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Why the Wesfarmers Ltd share price is jumping on the Coles demerger

The Wesfarmers Ltd (ASX:WES) share price jumped 5% to $43.41 this morning after the company announced historic plans to divest its Coles grocery business via a demerger. The proposed plan, which would be one of the biggest corporate transactions in recent memory, would see the new ‘Coles Company’ owning:

  • 806 Coles supermarkets (including Coles Express and Coles Online)
  • 894 liquor stores including Liquorland, Vintage Cellars, and First Choice Liquor
  • 712 fuel and convenience stores via Coles Express
  • Coles Financial Services (which offers insurance and credit card products), and
  • 88 hotels under the Spirit Hotels brand

Wesfarmers’ rationale for the transaction is that the Coles transformation from struggling retailer (when acquired in 2007) to leading grocery brand is substantially complete, and growth in earnings is expected to be moderate. Wesfarmers claims that it grew Coles’ operating earnings at 9.5% per annum since acquisition – no mean feat in a business as staid as groceries.

Still, due to the lower growth outlook, Wesfarmers will look to divest the business and focus on businesses with stronger prospects of earnings growth in the future, although it will retain a substantial stake in FlyBuys and up to 20% of Coles shares.

The demerger will result in Wesfarmers’ shareholders being granted shares in the new Coles entity in proportion to their existing Wesfarmers stake (after Wesfarmers keeps its 20%). It is expected that demerger tax relief will also be available to shareholders, subject to an as-yet unobtained ruling by the Australian Tax Office.

The demerger is also subject to Board approval, third party consents, and regulatory and shareholder approval. Should it proceed it is expected the demerger will complete during the 2019 financial year.

From my perspective it will be interesting to see if this demerger actually goes ahead. Wesfarmers has already tried and failed to spin off Officeworks, and there were also rumours of a Target/Kmart spinoff, which I assume also originated with the company.

So it remains to be seen whether the deal goes ahead, and I reckon some shareholders may have preferred the board to try and sell Coles rather than demerge it. We’ll have further coverage of this historic news in the coming weeks, as well as before the shareholder vote.

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Motley Fool contributor Sean O'Neill has no position in any of the stocks mentioned. The Motley Fool Australia owns shares of and has recommended Wesfarmers Limited. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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