Metcash has stabilised its food market share over the past two years and Hardware sales and earnings are likely to grow meaningfully. Metcash is perceived as a COVID-19 beneficiary and therefore has struggled to re-rate in recent months. However, our analysis suggests that its market share in Supermarkets is likely stabilised for more fundamental reasons. Competitors are opening fewer stores, IGAs are no longer shutting stores and the risk of contract losses is now in the rear vision mirror. In the hardware industry, Metcash is likely to gain share given its 60% skew to trade and continued rollout of Total Tools stores.
We expect Super Retail Group will have a good Christmas trading period and gross margins hold up relative to strong levels from 2020. However, the company does face rising import costs and higher operating cost growth that is likely to lower EBIT margins in calendar 2022.
Domino’s AGM trading update has ignited the debate about the extent to which the company has been a beneficiary of COVID-19 lockdowns. Japan is likely seeing -25% same store sales in October. Sales declines in Japan are likely for another 12 months and Europe may have a very soft 2H22e as well. Domino’s is a well-run business with good long-term growth, but its sales and earnings will reset as lockdowns ease.
Pricing still elevated compared with pre COVID-19 levels
27 October 2021
On the surface, Australian retail price inflation for the September 2021 quarter eased back. However, significant volatility in pricing in 2020 can make it misleading. Over the past two years, pricing is elevated in electronics, hardware and furniture and slightly above average in grocery. Prices are lower in clothing and footwear. The increase in input costs is likely to lead to higher price inflation over the next six months in our view.
Price rises for raw materials have been significant over the past year. In Issue 1 of Price Watch, we analyse these input cost pressures. We look at shipping, sugar, vegetable oils, cotton and semiconductors. While observers see the cost pressures as transitory, the length and extent of the path back to normalisation will significantly impact retailer and manufacturer profits. We expect it will take another 9-18 months for prices to normalise. As a result, retail inflation will rise and there will be profit margin pressure on some, mainly manufacturers, that fail to fully pass through the cost increases.
Australian retail price inflation has been low for a long time. However, input and supply chain costs have increased substantially in the past year. What if we had 5% inflation in both food and non-food in 2022? This is a hypothetical question to raise the debate about the implications of higher retail prices. High price inflation is likely to boost retail earnings in the first 12 months. If we have 5% price inflation, the upside to earnings is 6%-12%.
Is it lockdown or something else favouring Woolworths?
21 October 2021
Coles (28 October 2021) and Woolworths (27 October 2021) will release 1Q22e sales next week. We forecast Coles to deliver 0.9% comparable sales growth in Supermarkets, with Woolworths at 3.3%. The gap will have opened in Woolworths favour given lockdowns favoured online sales and Coles had availability challenges given disruptions from COVID-19 in its DCs. We expect these issues are likely to unwind and the growth gap will narrow considerably beyond 1Q22e.
Domino’s European investor day reiterated the desire to rollout stores and emphasised a focus on acquisitions where possible. The company has an impressive track record in lifting sales productivity, especially in Germany which is up 61% in four years. Despite competitive threats, Domino’s has become the dominant pizza offering in each EU market. While the long-term story is intact, we doubt there will be any changes following the investor day and the company still faces a headwind to sales over the next 18 months.
We initiate coverage of Harvey Norman. The company’s earnings have benefited from elevated demand and tight cost controls over 2020 and 2021. Earnings will fall over the next three years, but we expect margins to remain higher than pre-COVID-19 levels given market structure, store rollout and cost management. In Australia, we expect margins to remain firm given the more concentrated market structure, tight product supply and stringent control on costs the company has maintained over the past two years. The company’s sprawling retail network overseas now accounts for one-quarter of its group earnings and with further rollout in each major country, its share of earnings will rise over the next three years. Offshore stores will rise from 107 today to 121 by FY24e.
As key states of Australia emerge from lockdowns, we expect sales trends to improve for JB Hi-Fi. The demand for key categories like TVs, whitegoods and small appliances is likely to be strong. More importantly, with some tightness of supply, we expect gross margins across the electronics industry to remain firm in the medium term, particularly for The Good Guys. JB Hi-Fi has the added flexibility of a net cash position.