Woolworths shares set to soar according to BAML’s Errington

Woolworths’ stock is set to shoot as high as $40 a share as its recovery gains traction, says BAML’s David Errington.

A Woolworths supermarket in Sydney. A BAML analyst believes that the chain is competitive again. (AFP Photo/Peter Parks)

Long-time Woolworths bull David Errington today declared the retailer has turned the corner and predicts a 78 per cent increase in its stock price to $40 a share based on its turnaround.

In a note today, the Bank of America Merrill Lynch (BAML) analyst said consensus forecasts for a further $200 million fall in Woolworths’ (WOW) earnings this year after last year’s $1.2 billion fall were too negative, predicting an increase this year.

Separately, JB Hi-Fi boss Richard Murray provided some more insight into David Di Pilla’s $750m deal to buy 81 Masters sites when the venture closes down in December.

JB Hi-Fi was asked to indicate which properties would be of interest to it, information which was used, along with other expressions of interest, in tying down the deal.

Di PIlla has a close working relationship with Chemists Warehouse and Spotlight and 15 of the sites will go to Bunnings but the other retail deals, including with JB Hi-Fi, are just expressions of interest at this stage.

This means the risk still lies in cutting up the boxes the right way to attract interest and then getting the right deal from the likes of JB Hi-Fi.

Murray told The Australian that he had only provided indicative interest at this stage which is well short of an actual deal.

Errington is forecasting Woolworths will increase earnings before interest tax depreciation and amortisation from $3.6bn last year to $4.4bn in 2018.

“In terms of price and service investment, Woolworths look to have made the necessary steps to now be price competitive and to have the required service levels to generate positive customer perceptions,” he said in his note.

“There may be some remnant (~$300m) impact on 1H17 EBIT (through the effect of annualising the investments made during the course of FY16) … however, we believe Woolworths has made the necessary level of investment required to be competitive and to start its recovery … and has exited FY16 in the position it needed to be,” he added.

Errington also noted: “We estimate that Woolworths’ wastage costs were $400m to $500m higher in FY16 than they should be with the failure of their IT systems a major contributor.”

“Going forward, we expect to see Woolworths’ sales not only begin to improve (ultimately getting to the level where its gross profit growth exceeds cost growth), but we also expect to see Woolworths’ sales mix improve with gross margin increasing from higher sales of fresh products, etc,” he said.

Errington said, “based on our projections, we are anticipating ~2 per cent total sales growth in FY17, improving to ~4.4 per cent from FY18 (Australian supermarkets). This assumes Food LFL growth will be 1.1 per cent in FY17 and 2.6 per cent from FY18 onwards.”

He is also forecasting a turnaround in Big W’s earnings.

Woolworths has underperformed the market by 14 per cent in the last 12 months and Errington has maintained his buy rating throughout this time.