The Coles Group Ltd (ASX: COL) share price has held up well since its split with Wesfarmers Ltd (ASX: WES) last month.
The Coles name has operated in Australia for 100 years. It was owned by Wesfarmers for the roughly 10 years to November 2018.
Today, Coles is one of the largest retailers in the country, serving 21 million customers per week across its supermarkets, Coles Express, Online, Vintage Choice and others.
Recently, I outlined 2 reasons why I’d continue to own shares in Coles post the separation. They were:
- Focus from management
Here’s three reasons to continue selling…
3 Reasons I’d Consider Selling
While I still believe both of those things to be true, there are a few reasons I would consider offloading shares today.
We reported recently that Coles, Woolworths Limited (ASX: WOW) and Metcash Limited’s (ASX: MTS) IGA are facing growing competition from online and the likes of Aldi.
I’m not one to jump at the shadows of competitors — for the record, I don’t believe competition will send Coles bankrupt — but competition is a real threat to the profitability of the business.
Ask yourself why you think Wesfarmers split from Coles.
We’ll need to wait a while to see the sustainable financials with greater clarity. However, at slightly over $12 per share, I wouldn’t call Coles shares a bargain — again, why would Wesfarmers sell us a bargain?
While I expect Coles to generate decent profit growth throughout the cycle, I expect the majority of its returns to come from its ability to pay dividends. To give you an idea, Coles reported less than 0.5% revenue growth between 2016 and 2018.
Including its share of head office costs, Coles’ operating profit (EBIT) actually went backwards over the same period. Click here here to learn what EBIT means. (Note: I used pro forma results from an ASX update)
Here’s a simplified look at what the Coles Group’s income statement might look like, using my assumptions (which could be wrong):
|Less debt interest (4.2%)||$79.42|
|Plus interest earned (4%)||$12.00|
|Less Tax (30%)||$403.97|
|Est. Dividend payout (85%)||$801.22|
|Est. Dividend per share||$0.60|
|Est. Dividend Yield||5.01%|
At $12, Coles might pay a dividend equivalent to around 5% post demerger, excluding one-off costs.
I’ll admit 5% sounds good.
But at $12 per share, the valuation doesn’t stake up unless you assume yearly growth north of 2.5% and a moderate risk profile. Therefore, I think a conservative valuation for Coles shares is less than $10.
3. Better Alternatives.
I’d be more content if I were a Wesfarmers shareholder than a Coles shareholder.
However, with 2,000 companies on the ASX alone, there is no shortage of other companies to consider buying first. That’s why I think the key question investors need to ask themselves is whether you would buy Coles shares today if you didn’t already own them.
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