New world of competition, earnings growth challenge awaits Coles

Posted by AFN Staff Writers on 8th October 2018

OPINION: STRONG future earnings prospects from less capital-intensive businesses is what Wesfarmers seeks, so Coles has to go.

Coles accounts for 60 per cent of the conglomerate’s tied-up capital but generates only 34 per cent of its earnings.

Earnings growth forecasts for a demerged Coles were missing from Friday’s scheme of arrangement document by Wesfarmers.

Holding a position rather than growing earnings in the face of rapidly strengthening competition could perhaps then be seen as a reasonable aspiration.

Though in fattening the Coles offering before going to market, the supermarket has had sensational success lifting sales in the first quarter.

Little Shop toy sensation

The popularity of the Little Shop toy giveaway was a bonanza for Coles as was the agile reaction to the plastic bag phase-out slowing checkout traffic, resulting in a risky extension of the phase-out date.

Figures later this month are expected to show Coles sales jumped to 5 per cent growth for the quarter, from 1.5 per cent growth the previous quarter.

The result is expected to end a run of seven quarters where Woolworths outperformed Coles for sales growth, though many think it’s a blip with regular transmission returning after the sugar hit.

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So where to for Coles after debuting as a new top-30 ASX-listed company, generating piles of cash being paid out as dividends – a yield stock battling to maintain earnings in the face of increasing competition.

Plans for logistics efficiencies and new-store appeal are to be paid for from the $600 to $800 million put aside annually. Coles will build two new robotic distribution centres in Melbourne, and the rollout of smaller, more on-trend, “ColesLocal” shopfronts – costs not disclosed.

Some analysts say the expenditure required just to present to the market and hold an earnings position will put pressure on debt if the company is to meet its promised dividends.

One thing is certain though, Wesfarmers will be reducing its exposure to an uncertain supermarket sector to a 15 per cent share in Coles.

Wesfarmers managing director Rob Scott said the demerger would reposition the group’s portfolio to target a “higher capital weighting towards businesses with strong future earnings growth prospects”.