Home / Investing 101 / Jump in grocery prices supports supermarket profits, for now

Jump in grocery prices supports supermarket profits, for now

Grocery prices have soared in Australia
Investing 101

Grocery prices have soared in Australia, rising at a faster pace than the Consumer Price Index, which is benefitting the earnings of Coles and Woolworths. However, the boost could be temporary, with food inflation expected to moderate next year.

The rise in inflation globally has exceeded wages growth, eroding households’ purchasing power. Lower income households are particularly affected by higher fuel and food prices because they typically spend a greater share of their income on energy and food. Higher prices for energy and food are expected to continue to be passed through into higher consumer prices over the rest of the year, according to the Reserve Bank of Australia’s recent Statement on Monetary Policy.

During the March quarter, the Consumer Price Index (CPI) jumped 2.1 per cent, to be up to 5.1 per cent from a year earlier, data from the Australian Bureau of Statistics (ABS) reveals.  The prices of grocery foods, largely sold by supermarkets, jumped even more, by 5.3 per cent, as the chart below shows.

  • Source: Australian Bureau of Statistics

    Fruit and vegetable prices combined rose at an annual rate of 6.7 per cent, with meat prices also rising at over 6 per cent over the year, the ABS data shows.  The prices of non-durable household products such as cleaning and personal care products, also largely sold by supermarkets, jumped 8 per cent, much greater than the CPI’s rise of 5.1 per cent.

    Beyond Australia, food price inflation is averaging around 10 per cent for OECD countries, as the chart below shows.

    Supermarkets to benefit from price rises in 2H

    Morningstar analyst Johannes Faul is forecasting supermarket shelf prices will rise by mid-single digits in the second half of fiscal 2022, which is expected to boost the earnings of both listed supermarkets Coles and Woolworths. “We expect these abnormally high price increases to bolster supermarket earnings in the near term, offsetting rising cost of goods sold, higher energy prices, weak population growth, greater out-of-home food consumption, and temporarily bloated supply chain costs because of COVID-related disruptions,” Faul said in a report.

    However, Faul forecasts food prices will moderate from fiscal 2023, with inflation expected to average around 2.5 per cent in the subsequent decade.  “Current share prices suggest the share market is more optimistic on the profit outlook for Woolworths and Coles. However, we expect structural challenges to limit their sales and earnings growth at around 4 per cent over the next decade,” says Faul, who has a fair value of $25 on Woolworths compared to its price of around $38 on 17 May. 

    Morgans analyst also Alex Lu also believes Woolworths is close to fully valued and has a target of $40.35 on the stock. “With food demand being relatively inelastic, we think the company should continue to perform well in a higher interest rate environment. However, trading on 27.6 times fiscal year 2023 price-earnings, and 2.6 per cent yield, we see Woolworths as fully valued,” says Lu, who has a Hold rating on the stock.    

    Turning to Coles, Morningstar’s Faul puts its fair value at $13.60 against its market price of $18.77 as of May 18. The stock is up close to 4.5 per cent over the year to date, compared to the S&P/ASX 200’s fall of 4.5% and Woolworths 1 per cent loss. “We maintain our fair value estimate for no-moat Coles at $13.60 per share, with the group’s third-quarter fiscal 2022 sales growth of 3.6 per cent broadly in line with our expectation of 3.4 per cent,” said Faul.

    Morgans is more upbeat on Coles than Woolworths and has an ‘Add’ rating on the company after recently increasing its 12-month target price to $20.65 from $19.70. “Trading on 24.1 times FY23F P/E and 3.4 per cent yield, we continue to see Coles as offering good value with the company possessing defensive characteristics and a strong balance sheet, allowing ongoing investment for growth,” said Lu.

    Print Article

    Two ends of the spectrum, as Metcash beats and Carsales buys

    Negative news on the economy eventually becomes good news for stocks, as markets rally on hopes that rate hikes may not be as aggressive as expected. Tech and consumer retailers have gained more than 2 per cent with the healthcare sector the “worst,” adding just 0.8 per cent in the last few trading sessions. In…

    Ishan Dan | 29th Jun 2022 | More
    What is really in the S&P/ASX 200 Index?

    The S&P/ASX 200 Index, often referred to as the ASX 200, is considered to be one of the benchmark Australian indexes. It forms the basis of the fourth and fifth most popular exchange-traded funds on the market and is commonly used by fund managers to measure their relative performance. Most will know what the index…

    Lachlan Buur-Jensen | 29th Jun 2022 | More
    What to watch for in portfolios amid a year of change

    The latter half of 2021 and the majority of 2022 have been among the most challenging periods for investors in several decades. The traditional balanced portfolio, defined as one that holds 40 per cent of assets in government bonds and 60 per cent in indexed equities, is on track for the sixth-worst beginnings to a…

    Drew Meredith | 29th Jun 2022 | More
    What does High Conviction mean?
    Ishan Dan | 10th Mar 2021 | More
    Three ASX stocks ripe for a takeover
    Lachlan Buur-Jensen | 23rd Mar 2022 | More
    Battery materials in short supply but valuation is key
    Ishan Dan | 25th Mar 2022 | More
    Behind Brickworks’ (ASX:BKW) record profit
    Jaz Harrison | 25th Mar 2022 | More
    Is JB Hi-Fi the best retailer in Australia?
    Lachlan Buur-Jensen | 25th Mar 2022 | More
    Inside CSL’s big end of year deal
    Lachlan Buur-Jensen | 15th Dec 2021 | More