Which supermarket shares should you own?

The Fairfax Press revealed on Monday morning that suppliers of Woolworths Limited (ASX: WOW) believe Woolworths’ $150 million investment in cutting prices and focusing on customer service is futile, stating that the supermarket giant continues to lose sales to the likes of Aldi and Wesfarmers Ltd (ASX: WES) owned Coles.

The report comes after Wesfarmers and Woolworths both announced quarterly sales results, with both companies’ set of numbers representing widely different fortunes and their respective share prices going opposite ways. This leaves investors with an important question of whether Wesfarmers or Woolworths is the better buy today.

Wesfarmers’ results

Wesfarmers delivered solid results for the March quarter with Coles outperforming Woolworths by reporting 4.9% same-store sales growth. Though sales were down marginally on its prior quarter, Coles’ sales result was favourable given 2% deflation to food and liquor prices over the quarter.

More than just Coles

Importantly for investors, Wesfarmers is more than just Coles. Wesfamers owns Bunnings, Officeworks, Kmart and Target; these businesses have managed to carve out a niche in distinct retail segments, making them number one or two in their respective segments.

The success of these business models is evident in Wesfarmers’ results. Bunnings and Officeworks grew sales over the quarter by a whopping 11% and 17.9% respectively. Discount department store Kmart grew sales by 5.6%, arguably at the expense of Target (which is struggling). However, management is cognisant of this and a potential merger between the two would likely be positive for the Wesfarmers group.

Bottom line

An investment in Wesfarmers relies on the belief that growth will continue at current rates. Whilst this is likely (though not free from risk), I believe investors are paying a premium at current prices for Wesfarmers.

Woolworths results

Woolworths’ results were poor all around; same store sales in its flagship supermarkets division dropped 0.9% over the quarter, compounded by price reductions in food and liquor prices. Petrol sales were down 8.8% due to a drop in crude oil and its general merchandise division (which includes Big W) saw sales decrease 4.6% on prior year.

Bottom line

Investors purchasing Woolworths today are doing so on the premise of a turnaround story. Although Woolworths reclaiming its former glory is not beyond all reality, its recent credit downgrade due to intensifying competition from the likes of Metcash Limited (ASX: MTS) means things are likely to get harder going forward. Accordingly, whilst trading near multi-year lows, the stock does not appear to be a bargain at current prices.

Foolish takeaway

Wesfarmers and Woolworths operate in industries undergoing structural change, with foreign entrants and online stores creating intense competition and imposing margin pressures.

Nevertheless, Wesfarmers continues to stand out with its key businesses firing on all cylinders (at accelerating growth rates). Although I believe both companies are overpriced for their fundamental businesses, Wesfarmers’ businesses have demonstrated more resilience, which makes it the better buy in my view.

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Motley Fool contributor Rachit Dudhwala owns shares of Woolworths Limited. 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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