Should you buy Woolworths?

Two companies dominate retail in Australia. Woolworths (ASX: WOW) and Wesfarmers (ASX: WES). Smaller companies, including Metcash (ASX: MET) and Independent Grocers of Australia (IAG) occupy most of the remaining retail space.

Woolworths is a retailer with primary activities in supermarkets. Its other operations include: BIGW discount department stores; petrol through the Woolworths/Caltex alliance; hotels and Dan Murphy’s liquor stores, which also owns Beer Wine Spirits (BWS), another liquor chain with smaller stores.

Since re-listing in 1993, Woolworths has had sustained success by the adoption of the ‘Fresh Food People’ and ‘Everyday Low Prices’ strategies. The company has grown both organically and by acquisition. The move into the large home improvement segment with establishment of the Masters chain, in direct competition to Wesfarmers’ Bunnings Group, is in its early days and will no doubt take a substantial share of that market as time transpires. Supermarkets will remain the dominant driver of group earnings however. Woolworths reported net profit after tax up 8.0% to $2.26 billion for the year to June 2013. Total dividend for the year was 133 cents fully franked, up 5.6% and earnings per share of 182.6 cents were up 6.7%. Looking over the past 15 years, total shareholder return has averaged 15% compared to an average of 7.5% for the ASX200.

Some insights from the November AGM, indicating future potential, included:

. Extension of leadership in food and liquor.

. Maintenance of the track record of building new growth businesses.

. Putting in place the enablers for a new era of growth.

Considering use of capital, return on equity for the last 10 years has been consistently over 20% each year. The debt to equity ratio is a little high at 47.9 but it is satisfactorily covered at 9.63 times. What is particularly pleasing from the shareholders’ viewpoint is that the overall operating margin has increased steadily over 10 years and was 8.0% last year.

Foolish takeaway

Woolworths has demonstrated an enviable record of sustainable growth that indicates continued creation of value for shareholders in future years. At a price to earnings ratio of 17, the current price is reasonable. Purchase at $32 represents good value for a stock that has sold for an average of $34 this calendar year, especially as the long-term trend is upwards.

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Motley Fool contributor Chris Koenig does not have shares in any of the companies mentioned.

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