hudson bay company - new strategy analyze current issues (2015)

Hudson’s Bay Stage 2: Analyze

Issues and Alternatives

Team 4:

Jessica Chan, Usman Chaudhry, Kevin Chen, Elroy Hui, Jennifer Wan

OverviewIssues/Alternatives:• Management Control Environment• Management Control

Processes/Performance Measurement• Growth of HBC Digital• Saks Canadian Expansion• Expansion Of Off-Price Business• Grow Top 10 Doors• Potential Acquisition of Holt Renfrew

HBC Revenue Forecast - Canada

Forecast

Revenue 2011 2012 2013 2014 2015 2016 2017 2018

Canada

PY Total Revenue 2473.9 2614.5 2718.7 2772.8 2862.0 2946.3 3026.9

Retail

Prior year revenue - Retail 2390.5 2429.5 2526.3 2551.7 2608.2 2658.7 2704.6

Gross share gain/(loss) 2323.5 29.9 0.0 0.0 0.0 0.0 0.0

Market positioning - Retail 66.9 66.9 25.4 56.5 50.5 45.9 76.5

Outside core business/new market - Retail 0 0.0 0.0 0.0 0.0 0.0 0.0

Current year revenue - Retail 0.0 2390.5 2526.3 2551.7 2608.2 2658.7 2704.6 2781.1

Online

Prior year revenue - Online 53.0 83.4 192.4 221.1 253.9 287.6 322.3


Market positioning - Online 0.0 11.0 28.8 32.7 33.7 34.7 35.7

Outside core business/new market - Online 0 0 0 0 0 0 0

Current year revenue - Online 53.0 83.4 192.4 221.1 253.9 287.6 322.3 358.0

Total Current Revenue 2614.5 2614.5 2718.7 2772.8 2862.0 2946.3 3026.9 3139.0

HBC Revenue Forecast – U.S.

Forecast

2011 2012 2013 2014 2015 2016 2017 2018

United States

PY Total Revenue 1375.7 1462.5 4837.6 5057.2 5282.7 5501.2 5730.0

Retail




Outside core business/new market - Retail 0 862.5 0.0 0.0 0.0 0.0 0.0

Current year revenue - Retail 1413.2 4495.3 4661.9 4831.2 4991.0 5157.4 5327.9

Online


Gross share gain/(loss) -4.9 93.0 0 0 0 0 0


Outside core business/new market - Online 0 137.5 0 0 0 0 0

Current year revenue - Online 46.4 49.3 342.3 395.3 451.5 510.3 572.5 639.0

Total Current Revenue 1375.7 1462.5 4837.6 5057.2 5282.7 5501.2 5730.0 5966.9

HBC Revenue Forecast - Total

Forecast

Revenue 2012 2013 2014 2015 2016 2017 2018

HBC - Total

PY Total Revenue 3849.6 4077.0 7556.3 7830.0 8144.7 8447.5 8756.8

Retail




Outside core business/new market - Retail [a] 0.0 862.5 0.0 0.0 0.0 0.0 0.0

Current year revenue - Retail 3803.6 7021.6 7213.6 7439.3 7649.7 7862.0 8108.9

Online




Outside core business/new market - Online [a] 0.0 137.5 0.0 0.0 0.0 0.0 0.0

Current year revenue - Online 132.8 534.7 616.5 705.4 797.8 894.8 996.9

Total Current Revenue 2614.5 2718.7 7830.0 8144.7 8447.5 8756.8 9105.9

Notes:

[a] 2013 - represents entry into luxury market via Saks acquisition

Management Control – Control Environment

Current Situation Analysis

• Corporate Culture - Vision Statement

• “Company of Adventures”

• Organizational Structure - Lack of bureaucracy

• Customer Intimacy

• Goal Congruence - $10 billion revenue & growth strategies

Management Control – Control Environment

1. Integrity and ethical values

2. Commitment to competence

3. Board of directors and audit committee

4. Management’s philosophy and operating style

5. Organizational structure

6. Assignment of authority and responsibility

7. Human resource policies and practices

Management Control – Performance Measure

Executive compensation

• Base salary• Annual Incentive Plan• Equity Incentives• EBITDA threshold

Management Control – Performance Measure

Executive compensation

Pros:

• Stock options (long-term plans) - drive $10 billion revenue goal • Help create performance measuring environment • Help communicate strategic goals• Promote shareholder value

Cons• Current incentive plan does not align with growth strategy • Focus on short-term thinking• No comparison to industry • ROI is not considered • EBITDA focus; does not take into account capitalised costs

Management Control – Alternative Performance Measure

ROI as an executive compensation measure

Pros• Address concern about capitalised expenses • Disperse ROI responsibility between executives• Goal congruence

Cons• May cause dissatisfaction - may be harder to achieve i.e. lower

compensation

Management Control – Alternative Performance Measure

Balanced Scorecard• Financial • Customer • Internal business processes• Learning and Growth

Pros• Regular strategic update & feedback, assesses non-financial

measures

Cons• Short-term outlook, requires additional time and cost

Management Controls - HBC Digital

Investment Centre Cost Centre Profit Centre -Transaction Fee

Profit Centre -Consulting Services

Accountability to HBC Digital ROI

- HBC Digital President - CEO

- CEO - HBC Digital President (indirect)- CEO

- HBC Digital President (indirect)- CEO

Goal Congruence - Digital revenue growth- Cost control

- Cost-conscious- Possibly at expense of quality

- Incentive to increase retail transactions (sales growth)

- Motive to provide cost-effective service- Less impact on quality from cost concerns

Speed and Flexibility

High High Low Low

Performance Metric

ROI Total Cost Net Income Net Income

HBC Digital – Internal Cost Structure

Investment Center

Pros:

Accountability to ROI goal

Goal Congruence – Similar goals between divisions

Speed/Flexibility - Decentralized

Performance Measurement - Operational & Investment efficiency

Cons:

Transfer pricing negotiations for consulting


Forecast

Revenue 2012 2013 2014 2015 2016 2017 2018

HBC - Total

Total


Gross share gain/(loss) [b] 2395.7 2455.0 113.3 97.9 81.4 63.4 43.8


Outside core business/new market - Online [a] 0.0 1000.0 0.0 0.0 0.0 0.0 0.0

Current year revenue - Online 3936.4 7556.3 7943.4 8242.6 8529.0 8820.2 9149.7

Total Current Revenue 2614.5 2718.7 7830.0 8144.7 8447.5 8756.8 9105.9

Incr. Total Current Revenue (compared to base) 113.3 97.9 81.4 63.4 43.8

Notes:

[a] 2013 - represents entry into luxury market via Saks acquisition

Assumptions (% of PY) 2012 2013 2014 2015 2016 2017 2018

Growth: gross share gain/(loss) - Retail 1.50% 1.250% 1.000% 0.750% 0.50%

[b] used expected outlet division market share gains to estimate

incremental revenue gained from off-price expansion

Issues with ROI metric

YoY Incremental Digital Revenue

Avg. Gross Margin %

Qualitative Assessment of HBC Digital:

Saks Digital Group’s expertise

2014 internal study results

70% of retail transactions from digital

Multi-channel shoppers spend 3x to 4x

Conclusion: Derives value and consistent with growth strategy


Bring Saks to Canada

Queen & Yonge 2015 2016 2017 2018 2019

Revenue $ 42,435,960.00 $ 65,627,212.14 $ 67,596,028.50 $ 69,623,909.36 $ 71,712,626.64

COGS $ 21,217,980.00 $ 32,813,606.07 $ 33,798,014.25 $ 34,811,954.68 $ 35,856,313.32

Gross Margin $ 21,217,980.00 $ 32,813,606.07 $ 33,798,014.25 $ 34,811,954.68 $ 35,856,313.32

SG&A $ 12,730,788.00 $ 19,688,163.64 $ 20,278,808.55 $ 20,887,172.81 $ 21,513,787.99

Operating Income $ 8,487,192.00 $ 13,125,442.43 $ 13,519,205.70 $ 13,924,781.87 $ 14,342,525.33

CCA for Class 8-Fixtures $ 450,000.00 $ 410,000.00 $ 328,000.00 $ 262,400.00 $ 1,049,600.00

CCA for Class 10-Computer Hardware $ 121,500.00 $ 86,550.00 $ 60,585.00 $ 42,409.50 $ 98,955.50

Taxable Income $ 7,915,692.00 $ 12,628,892.43 $ 13,130,620.70 $ 13,619,972.37 $ 13,193,969.83

Tax @ 30% $ 2,374,707.60 $ 3,788,667.73 $ 3,939,186.21 $ 4,085,991.71 $ 3,958,190.95

After-tax income $ 6,112,484.40 $ 9,336,774.70 $ 9,580,019.49 $ 9,838,790.16 $ 10,384,334.38


Capital Expenditures 2015 2016 2017 2018 2019 2020

Store Fixtures (80/20) $ 2,000,000.00 $ 500,000.00 $ - $ - $ - $ -Computer Hardware (80/20) $ 400,000.00 $ 10,000.00 $ - $ - $ - $ -

Investment in NWC $ - $ 10,608,990.00 $ 10,937,868.69 $ 11,266,004.75 $ 11,603,984.89 $ -

Change in NWC $ - $ 10,608,990.00 $ 328,878.69 $ 328,136.06 $ 337,980.14 $ (11,603,984.89)

Cash Flow $ (2,400,000.00) $ (5,006,505.60) $ 9,007,896.01 $ 9,251,883.43 $ 9,500,810.02 $ 21,988,319.27

NPV of Investment $ 25,078,588.87

Bringing Saks to Canada

NPV of Investment• Queen & Yonge: $25.1 M• Sherway Gardens: $23.3 M• Montreal Location 1: $21.2 M• Vancouver: $21.4 M• Toronto Location 3: $14.0 M• Montreal Location 2: $14.0 M• Calgary: $14.1 M

NPV of Total Investment: $133.0 M

Assumptions1) Revenue = $400 per square foot2) Revenue projected to grow at same rate as

Canadian retail market (Exhibit 5)3) SG&A is grown at the same rate as revenue4) NWC assumed to be two months worth of

sales (Tab H)5) Assumed to operate for 5 year and WC

liquidated at end 6) Terminal loss on the remaining balance of

UCC claimed at the end of year 5.7) Assumed to operate for 5 years. Renewal

options will be considered at future date.8) No additional capital expenditures after the

store is opened

Bringing Saks to Canada

• In 2016, there was a significant cash flow requirement of $15.1 million

• For years 2015-2017 the total cash flow requirement will be $24.6 million

• However, the payback period was short • By 2018, there will be a positive cash flow of $29.9

M which means that the investment in Saks will pay back starting 2018

2015 2016 2017 2018

Total CFs $(4,400,000) $(15,156,515) $(5,060,291) $29,932,517

NPV of

Investment $133,018,929.87


Pros:

• Creates job opportunities for Canadians• Saks OFF 5th will be phased into Canada as well• Management considers it “very low risk”• Saks has strong online presence - returns/exchanges

will be easier• Will launch saks.ca and saksoff5th.ca• Pusateri food halls adds additional value• HBC has experience with Saks U.S.


Cons:• Will not succeed unless they can meet expectations• Only 2 out of 7 locations decided• May need to hire Saks Canada President

• Potential conflicts amongst Presidents

Bring Saks to CanadaConclusions:• Secure short-term financing rather than long term

financing• If HBC decides to continue to operate the Saks stores

beyond the first 5 years, they can use the cash flow generated from the 6 stores to finance capital expenditures in the Queen Street store (first store that opened)

• Find locations for the other 5 stores• Look into hiring Saks Canada president

Off-Price Business

• No analysis required• Goal: steal market share at 0.5% to 1.5% per year for

years 2014 to 2018• Re-evaluate the option in 2018

Growth of Top 10 DoorsPros:• Heightens customer experience and intimacy• Captures more in-store sales• Potentially leads to higher sales and contribution

margins in other stores

Cons:• Additional capital investment• May not actually lead to higher sales and

contribution margins in other stores

Growth of Top 10 Doors

Conclusions

Worthwhile initiative:• Other retailers employing similar tactics• Aligned with HBC’s strategy and vision• Results in additional sales and greater customer

satisfaction regardless

Potential Acquisition

Major Assumptions:• Forecast for 5 years• Excluded Holt Renfrew’s expansion plans• Assumed rate of YoY growth in sales remains at

3% for 2019• $810/sq ft to forecast revenue (based on 2013)• Net profit margin estimates based on Saks build

out forecast• Discount rate: 8%


Methodology:• Grow 2013 HR revenue using YoY Canadian

retail apparel growth rates• Apply TEV/Revenue multiple of 1.0x • Project revenue based on square feet of existing

locations and $810/sq ft• Grow revenue using YoY Canadian retail apparel

growth rates• Apply estimate of net profit margin based on

Saks rollout forecasts • Discount net income


2015 2016 2017 2018 2019

Total Square Feet 916,170.00 916,170.00 916,170.00 916,170.00 916,170.00

Forecasted Revenue ($810/sq feet+YoY growth rate) 742,097,700.00 765,102,728.70 788,820,913.29 812,485,540.69 836,860,106.91

Estimated Net Income Margins % [3]

Vancouver 13.08%

Edmonton 13.27%

Calgary 11.95%

Toronto Flagship 14.28%

Toronto Men's Store 14.28%

Toronto Yorkdale 13.27%

Toronto Sherway Gardens 15.09%

Montreal Holt's 12.13%

Montreal Ogilvy 12.13%

2015 2016 2017 2018 2019

Forecasted Total Net Income 96,540,014.43 99,532,754.88 102,618,270.28 105,696,818.39 108,867,722.94


PV of net income: $407,967,748NPV of project: -$440,751,451

Estimated Net Income Based on Arbitrary Net Income Margins

Sensitivity Analysis 2015 2016 2017 2018 2019

NPV of Net

Income NPV of Project

20.00% 148,419,540.00 153,020,545.74 157,764,182.66 162,497,108.14 167,372,021.38 $627,205,059.72 -$221,514,140.28

25.00% 185,524,425.00 191,275,682.18 197,205,228.32 203,121,385.17 209,215,026.73 $784,006,324.65 -$64,712,875.35

30.00% 222,629,310.00 229,530,818.61 236,646,273.99 243,745,662.21 251,058,032.07 $940,807,589.58 $92,088,389.58

35.00% 259,734,195.00 267,785,955.05 276,087,319.65 284,369,939.24 292,901,037.42 $1,097,608,854.51 $248,889,654.51

Potential AcquisitionPros:• Assists HBC’s penetration of luxury retail market• High compatibility with HBC’s vision and culture• hr2 → Off-price market share• Strategic location of existing stores• Immediate impact to revenue

Cons:• Existing locations in close proximity to planned Saks stores• Cannibalization of profits• Brands are in direct competition

Potential AcquisitionConclusion:

Not a good investment:• Negative NPV/Unprofitable• Ownership of two brands directly competing with one another• Proximity of store locations to planned Saks locations• Potential for severe internal friction

Measuring Build Out Option:• Sensitivity analysis suggests that the build option is at least

better than acquiring Holt Renfrew assuming they even

possess a net profit margin of 30%

DM MatrixImpact on

ROA

Capacity

Increase

Time to

Implement

Growth Prospect Return Risk

Management

Control/Perfor

mance

Measures

High N/A Low

Immediately

High Medium

Growth of HBC

Digital

High Low Medium

Within 1 Year

High Medium

Bring Saks to

Canada

High Medium Low

6 months

High Low

Expand Off-

Price Business

High High Low

Immediately

High Medium

Growth of Top

10 Doors

Moderate -

High

Moderate Medium-High

Within 2 years

Low Medium

Potential

Acquisition

Medium Low Medium

Within 1 year

Low Medium

Conclusion

In Millions 2012 2013 2014 2015 2016 2017 2018

HBC Revenue $ 2,614.50 $ 2,718.70 $ 2,830.00 $ 8,144.70 $ 8,447.50 $ 8,756.80 $ 9,105.90

Saks Canada Revenue $ 79.20 $ 231.90 $ 390.60

Incr. off-price revenue $ 113.34 $ 97.88 $ 81.45 $ 63.36 $ 43.78

Total $ 2,614.50 $ 2,718.70 $ 2,943.34 $ 8,242.58 $ 8,608.15 $ 9,052.06 $ 9,540.28

Questions?

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