In Brief: Supermarkets, Consumer Slowdown, AI & Commodities

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Regulatory risks for supermarkets; the global outlook for consumer markets; AI from the small business viewpoint; and Citi’s commodity price outlook.

-Regulatory risks for Supermarkets
-The global consumer market outlook
-Small and medium sized companies views on AI
-Citi’s commodities prices forecasts

By Mark Woodruff

Regulatory risks for supermarkets in 2024

2024 promises to be a year of heightened risk for Australian supermarkets with rising inflationary concerns focusing regulatory attention on cost of living, and in turn, grocery prices within the industry.

Woolworths Group ((WOW)) and Coles Group ((COL)) dominate the industry with a 37% and 28% share of the grocery pie, respectively, but share prices for each are already trading down from 52-week highs by -21% and -12%, respectively, as investors and sector analysts weigh the potential impacts from six regulatory inquiries into Australian supermarkets over 2024.

Large profits are generated by both companies, acknowledges Macquarie, but as a result of selling high volumes at low prices, not vice versa.

While concerns over changes to promotional activity or market structure are legitimate, Macquarie and Goldman Sachs believe earnings and valuation risks from the industry body inquiries are by now fully priced into current share prices.

The most likely upshot from these investigations is increased price transparency for suppliers and customers, with more information sharing between the supermarkets and manufacturers on shelf pricing, suggests Macquarie.

The requirement for more working capital from the supermarkets is the key risk, notes the analyst, if changes to invoicing practices are imposed.

Should the accounts payable time period with suppliers be capped at 30 days, working capital requirements for Woolworths and Coles would increase by $3.9bn and $2.2bn, respectively, explains Macquarie, resulting in an -8% drag on earnings (assuming use of a bank working capital facility).

At present, Woolworths and Coles have accounts payable terms with suppliers of 60 and 56 days, respectively.

Macquarie has upgraded its rating on Woolworths Group to Outperform from Neutral, noting an opportunity for investors to build a position at around the current share price, while the Outperform rating is kept for Coles Group. It’s believed investors will be rewarded for embracing regulatory uncertainty and buying ahead of the regulatory inquiries.

Goldman reiterates its Buy recommendation for Woolworths with a $40.40 target. Currently, the analysts have a Sell rating for Coles Group and a $15.10 target. Macquarie has lowered its target prices for Woolworths and Coles by -3% and -2%, respectively, to $35 and $17.50.

Goldman Sachs notes the ACCC held a public inquiry back in 2008 into the competitiveness of retail prices for standard groceries and found grocery retailing was workably competitive. 

Recommended changes from that enquiry did not hamper Woolworths’ EPS growth.

Note: As Wesfarmers ((WES)) had acquired Coles Group in November 2007, Coles was excluded from this analysis by Goldman Sachs.

The global consumer market outlook

A buoyant global consumer market continues to defy expectations, observes Oxford Economics, considering the squeeze on real incomes brought on by two years of unusually high inflation and the drag from higher interest rates.

However, consumer goods companies are now expected to face a more challenging, price sensitive environment.

Spending growth by consumers will be positive in cash terms across the twenty countries Oxford has researched (10 developed and 10 emerging), and only two of those countries will see volumes stagnate or decline.

The pace of growth in global consumer spending is expected to slow as the boon from China's reopening in 2023 fades and households in other developed markets can no longer count on excess savings accumulated in 2020-2021.

A 2.3% inflation-adjusted expansion of consumer spending is forecast for 2024, a come down from the 3%-plus pace in 2022-2023.

The rising prosperity of a growing urban middle class in Asia and the Middle East, explains Oxford, will provide the strongest consumer markets over 2024.

African markets are also expected to grow fast, but almost entirely due to rising populations, creating stronger growth opportunities for non-discretionary segments such as food staples and clothing, explains Oxford.

India will overtake Japan as the fourth-largest consumer market by the end of 2024, though Oxford remains sceptical on the country’s potential to become a dominant force in the global consumer market as demand for low-cost products is uppermost and local consumers are highly price-sensitive.

The consumer market in China (already three times bigger than that of India), notes Oxford, is on track to displace the Eurozone as the second biggest consumer market by 2027.

In western markets, Europe is showing signs of a revival following stagnation due to the cost-of-living crisis in 2023, though Oxford forecasts US growth will eventually cool down leading into 2025.

For most product segments, Oxford expects subdued volume growth, while price increases will need to be much more modest, following the past two years of increases which were responsible most of the revenue growth.

From among the thirty cities with the biggest consumer markets, the five fastest growing ones are in Asia Pacific, highlights Oxford Economics, but all of them are relatively small in terms of absolute size.

Within this region in 2024, Australian consumer markets are expected to outperform those in Japan and South Korea.

How is AI regarded by small and medium sized companies?

Small and medium-sized enterprises in Australia are already actively investing time and money in areas such as AI, machine learning, internet of things (IoT) and automation to help run their business operations, according to a special National Australia Bank ((NAB)) SME Business Insight report.

Perhaps surprisingly, over 40% of SMEs contacted for the report admitted to only a basic understanding of AI and its potential, picked up mainly from media/social media.

The main benefits of AI technology solutions are productivity and reduction of administrative tasks, according to around one in six SMEs, while only 5% envisage no benefits from using this technology.

The benefits appear clear for the majority of SME’s contacted by NAB, yet almost half cite training as a barrier to usage, while around a third suggested a lack of time and understanding of the technology were hurdles, along with the cost.

Regarding industry sectors, all noted the requirement for training as the main barrier to using emerging technology solutions, except in the Health Services and Retail sectors, where time and lack of understanding, respectively, were regarded as greater hurdles, explains the NAB.

Basic awareness of AI in the NAB report ranged from 57% in the Retail and Wholesale sectors to 28% in Finance & Insurance. For both the Transport & Storage and Construction sectors, 21% had no awareness or understanding of AI compared to none in Finance & Insurance and only 3% in Business Services.

One of the oft-cited fears around AI is the potentially negative impact on employment. 

Across the Accommodation & Hospitality and Manufacturing sectors just over 40% believe emerging technology solutions will reduce the need for staff, compared to around 21% in the Wholesale and Transport & Storage sectors.

Citi’s commodity price forecasts

Despite ongoing weakness for Citi’s global manufacturing indicators, and no meaningful catalysts so far from China’s ongoing National People’s Congress, the broker remains tactically bullish on copper, iron ore and zinc over the next couple of months.

Increased price forecasts have pushed up 12-month targets for stocks within the broker’s research coverage of the A&NZ Metals and Mining sector.

Citi analysts anticipate resilience for China’s credit data, softer upcoming US labour data and broader risk-asset strength, and believe investors will also fear missing out on the nadir for global manufacturing.

Overall, the broker doesn’t expect a runaway commodity bull market for 2024, as several headwinds will temper the bullish impact from an easing in monetary policy on commodity prices.

Sharply rising debt service burdens and recessionary conditions in the mature economies will limit the upside, according to the analysts, along with only slight policy easing in China in reaction to private individual and housing sector weakness.

Citi’s 2024 forecasts for copper and alumina rise by 11% to US$9,125/t and 7% to US$377/t, respectively, while the 2025 Brent oil and aluminium estimates fall by -14% to US$60/bbl and by -7% to US$2,600/t, respectively.

The analysts point to several supply concerns and disruptions (notably for oil and copper), generally low inventories (also for oil and copper), and bullish tailwinds (for oil in particular) from stronger-than-expected demand so far in 2024.

The broker’s 2024 estimates for spodumene and lithium carbonate equivalent (LCE) fall by -18% to US$928/t and by -19% to US$11,875/t, respectively, with further sharp falls predicted for 2025.

Positive changes to Citi’s 12-month target prices for commodity stocks include: BHP Group ((BHP)) to $48 from $46; Deterra Royalties ((DRR)) to $5.20 from $5.00 and Fortescue to $24.50 from $24.00.

Alumina Ltd’s ((AWC)) target rises to $1.30 from $1.00 after the broker increased the valuation weighting to 75% from 50% of the implied valuation derived from Alcoa’s share price following Alcoa’s bid for Alumina Ltd. The Iluka Resources ((ILU)) target also increases to $7.70 from $7.60 on the back of lower Australian dollar projections.

Citi’s target for Rio Tinto’s ((RIO)) falls to $137 from $139 on the back of higher costs and aluminum price downgrades.

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