Australia | Dec 08 2021
This story features METCASH LIMITED. For more info SHARE ANALYSIS: MTS
Brokers praise a powerhouse first half performance by Metcash, driven largely by a faster than expected rise in the hardware segment that now earns more than food.
-Metcash reveals first half results well above consensus estimates
-Hardware posts the highest margins in over seven years
-The IGA chain posted sales well ahead of pre-pandemic levels
-The Total Tools opportunity
-Credit Suisse points to an attractive dividend yield
First half net profit for Metcash ((MTS)) was 22% ahead of consensus forecasts and the Hardware segment became the largest earnings contributor for the first time, driven by the performance of recently aquired Total Tools.
Total hardware sales rose 17.9%, reflecting continued growth in trade sales, strong DIY demand the Total Tools acquisition. The segment achieved earnings margins of 6.7%, the highest in over seven years.
The company, which specialises in wholesale distribution and marketing, showed improving operating leverage with earnings growth of 13.9% off only a 1.5% lift in revenue.
Despite the end of lockdowns, second half trading was ahead of broker estimates. Macquarie feels the trend in current trading bodes well for the second half and upgrades its rating to Outperform from Neutral and lifts its target price to $4.70 from $4.10.
The company is transitioning from a food wholesaler facing structural headwinds to a hardware retailer and wholesaler with a market-leading trade offer, according to Ord Minnett. Hardware is now a larger earnings contributor than Food and the key driver of growth.
Because of this transition, the broker feels a higher price to earnings (P/E) multiple is in order, which should drive significant share price upside from current levels.
Meanwhile, Credit Suisse is attracted by Metcash’s modest price earnings multiple and attractive dividend yield (a fully franked interim dividend of 10.5cps was declared).
The broker maintains its Outperform rating and raises its target price to $4.55 from $4.35.
Food and Liquor
Within the Food segment, IGA retailers have gained significant market share and are considered to have retained most of that share, according to Ord Minnett. Macquarie also notes the IGA chain posted sales growth well ahead of pre-pandemic levels.
Meanwhile, sales grew by 6.6% in the Liquor segment. Improved competitiveness buoyed the Independent Brands Australia (IBA) retail network, points out Macquarie, despite liquor sales being significantly impacted by covid restrictions.
The Total Tools opportunity
The store rollout and retailer conversion strategy in Total Tools is the key growth driver for Metcash, according to Ord Minnett.
From FY22 to FY27, the analyst forecasts Hardware earnings will show a 6% compound annual growth rate (CAGR) and contribute 47% of group earnings in FY25, well ahead of Food at 36% and Liquor at 17%.
The broker retains its Accumulate rating and lifts its target price to $5.00 from $4.50.
Citi estimates another 36 stores will open by by 2025, taking total stores to 130.
Food prices are rising faster than for the past ten years, driven by packaged grocery, which includes the likes of oil, sugar, tin and aluminum, explains Ord Minnett.
The broker points out inflation across the supply chain should allow both Metcash and the independents to share some margin pressure and provide a greater value proposition relative to the majors.
While Ord Minnett agrees Metcash is a net beneficiary of inflation, it’s thought the 2022 inflationary environment will favour retailers with a strong private label offering, that is competitors. This is because consumers are expected to trade down towards cheaper alternatives.
Previously, Metcash has not had a compelling online offering, according to Jarden. However, management is further accelerating ecommerce investments including the rollout of its new IGA Shop Online platform.
Now, online supermarket sales are growing at approximately 20-40% year-on-year, with group online sales of $60m and management noting that retailers are now beginning to engage.
Citi retains its Neutral rating and suggests that while trading should remain strong across the businesses into FY23 there will eventually be some level of normalisation from the elevated levels of construction and renovation activity in Hardware. There’s also considered potential for Food & Liquor to normalise as eating out and international travel recovers.
However, the broker acknowledges there are no signs yet of the business slowing and raises its target price to $4.40 from $4.20.
Jarden believes the company’s valuation is yet to catch up to the faster-than-expected change in business mix towards higher margin, vertically integrated Hardware.
The broker, not one of the seven brokers monitored daily on the FNArena database, lifts its rating to Buy from Overweight and increases its target price to $4.80 from $3.90.
FNArena’s database has six broker ratings with four Buy ratings and two Holds, with both Morgan Stanley and UBS yet to update for Metcash’s first half results. A consensus target price of $4.56 suggests 5.7% upside to the last share price.
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