Is it time to buy Woolworths Limited?

Woolworths Limited (ASX:WOW) is facing some harsh headwinds which some investors may prefer to avoid.

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Shares in Woolworths Limited (ASX: WOW) are currently trading at $29.03 which is just 50 cents above their 52-week low of $28.53. This situation is certainly not what most investors would have expected one year ago.

To the dismay of shareholders in Australia's leading supermarket operator the stock has for the past 12 months underperformed the S&P/ASX 200 (Index: ^AXJO) (ASX: XJO) with a return of minus 19.3%, compared with an 8.7% gain from the index.

Even over the longer time frame of five years the underperformance of this leading 'blue-chip' remains stark with the index up 20% and Woolworths' share price barely holding its head above water with a gain of 1.7%.

Shareholders are now faced with a difficult choice – do they hang on in the hope that recent underperformance could make way for future outperformance? Or, do they sell now before things possibly get worse?

Tough decisions

Competition increasing – Much has been written about the threat of new entrants to the supermarket sector in Australia such as Aldi and Costco. These threats are real and while it certainly doesn't spell the demise of Woolworths, it has the potential to have a major impact on margins and reduce the competitive advantages which Woolworths has historically enjoyed.

Masters' losses – Woolworths has received a tough wrap from the investment community over its decision to compete with the Wesfarmers Ltd (ASX: WES) owned Bunnings chain of hardware stores with its own Masters Home Improvement chain.

Given the outstanding profitability of Bunnings it would arguably have been remiss of Woolworths' management not to consider competing in this sector, however, the execution of its strategy appears to have left a lot to be desired. While eventually Masters may become a profitable venture, whether Woolworths can ever earn a decent return on capital given the level of initial start-up losses incurred is debatable.

While the reasons outlined above would appear to be reasonable concerns for investors to have – there is still a case for long-term investors such as self-managed super fund (SMSF) investors to own the stock.

Firstly, this is a high quality, leading business trading on a forecast 2016 price-to-earnings (PE) multiple of 15.3x. That's reasonable on an absolute basis and relative to the wider market.

Secondly, the stock is trading on a forecast 2016 yield of 4.7%. Once again, that's appealing on a relative basis compared with the wider market.

Tim McArthur has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Bruce Jackson.

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