The embattled Coles Group Ltd (ASX: COL) share price could get some reprieve this morning on news that the supermarket chain is set to receive a $200 million cash injection for entering into a joint venture (JV) for its Queensland hotels business.
The Coles share price is struggling to bounce off its record low since listing in November last year of $11.33 that it hit last week as investors fret over its slow path to earnings growth and the capital required to turn the business around while still paying its dividend.
This is where the cash proceeds from the JV will come in handy although the news is unlikely to change consensus view on the brighter prospects for its archrival Woolworths Group Ltd (ASX: WOW).
New JV solves Coles’ Queensland problem
Coles has been trying to extract itself from the pubs business in Queensland, but it wants to retain the liquor retail outlets that are attached to these venues. The problem is that under Queensland licensing laws, only hotels can run retail liquor outlets, and that’s preventing Coles from neatly splitting the businesses up.
The JV it’s struck with Australian Venue Co. Limited (AVC), which is wholly owned by private equity group KKR, is one way to workaround these restrictions. AVC will run the hotels and reap whatever profits it can from the pubs, while Coles will control the retail outlets and keep the profits from that business.
There are 87 Spirit Hotels venues that will now be effectively run by AVC, while Coles will retain 243 retail liquor stores in Queensland and 10 stores attached to Spirit Hotels venues in South Australia and Western Australia.
Coles and AVC will own equal shares in the JV and will have joint legal responsibility for compliance.
AVC is experienced in running pubs and hotels as it currently has 60 of such venues in its portfolio. Having the financial backing of KKR was also reason why Coles agreed to partner with AVC.
Coles said that the relevant licensing authorities in Queensland, WA and SA have not expressed any concerns about the JV taking over the Spirit Hotels business.
The bad news is that Coles will book a circa $20 million loss on the sale as the book value of the asset is above the cash offered by AVC.
The JV will also lead to a around a $300 million drop in Cole’s top line and a $13 million cut to its earnings before interest and tax (EBIT) on a full-year basis.
But I think the market will still look at this transaction favourably as it gives Coles more cash to invest in its core supermarket business.
Shareholders will be hoping that Coles will have better news to report at the next reporting season.
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Motley Fool contributor Brendon Lau owns shares of Woolworths Limited. The Motley Fool Australia owns shares of COLESGROUP DEF SET. 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.