Woolworths: Operational volatility persists

About the author:

Alex Lu
Author name:
By Alex Lu
Job title:
Analyst
Date posted:
04 May 2022, 9:30 AM
Sectors Covered:
Industrials

  • Woolworths' (ASX:WOW) 3Q22 sales update was mixed with Australian Food sales growth slightly above expectations while NZ Food and BIG W were slightly below.
  • LFL sales: Australian Food +4.4% (vs MorgansF +4.0%), NZ Food +3.1% (vs MorgansF +3.5%) and BIG W -3.4% (vs MorgansF -2.5%).
  • WOW also provided guidance for 2H22 NZ Food EBIT of NZ$120-140m, which was below our previous forecast of NZ$173m.
  • Management said trading momentum in 4Q22 to date has continued in Australian Food and BIG W with strong trade during Easter, while NZ Food operations are seeing some signs of stabilisation following COVID and supply chain disruptions.
  • We adjust FY22-24F underlying EBIT by between -1% and 0%.
  • Despite the change to earnings forecasts, our target price rises to (login to view) due to a roll forward of our model to FY23 forecasts. Hold maintained.

Australian Food performed well despite disruptions

Australian Food LFL sales rose 4.4%, which was a bit above our 4.0% growth forecast and Coles’ (COL) Supermarkets growth of 3.9%.

Growth was driven by higher at-home consumption along with rising food inflation and would have been stronger if not for the negative impact from the timing of Easter, which was not adjusted for in the result due to COVID and volatility.

Similar to COL, WOW experienced product availability challenges from supply chain disruptions due to Omicron and the floods. While WOW said it had begun to see more stability across the group in recent weeks, stock availability remains below normal levels.

Average price inflation was 2.7% (vs COL +3.3%) driven by supplier input cost pressures and lower promotional activity due to stock availability shortages.

Notable increases were in drinks and household care, meat (mostly beef) and vegetables with supply impacted by poor growing conditions and flooding. Fruit remained deflationary driven by apples and avocados.

NZ Food and BIG W were below expectations

NZ Food LFL sales increased 3.1%, which was marginally softer than our 3.5% forecast. The business experienced difficult operating and trading conditions due to the supply chain disruptions caused by Omicron as well as global shipping challenges.

While WOW said it is seeing some signs of stabilisation in the operating environment, the impact of higher COVID costs is expected to see 2H22 EBIT within the range of NZ$120-140m (or down 16-28% on the pcp). This was well below our previous forecast of NZ$173m.

BIG W LFL sales fell 3.4%. While growth was weaker than our -2.5% forecast, it was on the back of 20.0% growth in the pcp. Performance was impacted by Omicron early in the quarter and decreased mobility. Sales momentum improved through the quarter with increasing transactions in February and March.

Outlook

WOW said trading momentum in 4Q22 to date has continued in Australian Food and BIG W with strong trade during Easter, while NZ Food operating conditions are seeing some signs of stabilisation.

Despite continued business disruption, WOW said direct COVID costs have continued to moderate (0.4% of sales in 3Q22) with the mix shifting with lower costs on the east coast and higher costs in New Zealand and WA.

Changes to earnings forecasts and investment view

We adjust FY22-24F underlying EBIT by between -1% and 0% mainly on the back of downgrades to NZ Food earnings forecasts. For 2H22, we now forecast NZ Food EBIT of NZ$132m (or $123m) vs management’s guidance range of NZ$120-140m.

Our PE-based target price rises to (login to view) due to a roll forward of our model to FY23 forecasts.

In our view, WOW delivered a commendable 3Q22 sales result despite operational challenges related to COVID, the supply chain and widespread floods. With food demand being relatively inelastic, we think the company should continue to perform well in a higher interest rate environment.

However, trading on 27.6x FY23F PE and 2.6% yield we see WOW as fully valued. Hold maintained.

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Disclaimer: The information contained in this report is provided to you by Morgans Financial Limited as general advice only, and is made without consideration of an individual's relevant personal circumstances. Morgans Financial Limited ABN 49 010 669 726, its related bodies corporate, directors and officers, employees, authorised representatives and agents (“Morgans”) do not accept any liability for any loss or damage arising from or in connection with any action taken or not taken on the basis of information contained in this report, or for any errors or omissions contained within. It is recommended that any persons who wish to act upon this report consult with their Morgans investment adviser before doing so.

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