Is Amazon really a threat to retail shares like Woolworths Limited?

Metcash Limited (ASX:MTS), Wesfarmers Ltd (ASX:WES) and Woolworths Limited (ASX:WOW) look set to take on Amazon.

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IBISworld statistics state that Australia's supermarket retail industry is a $105.3 billion behemoth dominated by four major players – Woolworths Limited (ASX: WOW) (~33% market share), Wesfarmers Ltd (ASX: WES) owned Coles (~29% market share), Aldi (~9% market share) and Metcash Limited (ASX: MTS) (~7% market share).

This high level of concentration means all incumbents are forced to keep pace with ongoing competitive pressures (and private label expansion) from the dominant quartet. The result to date has been a benefit to all consumers, at the expense of shareholders, as margins (and profitability) are reduced across the price-sensitive sector.

With American online giant Amazon poised to enter the local market later this year, it's no surprise that shareholders of Woolworths, Wesfarmers and Metcash are seemingly nervous at the havoc Amazon could cause on current operations.

I, however, believe this threat is overdone at the current time.

Amazon's threat

Let me make one thing clear. The threat posed to Australia's supermarket industry by Amazon is real. Having grown to a market capitalisation that would dwarf the cumulative market value of Commonwealth Bank of Australia (ASX: CBA), Westpac Banking Corp (ASX: WBC), Australia and New Zealand Banking Group (ASX: ANZ) and National Australia Bank Ltd (ASX: NAB). Amazon has shown how it can disrupt an entire industry after virtually decimating U.S. retailers that have been slow to adapt.

The $472 billion e-commerce giant's strategy has proven time-and-time again that long-term sustainability trumps short-term margins any day of the week. This means Australian supermarkets will need to dig-deep to avoid becoming collateral to the Amazon-express train that's about to come through Australia.

However, there is one saving grace for the likes of Woolworths, Wesfarmers and Metcash. Time.

Amazon's challenge

Entering a new market is no easy feat, given strategies that work in one country may not work in another straight away. Costco's relative failure in Australia is a prime example of that.

Whilst Amazon is still in the process of setting-up shop, it's evident that each of Woolworths, Wesfamers and Metcash have not been standing still. Each chain has used this time to invest millions of dollars in pricing and loyalty programs in order to reward customers for shopping at their respective supermarkets and build positive consumer attitudes towards its stores.

This pre-emptive strike towards the imminent threat of Amazon demonstrates a willingness to change from the supermarketing giants – something which may be new to Amazon.

Accordingly, I'm willing to wager that neither Woolworths, Wesfarmers nor Metcash is going down without a fight.

Foolish takeaway

Although the supermarket industry is unlikely to deliver blockbuster profit growth given its mature nature, I firmly believe the threat posed by Amazon is presently overdone with each supermarket chain likely to have already formulated strategies to combat Amazon (and the others).

Metcash's results announced in late June prove that industry competition is nothing new to these retailers, after the owner of IGA stores posted an upbeat set of numbers for the full year. With its share price rallying over 15% since reporting, I believe it's fairly priced given the industry environment.

However, I'll be watching the results of Woolworths and Wesfarmers this earnings season to see if either stock is undervalued based on the market's perpetual fear around Amazon's arrival to Australia.

Motley Fool contributor Rachit Dudhwala owns shares of Woolworths Limited. The Motley Fool Australia owns shares of Wesfarmers Limited. 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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