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

Overview
Issues/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
Assumptions
1) Revenue = $400 per square foot
2) Revenue projected to grow at same rate as
Canadian retail market (Exhibit 5)
3) SG&A is grown at the same rate as revenue
4) 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

Conclusions:
• 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 Doors
Pros:
• 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: $407,967,748
NPV 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

Pros:
• 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

Conclusion:
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 Matrix
Impact 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

Hudson Bay company - new strategy analyze current issues (2015)

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