Coles Group: An interesting period ahead

About the author:

Alex Lu
Author name:
By Alex Lu
Job title:
Analyst
Date posted:
17 February 2021, 8:00 AM
Sectors Covered:
Industrials

  • Coles Group (ASX:COL) reported 1H21 earnings growth that was comfortably ahead of our forecast.
  • However, LFL sales growth in Supermarkets (+7.2% vs Morgans +8.1%) and Liquor (+15.1% vs Morgans +17.4%) was a bit softer with management noting that growth may moderate significantly or even decline in 2H21 and into FY22 as the business starts to cycle a very strong pcp.
  • COL advised that for the first 6 weeks of 3Q21, Supermarket LFL sales increased 3.3% while Liquor was up 12.5%.
  • We increase FY21F underlying EBIT by 2% to A$1,890m and our target price rises slightly (login to view). Add rating maintained.

1H21 result overall was better than we expected…

COL delivered earnings growth that was ahead of our expectations with underlying EBIT up 12% to A$1,020m (+7% vs Morgans) and underlying NPAT rising 15% to A$560m (+9% vs Morgans).

While earnings growth was strong, sales growth was weaker than we expected with Supermarkets LFL sales up 7.2% (vs Morgans +8.1%) and Liquor up 15.1% (vs Morgans +17.4%).

Good cost control and operating leverage drove group EBIT margin up 20bps to 5.0%, although margins could come under pressure in 2H21 as sales growth slows due to the cycling of a very strong pcp on the back of the initial panic buying and pantry stocking during the onset of the pandemic.

One of the highlights of the result was the strength of the balance sheet, with COL in a net cash position (excl. lease liabilities) of A$38m (vs 1H20 net debt of A$566m). This allows ample capacity for ongoing investment in store renewals and rollouts, digital and efficiency initiatives.

The key negative was the loss in market share, with Supermarkets total sales growth of 7.3% slower than the total market at 10.6%. Management however noted that COL’s share did improve as COVID-19 restrictions eased.

…but 2H21 will cycle very strong comps

Given the strength in Supermarkets sales in 2H20 (LFL sales: 3Q20 +13.1%, 4Q20 +7.1%) during the early stages of COVID-19, management cautioned that growth may moderate significantly or even decline in 2H21 and into FY22. Liquor will also cycle very strong comps in 2H20 (LFL sales: 3Q20 +7.2%, 4Q20 +20.2%).

COL advised that for the first 6 weeks of 3Q21, Supermarket LFL sales rose 3.3% while Liquor was up 12.5%. We expect growth to slow significantly through the remainder of FY21 and forecast Supermarkets LFL sales to fall by 2.0% and Liquor to be up 2.5% in 2H21.

Our estimate may prove to be conservative but we prefer to be cautious given the uncertain outlook.

Maintain Add rating

We increase FY21F underlying EBIT by 2% to A$1,890m while our FY22 and FY23 forecasts remain broadly unchanged. Our equally-blended (DCF, SOTP, PE) target price rises slightly from A$19.40 (login to view) and we maintain our Add rating.

In our view, COL is a well-managed business with highly defensive characteristics. We are particularly attracted to the strength of the balance sheet which will allow ongoing investment for growth while delivering a consistent dividend stream.

We believe the valuation remains attractive with COL trading on 21.6x FY22F PE and 3.8% yield.

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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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