Metro seeks higher valuation by splitting into two

https://www.ft.com/content/bafbb664-2b65-11e7-9ec8-168383da43b7

MAY 1, 2017 Sarah Gordon and James Shotter

Breaking up can create value. This, at least, is the contention of Olaf Koch, chief executive of Metro, who has majority backing from his shareholders to split the company in two in the middle of 2017.

Mr Koch plans to spin off the German group’s food arm into a new company, which will keep the Metro brand, leaving a business centred on its Media-Saturn consumer electronics operations, to be renamed Ceconomy.

“The company argued for decades that synergy was the reason to be together [but] you notice that the overlap of the two [businesses] is nil,” he says in an interview with the Financial Times. “Consumer electronics and the wholesale food business with some non-food have literally only one common denominator, which is customer-centricity.”

Metro currently has a market capitalization of €9.9bn and Mr Koch argues that its shares labour under a “conglomerate discount”.

He says Metro’s big wholesale food business, which sells products to grocers, pubs and restaurants, is currently undervalued because the stock market applies a trading multiple more appropriate to a retailer.

More importantly, he believes that the group demerger — in which Metro’s wholesale business is due to sit alongside its smaller Real chain of food hypermarkets — will allow him and other managers to give strategic priorities the attention they need.

“There is no point in artificially having a joint agenda,” says Mr Koch, referring to company meetings. “Half of the meeting you talk about consumer electronics, the second half of the meeting you talk about wholesale . . . Why are we forcing investors to be . . . in something which is tutti-frutti?”

Chief executive Olaf Koch says Metro’s shares labour under a ‘conglomerate discount’ © Charlie Bibby/FT

The plan to break up Metro is the culmination of five years of effort by Mr Koch, who took over as chief executive in 2012, to improve profit margins and balance sheet strength at the German group.

“[Before 2012] the company had really been defined by size, and being big . . . was the ambition,” he says.

Mr Koch recognised that Metro should be split up early in his tenure but believed that he needed first to “get momentum” back into trading and “heal” the balance sheet. This involved selling off assets, such as the Galeria Kaufhof department store chain, and exiting markets.

Although Metro is still struggling on the revenue side — like-for-like sales in the last three months of 2016 barely rose — net debt of €7.4bn in March 2012 has fallen to €2.6bn at the end of 2016. By last summer Mr Koch felt he had the conditions in place to push for the demerger.

He received the overwhelming backing of investors — 99.95 per cent of shareholder capital represented at Metro’s annual meeting in February voted in favour of the split — but some, including Convergenta, the financial vehicle of Media-Saturn founder Erich Kellerhals, filed lawsuits against the plan. Convergenta has a near 22 per cent stake in Media-Saturn.

Analysts say the lack of overlap between Metro’s food and consumer electronics businesses has not helped it with most investors.

“If you . . . want exposure to cash and carry, the chance that you will also want exposure to electronics is quite low,” says one analyst.

Christian Bruns, analyst at Equinet, says: “The demerger will reduce the conglomerate discount, but you could still argue that each of the divisions should still trade at a discount to peers.”

He adds: “Metro still has the Real chain, which is not doing so well, and at Ceconomy there is still the question of the minority shareholder.”

The pressure on Metro’s Real hypermarket chain — it competes with aggressive discounters such as Aldi and Lidl, which have a 44 per cent market share in Germany — highlights how much work has to be done even if Mr Koch delivers the demerger.

Metro’s Real hypermarket chain competes with aggressive discounters Aldi and Lidl © Reuters

He will lead the food business after the split and has to prove the Real chain, currently the group’s smallest unit, can find a sustainable business model. Last year Real recorded an operating profit of just €100m on revenue of €7.5bn.

Mr Koch says Metro is aiming to strike a deal with trade unions to reduce its labour costs at Real by early 2018. If the talks fail, he adds that he has an alternative plan in mind, although he declines to say what this entails.

In the longer term, perhaps the hardest challenge to quantify is how new entrants could shake up food retailing.

The grocery business has been comparatively slow to digitalise, and Alain Caparros, Mr Koch’s counterpart at Rewe, a big German supermarket chain, warned last year that the prospect of online giants such as Amazon moving into the food market was a threat that had to be taken seriously.

Mr Koch strikes a similar note. “Everybody knows our sector is exposed to dramatic change,” he says. “All the rules are changing.”