The debacle that followed Woolworths’ commitment to a 10,500 m2 Masters super-site in Bendigo is emblematic of the food peoples’ ill-fated strategy to win a home-improvement war with Westfarmers’ Bunnings.

Masters’ point of difference was to create a more luxurious customer experience – concrete (rather than metal) walls, wider aisles, superior lighting and higher quality fittings – than was offered by the market leader. Woolworths' strategy for Masters was ill-executed if not ill-concieved “It was thought that these enhancements would be more attractive to potential customers, particularly female customers,” observed Justice Clyde Croft of the Victorian Supreme Court when adjudicating a disastrous slip-up in the ruinous rollout.

To expedite the build for its challenger strategy, Woolworths truncated the usual but prolonged pre-lease design and tenant approval process.

It preferred a simple agreement to lease for sites at a Bunning’s equivalent rent – in this case for 12 years with five six-year options – with it tipping in for the excess construction costs to bring the store up to Masters’ specification.

Developer Brendan Blake – who had the site under option – agreed to that offer by way of a lump sum cash payment once council approval was obtained and the building started.

As one might expect, such an arrangement leaves a lot of unknowns.

To accommodate the uncertainties Blake gained protection from a well-drafted agreement for lease that could only be terminated if the parties – “acting reasonably and in good faith” – were unable to resolve any disagreement on construction cost contributions.

That was signed up in February 2010.

By May that year, Woolworths had found a better site – one that was also at risk of undermining its Bendigo plan by falling into Bunnings’ hands – and decided to back out.

The grocery giant also apparently had been working to a $1 mil contribution budget, one that it kept to itself until the last minute.

It rejected the developer’s appraisal of the Masters’ mark-up as being “too high” and made some late-in-the-day attempt to negotiate build costs around that figure.

Any resolution was unlikely given its ‘hidden’ budget that was way too low compared to quantity surveyors’ and builders’ estimates of more than twice its budget.

But the agreement was not one merely to negotiate. It was an agreement to act reasonably and in good faith in an attempt to resolve differences.

Did Woollies’ negotiation attempt add up to “attempting to resolve differences in relation to that amount” in good faith?

“Good faith is rooted in honest and reasonable fair dealing promotes commerce,” reflected the Judge in his 232 page judgment. “Trickery and sharp practice impede commerce by decreasing trust and increasing risk”.

He went on: “It is clear that not only did Woolworths fail to act reasonably to resolve differences in relation to costs, but it acted in bad faith by acting on matters which were not contemplated by the Agreement for Lease”.

Its hidden budget, the enticement of the other site, concerns of opposition from the council and an apprehension that Blake would not be able to attract construction finance had nothing to do with its good faith obligation to arrive at a suitable construction top-up margin.

The food people’s behaviour was “not the conduct of a party acting reasonably with the sole object of identifying and resolving differences in mind”.

The Court concluded after 16 days of evidence and submissions that the value of the developer’s lost opportunity profit (before applying any discount for risk) was at least $14.5 million over the term of the lease.

Most risks though – that the parties would not agree even acting in good faith; finance not being available; council approval being refused – were “very low” in the Judge’s view.

Weighing it up, he ruled for a discount of 25%, resulting in an award of $10.875 million, plus interest since 2010 and legal costs to round out close to $20 million.

In January, Woolworths announced there was no prospect of a short term turnaround of the fortunes of the 63-store chain and it could no longer sustain the losses of more than $200 million every year. The chain will be sold or the assets sold off.

North East Solution Pty Ltd v Masters Home Improvement Australia Pty Ltd [2016] VSC 1 Croft J, 28/01/2016


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