What Is Wrong With The Investment Community!

In a recent edition of the Australian Financial Review, Merrill Lynch – the once all conquering investment house – was quoted as saying, “We are concerned that Woolworths is currently too focused on improving its underlying business from a customer standpoint and strategically disadvantaging its competitor – and not enough from its own shareholder standpoint.”

What the?

If this quote is true it symbolizes why we are going through one of the worst world financial markets corrections in 100 years. Investment houses – as custodians of mum and dad shareholders – have completely lost sight of how investment in a business works. Returns are not engineered as an input, they are an outcome of a well run business. Woolworths has – over an extended period of time – produced EBIT growth year on year of more than 20%. It performs – head and shoulders – above any other retailer of scale in the country.

The Merrill Lynch view appears to be that Woolworths should cut investment in business improvement and competitive advantage. Presumably so that they can increase dividend stream to make up for other poor investments held in Merrill Lynch portfolios.

Mum and dad investors do not want massive tidal swings from great gains to great losses in their super-funds and investment portfolios. They want steady as she goes growth they can rely on for their retirement. It is only the industry professionals that want big tidal swings so they can take positions. It is the relentless pressure for short-term numbers that is under-mining the long-term performance of retail businesses all over the world.

Sam Walton said many years ago that retail was a game of carefully balancing the needs of often competing stakeholders. He also said that you over-balance in favour of the investment community at your peril. Jack Shewmaker – former CFO of Wal-Mart and consultant to Woolworths – said at the 2008 World Retail Congress that Wal-Mart had erred greatly in the last ten years at playing to analysts and not sufficiently investing in core markets, competitive protection and innovation and that they had now addressed that mistake. Wal-Mart is – in a U.S. retail market that is in freefall – posting phenomenal gains in sales and profit by investing in the very things Merrill Lynch has been quoted as saying Woolworths should cut.

If I am earning more than 10% on my investment portfolio and inflation is running at less than 3%, on a continual and reliable basis, I can sleep at night in the sound expectation that I have a growing nest egg for my retirement. If I get more than 20% paper returns one year, only to find that the next year my entire investment portfolio is worth 40% of what it was the year before, who wins? Undermining the management performance of the best retailer in the country and one of the most consistent earnings improvement investment options in the country does nothing to assist mum and dad investors. But worse, it speaks volumes of the cancer that has attacked the fundamentals of soundly run retail businesses that are built to last.

Happily, the management team at Woolworths knows what it has to do to make sure it’s performance continues to be strong – for the long term and for the shareholders and other stakeholders who also shop there.