Woolworths Limited shares slammed on credit rating downgrade

The share price of Woolworths Limited (ASX: WOW) has been smashed a day after it announced its third quarter trading update. The shares had dropped to a similar level yesterday, but rallied strongly thanks to a buoyant market to almost finish flat for the day.

But after financial markets around the world dropped overnight, the local market is being dragged down and the reprieve that Woolworths’ shares had yesterday looks to be long gone now.

It certainly was a quarter to forget for Woolworths, as it posted a drop in same store sales of 0.9%. This was a stark contrast to Wesfarmers Ltd (ASX: WES) operated Coles, which had previously posted same store sales growth of 4.4% in its last quarter.

In light of these results, just today the company reported to the market that its issuer rating and senior unsecured notes have been downgraded by one notch from BBB+ to BBB by Standard & Poor’s. As a credit rating downgrade could lead to Woolworths’ borrowing costs going up, it’s not great news for a company which had net repayable debt of $3.1 billion as of its half year report.

The company is still rated as Baa2 (Outlook Negative) by Moody’s, but I wouldn’t be surprised to see that change in the next week or two as these results will not have filled ratings agencies with a great deal of confidence. Outlook Negative means that the rating may be lowered, whereas Outlook Stable means it is unlikely to change.

Because of this Woolworths’ shares are changing hands today at just 15x estimated FY 2016 earnings, compared to Wesfarmers and the consumer staples sector average of 20x estimated FY 2016 earnings.

This does make Woolworths looks on the cheap side, even when factoring in all the doom and gloom surrounding it. With the worst of it potentially over now, is it time to look at investing in Woolworths?

I believe patient investors that can cope with a spot of volatility here and there could do very well from a long-term investment in Woolworths today. Management is in the first year of a three to five-year plan to restore sales momentum which I have confidence will be a success.

It is investing heavily in price, customer service, and loyalty with the aim of becoming the first choice for consumers. These investments are coming at a cost, with an additional $150 million being allocated on top of previous estimates. But I do believe it is more than worthwhile and believe this management team has what it takes to execute this transition successfully.

Thanks to its strong presence in the supermarket and liquor industry, I do feel it is positioned well for future growth once it gets its affairs in order.

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Motley Fool contributor James Mickleboro has no position in any stocks mentioned. The Motley Fool Australia 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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