By John Barrington
Those who have heard me speak on strategy will know that I am a keen observer of Wesfarmers  and the discipline they bring to what we would call the four phases of strategy: thinking; planning; implementing, and monitoring.
It is all done with an absolute clarity of purpose (to create shareholder value) and with a single line of sight from boardroom to frontline. Stories abound about how Wesfarmers managers have driven that mantra through the organisation for so many years. One of the classics, told by previous CEO Michael Chaney, is about him taking the board on site visits and arriving one morning at a Bunnings Warehouse store in Nunawading, Victoria. The 19-year old Assistant Manager apparently met the directors at the front door and apologised for the Manager, who was sick that day. So he, the 19 year-old Assistant, would be showing them around. After touring the aisles, directors were led up to a mezzanine floor to be seated around the staff lunch table. The young manager then proceeded to give the board a presentation on that store's Return on Capital (ROC) performance. In relating the story, Michael says the board were staggered, but not only did he know and understand the returns being generated from his own store, and what were the drivers of performance, he was able to give a view on the competitor's store down the road.
Impressive stuff. When I first heard this story related I reflected momentarily that I had, in fact, heard such stories about Wesfarmers told many times previously. But then it dawned on me: what was really impressive was the fact that board and management had been saying the same thing for over 20 years. Ever since Trevor Eastwood had introduced Return on Capital as the key internal measure driving shareholder value, and had co-opted a young Michael Chaney to the cause, the Wesfarmers way has been about delivering returns on the capital employed in each of the business units.
I was somewhat surprised then to read last week of the Coles CEO, Ian McLeod's, 5-year remuneration package being based on earnings before interest and tax (EBIT) growth, rather than return on capital. In this world, you get what you pay for and ROC at Coles is down, down. OK, it's going up, up since Wesfarmers acquired Coles...but it's down, down on where it should be; to the extent that it's destroying shareholder value as the returns are below the cost of that capital which is being consumed.
Performance on key metrics such as revenue and EBIT growth are extraordinary and I said publicly at the time of the takeover, that Wesfarmers will fix this moribund retailer. I still think they will and from all accounts they are on track. But still this issue of ROC remains.
Chairman, Bob Every, said in Friday's Australian Financial Review, "We are aiming to put Ian onto a rolling contract just like the other senior executives". Whether it's a rolling package or not, the real issue is the 'just like the other senior executives'. It is that last piece that would likely align the Coles leader not just with the other senior executives, but with the Wesfarmers way; not just with the board, but ultimately and most importantly, the Wesfarmers shareholders.
To get the returns and deliver shareholder value, managers must drive profitable sales growth. Ian McLeod has certainly done that. But the focus must now turn to the returns being generated on the capital employed in the business. The next 5 years must be about delivering returns greater than the cost of the capital consumed by Coles. Aligning Ian's, and the other Coles executives, remuneration packages to the penultimate measure of performance, ROC, will ensure that the ultimate measure of performance, Total Shareholder Return, is also delivered. After all, that is the Purpose of Wesfarmers: to provide a satisfactory return to its shareholders.
For more information, please feel free to email me at firstname.lastname@example.org.
The author owns shares in Wesfarmers Ltd.