Wesfarmers: Showing resilience

About the author:

Author name:

By Alex Lu

Job title:

Analyst

Date posted:

16 February 2023, 7:00 AM

Sectors Covered:

Industrials

• Wesfarmers' (ASX:WES) 1H23 result was marginally below our forecasts but well above consensus.
• Key positives: All divisions except for Kmart Group reported earnings above our expectations; Operating cash flow increased 27%.
• Key negatives: Catch losses increased to -$108m (inc. restructuring costs) vs - $44m in the pcp with losses expected to remain in 2H23 (albeit reducing relative to 1H23); WES’s share of capex for the Mt Holland lithium project is expected to be 10-20% above previous guidance with first production delayed by ~6 months.
• Management said retail trading through the first five weeks of 2H23 has been broadly in line with growth in 1H23.
• We adjust FY23-25F group EBIT by between -1% and +2%.
• Our target price remains broadly unchanged at (login to view) and we maintain our Add rating.

Solid 1H23 result

WES’s 1H23 group EBIT rose 13% to $2,160m (-1% vs MorgansF and +5% vs Visible Alpha consensus) and underlying NPAT increased 14% to $1,384m (-1% vs MorgansF and +5% vs Visible Alpha consensus).

All divisions except for Catch delivered EBIT growth with earnings also supported by a full period contribution ($30m) from the acquisition of API in March 2022.

Bunnings remains resilient

Despite a softer housing market and prolonged wet weather on the east coast that had an impact on spring trading, Bunnings’ EBIT rose 1% to $1,334m (+3% vs MorgansF) on the back of 6% sales growth.

While EBIT margin fell 70bp to 13.6% due to price investment, inflationary cost pressures, and a shift in sales mix towards commercial customers, we think Bunnings’ performance was solid overall and highlights the resilience of the business and its ability to strengthen the product offering through ongoing range reviews and expansion into new categories (eg, in-home services, pet durables, and recreation).

Catch result was disappointing

In our view, the key negative from the result was the performance of Catch with EBIT (incl. restructuring costs) falling to -$108m vs -$44m in the pcp. The result was impacted by higher clearance activity due to poor range expansion choices and a more significant drop in demand than had been anticipated.

Management acknowledged the disappointing result and is addressing the challenges through reducing the cost base (headcount to be slashed by 35%), reviewing the product range and clearing surplus inventory. A new Managing Director has also been appointed.

WES expects Catch to remain loss-making in 2H23 (albeit lower than in 1H23). Given the issues however, it could take years to return to profitability.

Outlook

Management said retail trading through the first five weeks of 2H23 has been broadly in line with growth in 1H23, supported by strong growth in areas most affected by elevated cases of Omicron last year.

While the Mt Holland lithium project is well advanced, WES said its share of capex is now expected to be between $1.2-1.3bn (10-20% above previous guidance) due to labour availability pressures, refining engineering delays, and longer lead times on key offshore capital items.

First production of lithium hydroxide is now expected in 2H25, six months later than previously expected.

Changes to earnings forecasts

We adjust FY23-25F group EBIT by between -1% and +2% while underlying NPAT increases by between 0-2%.

Investment view

Our equally-blended (PE, SOTP, DCF) target price stays broadly unchanged at (login to view) and we maintain our Add rating.

Trading on 21.9x FY24F PE and 3.9% yield, we continue to see WES’s valuation as attractive for a high-quality business with a diversified group of retail and industrial brands, a solid balance sheet, and an experienced leadership team that will continue delivering long-term value for shareholders.

Find out more

You can find further detailed analysis of company results this reporting season by browsing our reporting season tag, and view a full list of upcoming results on our Reporting Season Calendar.

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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.