Woolworths: Sales momentum slows
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- By Alex Lu
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- Date posted:
- 27 February 2020, 12:57 PM
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- WOW's 1H20 result overall (pre-AASB16) was above our expectations.
- All operating divisions performed better than we expected. However, the core Australian Food division has had a slower start to the second half with LFL sales up only ~2% for the first seven weeks of 2H20.
- WOW has also revised its wage underpayment remediation costs to A$395m (A$315m plus A$80m interest) versus A$200-300m previously
- After adjusting for AASB16, FY20F underlying EBIT rises by 21% to A$3,372m. We maintain our Hold rating on a higher target price (Morgans clients can login to view detailed reports and price targets).
1H20 result overall was better than we expected
WOW’s 1H20 result overall (pre-AASB16) was better than we expected with underlying EBIT up 13% to A$1,604m (+4% vs Morgans) and underlying NPAT rising 15% to A$1,036m (+5% vs Morgans).
All operating divisions delivered EBIT growth with Australian Food up 9% (+3% vs Morgans), New Zealand Food (NZD) rising 7% (+3% vs Morgans), Endeavour Drinks increasing 5% (+5% vs Morgans) and Hotels jumping 11% (+7% vs Morgans).
Pleasingly, Big W returned to profitability with EBIT of A$21m vs A$8m in the pcp (+28% vs Morgans).
The result was the division’s first profit since FY16 as LFL sales grew for the seventh consecutive quarter. Operating cash flow was up 2% to A$2.1bn while 1H20 DPS of 46cps was lower than our 50cps forecast.
2H20 has gotten off to a slower start
WOW advised that it has been a slower start to the second half with LFL sales for the core Australian Food division growing at ~2% for the first seven weeks of 2H20 (vs Coles ~3.6%).
This was on the back of the bushfires and poor weather as well as softer sales from stores that had a higher skew to Asian customers.
Both Australian Food and NZ Food will be impacted in 2H20 by higher costs from new enterprise agreements, while the trading environment for drinks is likely to remain subdued in the short term. Encouragingly, management expects Big W to deliver a profit in FY20 (post AASB16).
Overall, we forecast WOW to deliver FY20 underlying EBIT of A$3,372m (post AASB16).
Increase in wage underpayment remediation costs
WOW now expects its wage underpayment remediation costs to be A$315m plus A$80m in interest and other costs.
The total estimate of A$395m is a substantial increase on its original A$200-300m estimate in October 2019.
While WOW has made progress on addressing the issue with A$69m of payments paid to affected staff, the process remains complex and we think there is risk that final costs could be revised higher once again.
Maintain Hold rating
While we see WOW as a good business with a strong management team, the slow start to 2H20 is a concern with cost headwinds continuing.
With WOW trading on 28.3x FY21F PE and 2.6% yield we see the stock as fully valued, although the potential demerger of Endeavour Group during CY20 should provide some share price support.
Following changes to earnings forecasts (incl. adjusting for AASB16) and a roll-forward of our model to FY21 forecasts, our PE-based target price rises (Morgans clients can login to view detailed reports and price targets) and we maintain our Hold rating.
Morgans clients can login to view our detailed report and share price target for Woolworths (ASX:WOW). Alternatively, please contact your Morgans adviser or nearest Morgans office for access.
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