The last six months have seen a disappointing decline for shareholders of S&P/ASX 200 Index (ASX: XJO) share Metcash Ltd (ASX: MTS). The company has hit a 52-week low of $3.03 within the last week and is currently trading at $3.10.
Metcash may not be one of the most recognisable businesses in Australia, but the retailers it's associated with are many names that Aussies may know.
The company supplies IGA supermarkets across the country through its food division. It also recently acquired a business to business (B2B) food supplier called Superior Foods, which works with customers like cafes, restaurants and hotels.
The ASX 200 share's liquor division supplies a wide array of liquor retailers across the country, including Cellarbrations, The Bottle-O, IGA Liquor, Porters, Thirsty Camel and almost 2,000 other stores under different banners.
Metcash also has a hardware division that includes Mitre 10, Home Hardware, Total Tools, and the recently acquired Alpine Truss and Bianco Construction Supplies.
Why has the Metcash share price dropped?
Metcash has noted in recent updates that the economy has been very challenging for its hardware division, and retail store margins were facing pressure due to the impact of lower volumes on fixed costs.
In the latest update in late October, it said there had been "additional margin pressure in retail stores" in September and October, particularly in trade. Metcash said the weakness in retail store sales has been "offset by lower-margin wholesale sales".
Negative attention has also been focused on the supermarket sector following the ACCC investigation into Coles Group Ltd (ASX: COL) and Woolworths Group Ltd (ASX: WOW) regarding shelf prices and discounting. While Metcash/IGA isn't under investigation, some investors may be pessimistic about the sector overall.
Why I think the ASX 200 share is a buy
I like the company for a few different reasons. For starters, the business said it's responding to these weaker trading conditions in hardware by implementing additional cost management initiatives and trying to increase its market share in both trade and DIY. Metcash said cost initiatives have included labour cost reduction, where there has already been a material reduction in hours.
The ASX 200 share suggested in its recent update that its hardware business remains "ideally positioned to capitalise on any increase in market activity levels." For me, this is one of the key reasons I like the company in the current economic environment.
If/when interest rates reduce in Australia, possibly sometime in 2025, I think the hardware division could see an uptick in subsequent building/renovation activity and earnings. How much earnings recover could depend on how many rate cuts there are. For now, the food earnings can remain resilient and support the dividend payments.
But, considering there is a potential earnings rebound in the future, I think the Metcash share price is cheaply priced.
According to the forecast on Commsec, Metcash is projected to make 24.7 cents of earnings per share (EPS) and pay a dividend per share of 17 cents. That means the current Metcash share price is valued at 12x FY25's estimated earnings with a potential grossed-up (including franking credits) dividend yield of 8%.
