Does Woolworths Still WOW The Crowd? #WOW #Woolies

If you live or have ever been to Australia before, you are most likely very familiar with the Woolworths Group. Woolworths actually own a lot more than you would expect, their reach extends much further than just fruit and veg.

About Woolworths Group (WOW:ASX)

Woolworths works in the retail space, predominantly with their large supermarket store – Woolworths (called “Countdown” in New Zealand). Woolworths Group are also responsible for the Big W brand, Dan Murphy’s and Hotels throughout Australia. Being a supermarket Woolworths operates at very tight margins which adds risks to their operation but due to the quantity of sales throughout Australia this reduces the risk of margin tightening. Woolworths has one major competitor in Australia, being Coles which has recently de-merged from Westfarmers Group.

Key Fundamental Drivers

Large Reach Throughout Australia

Many Australian’s are very familiar with Woolworths Group and their products. Whether you are shopping for food at your local Woolworths store, to purchasing homeware goods from Big W or even purchasing some alcohol from BWS or Dan Murphy’s, it would be hard to say that any Australian has not used some form of Woolworths Group’s stores. This provides excellent exposure throughout the nation.

In the first half yearly report (dated 26th Feb 2020) Woolworths supermarkets account for $1,177 million of the total $1,893m of Earnings Before Interest and Taxes (EBIT), a massive 62.18% of EBIT comes from their supermarket stores. With Countdown this brings the total to $1,352m or 71.42% of total EBIT comes from supermarket sales. The remainder of EBIT comes from Endeavour Drinks ($338m), Hotels ($224m) and Big W ($50m).

Woolworths Supermarkets

Woolworths supermarkets reported higher sales year over year compared to H19 with increased Gross Margin, rising to 29.1% from 28.8% and EBIT to Sales ratio increase slightly to 5.6% from 5.5%. Woolworths has one large and one minor competitor in the market, being Coles and Aldi respectively. Coles supermarkets EBIT are $789m compared to Woolworths $1,177m. Coles Liquor was responsible for $76m of EBIT for the Coles Group while Woothworth’s alcohol EBIT accounted for $338m.

As can be seen, Woolworths Group is a much larger competitor compared to Coles. In fact, according to reported EBIT, Woolworths is two times as large as Coles. While we know this is not the case in the Supermarket scene, Woolworth’s expansion and dominance in the liquor and hotels propels this behemoth.

Alcohol Sales

As stated earlier, alcohol and drink sales from Woolworths Group’s Endeavour Drinks accounts for $338m or 17.86% of total EBIT for the group. Endeavour Drinks was part of a Woolworths internal restructure combining their retail drinks business. Endeavour boasts the best EBIT to sales percentage for the retails groups with the margin increasing to 7.1% from 6.9% the year before. Endeavour Drinks also boasts the largest sales per square metre at an impressive $18,487.

According to the Guardian – alcohol sales were drastically up, due to the combination of people working from home and people panic buying alcohol. On the 22nd of March 2020, Australian Prime Minister – Scott Morrison – announced that pubs, cinemas and clubs will closed as of midday 23rd March 2020. Many people believed that this would mean every place that sold alcohol would be closed due to the Government’s social distancing rules. This caused a run on alcohol sales according to anecdotal data from liquor store workers.

According to a national survey researched by YouGov Galaxy – which showed that 33 percent of Aussies are now drinking alcohol daily and up to 70 percent are drinking more than usual. With Dan Murphy’s having a large foothold of the alcohol sector, this would only improve sales and overall margins in the short term.

Big W

Big W is the big ugly cousin of the Woolworths Group. It’s the one you always try to avoid at parties.
While sales were fine for the first half FY20 for BIG W, the margins show another story. Gross margins improved for the stores to 32.6% from 31.2% the year before. Unfortunately, the cost of doing business is still too high for BIG W, bringing the EBIT to sales percentage to a small 2.3% from 0.9% the year before. Luckily for BIG W the sales revenue looks like it is continuing to climb. Assuming, the management can start to cut costs where possible, then this ugly cousin might be able to make money in the future.

Hotels

Woolworths Group own ALH Group which accounts for $224m of EBIT or 11.83% of total EBIT. The hotel group has excellent gross margins and EBIT to sales margin increased slightly to 24.4% from 23.9% the year before. Unfortunately, as stated above, the Australian Government closed down pubs and clubs on the 23rd of March 2020 which will significantly hurt the groups sales in the meantime while the lockdown on these premises are still occurring.

Risks

Woolworths Group is one of the largest retailers in Australia and still shows signs of increasing it’s footprint all the time through the addition of new stores. Disregarding BIG W, the rest of the group makes an impressive amount of money and will continue to do so in the long run. Food sales total revenue will be up for the Woolworths Supermarket stores as people panic buy, coupled with less specials for everyday items, which has been recently evident. As supermarket store revenue increases this produces less risk for margin compression. Woolworths supermarket sales accounts for approximately 71.42% of the EBIT, this will increase for the second half FY20.

As the other businesses will continue to operate and possibly do better (alcohol and non perishables) the Hotel Group will suffer massively. I’ll be taking an estimate outlined below to see the effects on the Hotel Group.

According to the Half Year Presentation supplied by the Woolworths Group – page 48 – we can see that sales were $919m, EBITDA $342m and EBIT $224m. Using arbitrary figures we can divide these into weeks to establish a potential “loss” for the Hotels.

Sales = $919/26 = $35.35m a week.
EBIT = $224/26 = $8.62m a week.

We can reduce these further for a factor of safety. We will reduce these by 10% as winter is typically not a pubs/club busiest season. This coupled with not being Christmas Holidays and school holidays. This leaves us with;

Sales = $31.82m a week.
EBIT = $7.76m a week.

As of today (20th April 2020) it has been 4 weeks since all pubs have been closed. I do not know all the locations of all these pubs and if they have drive through’s and take-away’s available for these hotels. If they do this will soften the blow. But it could potentially be up to $127.3m in sales and $31.04m in EBIT in total reduction so far this 2nd Half FY. If this continues towards the end of the FY then this could have up to 10 weeks impact on sales and EBIT, totaling a substantial cost. It could blow out to $318.2m of sales revenue and $77.6m of EBIT missing from the 2nd Half report. This would be a reduction of approximately one third for the hotel section of Woolworths Group’s revenue and EBIT compared to first half.

Charts

Currently, it appears as if a bottom has formed for WOW shares, around the $34.80 level. With a small resistance occurring around the $38.20 and a significant resistance at the $39.90 level. These are estimates only.

Conclusion

While the supermarket brands and liquor stores of the Woolworths Group have and will continue to perform well during the COVID-19 pandemic, I believe that the hotel group will suffer tremendously. Will the hotels drop in Revenue and EBIT be enough to have an effect on the total balance sheet? Will the panic buying of household goods provide enough uplift for Woolworths Group to weather this storm? I believe that overall, the supermarket and retail drinks sales will perform significantly above what is expected, however, there is a massive unknown in all these guestimations, and that is how long will the COVID-19 shutdown of hotels last? If this continues on, then it could have material impact on Woolworth Group’s performance. At a current earnings per share of H1 FY20 $0.779 and a share price today of $37.40 this puts Woolworths Group’s shares (WOW) at a PE of 24.00. While this is a defensive stock, which typically trade at a premium in times of panic, I still believe this is too expensive for me.

Disclaimer

The information in this article is for general purposes only and should not be considered as advice to any persons. No monies should be invested based on what is contained in this article.

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