion of stores and stock clearance activity prior to closure or conversion of stores. In addition to the significant items expected in relation to Kmart Group, we also expect to report a noncash impairment in our Industrial and Safety division of approximately $300 million before tax, primarily relating to the impairment of goodwill. In recent months, we've seen continued progress on the turnaround of Blackwoods. However, the deteriorating economic conditions have resulted in lower customer demand in Workwear Group and Greencap. And this, along with the uncertainty as to future economic conditions, has impacted the assumptions used in the assessment of the carrying value of the division. Finally, in relation to the recent partial sales of our interest in Coles. We expect to recognize the pretax gain on sale of $290 million as well as a one-off pretax gain of $221 million on the revaluation of the remaining Coles investment. This was required -- this is required under the accounting standards. Importantly, the accounting impairments in Target and the Industrial and Safety division are noncash in nature and will not impact the group's credit rating or debt facilities nor will it impact our approach to our final dividend for the 2020 financial year. I'll now hand over to Ian to provide some further details on the outcome of the Kmart and Target review.

Thanks, Rob, and good morning, everyone. As Rob has outlined, we've identified a number of actions to accelerate the growth of Kmart and address the unsustainable financial performance of Target. These actions will take place over the next 12 months, with the majority taking place in the new calendar year. The changes we will implement include the conversion of 10 to 40 large format Target stores to Kmart stores and the closure of between 10 and 25 large format Target stores. 3 of these stores, which have already been announced, will close this year, with the remainder closing next calendar year. A range of outcomes has been provided due to the ongoing negotiations with landlords, the conversion of 52 Target Country stores to a smaller format Kmart Hub stores and the closure of the remaining 50 Target Country stores that are not suitable for the conversion to Kmart Hub stores. For the stores which are closing, these stores will also trade through Christmas and close next calendar year. And finally, there was a significant restructure and reduction in size of the Target store support office. The conversion of suitable stores to Kmart will address gaps in the Kmart network and is expected to result in an improved financial performance for the Kmart Group. The conversion of suitable Target Country stores to new small format Kmart Hub stores will provide customers in regional Australia with local access to a selected range of Kmart's great value home, apparel and general merchandise products. Kmart Hub stores will benefit from the learnings from the research and development project we've been running in the U.S. involving small format Anko stores. The conversions and closures will lead to a smaller Target that focuses solely on one format that is much simpler and lower cost to run. These decisions reflect our continued focus on investing in Kmart, a business with a compelling customer offer and a strong competitive advantages. While the Target store network will be reduced, there will be increased investment in our digital capabilities, including an expanded click and collect offering, where the full range of Kmart, Target and Catch products will be available at all Kmart and Target stores. We are continuing to see strong growth in online sales across the Kmart Group and seeing very encouraging progress in Catch. We recognize these actions will have a significant impact on our Target team members, many of whom have served our business for many years. During this difficult time, I am very committed to supporting them through this transition and for our impacted store team members, we have the benefit of time to help find alternative opportunities. All Target team members in Target stores scheduled for conversion to Kmart will be offered the opportunity to join the growing Kmart team. For other affected team members, Target team members, we will work with them to identify and offer other redeployment opportunities in Kmart, Catch, Bunnings and Officeworks as each of those businesses continues to grow. These decisions have not been taken lightly, but I believe they are essential to the future success of the Kmart Group. Rob, Anthony and I will now be happy to take questions.

[Operator Instructions] Your first question comes from the line of Shaun Cousins from JPMorgan.

Just a question on the wide variance between 10 and 40 conversions of Target to Kmart or 10 to 25 Target closures. Is this dependent on the rent and fit-out assistance you get for those impacted stores? Or is this dependent on the extent to which Wesfarmers can access lower rents across the entire Kmart network, please?

Ian, do you want to answer that?

Yes, absolutely. Shaun, it's the former rather than the latter. So this is the negotiation on those individual stores with each of the landlords. So yes. So on the first one, on the 10 to 40, clearly, we've identified approximately 40 stores, which we think are appropriate to convert that we believe will make good economic sense on the assumption that the landlords agree with that view. So obviously, that's the first negotiation. On the second one, of course, we would like to end up at the lower end of the scale of the 10 versus the 25. That one really comes down to a site-by-site negotiation on the rent.

Good. And sorry, on those 40, is the conversion, is it rent and fit-out assistance? Or is it just rent?

It's always going to be a combination because those 2 elements effectively go hand-in-hand as we make that assessment. So it's a combination.

Fantastic. And my second question is just more broadly, maybe for Anthony, could you remind us what sort of intangibles or goodwill is left in the Target brand? Are you writing it down to 0? And then on the write-down in Industrial and Safety, is that primarily related to the workwear business you bought from Pac Brands? Or are you writing down any of the intangibles relating to Blackwoods from the Howard Smith acquisition? Just curious around the write-downs, please.

Yes. So on your first one, Shaun, [ the carrying value of the Target brand ] [indiscernible]. So if you look at the noncash impairments that we have outlined of $430 million to $480 million, about half of that will be related to the write-down of the brand name. So it won't be, at this stage, probably writing down the entire brand, but a large component of it. On your second question, this is such -- the Industrial and Safety business is one CGU, so the goodwill sits at a WIS level, not at a Blackwoods or Coregas level or the individual businesses. So the write-off will be against the combined goodwill. So there's a combination -- if you look at the makeup of that goodwill, it's from a combination of businesses, including Coregas, some would be in relation to Blackwoods and some would be in relation to Workwear Group as well.

Your next question comes from the line of David Errington from Bank of America.

Rob, I'm trying to get my head around the restructuring costs, why you split them out into 2 buckets. The first bucket, the $120 million to $170 million, which is the Target store closure costs, the inventory write-downs and a reduction in the Target support. But then you've called out, which I find quite peculiar, another $120 million to $140 million that's going to be taken in the '21 year. And that's relating to conversion of stores and stock clearance activity prior to closure or conversion. I'm really perplexed as to why you're planning to take $120 million, $140 million in '21 and why you wouldn't just do it all in '20, get it ready now, get it cleaned out and why you'd be doing stock clearance activity. I've never seen a company planning stock clearance activity 12 months out. So can you explain that, please? Why you've broken them into 2 separate buckets?

Sure, David. At a high level, I'll let Anthony talk to the detail. But there are -- we are restricted on what we are able to bring to account at the 30th of June based on where we're at in the process. So we are -- in order to comply with the accounting standards, there's limits to what we're able to book now versus what we need to wait until the next year. Now there's always, from a practical point of view when you are closing stores and converting stores, there's always an inevitable [ impair on ] -- obviously, markdowns around clearance and stock. So that is part of what we are providing for as part of the changes next year. But Anthony might be able to add to this.

Yes. Look, that's correct. So under the accounting standards, we can't book all of the store closure provisions by 30th of June. So what we're obviously trying to do is give you an indication of what the total cost will be. We can only book the first amount at 30 June and the rest will flow through in FY '21. As Rob mentioned, on the inventory piece, as you know, we're required to undertake a valuation of stock on a net realizable value basis under the accounting standards. When you're closing stores, generally you clear stock. So on the expectation that we'll be closing these stores, we'll be realizing lower margin on that stock as a result of clearance activity. So that's effectively what some of that provision represents. But again, some of it we can take by 30 June, but some of it we're not able to take by 30 June and will flow through the P&L through FY '21.

Okay. The second question is on the write-down on WIS, the $300 million. And following on from Shaun's question, I understand it's the write-down of the DCF. Now relative to the impairment, the first half was a really poor first half. And I was hoping, factoring in wherever my analysis was wrong, but I thought that Blackwoods was gaining a benefit from COVID because of the stocking up of washing materials and detergents and sanitizers. I understood Workwear was deteriorating, but Blackwoods is by far the bigger business in that, and then Workwear, my understanding, was significantly smaller. Is this $300 million write-down now a sign that Blackwoods has actually deteriorated further post the first half result? Because otherwise, you should have done this write-down at the first half. But I thought that your earnings in Blackwoods would have improved going through COVID. But it looks like -- has Blackwoods deteriorated since the first half?

Yes. No, David, as we said, Blackwoods, we've been pleased with the performance of Blackwoods in recent months and Blackwoods has benefited, as we've said, from some of the COVID-related demand. The reason why we are facing into this now is that the -- both the impact and also the outlook for Workwear Group, Greencap and, indeed, Coregas as a result of the downturn in economic activity is largely what is tipping the valuation over. So in summary, things are looking more positive on the Blackwoods side, but more -- we're more conservative around the outlook in some of those other businesses.

And David, probably just to highlight, just to add to that. As you know, at the half year accounts we highlighted there was basically no headroom in the Industrial and Safety CGU at the half year, so not very far to move in terms of further in the environment deteriorating further.

But as a group, Anthony and Rob, as a group, has that group performance deteriorated since the first half? That was really where I'm going at. Because Anthony, you said that basically the impairment is against the group. So if the impairment is taken today, it's saying that the overall group has deteriorated since the first half, putting it all together.

And in terms of short-term performance, it has, David, notwithstanding the improvement of Blackwoods. But just to be clear, the reason why is if you think about corporate uniforms, right, so that is a sector that has been very materially impacted by COVID. If you think about the Greencap consulting business, well, like a lot of other businesses, activities almost stopped. Coregas -- although Coregas has been performing reasonably well in terms of the activity on the health care side, helping the health care system access additional suppliers of oxygen, we've seen elective surgery decrease and we've seen industrial activity decrease. So these are, Derek (sic) [ David ] -- so what we needed to make a judgment of is, clearly, there are some short-term COVID impacts that are impacting these businesses other than Blackwoods, and we needed to make it -- we needed to face into those issues, but also make an assessment of the longer-term economic outlook in order to reflect that in the DCF.

Your next question comes from the line of Grant Saligari from Crédit Suisse.

First question is just around understanding the financial commitments you're making here. So you're spending sort of best part of $300 million in cash to effect the change. Are we to interpret that, that you're basically saying that this strategy you've chosen is generating a cash outcome of $50 million or $60 million or $70 million a year better than a continuation of the current situation? I just want to understand how you've arrived at this decision from a financial rationale perspective, please.

Yes. So Grant, it's Rob here. You're right that the decision is driven by the fact that we think the -- we believe that the earnings outcome will be stronger and more accretive as a result of the investment we're making. I won't give a particular number to that because as you can see from the announcement, there's quite a range of outcomes around what the conversions might be, what terms we may be able to agree with landlords and so forth. So I wouldn't want to give a forecast. But we do believe that this investment is justified by virtue of the improved value that should be created over time.

Okay. All right. On the residual Target stores, can you give some color as to the sustainability, the profit line there? What can you point to that says that, okay, we narrowed down to 130 store run, the trajectory of that over the long term, what gives you confidence that, that is a sustainable position? Or is there more work to do on the 130, please?

Yes. So at a high level, Grant, this change will materially reduce the cost base of Target. And we also now have the opportunity to leverage online platforms that will help support the growth that we previously didn't have before. I'll let Ian talk to more about the go-forward target. But clearly, we've materially simplified the business so that creates opportunities going forward that we haven't had previously.

Yes. Thanks. I mean, I think, Grant, the review isn't finished, I think as we've called out. So this was the first phase, and we believe these actions are the right actions under all subsequent scenarios. We're still working through that second part of the equation. What we do know, of course, is that we've got a Target brand, which is loved by many customers. What we now have is a much simpler or what we will have is a much simpler business. A lot of the complexity will be removed as we make these changes, which gives us the business to be a lot more focused on a significantly smaller business as we go forward. Rather than going into the exact details of what that will look like and how it will perform in the future, I think we'll be covering that in future events.

Your next question comes from the line of [ Lisa Humick ] from Citi.

I've got a question around the conversions you've outlined today. So would you say 40 is the upper end for your large format conversion opportunity across the network? Or is there the potential for more, but you haven't done the work yet? And can you also kind of talk through the factors that make a store suitable for conversion to Kmart as well? Just interested in getting some color around that.

Yes. Look, that range definitely represents the bookends of options. Together, Ian's team has done a very detailed review of where network gaps are, are also -- are analyzing the different demographic segments around what brands resonate more strongly with customers in different areas. So there's been a very detailed network mapping and optimization program that's gone into determining these options. As we've said, ultimately, ultimately, whether or not we can affect the conversions will come down to the negotiations with landlords around a range of factors in terms of facilitating the conversion, providing some support around the investment required to make the conversion happen and then ensuring that we have rental terms that are going to be sustainable for the future. So those are some of the factors that will ultimately determine the numbers.

Okay. So just to confirm, 10 to 40, you think that's it across the runt of the stores, less Target stores left over as well. There's no potential for that to be upsized?

No. That -- look, we feel that, that is appropriate. The one thing that's of interest to note with Kmart and what we've noticed over the years is that it's remarkable how far a customer will travel to go to a Kmart store. And Kmart stores actually draw customers in from a very broad catchment. So there is a limit to how many Kmart stores we need. And we feel that this does create the opportunity to fill various network gaps. Obviously, we'll continue to expand our retail offer, which is another way of growing sales. And as we continue to develop that offer, together with click and collect and leveraging the Catch platform, that will enable us to get to even more customers.

Okay. Cool. Understood. And just a second one on conversions as well. Can you kind of give us the idea of the costs involved when converting a store? And how much you expect to spend per conversion as well for some of these losses?

Ian, can I let you cover that one?

Yes. I mean, it varies considerably, actually, but depending upon the store. Every time you do a conversion and you touch the back of house, then that can trigger a whole bunch of compliance costs to fix up to the current code, which get triggered by that event. So you've effectively got 2 pieces. You've got the work in the front of house and the work in the back, that typically, it's in the range of $2 million to $4 million per store. Now of course, part of the landlord negotiations is the extent to, as was covered by one of the earlier questions, is the extent to which we get support from the landlord with a [ competitor ] and the extent -- or the extent to which we get some additional help with the rent.

Your next question comes from the line of Ross Curran from Macquarie.

I know you're reluctant to talk about this, but can I possibly go back to Grant's question? Can you just help us know what Target is going to look like, whatever is left of it? What the WALE is going to be? What the store format is going to be? Whether there's going to be the same amount of SKUs in it? What are we going to be left with? And what's the profitability of that business?

Well, Ross, as Ian said, we're still going through a fair bit of work to better refine the Target offer. What I'd say is that the decisions we're announcing today will help address a number of the structural issues that have held Target back notably, materially reducing the above store cost base, materially simplifying the business model by virtually -- by essentially moving to 1 store format that takes an enormous amount of complexity out of the business. You would expect that the ongoing focus on categories will continue to be similar around the strong focus on apparel, soft home and the other categories, the other categories that Target are well known for. Just to be clear about some of the work that we're still doing. The reality is that one of the challenges, not only Target faces, but many department store businesses face, is their stores are too large. So there's more work ongoing into how can we better optimize the size of the space. Once again, there's opportunities there for discussions and negotiations with landlords to discuss alternative space utilization options. So that are some of the things that we're looking at. But I wouldn't want to go into any more detail. We'll provide a further update in August. Just on the question of the WALE. We will see -- we're continuing to see the WALE decrease over time. As a result of the changes we're making, some of the exits on the Target Country side, we had short -- much shorter lease terms, but in aggregate dollar terms, they were not as large as the larger stores. So one of the -- you might argue that one of the benefits of the change that we're making is that we are materially derisking the Target business by reducing the lease liabilities. So that is -- there's 2 elements of what we're talking about today: one is enhancing the value of Kmart and the other is derisking Target.

Ross, maybe just to give you a slight flavor on that. In terms of the undiscounted lease liability, if we executed on the full program, by the end of '21, we would have -- the undiscounted lease liability in Target would be about 1/3 lower than it current is.

Fantastic. The other question, I suppose, just to shift to maybe something more positive. You've talked about growing the Catch Group. Can you help us understand the opportunity that you have here, how much money you're going to spend on it? And maybe both the size of marketplaces you see in Australia and how big this business could be?

Yes. So we're -- look, we've been really pleased with the performance of the Catch Group. In fact, as I -- as we talked about in our recent updates to the market, we've had very strong performance across e-commerce channels in all of our retail businesses. And then Catch has provided another opportunity, a very timely opportunity that we didn't have before. So I think this is -- we're really pleased that we've made this significant investment in data and digital in the last couple of years. And across our group, including Catch, Wesfarmers Group is now one of the largest e-commerce retailers in Australia and growing very strongly. What's exciting about Catch is a couple of things. Firstly, it enables us to offer a number of new brands, focus on new categories that we just simply don't currently offer within our retail stores at the moment. So it's a really -- this is a really interesting incremental growth opportunity because it's expanding our addressable market. The other interesting opportunity with Catch, particularly as it relates to Target, is that it's a way of getting our products to customers and leveraging the great brands we have, together with an exciting digital channel. So we'll be -- the way we're thinking about utilizing Catch is thinking about, obviously, what products within Target and Kmart makes sense within Catch, but also how can we utilize our store footprint for click and collect and other options. And you might have seen, we have undertaken a trial in our Highpoint store in Melbourne where we've actually used some of our surplus space within a Target store to present various best-selling lines in Catch. So we'll continue to evaluate some of those opportunities over time.

Your next question comes from the line of Ben Gilbert from UBS.

Just a first question for me. Just interested in how some of the early preliminary discussions have been with the landlords on the stores looking to retain. I'm just wondering, is it more around trying to sort of reduce sort of lease 10-year reduced base rents? And just also, just on that point, what sort of [ upticks ] have you seen on sales productivity per square meter when you converted a Target to a Kmart previously?

Yes, Ben, I'll let Ian talk to those points.

Yes. Thanks, Ben. I think the first thing is, is when we've been chatting with landlords, we've got quite a variety of landlords, of course, across the portfolio, so the conversations vary considerably on the way through. I think a lot are approaching this very positively. And what we're doing is we're pretty much talking about the entire portfolio of stores, but of course, with a strong focus on the stores where there's likely to be change as we work through that. And ultimately, we're trying to find outcomes that work for both of us on the way through. And I feel we're having some really productive conversations with a number of landlords already. And not surprisingly, we've probably got some work to do with some others as we work our way through. When you look at the sales productivity of a Target to a Kmart, it's -- I mean, obviously, you can look at the top line of the organization to sort of back calculate a number which obviously gives you a much higher sales density of a Kmart to a Target. I'm not sure it's quite as simple as that when you go through because each store has its own nuances based upon the demographics, the competitors, the proximity to other stores and so on. But clearly, what we're looking to do here is make a commercial decision around the conversions. So on these large stores, we're converting them because we think there's a positive economic outcome in doing so. So that requires a sufficient enough uplift to cope with the fact we've got the closure costs of a Target and then we've got the opening costs of Kmart along with any capital that we need to do the refurbishment. So it's very much a commercial decision that we're making.

And just final one for me. Just interested in how you're seeing capacity at the back end. I presume, obviously, a lot of these decisions have been driven by the style of performance of Target, but also just by probably a more optimistic year-round where online settles longer term. How are you sitting in the back end in terms of capacity at the moment around your online capability? And do you see need to sort of accelerate investment around that looking forward, just in light of the decisions today?

Yes. Rob, would you like me to tackle that one?

Yes, go for it.

Yes, it's -- not surprisingly, when there's high demand and there's growth, investment follows. And we've -- I think as everyone would expect, we've seen pretty strong demand in the online space, and we think that's going to continue into the future. So clearly, that's going to attract attention in terms of growth. I'm sure you'll have seen across the businesses, there's been times when they performed well online and there's been times when the demand has become too great for us to manage, which is a sure sign we need to upgrade our capability. So certainly, that's the case within Kmart, and with that process, was already underway. We were just a couple of months too late in getting that in place before the spike hit. So we'll be continuing to invest through this calendar year. And of course, the overall game plan is to grow Catch. And so we're going to be continually investing in that business whilst we see that growth opportunity in front of us.

So just to follow up on that, that final one. You've obviously got 3 stores down the East Coast, I think Kmart you're effectively fulfilling online out of at the moment. Is that a discussion you're having with the landlords to effectively have pure fulfillment stores in some of these centers if they're in the corner or they couldn't repurpose space? Does that make sense economically?

Yes. I mean, to a degree, that was a necessity because of the spike in volume that we had. And also, we had reduced transactions in a number of stores over the -- if you like, the peak of the coronavirus period in April. So that was why we decided to do the 3 dark stores as picking only to help us pick faster. And frankly, we didn't have the foot traffic coming through those stores at the time. As things return to normal, I think the dark stores probably -- there are options where we have a really underperforming store and we have a lease that's left available. Outside of that, it's a relatively expensive picking space. So I'd say it's one of those tactical moves we'll use from time to time, but I'm not sure it's the long-term solution for picking for online.

Your next question comes from the line of Michael Simotas from Jefferies.

The first question for me somewhat related to the previous question. The capacity of the Kmart supply chain in general, a little while back, you had some stock issues you're clearly looking to put a lot more volume through the supply chain. Where are you up to with that? Does there need to be more investment to handle that volume?

So Rob here. I'll make some opening remarks, and Ian can add to it. So I think Ian and the team have done a fantastic job of addressing those issues, those capacity constraints we had in the business about 18 months ago. So coming into coronavirus, the business, as we've reported, was generating very strong growth. We had fantastic availability and the supply chain was working very well as a result of a lot of good assets that have gone into it. Yes, that is still the case. The challenge, obviously, at the moment is trying to match some quite dramatic changes in demand. But Ian and the team have also done a very good job of shortening some of the lead times by leveraging some digital tools with some of our suppliers. So we have made some additional progress there. The key constraint that Ian called out was in relation to the online system and with a lot of effort and focus is going into getting that ready to go. But to put it into perspective, there were some -- there were some days and weeks where we were seeing 500%, 800% growth. And there's not that many traditional mainframe systems that can support that kind of growth. Now clearly, we're trying to move to a more modern system. And Kmart is the one business that we yet to get onto a more scalable platform. So that's really the issue from a broader supply chain point of view.

I might just add. So Michael, we've modeled the volumes, as you would expect, through supply chain. So we're confident our distribution centers in Kmart can handle the volume. And if I look at where we had our issues a couple of years ago, we've really solved the underlying processes which enable us to be at a scale again. I think the future of supply chain and its continuing evolution is a significant topic. And we are applying a lot of energy to that as we continue to digitize the process. And through that, we improve transparency and through that improved transparency, we can find further ways to reduce lead times, which again, derisks the -- some of the long-term decisions that we've made historically in the business around [ the trade ].

Okay. And second question for me is relating to the Target Country conversions to small format Kmart stores. Is there going to be any trial in Australia of that small format Kmart Hub store? Or are you committed now to the conversions? And if you are, what gives you confidence that, that small format will work, given it hasn't really been tested in this market?

Yes. Thanks, Michael. We've got a small number of stores which we will be converting this year, which I wouldn't say they're a pilot or a trial, they're actually proving out the model and it's operationally proving out the model. Our confidence level that there's demand in there is high. We have the technology and the processes that we're effectively pulling back from the Anko trial in the U.S. that we can utilize those. So we're confident we can run a, if you like, a faster speed supply chain for these small stores, which means we can carry a reasonable range without carrying the same debt that we would need to carry in a large store. So our view is that we can run these at a pretty effective productivity, both from an inventory and an operational cost view, and that, that should give us plenty of headroom from a profit view on each one of those locations. So we enter the race track feeling like we've got all the ingredients, but we will prove it out in the first 3 as we -- and we'll refine it before we roll out the remainder.

Your next question comes from the line of Andrew McLennan from Goldman Sachs.

I'm just wondering, this is a very significant structural change that you're going through, obviously. And just thinking, we've been focusing a lot on both Target and Kmart. But just specifically to Kmart, you're potentially converting 60 to 100 stores across to this brand. There's going to be a lot of inventory that requires to be cleared. How are you going to try and execute all of that with as minimum disruption? And I imagine that you're having to take a view around what product you're going to be sourcing for these conversions to Kmart and what you'll be sourcing for a vastly diminished Target and potentially, in the future, 0 stores? I'm just wondering -- it's a very complicated process. I'm just wondering how you are going to try and mitigate the disruption impacts to Kmart, but at the same time, you must have an idea and be making decisions around whether or not there is a Target in a few years' time. And I'm just wondering why that didn't lead to additional thoughts around write-downs of more leases.

Yes, Andrew. It's a good question, and that's why there's been so much work go into where we've got to today. I'll let Ian talk to some of the more specifics around executing the conversions and the closures and what that means around stock and resourcing at the Kmart level.

Yes. I'd say, first of all, Andrew, we have experience of undertaking conversions from Kmart to Target, albeit not at this scale. So on the converting the Kmart piece, we've got pretty good -- we've been opening quite a number of stores over the last few years, including conversions, and we're reasonably good at estimating what the sales of those stores are going to be. We carried one range in all stores in Kmart. So there isn't a decision to make about which products [ go on the floor ]. It's only a decision about the quantification of each SKU. And again, we've got pretty good history to be able to base that from. And what we effectively do is we identify like stores to use as the baseline as we buy for those stores initially. The time horizons that we have of next calendar year for the majority of the conversions gives us plenty of time to be able to impact our ordering so that we can assure we've got that inventory available. So I feel like we've got a skill there. We've got to build out to a larger scale. Equally, on the closure of Targets, we have closed a number of Targets, and we understand how that process works. And again, having that lead time gives us the ability to manage our inventory down in a very deliberate manner so that we try and mitigate the cost of the clearance component that occurs in the end. Clearly, there is a cost component, and that was one of the numbers which is called out in the next year one-offs.

And the fact that just as part of that, you hadn't made any further sort of calls on running down the lease.

Yes, we're making commercial decisions would be the -- is the #1 thing that we're looking at. And our view is the decisions that we've made so far are clearly the right commercial choices. We're going to continue to undertake the review for the second phase. And then obviously, we'll make any final calls as we go through that. But clearly, our view at the moment is that it's more commercial for us to trade the stores as Target than it is to close them and pay out the lease.

Okay. And just as an additional question. You guys tend to have a process where you come out with any sort of restructuring charges ahead of the result. But I'm just wondering if you could make a comment on the trading performance of the non-Kmart and Target businesses, in particular, Bunnings and Officeworks.

Yes, there's really nothing that would add from what we -- other than what we said. I think it was on the 28th of April where we noted that Bunnings and Officeworks was -- there was significant growth in sales, benefiting from the trends in terms of people spending more time at home and working from home. That comment is still relevant. Well, the only point I would say now without getting into specific forecasts or trading updates is that, clearly, there's a lot of volatility as you'd expect and as has been reported that when relaxations start to -- the restrictions start to relax and as the stimulus checks hit bank accounts, that can have a pretty significant impact on sales week on week. So that's the environment that all retailers are going through at the moment. But directionally, nothing more to add from what we said on the 28th of April.

Your next question comes from the line of Richard Barwick from CLSA.

My question's around actually the store numbers that you'll end up with here. I'm just trying to get my head around. If you think about the conversions to Kmart, you could end up taking a Kmart number to about 270 stores. You've talked about filling in some of the gaps in the portfolio, et cetera. Does that mean -- or what does that mean for the growth outlook for Kmart store numbers once those conversions take place? Is that it then? Or do you still see some scope to roll out additional Kmart stores?

Ian?

Yes, it's -- I mean, Richard, clearly, there's an acceleration here of the future new store opening program as we're filling many of gaps. So I think it's fair to assume that the store openings in future years will be reduced from what we've previously outlined. We do, of course, still have store opening potential in New Zealand, so -- which isn't affected by any of the changes that we're talking about today. So they will continue, of course. But I wouldn't -- yes -- but clearly, we're getting to quite a number of stores within Australia. And so the number of gaps that remain are increasingly small.

Okay. And for -- I mean, also what number we end up with, with Target, that's going to be around maybe as low as 120 or 130. I mean, that, all of a sudden, takes you significantly smaller than even BIG W that's sitting around the 180 stores. So am I hearing you right? I mean, is the message that you would have potentially -- you'd be happy enough to get rid of all Target stores if it wasn't for lease obligations? And if you left with the sort of 120, 130, is that a sustainable number then to actually grow from? Or is this just a big step down in the continual demise or removal of Target stores?

Ian, do you want to talk to that?

Yes. It's -- I mean, Richard, it's -- I mean, Target is a retail brand that's been in Australia for many years, and it is much loved by many of the customers as well as many of our team members. So I certainly wouldn't characterize it in a way that I think the question was posed. We believe there is long-term potential for the Target business, but we have more work to prove that out and to really get definitive around what that looks like, which is what the Phase 2 of the review is about. But certainly, I answer that with a belief that customers want us to find a solution to this question. But obviously, we've got to find something that's economically sustainable for the long term, and that's what we're working hard to achieve.

And this sounds like you do expect to have those answers for us come August?

We'll certainly be able to give you an update at that point. And it's a very high priority for us to [ work through that ]. But yes, we're committing to an update. But hopefully, it will be as meaningful as we can make it at that point.

Okay. And just the last one for me. Thinking about -- there's a lot of shopping centers where there's a Kmart and a Target. Presumably, that will obviously limit your ability to go and convert a Target into a Kmart and end up with 2 Kmarts in the same shopping center. Is it fair to say that the sort of dual locations, that's where we'll see -- more likely to see Target closures? Or do they tend to be the sites where the Targets are a better site in the first right?

Yes. It's -- I mean, that's one of the scenarios for sure. But clearly, the lease obligation that we have outstanding and the absolute sales that we deliver from the store are important factors, so there are many centers where we have strongly performing Kmart and Target in the same center. So it's one of the dynamics. But ultimately, what we look at is trading performance of the Target store in its own right and the sustainability of that performance. That's what's led us to the closure list. The conversion list has really been looking at it from a commercial lens of do we believe we can generate a greater return as a Target store -- sorry, the Kmart store relative to a Target store. And obviously, the conversions we do that we believe that's the case.

But you wouldn't end up with 2 Kmarts in the same shopping center?

It's not the outcome that we're looking to achieve. No, I'm not sure -- yes, it's not the intent.

The next question comes from the line of Mr. Phillip Kimber from Evans & Partners.

I just had a -- first question was on, you noted the noncash impairments once your credit rating or your debt facilities or the dividend, but you only specifically mentioned the accounting impairment. So there's $200 million to $300 million of cash costs that you're going to take across FY '20 and '21. I mean, are you also saying that they won't impact the dividend at all? I just wanted to clarify that.

Yes. No, look, I think, Phil, just on that, that will be cash costs. So they're considered like any other cash cost in the business and impact the profitability. So they, I guess, to the extent that they are material, that have an impact, but as a [indiscernible] operations of the business. So I think we're calling out the noncash cost because they are larger and clearly noncash and don't have an impact.

Right. But you're going to -- I mean, I'm not sure if you want to take them as extraordinary or nonrecurring type items. I was just -- I mean, that could impact your dividend if you took them through above the line and then you just get a normal sort of whenever we think your dividend payout ratio is going to be. So I just wasn't sure if because you deliberately left it out, that's where you were sort of heading.

No. No. I think, Phil, what we were trying to get at is, as you know, our franking -- sorry, our dividend policy is very much focused on paying out franking credits. And we have regards to cash flows and other things, not just NPAT. We don't have a fixed payout ratio, if you like. I think what we were trying to point out is that if you look at the noncash impairments, which in this case, are quite sizable, they -- on the face of them won't have an impact on the dividend that we pay out for the full year.

Okay. And then my second question was just around Kmart. And you made a big point with Target that you've effectively got one store format now, and you've significantly simplified the business. So I just was wondering what the risks are that you're shifting that complexity. And in particular, I guess, I'm really referring to the small format country stores. You're shifting that into Kmart. Is that something that concerns you, that by adding a completely different store offering to Kmart, it could actually add complexity to a business, which has been fantastic for being very simple and, therefore, low cost?

Yes. It's a good question, Phil, and a lot of thought went into the pros and cons of converting those stores to a Kmart Hub type concept. Now the view is that the way that we've set up the team, the current plans around how the stores would be configured, set up in a way that it is very -- it is expected to be quite simple to manage. It also potentially, over time, opens up opportunities for more format options. So this is, over time, potentially a growth opportunity, partly why we were experimenting, testing and learning with the Anko concept in Seattle. So we've set this up in a way that it will be quite distinct so as not to confuse or complicate the large store mat offer -- the store format offer. So we think we can manage that effectively.

The next question comes from the line of Niraj Shah from Morgan Stanley.

Just one question for me. You're flagging sort of clearance activity through a significant portion of the Target network through this process, and you've called out that 120 to 140. I'm just keen to get your thoughts on how that might impact trading in the rest of the Target network and potentially Kmart through the transition process.

Ian?

Yes. I -- to be honest, I think it's probably going to be a drop in the ocean relative to the current activity that's going to go on in the next 12 months in the market more broadly. So I think this isn't going to be the big deal for the competitive landscape for either the Kmart stores or the Target stores. As I said, we have got some experience of doing this before with Target closures. And so we've seen the impacts of the clearance activity on nearby stores, and we factored that into our merchandise planning or we'll be factoring that into our merchandise planning as we're going forward. So at this point, I don't see it as a major concern.

Next question comes from the line of Peter Ryan from ABC.

Rob, just a quick question. Once you get through the redeployments, how many workers are going to be losing their jobs in terms of net job losses? And also as a bit of a follow-up to that, the Agriculture Minister, David Littleproud, has already been out very critical of this decision and saying that shoppers should go elsewhere.

Well, Peter, we've spent a lot of time in the planning, together with Ian and the team, to see how we can minimize the job losses through this decision. And in many ways, we're fortunate we have a strong business like Kmart to provide these redeployment opportunities. So by pursuing this strategy, it increases the number of jobs that we're able to preserve. So after the redeployments that we're highly confident of to Kmart, there's probably in the order of 1,000 to 1,300 or just under 10% of the Target team that -- whose jobs could be affected. We're also, as Ian said, looking at further redeployment opportunities across the Wesfarmers Group. So setting up a process to enable redeployments across Bunnings and Officeworks, if that's possible. The point I'd like to note as well is, as I said, notwithstanding these difficult decisions and the job losses in Target, we do expect across the Wesfarmers Group that we will create more jobs in Australia over the next 12 months. And what we really need to do is to make sure that our businesses are viable for the future. There's a lot of change going on in the market, not just COVID-related. And if we do want to provide sustainable jobs for our teams into the future, unfortunately, at times, we do need to make some of these difficult decisions. But that's all I'd say on that.

Any response to the Agriculture Minister's criticism there?

Look, I think we all recognize it's really disappointing. It's really disappointing and it's really tough when people lose their jobs. And as I said, we've been focused on doing everything we can to reduce the impact. We're also very focused on doing what we can to do all the right -- not only all the right things around redundancy and transferring entitlements, but to the extent we can go above and beyond to help team members through this time. And that is what we're doing, and that's what we're communicating with our team at the moment. Look, I can understand those comments are probably spurred by disappointment. Yes, we're all disappointed with what's happening with jobs in Australia at the moment. But as I said, I'm quite -- I think the Wesfarmers Group is doing a good job at creating new jobs for Australians. And [indiscernible] across the group, we are continuing to invest. We're investing heavily in communities around Australia. We have materially increased our investment in various community activities and supporting our team members through coronavirus. So frankly, I'm very proud of the way that our teams have [ responded ] in recent months. And I hope we can continue to do this and by having strong businesses, will create, hopefully, more job opportunities in the future.

Your next question comes from the line of Eli Greenblat from News Corp.

Just on Target, on the write-down. So to date, since going back [indiscernible], what's been kind of roughly the total write-down impairments for Target [ to this time ]?

Eli, I couldn't tell you off the top of my head. Happy to go back and look at the numbers. I recall many years ago, there was a reallocation of some value across Target and Kmart at one stage. But I -- yes, I won't try and guess what the number is because we can follow up off-line.

[indiscernible]

[indiscernible] And just on Anko, can you just add a bit more to that? Like, what actually kind of -- obviously Anko is a brand, but what have you been trialing in Seattle? And then what are you bringing back here? What will the average consumer see about Anko in the stores? What are you planning? What's that all about?

Well, I think there are two things. First of all, Anko is the brand, Anko is the brand that we use for a lot of unique Kmart product. So that is -- our customers would know the Anko brand. But then probably turning to your question of what we've been trialing. We have been trialing some small format offers and utilizing technology in different ways to address some of the opportunities around smaller format stores. So I'll let Ian talk specifically to what we've learned through that and what's being brought back into Australia.

Yes. It's -- yes, thanks, Eli. It's really process and technology is what we've been working on in the small format within the U.S. And what it enables us to do, it enables us to move single SKUs very efficiently at a store level. So if you think about a Kmart store today, we move cartons and we move pallets, and that's how the supply chain works. Now as you go to a smaller format store, that just leads to too much of any one item. So what we've developed is a mechanism and a way of moving product very quickly in small volumes at low cost. And so that's what the trial has really been enabling. And that enables us to create a really -- yes, a really good store format with good SKU density and good availability. And that's what customers will see in the Kmart Hubs when they come to life.

And so Anko is a natural brand? Like, will I see the Anko brand? Or maybe I'm a bit confused?

Yes -- no. We used it -- in the U.S., we use Anko as the brand because, obviously, Kmart is a U.S. brand already. So there would be a conflict there. So we use -- we use Anko as the brand. Anko is our house brand name, so it's on the vast majority of our products already. So that's why we use that name.

Okay. And in Australia, you'll be using some of those logistics and supply chain learnings or -- [ however the word is ], learning to implement that in maybe small format stores to help you move around products?

Yes. Correct. It's one of the reasons why I think there's a question earlier around complexity and how do -- are we worried we're going to overcomplicate Kmart. We're very paranoid about that. So we wanted to make sure we knew how to run these stores before we made the call to make the conversion. And we feel like we've learned enough from the work we were doing in Anko that we could run these efficiently without distracting the core business from the big stores, which are clearly going to be the major economic driver of Kmart.

Okay. But it's not an Anko store you're opening. It's just within Kmart.

Yes. No, no. Anko is just the label for the U.S. stores. When customers in Australia would only say Kmart or Kmart Hub.

Got it. Rob, very quick last question. You mentioned digital Catch Group, obviously going very well. Your online sales are really going well. Are you finding any issues with congestion in that last mile as you deliver that product to the consumer's home? Is there a congestion there? Are you finding problems with that logistics, that kind of last mile end?

There are some bottlenecks and challenges there just simply as a function of the very strong growth we've seen across the market. Now I think as a general point, we're managing that reasonably well across the partnerships we have with various last mile providers. But it is one of the factors that not only impacts us, but it impacts the rest of the market that is leading to some delays around delivery at the moment.

The next question comes from the line of Sean Smith from The West Australian.

Where do you see Target sitting in the marketplace? What's the offer that's going to be that's going to pull people through the doors?

Yes, Sean. I think I just got the last bit of your question. Your question was around where do we see the Target offer sitting in order to attract customers? Is that...

Yes, yes. Because I still think there's quite a bit of doubt about sustainability. I mean you insist that it's trusted and it's well loved. But these matters -- but nothing surely if you can't get people through the door. So [indiscernible] future retail brands in Australia?

Sure. Well, look, I guess what -- by what's probably fairly obvious based on the announcement today is that Kmart has been incredibly successful at winning a range of customers. And as Kmart continues to develop its business, not only are we winning a lot of the value-orientated customers, but we're also attracting customers to Kmart by virtue of having savvy products and on-trend products and so forth. Notwithstanding the fact that we're very cheap. But coming back to Target, and Ian can add to this, we do see a number of Target products, particularly across the apparel categories, various home categories, resonating with customers. Target stores tend to perform better in some market segments and others. And we do feel that there is a gap between what Kmart offers and what some of the higher-priced specialty chains offer. And that is really where Target is looking to play. But clearly, that market opportunity is nowhere near as large as it is for a business like Kmart. So that is why a smaller network, a network that is more orientated towards online, is what we think is going to be part of the formula that will resonate with customers in the future.

Your next question comes from the line of Dominic Powell from The Age.

Can I just get a bit more color, I suppose, around why you're focusing the sort of conversions and closures on Target Countries, especially in some situations, it may leave regional towns about any sort of department store offering whatsoever?

Ian, I'll let you talk to the thinking around the Target Country stores.

Yes. Thanks, Dominic. It's -- the Target Country model for the Target business was complex. So we had many formats in -- and obviously, in many locations, which really made the supply chain really complicated. And it added a lot of complication in the office as well as throughout the supply chain of the organization as well, which was really quite inefficient to run. When we've looked at the -- so when we've looked at moving the Target Countries to Kmart Hubs, we applied 2 lenses to it. The first lens we applied was, is there a Kmart nearby. So if we have a Target Country right next to a Kmart, then it says -- we said, you know what, it makes sense for us to close that store. The second lens we applied is, is it below 1,000 square meters. And what we've been looking at it is, in that Kmart model and the Kmart Hub model, to get that standardization, to get the simplicity of operation, we needed 1,000 square meters to make it work. So where we've got stores, which are a long way from a Kmart and they're below 1,000 square meters, then they're the ones which are lined up for closure. We do understand the impact that has on regional communities and it's not a decision that we made lightly. And if we could find an economic way of serving those communities with stores in those locations, we would love to have done so. We will continue to serve them through online, of course. And we'll be working with each of the communities where we do have a closure to do whatever we can to try and find solutions and help for the team members who are in those stores. If we don't have Wesfarmers brands in those towns, then we'll seek to work with other retailers, do what we can to find those team members alternative positions.

And can you just -- is there any chance that in the future we could see more rollouts of the small format Officeworks or Bunnings stores? I know you've trialed them in some locations as sort of more Target stores are slated for closure that you can sort of plot in smaller format other Wesfarmers brands in there?

One of the -- one of the things that we have been looking at as part of better utilizing the network that we currently have within Target is if in areas where we may not have a viable Target, are there other brands within the Wesfarmers portfolio that could provide a viable offer there. So there are a small number of stores where we are evaluating those opportunities. But there's only a handful of stores where that may be relevant or that may be possible.

Next question comes from the line of Ben Butler from The Guardian.

Just wondering, you said earlier that you've been trying to fix Target for 10 years. What actually went wrong with Target? What was the problem?

Well, I think, as I said today in the outline, there's -- I don't think anyone is surprised by the changes that we've seen within the retail landscape over the last decade or so. We've seen a number of disruptive trends. We've seen, in Australia, at least, and this is common across the world. We've had very strong growth in e-commerce. We've seen a number of international specialist chains come in to the Australian market. The retail market is fiercely competitive, particularly at this mid-market apparel homeware area. And you just need to look around at the large department stores within Australia and offshore. And you can see that a number of those that operate in that mid-market area are really challenged. So we have made every effort within Wesfarmers to find a sustainable path forward to Target. We don't like cutting. We don't like decreasing the size of our business. It's terrible when you have to go through the process of letting your team members go. But unfortunately, after a decade or so, we're fighting against a number of forces at play that make it impossible to continue to run the Target business of the size that we had 10 years ago. So these changes are really around facing into these disruptive forces in the retail market and giving chance -- giving Target every success to be sustainable in the future.

All right. And on the rent issue, are you -- can you -- how much are you looking for a cut in the rent? What sort of rent reduction do you want from your landlords? And are you interested in moving to a turnover-based rent?

Well, look, it's hard to generalize on that because in every store, there's going to be unique issues. And there are many, many stores where we are quite comfortable with the arrangements that we have in place, and we feel it's a win-win for the landlord and for ourselves. As we talked about today, there are some stores that are going to require some capital investment to -- in order to make it a viable Kmart going forward. There's others where we can't see a path forward. There are other centers and stores where the market's been materially impacted where you really do need to see a decrease in rent. But it's difficult for us to provide a fixed number because it's really a case-by-case situation.

What about turnover, the sales -- gross sales model of how much of rent that's floating around up there? Are you interested in paying rent on that basis?

Well, I think it's a useful benchmark to consider when you're looking at the viability of stores because then it's worth noting that a number of these rent agreements were set 10, 15 years ago. And as I said, the retail market has changed materially. The quality of certain centers' lives has changed materially. So assessing rent as a percentage of sales is a useful benchmark that the market can look at to determine whether it is a viable level of rent for the future.

There are no further questions at this time. Please continue.

Well, thanks very much, everyone, for your time. And if any questions, please don't hesitate to contact us either through the media team or the Investor Relations team. Thank you.

Thank you. Ladies and gentlemen, that concludes our conference for today. Thank you for participating. You may all now disconnect.