Woolworths Under Review

Woolworths' share price has fallen a further 9% since Woolworths: 2015 Q1 sales from 6 Nov 14 and is down 20% since peaking at $38.92 on 29 April. While the first quarter sales weren't sensational it's been several recent broker downgrades warning of the increasing threat from discount supermarket operator Aldi that have caused the recent fall.

Not long ago we published a two-part series on this issue and didn't change our view (see Supermarket superwars – Pt 1 and 2). But as Woolworths is one of Australia's most widely owned stocks and possibly the cornerstone of your portfolio (not to mention a large holding in our model portfolios), we've decided to perform a deep dive on the Australian grocery market to test our valuation assumptions. The last thing we want to do is underestimate the threat posed by Aldi or anything that could reduce Woolworths' high margins.

The result will be a multi-part series or special report addressing many issues including how fast we expect the grocery market to grow, how market shares could change, what margins we can expect and what this all means for the strategies and valuations of Australia's listed grocery companies.

We're also keen to hear from you if you have any insights into the supply chain. Woolworths and Coles have enjoyed a virtuous cycle of squeezing suppliers to cut prices and increase volumes that has dramatically increased profits, cashflow and dividends while reducing the variety of food you can buy. If suppliers can no longer help the supermarkets cut costs, then either the major grocers will have to buy more products from overseas or increase prices. That would be music to Aldi's ears and neither is likely to help sales or margins, which could bring an end to the virtuous cycle that we've taken for granted.

As the analysis will take weeks to complete we were initially going to stick with our current recommendation as Woolworths' share price could recover some lost ground by then given the recent heavy selling. But because the analysis could trigger a change of view we're switching to UNDER REVIEW.