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Can British Bunnings save the Wesfarmers renovation?

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Sunshine is rare on a typical British bank holiday weekend and this one is no different. As the wind whistles between the cars in the packed parking lot of the new Bunnings store, the grey skies threaten rain.

The giant barbecue burners and £6500 ($11,345) jacuzzis inside look like they might spend the rest of summer offering more to decoration than profit.

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Wesfarmers announces Rob Scott will succeed Richard Goyder, who will step down from the role towards the end of this year. Vision courtesy ABC News 24.

But there are signs, despite the tropical optimism these products might suggest, that Bunnings might have piqued the imagination of the locals.

"If I had the money I would buy one," local man Dave, 61, says while taking his dog for its daily walk past the store.

He's already spotted the luxury Canadian Spa hot tub on a previous visit and his face lights up at the thought.

"We've just got back from Devon, my daughter and her friend spent the entire week in one," he says, dismissing the fleeting nature of British summer.

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His disabled wife would also benefit from the regular spa therapy, he says. As he heads off down the street, it seems he's almost convinced himself.

He's not alone in being drawn to what would otherwise be a quiet retail precinct on the outskirts of town.

The curiosity around the store, Britain's first-ever Bunnings, is obvious among shoppers even if they're unaware of its new, antipodean owner and just how much that owner has riding on the move.

Last year Bunnings owner Wesfarmers paid £350 million ($585 million) for the 256-store Homebase home improvement chain. It pledged another £500 million ($870 million) to upgrade and convert outlets to the Bunnings brand.

But the early stages of the transition have proved more costly than many market watchers expected.

Losses from Bunnings UK and Ireland (or BUKI) hit $48 million in the first half and Wesfarmers chief executive Richard Goyder has refused to guarantee the operation will be profitable in the second half of the financial year.

[Bunnings] is more of a man's shop... More tools and things like that. Homebase was more about decoration. More for the ladies

Ron Riches

The result caught many analysts by surprise amid concerns over the effect of Britain's exit from the European Union and revelations Wesfarmers has invested £130 million pounds to expand the Homebase product range.

"We hadn't believed it [Bunnings UK] was going to lose money, that wasn't well communicated," one analyst says.

"If it's going to lose [more] money in the second half, Wesfarmers really needs to put some parameters around it."

He says the gradual transformation of Homebase into Bunnings required ongoing investment in the UK hardware brand, which still represents the overwhelming majority of the store network.

"Wesfarmers is putting a lot of focus on Bunnings UK but the Homebase stores need to keep going for a period of time ... even though the ultimate plan [is to convert them]."

That focus will only be sharper after Wesfarmers announced this past week it would shelve a mooted float of Officeworks, its protracted attempt to sell the company's coal assets and signs of strain at Coles supermarkets.

Following a tour of the Homebase business in March Investment bank Morgan Stanley concluded the outlets were in need of capital investment and analyst Thomas Kierath forecast the disruption at the UK chain would continue for a couple more quarters yet.

"However most of the big changes in Homebase's repositioning are now complete and we would expect its performance to begin to improve," Kierath says.

"With £130 million of additional stock already invested in its stores, we suspect the competitive threat Homebase poses to [rival] B&Q; will being to increase even before its transformation into Bunnings gathers speed."

Fears over whether Britons would embrace the big red hammer escalated with the shock departure of long-serving Bunnings boss John Gillam late last year.

Mr Goyder told Bank of America Merrill Lynch analyst David Errington the spring-summer half was expected to be stronger for BUKI and shoppers were responding positively to its two Bunnings test stores.

There will be four pilot stores trading by the end of this financial year and nine conversions by Christmas. Wesfarmers also plans to relaunch its kitchen offer, after cancelling its New Year kitchen and bathroom sale sand deleting the installation service.

This retail category is believed to have contributed as much as 40 per cent to Homebase sales and analysts claim Bunnings UK may have underestimated the impact of shelving these services.

It's just one of the crucial differences between Australia's hardware sector and the UK market according to one private equity insider, who questioned the timing of Wesfarmers' expansion into the UK given the pressure on Wesfarmers major, supermarket business Coles.

"Coles is having trouble as Woolworths gets back on track and I'm just not sure the expansion into the UK is a great idea," he says.

The supermarket chain contributed approximately $1.86 billion in earnings before interest and tax last financial year, compared to Bunnings which chipped in about $1.2 billion.

But the competitive forces at play in the Australian supermarket sector are intensifying as low wages growth, cost of living pressures and the spectre of new entrants, including Amazon, weigh on the growth outlook.

Coles is also challenging some very strong comparable sales growth rates from the same time last year along and competing with a reinvigorated Woolworths as well as German discount powerhouse Aldi.

Analysts agree Coles is facing a period of "low growth" that could stretch for as long as two years as it challenges some very strong, comparable growth rates from the previous year as well as an emboldened Woolworths.

"Coles is in for a tough period," one analyst says "as it cycles really good numbers."

"But it's also that Woolworths has got a lot better in the past year and they are no longer committing the mistakes of the past."

The arm-wrestle between Coles and Woolworths for market share puts Bunnings in helping determine performance for Wesfarmers more broadly.

Its dominant Australian and New Zealand business provides some of the most reliable and arguably invulnerable earnings for the conglomerate, despite the chain's obvious exposure to the residential housing cycle in the region.

But has Wesfarmers risked this rock-solid retail business on a foray into British home improvement, a move that's been unkindly compared to Woolworths' costly misadventure in hardware through its terminated Masters Home Improvement chain?

As weak consumer confidence settles into a worrying retail spending slump in Australia, Wesfarmers this week abandoned plans to list its Officeworks business and there is no fresh news on the sale of its coal assets.

Insiders suggest the divestment of these assets could have funded a special dividend for shareholders, the perfect swan song for Mr Goyder when he hands the reigns to Rob Scott in November.

Mr Scott will take charge of the BUKI strategy, a plan hatched by John Gillam and Richard Goyder and announced on the same day Woolworths pulled the pin on its hardware operation, drawing a line under hundreds of millions of dollars of losses shouldered by the listed retailer and its US joint venture partner Lowe's.

UK analysts are upbeat in their assessment of BUKI, describing Homebase as a weak third player in the UK's £38 billion home improvement market dominated by warehouse giant B&Q; and Wickes, a rival chain targeting tradesmen.

Others such as Screwfix, a successful counter and catalogue retailer which promises speedy collection for essential kit, have already carved out their own niche.

But the potential for improving on Homebase, which has suffered against more confident rivals and a lack of financial support stretching back almost two decades, couldn't be more obvious, according to Investec's Kate Calvert.

"Bunnings is a far more formidable player than Homebase, given the under-investment in Homebase over a prolonged period," she says.

"Time will tell, but we feel it is a far more exciting and inspiring DIY format than the UK market has seen for a while. We expect B&Q;'s life to become much harder," she says.

There are still only two stores operating under the Bunnings name – one either side of St Albans, a prosperous town of 58,000 people in Hertfordshire. An 18-minute non-stop train link to the capital has also helped property values soar.

Another two stores in similar towns, Hemel Hempstead and Milton Keynes, will be converted next month.

Bunnings wants at least 10 this year with a three to five-year rollout plan for the rest. It has already begun flooding many more stores with new stock.

Before Bunnings took it over, Homebase had found itself chasing both the DIY enthusiast and those looking for softer, interior design products at the same time. It was increasingly doing a bad job of both.

Other big British names such as clothing retailer Next have piled into the softer end of the market with lighting and furniture while B&Q; has settled into its dominant position, squeezing the life out of Homebase.

London-based equities analyst Tony Shiret at Haitong Securities concurs with Calvert.

"B&Q; is going to have some problems," he says.

"Bunnings is DIY as we used to know it – it's branded, it's tools and very little decorative product which Homebase sold to try to differentiate itself," he explains.

He has visited both B&Q;'s latest store format, which he says was "unexciting", and the first Bunnings store.

"Even in a relatively small shop they've managed to be much more authoritative than B&Q; in categories like outdoor furniture and seasonal products. There are a lot of staff so the margin is going to be lower than B&Q.; But, the way they operate should have a big impact."

The influx of brands should bring a boost to sales compared with many rival British DIY retailers who have switch to more lucrative private label ranges – where profit margins are bigger but which shoppers regard as inferior, he says.

Homebase made just over £100 per square foot each year, says Shiret. He estimates Bunnings could easily do 50 per cent more. If his forecast is correct, that would soon begin to drill into the market share of competitors.

Still, Bunnings arrives at a difficult time. Many British consumers – like their Australian counterparts – are faced with low average wage increases while a drop in sterling's value since the vote to leave the European Union has seen the cost of some imported products rise.

The transformation at initial stores, including signs screaming low price, hasn't been lost on shoppers.

"I was sad to see Homebase close but I'm glad to see that things have changed for the better," says Richard Savory, 36, from St Albans who was shopping for some shelves with his wife.

Any emotional pang for Homebase seems more from familiarity with a familiar household name than customer loyalty.

"This is better stocked, there's a wider selection and the prices are keen. It's just a better shop than Homebase and much more useful. The staff are friendly and there are more of them. I used to shop at Homebase, Wickes and Screwfix. But this is doing the same job all under one roof," he says.

Bunnings' change of name, so far at least, does not seem to have deterred shoppers in St Albans as some suspected it might. In the car park outside the St Albans store, Ron Riches, 65, nods towards the shop from where the smell of the regular Saturday Sausage Sizzle drifts.

"This is more of a man's shop," he says bluntly, admitting he's been four or five times since it reopened three months before.

"There's a hell of a lot of stock in there. More tools and things like that. Homebase was more about decoration. More for the ladies," he says.

One DIY supplier, who asked not to be named but who has been to the store, says Bunnings may cut through any gender divide.

"I agree that Homebase was much more about making the home look nice, more targeted towards women, whereas this is more about DIY. But it's also very family focused with food and a kids' area so it's been designed to be approachable for both men and women."

Paul Nichols, a well-spoken retiree, says he was aware an Australian firm had taken control.

"It's easy to see the Australian attitude coming through. Australians have a 'can do-will do' attitude and the staff seem to get a reasonable amount of training, which comes across.

"The car park is always full and the demonstrations and all the extra services show they are really trying to make a difference to the community.

"Before, if I'm being honest, you would spend more time looking for staff than looking for products."

Inside about 30 bright red T-shirts buzz around the entrance and through the aisles where at least twice as many customers are eager to get their weekend DIY shopping underway.

A spokesman for Bunnings UK says there are about 70 full and part-time staff working at each store – three times more than when it was run by Homebase where costs had been cut to the bone.

Maintaining that will be hard, especially when the UK market is known for the punishing costs of retail compared to countries where space is more freely available, Tony Shiret says.

Rents are often higher while painful increases business taxes paid to local authorities have been a common complaint among shops.

Wesfarmers results in February confirmed the transformation was still in early stages.

UK sales were £612m in the six months to the end of December with a loss of £28m.

Furthermore, large UK retailers have often responded well to foreign incursions. US electricals giant Best Buy made all the right noises on staff and service when it launched in the UK in 2010 promising 200 stores.

When Best Buy packed up in January 2012, it had opened just 11.

But Bunnings can take heart from others that have arrived with a convincingly different store model rather than scale alone.

Discount grocery chains Aldi and Lidl have both flourished in the face of competition from Britain's entrenched supermarket giants.

The natives, including giant Tesco, were caught napping on the job and the two German grocers now have a combined 10 per cent food market share.

If first impressions are anything to go by, Bunnings could yet give the DIY market a similar hammering. Investors back home in Australia will be hoping so.

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