Coles Group Limited

Decent Q3FY19 Top-line performance in the Supermarkets & Liquor segment: Coles Group Limited (ASX: COL) is a retailer of various products, i.e., fresh food, household goods, liquor, groceries, fuel, and financial services through stores and online facility. The market capitalisation of the company stood at ~$17.63 Bn as on 27^th June 2019. The company, in its investor day presentation, stated that it has made an investment in management, stores and brand during FY09 to FY16, driving strong revenue and earnings growth. The company also mentioned that it is a cash generative business, which aims to obtain cash realisation of more than 100%.

Q3FY19 Key Highlights: In the third quarter of FY19, in order to bring automated single pick fulfilment technology, and home delivery solution to Australia, the company entered into an exclusive partnership with Ocado Group. The sales revenue in the third quarter stood at $7,272 Mn in comparison to the $7,049 Mn in Q3FY18 in Supermarkets.


Q3FY19 Sales Performance (Source: Company Reports)

H1FY19 Financial performance: Total sales revenue for the period increased by 2.6% pcp to $20.9 Bn, majorly driven by Supermarkets revenue. Earnings before interest and tax (retail basis) decreased by 5.8% pcp to $733 Mn, majorly due to the decline in Express earnings.


H1FY19 Key Metrics (Source: Company Reports)

What to Expect: Coles Q3FY19 sales momentum is broadly in line with the Q2FY19. The company hopes to pay the first dividend in September 2019, which seems to be the final dividend for the year ending 30 June 2019. This reflects earnings post demerger during the seven months. The target dividend pay-out ratio of 80-90% of earnings is payable in September 2019, as confirmed by the Board for the time frame from 28 November 2018 to 30 June 2019.

The company focuses on improving its working capital management and a disciplined approach towards operating costs. Adding to that, it is also focused on enhancing the capital allocation framework. The company is expecting to reach $1bn cumulative cost reduction through Smarter Selling by FY 2023. It has kept its net capex for FY19 unchanged at $700-$800 Mn.

Stock Recommendation: Coles Group’s share generated positive YTD return of 12.89%. Its net margin for H1FY19 stood at 1.9%, which is better than the industry median of 1.7%, showing the company’s bottom line performance is better than the peer group. Its ROE for H1FY19 stands at 13.6%, which is better than the industry median of 5.8%, which implies the company generated better value to its shareholders than its peer group. Hence, considering the aforesaid facts and current trading level, we recommend a “Buy” rating on the stock at the current market price of $13.330 per share (up 0.832% on June 27, 2019).
 

Wesfarmers Limited

Overvalued position at the current juncture: Wesfarmers Limited (ASX: WES) has an engagement in retailing operations including supermarkets, general merchandise and specialty department stores; fuel, liquor and convenience outlets; retailing of home improvement and outdoor living products and supply of building materials; retailing of office and technology products. It is also involved in coal mining and production; gas processing and distribution; industrial and safety product distribution; chemicals and fertilisers manufacturing; and investments. The company recently published its investor presentation report where it highlighted about portfolio management, leadership succession, data & digital and capital allocation.

In portfolio management, WES highlighted successful demerger of Coles along with divestments of Bengalla, Kmart tyre & Auto (KTAS) and Quadrant Energy.Under the leadership succession, WES’ divisional leadership include Kmart Group, Officeworks and Target. The company is focusing on capability build up with advanced analytics centre and development of use cases. It is also involved in the formation of flybuys joint venture. WES has an ongoing focus on organic & adjacent investment opportunities. It has also agreed on a scheme implementation deed to acquire Kidman Resources. WES also highlighted about its strong & stable credit ratings with Moody’s: A3 (stable outlook) and Standard & Poor’s: A- (stable outlook).

In another update, WES highlighted that even Kmart Group’s trading performance remained below expectations, Kmart and Target remain focussed on delivering even greater value, quality and convenience for their customers, including through increased investment in digital initiatives.As per the release, Kmart is expected to invest continuously in its customer offer and price leadership strategy which has delivered robust returns for the long term.

On June 4, 2019, WES informed the market about the appointment of Sharon Warburton to the Board of the company, effective from August 1, 2019.Ms Warburton has good experience in business operation, corporate strategy, finance and risk management specifically in the infrastructure and resource sectors, along with expertise in remuneration and governance.

H1FY19 Financial Performance: Group’s revenue from continued operations increased by 4.2% pcp to $14.39 Bn. Its net profit after tax (NPAT) from continued operations increased by 59.3% pcp to $1.08 Bn.


H1FY19 Financial Metrics (Source: Company Reports)

What to expect: It is expected that FY19F net capital expenditure will be in between the range of $800 Mn to $850 Mn, subject to net property investment. It includes $464 Mn net CapEx in discontinued operations and reflects higher than usual property divestments in Bunnings. FY19F all-in effective borrowing rate increased due to increased weighting to higher cost bonds & repayment of lower cost bank debt.

FY19F interest expense expected to be in between $170 Mn - $180 Mn. FY20F all-in effective borrowing rate expected to be lower due to the repayment of US$500m bond in March 2019 (coupon of 6.25%). Final dividend for FY19 will reflect earnings from continuing operations, with Coles to declare a separate dividend.

Stock Recommendation: Wesfarmers’share generated positive YTD return of 18.32%. It is presently trading close to its 52 weeks high levels of $38.800. Moreover, on the valuation front, its EV/Sales and EV/EBITDA multiple for TTM stand at 1.5x and 12.4x, which are higher than the industry median of 0.6x and 6.9x, respectively, indicating the overvalued position at the current juncture.

Hence, considering the aforesaid facts and current trading level, we give an “Expensive” recommendation on the stock at the current market price of $36.590 per share (up 0.882% on June 27, 2019).

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