January 12, 2017

Metro and the art of the magical balance sheet

Magic hat I (photo: Fer Gregory/Shutterstock)
Goodwill: Now you see it, now you don't
Chief Executive Officer Olaf Koch likes to joke about his surname when discussing plans to split German retail giant Metro Group into two separate entities by mid-2017. Koch means 'cook' in German, so the pleasantry is moderately witty in his home country, however fatal it would be in English-speaking business circles. So, all things considered, perhaps 'magician' would be the better word to use.

After all, a man who can make nearly €580m in goodwill disappear off a corporate balance sheet in a perfectly legal way is little less than a financial wizard.

Under the demerger, Metro Cash & Carry and 'real,-' hypermarket subsidiaries are to be spun off in an independent unit which will seek a separate listing. Meanwhile, electronics retailer Media-Saturn will stay part of the Metro Group which will be renamed Ceconomy. This is an elegant, if long-delayed, move to unlock shareholder value, provided one subscribes to the view that the sum of the parts is worth more than the whole.

The goodwill for 'real,-', partly inherited from numerous acquisitions over the last 20-odd years and stated as €638m in Metro Group's last annual report, has long been a headache for management when planning annual budgets. But this seemingly intractable problem has now been solved thanks to the possibilities for creating new companies under IFRS balance sheet law.

Olaf Koch, CEO Metro Group (photo: Bert Bostelmann)
Olaf Koch: Chief Magical Officer?
So, if the pro forma balance sheet of the future public company Metro AG, containing 'real,-' and Metro C&C, is to be taken at face value, goodwill for 'real,-' will be a mere €60m. Now that is what one might call a great disappearing act, especially as Metro does not consider it goodwill amortization at all, but a "technical effect".

This is certainly true to the extent that there is no obligation for the new Metro AG to assume the historic goodwill of the former Plc and it is perfectly legitimate to revalue the new balance sheet. The move has been called "a historic chance" by some because the huge amount of goodwill has always been a stumbling block for the sale of 'real,-' to new investors.

Here one is reminded of former Metro subsidiary Adler where the clothing chain could only be sold after a goodwill amortization of around €300m.

Ach, Du Schreck: Real ist weg (Lebensmittel Zeitung caricature: Oliver Sebel)
Damnation, real,- has gone!
Koch's magic touch comes after the goodwill at 'real,-' had already been drastically reduced by more than €400m in spring 2015. But the company remains one of the most valuable assets on the Metro balance sheet despite the fact that 'real,-' hypermarkets have not been able to show any like-for-like sales growth since 2012.

The conjuring act also extends to sister Cash & Carry where the goodwill of the HoReCa, Multispecialists and Trader business divisions is to be reduced by €1.3bn against Metro's last balance sheet.

Perhaps this cautionary measure is justified when one looks at Metro's own figures for its Cash & Carry arm. Sales for business year 2015/16 did not even meet 2013/14 levels in Germany, France, Russia, Poland, Spain, the Czech Republic, Belgium or the Netherlands and have stagnated in Italy, Rumania and Turkey. In China, there was a mere plus of €3m against 2014/15.

Given a steady decline in sales at 'real,-' from €7.9bn in 2013/14 to €7.5bn in 2015/16, it is very hard to see how Metro will be able to sell the demerger as a growth story to international investors.

Magic hat II (photo: diego1012/Fotolia)
Abracadabra: And a bonus for the management of real,-
So one would have expected analysts not to be enamoured with Olaf Koch and his management team. A quick ring-around found the opposite to be the case. They seem to adore Koch and praise the way, for instance, he has reduced group indebtedness. This is obviously a man who understands the hallowed metrics of the financial community and the incomprehensible "Persian" they talk.

Not all of Metro's conjuring tricks, however, find favour. German trades union Verdi is not happy that top managers at 'real,-' received "a fat bonus" for performance-related services in 2016. Verdi sees this as unfair when staff had to accept big pay compromises, including a considerably lower Christmas bonus, as a precondition for further investment in the company.

This only goes to prove that, whether you are David Copperfield, Uri Geller or just another retailer trying to sell a growth story, there will always be a doubting Thomas.


Related articles in German: "Metro geht vorsichtig in die Aufspaltung" by Annette C. Müller, Hans-Jürgen Schulz & Mike Dawson in Lebensmittel Zeitung, no. 50, 16.12.2016; "Verdi wettert gegen Boni bei Real" by Hans-Jürgen Schulz and "Wir haben die strategische Formel gefunden" by Jens Holst & Jan Mende in Lebensmittel Zeitung, no. 51, 23.12.2016; "Metro poliert die Bilanz" by Hans-Jürgen Schulz in Lebensmittel Zeitung, no. 2, 13.01.2017. Readers are also referred to Metro's own document: "MWFS Group Kombinierter Abschluss für die zum 30. September 2016, 2015 und 2014 endenden Geschäftsjahre"


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