Woolworths' action-packed result

New Zealand’s reputation as an extreme sports destination is well-known. But when it comes to supermarkets, all Woolworths’ anxieties reside in Australia. At today’s results presentation, management explained why its New Zealand supermarket business had three advantages over its Australian counterpart.

First, the New Zealand division is playing catch-up. After Woolworths acquired the business in 2005, efficiencies are still being squeezed from the operation. Second, New Zealand isn’t suffering significant price deflation in fresh produce. And third, Woolworths’ main competitor across the ditch isn’t lowering prices aggressively, whereas Coles is.

No wonder this area of Woolies operations achieved a 9% lift in first half earnings. Despite the negative headlines, given deflation in produce prices and competition from Coles, the result from the Australian food and liquor business was good enough.

Earnings before interest and tax (EBIT) in Australian food and liquor rose 6%, while the operating margin expanded slightly to 6.8%. But continued improvements will be difficult to achieve if same-store sales growth remains anaemic (see 1 Feb 12 (Long Term Buy – $24.92)). Woolworths’ liquor business remains the standout performer; Coles might have momentum in supermarkets, but Woolworths has it in booze.

Progress examples

At the results presentation, new supermarkets boss Tjeerd Jegen gave examples of progress. The company has already cut half a day from its supply chain for fresh produce and has 30 projects underway to reduce shrinkage (product loss from theft or spoilage). A decision on a new marketing agency is imminent, and not before time given the momentum Woolworths has lost.

More worryingly perhaps, Jegen has appointed several former Tesco colleagues to important positions; these outside appointments remain a red flag (see Woolies goes Dutch from 25 Nov 11 (Long Term Buy – $24.56)).

Elsewhere in the empire, Big W reported a 4% decline in profit, another reasonable result in the face of weak consumer confidence and price deflation. The hotels business, by contrast, lifted earnings by 4%, with management reiterating the division will benefit as its Victorian venues take control of gaming machines later this year.

Home improvement venture Masters (see Woolworths’ Masters nails it from 12 Jan 12 (Long Term Buy – $25.62) now has nine stores open. Management again confirmed that the joint venture will lose around $100m in 2012 but should breakeven by 2015.

Turning to the aggregated results for the Woolworths group—excluding Dick Smith, which has been accounted for as a ‘discontinued operation’—sales grew 5% to $28.9bn. EBIT rose 3% to $1,826m, while underlying net profit also rose 3% to $1,198m. After writing the Dick Smith assets down by $300m, net profit fell 17% to $967m. From underlying earnings per share of 97 cents, a fully franked interim dividend of 59 cents (ex date 19 Mar) was declared.

Buzzword O’Brien

Having seen him in action several times now, we’re yet to fully warm to new managing director Grant O’Brien. His fondness for buzzwords, his decision to hire key management from outside and his apparent focus on ‘growth’ might be minor niggles, but they’re present nevertheless.

At least the result was within expectations. O’Brien confirmed that the company expects 2012 net profit to grow by 2%-6%. Still, with first half profit growth of 3%, it won’t take much for Woolworths to pull up short for the full year. While a single year’s results are unimportant, disappointment might provide us with the chance of an upgrade.

The stock is up slightly since 1 Feb 12 (Long Term Buy – $24.92) and it’s still too early to make a judgment about Woolworths’ new management. This business, though, is strong enough to withstand a few mistakes. LONG TERM BUY for up to 5% of your portfolio. Let’s now hope for a price fall and an even better opportunity.

The Growth and Income portfolios own shares in Woolworths.