It was a tough call. The previous CFO of three years, Matt Smith, had jumped ship to Selfridges in April and the search had been on for someone with retailing experience brave enough to manage the financial demands of its continuing businesses while, at the same time, able to restructure its finances. The ideal candidate would have been someone like Robert Moorhead, the seasoned CFO and chief operating officer at WH Smith (SMWH). He’s been a director there for 10 years, during which time he’s helped navigate the company through an enormous transformation. But why would he (or anyone in a similar role) want to move?
Senior roles in struggling companies are far more of a challenge – and stressful – than those in successful companies. Managing a successful company requires a steady hand on the tiller plus making decisions for the long term, the consequences of which might only become apparent after those responsible have departed. Struggling companies swamp management with the constant need to firefight, often in the public eye. At the same time, their executives are expected to manage changes designed to produce short-term wins that hopefully will build into a long-term recovery.
Retailers: the antidote to high pay
And then there’s pay. The main currency of executive pay is shares – and, as this column has argued before, these awards are really a forced investment. Since they are normally linked to performance, when a company does well they fuel high pay – executives end up with more shares plus a higher share price. But in struggling companies, the chances of receiving any shares at all are slim. To compensate, they have to pay above-market salaries to attract people. Three years ago, the market valued Debenhams at about £1bn. This was half that of WH Smith, yet Debenhams recruited Mr Smith on a higher salary and benefits than Mr Moorhead (who received a salary of £375,000 last year and benefits worth another £105,000). But Mr Moorhead also received a bonus of £450,000 and shares worth £880,000 (after receiving shares worth £1.8m the year before). Mr Smith ended up receiving neither a bonus nor shares in the past couple of years. So any successor would have to accept a double personal risk – not only that the scale of their challenge could be setting them up to fail, but also that they would probably receive less overall than a similar sized role would have paid in a more stable company.
Portfolio career
Fortunately, Ms Osborne was up for it. Her sudden departure from Domino's Pizza (DOM) in June had raised eyebrows. Ms Osborne lasted 20 months there. Her predecessor had managed five and the one before that, 14. A “source close to the company” was reported as suggesting that Ms Osborne had struggled with the “fast-paced, entrepreneurial nature” of Domino’s UK business, “having previously worked at larger companies such as Sodexo” (for 16 months) “and Kingfisher” (for 15 months). She has also held down senior financial roles at Vodafone (for 14 months) and at John Lewis (for over four years). So she certainly had the required retailing experience and was clearly used to change.
The deal she struck with Debenhams pays her the same as her predecessor, even though Debenhams is now a micro-cap, worth less than £50m. Her basic salary is £439,000, plus a pension allowance worth £65,850, a car allowance of £17,850 and medical insurance. On top of that she received a share award of about £300,000 (which may end up worthless) and she could earn a bonus worth as much as her salary (good luck with that one too).
Pressure and pace
What exactly are her challenges? According to Debenhams, they include: financial reporting and management, strategy, tax, treasury, internal audit, property, space planning, investor relations and procurement.
There’s the balance sheet. This was hollowed out by private equity before it stranded Debenhams on the stock exchange in 2006 with a legacy of high debt. Much of this is a £200m bond due for repayment in 2021. Following the downgrade of its credit rating by Moody’s in August 2018, the bonds were trading at three-quarters of their face value. Today, they are at about half (that’s always a red flag – the greater the discount, the greater the doubts that bonds will be repaid). Aligned with the downgrade, trade credit insurance has been reduced for suppliers to Debenhams. They will now be providing in smaller quantities or expecting cash on delivery. That puts extra pressure on the finance team, as well as a greater reliance on buyers to find alternative suppliers, and on management to sell stock faster.
Private equity asset-stripped Debenhams by selling its properties and lumbering it with toxic 30-year leasebacks. The average lock-in is for 18 years, although several leases stretch to 2076, and one to 2083. Most have upward-only rent reviews. Of its 165 stores, 50 are earmarked for closure, but that means finding someone to assign the lease to. And that could mean having to pay them a “reverse premium” to take it off the books. Even then, landlords can block such assignments under a 'weak covenant' clause, meaning that they don’t trust the proposed assignee to keep up with the rent. More creative sub-letting has been tried, such as having eateries and coffee shops on the ground floor or, on the upper floors where the footfall (and so rent) is lower, flexible workspace companies or gyms.
Ms Osborne has to persuade a raft of landlords to reduce their rents. Most of the smaller locations are owned privately and of the larger ones, British Land is exposed to most stores, followed by Aberdeen Standard Investments and Intu. Negotiating individually is likely to be fruitless, because none will accept being disadvantaged more than others. The same goes for a CVA (company voluntary arrangement) – one awkward landlord or creditor and everything falls apart. That then leaves the 'no deal' scenario. Administration beckons.
But all this takes time, and the finances have to be juggled in the meantime, including a renegotiation of banking facilities. Most of this could have been predicted when Ms Osborne took on the role. What she can’t have expected is that within six months she’d be the last executive director standing.
Caught napping
AGMs normally include the routine re-election of directors. Debenhams’ (on 13 January) took everyone by surprise. Ms Osborne was duly ratified as a director with 89 per cent of the votes cast. The next resolution was for Sir Ian Cheshire, who had been chairman since April 2016. The shock was that 57 per cent voted against. He resigned after the meeting. Next up was Sergio Bucher, the chief executive brought in to beef up Debenhams’ internet offering – 56 per cent voted against him. He continues in his role for now, but is no longer on the board, which now consists of Ms Osborne and five non-executives. Presumably, he now attends meetings by invitation only.
How this happened is salutary. Debenhams has 1,228m shares in issue. According to the last annual report, Sports Direct (SPD) owns 365m of these. That’s just under the 30 per cent threshold. Above that and it would have to bid for the company. So the Sports Direct block alone would have beaten the 357m votes cast in favour of re-electing Sir Ian. It was reported that Mike Ashley, who owns just over 60 per cent of Sports Direct, had teamed up with another substantial shareholder (Mickey Jagliani, who heads the Landmark Group, a Dubai-based retail conglomerate) to unseat both directors.
Why did he do this? In mid-December, Mr Ashley is said to have offered to lend Debenhams £40m interest-free, in return for an additional 10 per cent stake plus a waiver from having to bid for the whole company. This would have diluted the stakes of other shareholders. Sir Ian and Mr Bucher rebuffed him. Just as well, for that 40 per cent holding would have given Mr Ashley and Mr Jagliani between them almost majority control.
The speculation is that Mr Ashley will now angle for Debenhams to go into administration, so wiping out its shareholders altogether. Bondholders, whose claim on a company’s assets takes priority over shareholders, might also resist. He would then be able to bid for the best parts on the cheap. Buy those and he could reset the terms of the property leases and the supply agreements, just as he has done recently with House of Fraser and Evans Cycles.
What must be galling is that the two ex-directors were voted out by just over 100m votes, yet holders of a third of Debenhams’ shares (that’s 405m) failed to vote. Positive abstentions, or apathy? A small investor with Debenhams in their individual savings account (Isa), self-invested personal pension (Sipp) or other nominee account, might wish to ask their platform provider whether they voted, and if so how. As with the critical Unilever vote last year, this emphasises again the need for providers to seek instructions in advance from the beneficial owners of the shares entrusted to them.
Back to basics
If Debenhams does fail, Ms Osborne might find herself on the job market again. One employer she won’t want is Sports Direct, where the salaries of its executive directors were set at £150,000 in 2002 and haven’t budged since. Jon Kempster, its newish finance director, is also required to acquire 50,000 Sports Direct shares (worth about £135,000) “over a reasonable time”. His bonus can be up to twice his salary, but Sports Direct does not do executive share awards, so quite how long it will take him to buy those shares remains an enigma. Some might think that’s a bit like Mr Ashley himself.
