Coles’ New CEO to Take the Helm During a More Challenging Second Half

No-moat Coles COL reported a solid interim result for fiscal 2023. We lift our fair value estimate by 3% to AUD 14 per share, mainly due to a slightly greater sales base. Our group EBIT margins forecast remains unchanged, averaging 5% over the next decade. Elevated food price inflation is proving to be longer lasting than we had previously expected, and we don’t expect recent price gains to materially deflate.

First-half NPAT of AUD 616 million from continuing operations was up 11% on the prior corresponding period, or pcp. Earnings were underpinned by an improved cost structure, without any apparent contribution from operating leverage at the group level despite group sales growth of 4%. The board declared a fully franked interim dividend of AUD 36 cents per share, equating to a 78% payout ratio. Our full-fiscal year DPS estimate of AUD 68 cents translates to a 3.8% yield at current prices.

Shares in Coles continue to screen as overvalued. We anticipate the next six months to be more challenging for Coles. We expect fiscal 2023 second-half earnings to decline by 16% versus the pcp. A relatively weaker second-half result could act as a catalyst for a derating of Coles’ share price.

The unwinding of material COVID-19-related costs boosted first-half earnings. COVID-19 costs were down to a mere AUD 20 million, now mostly attributable to higher absenteeism at Coles’ operations than before the pandemic. The reduction in COVID-19 costs of about AUD 130 million versus the pcp were essentially the main driver for the improvement in first-half EBITDA of AUD 128 million. We expect remaining COVID-19 costs to almost fully unwind in the second half and the group to again benefit from a cost reduction but to a lesser extent than in the first half. Rather, non-COVID-19 costs are likely to start mounting—in particular, implementation costs of just over AUD 100 million associated with the ramp up of the new Witron distribution centres.