Most investors who are bearish on Australia's supermarket giants would say that their primary concern is the competitive threat being posed by discount retailer Aldi Australia and American behemoth Costco.
Indeed, while the financial media made a big fuss when Costco burst onto the local scene, Aldi has also been growing strongly, sparking fear amongst investors that the dominance of both Woolworths Limited (ASX: WOW) and Coles – owned by Wesfarmers Ltd (ASX: WES) – could become compromised.
To some extent, these concerns are valid. Aldi Australia recently announced that its sales had reached $6 billion in the 12 months ending December 31, which compares to the $5.3 billion recorded in 2013. This 13% growth, which was aided by strong same-store sales growth and the opening of 25 new stores, heavily outpaced the sales growth recorded by Woolworths and Coles at 4.7% and 4.6%.
Aldi's market share on the east coast rose to 11% as a result, with CEO Tom Daunt suggesting that 15% market share in the future was not out of the question. However, there are also numerous reasons why Aldi and Costco will not threaten the dominance of Woolworths and Coles.
No Threat
Firstly, Coles and Woolworths both maintain a 'sticky' customer base. While customers may, from time to time, shop at rival stores, the reality is that most would prefer to stick with the stores they are most familiar with. Notably, both stores offer a broader product range than either Aldi or Costco, making it easier for customers to get everything they need. While their products might be cheaper, Aldi and Costco have a more limited range.
The Fairfax press recently quoted Mr Daunt (Aldi Australia's CEO) as saying: "Despite our success over 14 years we do remain somewhat of a niche retailer, with a limited range of very high-quality products sold at heavily discounted prices. The niche nature of our business model won't change into the future, even though Aldi has added more national brands to its private label range and is expanding its fresh offer."
Turning the attention around to Costco for a moment; Costco is a fantastic place to shop in bulk. Indeed, households can save a fortune by buying goods such as eggs, soft drinks, and of course toilet paper from there rather than buying them more frequently at Woolworths or Coles. But the reality is that Costco cannot expand its store count in Australia anywhere near as easily as it can overseas.
In the United States, as an example, Costco can build its stores on town fringes giving a large customer base easy access. Here in Australia, that land is somewhat more difficult, and expensive, to obtain. Customers need to travel far greater distances to access a Costco store – a habit they won't get into for their weekly shopping needs.
While there is huge potential for both Aldi and Costco in Australia, investors are completely exaggerating the risk of them overtaking either Woolworths or Coles. I certainly think this is at least partially reflected in Woolworths' share price which has plummeted 20% since peaking in April last year.
For investors looking for an outstanding long-term investment prospect that also offers a compelling dividend yield, Woolworths could definitely be your answer. The market will eventually come to realise it has overestimated the threat posed by Aldi and Costco which should see the shares rise strongly in the long run.
