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The Markets
This week: ASX v Wall Street
FYTD: ASX v Wall Street
This week, we discuss developments in the critical minerals sector and take a look at Woolworths’ Q1 trading update and what it may reflect about the Australian consumer.
Lynas Rare Earths (LYC)
Malaysian Government license extension granted
In our recent review of the company profit reporting season, we cited the risk that Lynas, the biggest supplier of rare earths outside of China, faced with respect to being able to maintain its licence to operate its mineral processing facility in Malaysia.
Previously, the Malaysian Government had declared that the licence to operate in Kuantan, Malaysia was to be revoked, despite Lynas having operated the plant for a decade and provided employment for 600 locals. This decision was made due to environmental/safety considerations given a low-level radiation risk involved.
Cracking and Leaching
The cracking and leaching process involves rare earth phosphate mineral being mixed with concentrated sulphuric acid and ‘cracked’ at a high temperature (1,000 degrees Celsius) to produce rare earth sulphate.
Water is then added in the leaching stage and impurities are removed. Further processing is then done to progressively separate the rare earths into groups and individual elements. These are then in turn calcined (cooked) to produce various oxides which are then bagged for transportation and use in products like EV batteries.
This process is being carried out in Lynas’ Mt. Feld plant in WA, from where the rare earth concentrate was then exported to the processing facility in Malaysia.
Lynas: ‘Cracking up’ – Lynas’ kiln for rare earth concentrate
Source: Company website
Good news 1
In a positive turn of events, the Malaysian Government has now chosen to grant Lynas a 2-year variation/extension to its licence arrangements out to February 2026. This will ensure that Lynas maintains higher margins in its business and can therefore afford higher production levels. The stock responded with a rally in the share price of more than 10% on this announcement.
Good news 2
In conjunction with this development, on 25th October, the Prime Minister of Australia announced a $2bn critical minerals financing boost to assist the energy transition. This is designed to cement Australia’s position as a world-leading provider of rare earths, as a building block for a clean energy future, and to solidify Australia’s connection to the US in this process.
We expect that this will be of benefit to companies such as Lynas, IGO and Hastings Resources, which are miners of rare earth materials and are each represented across First Samuel portfolio positions.
Woolworths 1Q Sales Results
Many retailers, including the major supermarkets, report quarterly sales results. As part of these information releases, they do not tell the market about how profitable the sales have been, just how current sales are compared to previous periods.
The market focus on the quarterly result for the major supermarkets includes:
- Which supermarket is growing faster, Woolworths or Coles?
- Trends in food inflation, especially as food inflation is a key component of inflation overall
- Whether or not the retailers have a view on the “health of the consumer,” for instance:
- Are shoppers changing their consumption patterns towards discretionary items?
- Are customers trading down to less expensive brands or towards home brands in response to tighter economic conditions?
Total sales growth at Woolworths’ Australian supermarkets was 6.4% and comparable sales growth* of 5.5% were both in line with expectations. Coles results the following day disappointed expectations.
The results showed that Woolworths is growing faster than Coles on a like-for-like store basis. This has been a consistent theme of relative performance between the two businesses.
*Comparable sales growth is a measure of sales growth to evaluate how established stores have performed over time compared to new stores.
The chart below shows the volume growth recorded by each since the onset of COVID.
Many retailers, including the major supermarkets, report quarterly sales results. As part of these information releases, they do not tell the market about how profitable the sales have been, just how current sales are compared to previous periods.
The market focus on the quarterly result for the major supermarkets includes:
- Which supermarket is growing faster, Woolworths or Coles?
- Trends in food inflation, especially as food inflation is a key component of inflation overall
- Whether or not the retailers have a view on the “health of the consumer,” for instance:
- Are shoppers changing their consumption patterns towards discretionary items?
- Are customers trading down to less expensive brands or towards home brands in response to tighter economic conditions?
Total sales growth at Woolworths’ Australian supermarkets was 6.4% and comparable sales growth* of 5.5% were both in line with expectations. Coles results the following day disappointed expectations.
The results showed that Woolworths is growing faster than Coles on a like-for-like store basis. This has been a consistent theme of relative performance between the two businesses.
*Comparable sales growth is a measure of sales growth to evaluate how established stores have performed over time compared to new stores.
The chart below shows the volume growth recorded by each since the onset of COVID.
Relative sales performance
Woolworths: Australia Volume Growth since 2020 versus Coles
Source: UBS
Food inflation signals
Movements in reported prices also showed a reduction in food inflation (to only 2%) from the highs we saw earlier in the year. Much of the lower inflation results were driven by fruit & vegetables (-12%) and meat which saw lower prices.
Food inflation: eased as produce prices have benefitted from favourable growing conditions to date
Source: Macquarie
Consumer behaviour
Analysts noted they had seen evidence of “consumers shifting spend into the home and seeking larger value packs”, which could be expected in the face of higher interest rates.
One of the highlights in the results was the continued strength in e-commerce, with sales up 18.4%, and now almost 12 per cent of Woolworths sales being made online. The long-term threat of new entrants with online solutions to compete with Woolworths and Coles continues to diminish as people learn to use the new digital solutions of the incumbents.
We were fascinated to see that 57% of the sales growth in E-commerce was coming from store pick-up. This is the perfect outcome for an incumbent player who still gets to benefit from the scale of its store network without incurring the cost of delivery or the inefficiencies in staffing and supply chain that could be caused.
Some suggest that people are using the Woolworths website to “manage household grocery budgets rather than seeking convenience”.
Long-term Perspective: Pleasing results from Woolworths Australian supermarkets
Our long-term position in Woolworths is predicated on some key structural features of the company and the market it operates in:
- There is almost a duopoly position in the full-service supermarket business which allows both players (Woolworths and Coles) to compete on location, ranging and advertising themes, but not excessively on price;
- The supermarket sector benefits from a customer trained to look for periodic discounting and volume-based incentives (2 for 1 offers etc). For goods that are almost never on sale or goods that are not discounted at a given time, consumers begrudgingly expect that higher prices will be paid; and finally
- Due to the density of well-presented supermarkets across major cities, shoppers who are especially price-conscious can simply cross-shop between the two competitors to seek the best outcomes. Those who don’t cross-shop simply pay more.
In combination, under these circumstances, a supermarket needs to maintain a great supply chain to assure success. Supply chain excellence is critical to allow the supermarket to handle higher volumes when items are on sale, and when well executed, seek supplier support to fund the discounts offered to customers. The result is higher margins and a dominant market share.
Where these conditions exist, a dominant supermarket doesn’t have to compete too heavily for market share. A canny operator will not let one supermarket consistently capture market share, instead, it will allow margins to drift higher for both players.
This is why we like to invest in Woolworths for the long term.
Other Woolworths businesses
The remaining businesses in Woolworths are smaller and have less impact on the long-term value of the business, but warrant mention, nonetheless.
The New Zealand market isn’t anywhere near as cosy or uncompetitive on price as in Australia. The weakening economic conditions in New Zealand and continuing competitive pressures contributed to another soft result. Weaker retail performance has also been evident for other retailers such as JB Hi Fi.
BIG W saw sales decline -5.5% in the quarter. It appears to be losing market share to Kmart. Again, the result appears to highlight evidence of pressure on households. Consider the level of inflation in the economy, a negative sales result will have been accompanied by a steep decline in volumes.
The information in this article is of a general nature and does not take into consideration your personal objectives, financial situation or needs. Before acting on any of this information, you should consider whether it is appropriate for your personal circumstances and seek personal financial advice.