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Opportunity knocks

By Fiona Rotherham

Saturday 1st November 2003

Text too small?
It's early morning in Bicester, Oxfordshire, and Peter Halkett is already hard at work. He talks in staccato bursts as if doesn't have time to stop. Pacific Retail Group's (PRG) chief executive is a man on a mission. He's gone to the UK for two to three years to revive Powerhouse, Britain's third-largest appliance retailer, bought out of receivership by PRG for only $48 million. It was a good price - but was it a good deal?

Shareholders think so. PRG's share price by early this month had gone from $2.03 to $2.64. That's despite the company warning that its full-year result, ignoring Powerhouse, may not match last year's. PRG - 73.2% owned by expatriate millionaire Eric Watson, now residing in the UK - had been on the acquisition trail for some time. A capital notes issue last year raised $63.7 million and it went hunting for an appliance or consumer electronic business in New Zealand, Australia or the UK. When Powerhouse went bust in August, the opportunity was "tailormade" for PRG, Halkett says. "Although in a distressed state, it was a good opportunity for us to enter the market, at scale, in a relatively affordable way as long as we backed ourselves to turn the business around."

Halkett brings 15 years' retail experience to the task. Now a PRG director, he joined in 1998 as general manager of subsidiaries Noel Leeming and Computer City and became chief executive in 2000. PRG is New Zealand's leading appliance retailer, with 30% market share under the Noel Leeming and Bond & Bond brands. Much of that Kiwi retail experience is transferable to the UK market, a local analyst says.

The speed of the turnaround is key to the success of the Powerhouse deal. If PRG gets it right, Powerhouse could more than double the company's revenue in the next year. Over time - three years is targeted - it could more than double profits and investors will reap some long-awaited dividends. That's the opportunity. But if the turnaround takes longer than anticipated, funding the unprofitable business will be like an avaricious teenager sucking dry the wallet of its Kiwi parent. That's the risk. Now you see why Halkett is in no mood to waste time.

Already PRG has committed a further £6 million in working capital, and more will be needed. Halkett is not prepared to disclose how much, though he says they calculated it would take several weeks to get Powerhouse back onto a solid base. "We came into this with our eyes open, but we are not fortune tellers. We can't say when sales are going to hit optimum, whether that is going to take six, eight or ten weeks." Or longer.

PRG has renamed the company New Powerhouse, as part of a PR initiative to reverse damage to the brand caused by the receivership. The receiver closed 93 uneconomic stores, shed 800 of its 3000-odd staff, and reduced support office costs.

What had gone wrong for Powerhouse? In the wider context, general retailers such as ­supermarkets are providing new competition and there has been subdued consumer demand. Powerhouse's receivership was sparked after a trade insurer withdrew cover for some of its suppliers, due to concerns about the company's ability to pay its bills. This prevented the management-owned company buying new stock.

There were also internal problems. Powerhouse combined the loss-making retail arms of three regional electricity companies. That merger was poorly managed and it expanded too aggressively, Halkett says. While sales rose 25% to £399 million in the last financial year, post-tax profits plummeted to £300,000 from £5 million. "When you have 93 stores that are unprofitable and 130 stores that are profitable you are on a hiding to nothing. If you take PRG, the appliance business may have, at most, one or two stores that are struggling to make a profit out of 100 stores."

Powerhouse now has 142 stores with 2,000 staff. Halkett has closed one of its two distribution warehouses, with the loss of a further 60 to 120 jobs. He's had to move fast simply to get the company operational again - re-signing suppliers and insurers in the first week. It took four weeks to obtain a credit license allowing customers to buy on hire purchase.

Although it had no legal responsibility, New Powerhouse has made £2 million available to settle warranty problems and undelivered goods. PRG purchased assets free of the company's debt and liabilities. It can now look like a white knight riding in to rescue distressed customers. Great PR.

But warranties remain muddled despite the best efforts of both the receivers and Halkett. British appliance retailers tend to sell on low margins and reap big profits from selling ­customers extended warranties on the product. The extended warranties market was worth £800 million this year and is expected to reach £1 ­billion by 2006. Powerhouse customers were sold ­warranties under four different schemes - some of which were uninsured and some put on its own ­balance sheet, making the company liable to meet all expenses. For two of the schemes - Easycare and Extra-care - Halkett has been working with various parties to honour them and put new administrative arrangements in place. "We have done a lot of work on that front which is not bringing any money into the tin, but it is ensuring the brand has the best possible outcome and we can make a new start." By earlier this month, an estimated half of the warranties had been covered, he says.

However, the situation remains unclear for thousands of warranties sold to customers following last month's collapse of PowerPlan, a warranty firm specially set up in 1998 for customers of a chain of electrical shops run by Scottish Power. Its retail subsidiary was sold to Powerhouse three years ago.

Also harming sales is a competition investigation into the sale of warranties that can cost up to half the purchase price of appliances.

Powerhouse had 3-5% of the £12.5 billion UK appliance market, behind giants Dixons and Comet. Halkett says the business can be profitable with only 1.5% market share. To put it into perspective, Powerhouse with 200 stores was bigger than the total New Zealand appliance market. "In this size market you don't need to be number one or two."

Big opportunity. Big risk. Halkett thinks of the turnaround in four phases, the first of which, getting the company operational, has already been achieved. The next three phases will be: stabilising the business; implementing good business and marketing practises to move it from breakeven to profit; and finally introducing Kiwi innovations such as contract management of stores (see box story) and adding depth to the range - computers, playstations, digital cameras and the like. There is also the possibility of making PRG's New Zealand finance division operational 24 hours to service the Northern Hemisphere stores.

The aim in the next few months is to get the turnover of the remaining stores back to what it was a year ago - around £250 to £260 million. It's uncertain how long that will take. As Halkett says, if it was easy, the company would have cost a lot more. "This is very clearly a defining transaction in the history of PRG," And he adds, almost as an afterthought, "That's if we are successful." Then he's off the phone and running; the big task awaits.

Halfway house
One of the Kiwi innovations Peter Halkett plans to roll out in New Powerhouse stores is the unique contract management system developed within PRG. Contract management is a cross between total ownership by the store manager and franchising. PRG first introduced it at a Noel Leeming store in Newmarket in 2001 and now has 12 stores - including two Bond & Bond outlets - operating this way. The aim is to replicate the incentives of store ownership, while the PRG group retains the brand and total control over the stock sold, staffing ratios and marketing. The store owner has control over the quality and quantity of service and the professionalism of the sales team, says John Milford, chief executive of PRG's retail arm. Unlike franchising, contract management doesn't require an upfront fee for an exclusive area or high ongoing fees. PRG retains half of the after-tax profits and charges a small annual fee for things like human resources supplied by the corporate. The highly prescriptive scheme has been introduced to poorly performing stores where there is an opportunity to lift sales. And it's worked - Milford won't divulge how well, but says it has proved more profitable than total corporate ownership. The group wants to switch 60-80% of its New Zealand stores to contract management. Milford, a former UK resident, says the system would be totally applicable to New Powerhouse stores.

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