Investments In Lithium And Digitization Will Position For Future Success

Key Takeaways

• Focused productivity initiatives and integration efforts are driving operational efficiency, reducing costs, and boosting potential earnings and margin growth across divisions.
  
• Strategic investments in lithium production and digital growth enhance long-term revenue potential and earnings, despite near-term restructuring costs.
  
• Economic uncertainty, supply chain costs, and competition pose risks to Wesfarmers' revenue and profitability, with specific challenges in lithium and retail sectors.

Catalysts

Engages in the retail business in Australia, New Zealand, and internationally.

• Wesfarmers is focusing on productivity initiatives and transformation activities across its divisions, positioning them for improved efficiency, cost management, and potential margin expansion, likely impacting net margins and earnings positively.
  
• The integration of Kmart and Target systems and processes has simplified operations and improved digitization, enhancing operational efficiency and reducing costs, which should support future earnings growth and net margins.
  
• Investment in lithium through the Covalent JV, with production expected to commence mid-2025, represents a future earnings growth driver as the demand for lithium hydroxide increases, impacting both revenue and earnings.
  
• The development of the retail media network leveraging omnichannel audiences is an anticipated long-term growth opportunity, potentially boosting revenue by capitalizing on digital and data assets.
  
• Ongoing investments in Health transformation and digital strategies, despite current restructuring costs, are expected to drive revenue and improve returns in the medium to long term, enhancing overall earnings potential.

Wesfarmers Future Earnings and Revenue Growth

Assumptions

• Analysts are assuming Wesfarmers's revenue will grow by 3.8% annually over the next 3 years.
• Analysts assume that profit margins will increase from 5.8% today to 6.8% in 3 years time.
• Analysts expect earnings to reach A$3.4 billion (and earnings per share of A$3.0) by about April 2028, up from A$2.6 billion today.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 28.6x on those 2028 earnings, down from 32.2x today. This future PE is lower than the current PE for the AU Multiline Retail industry at 39.9x.
• Analysts expect the number of shares outstanding to remain consistent over the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 7.3%, as per the Simply Wall St company report.

Wesfarmers Future Earnings Per Share Growth

Risks

• The challenging trading environment, with many households and B2B customers restricting their spending, could adversely affect Wesfarmers' future revenues if economic conditions do not improve.
  
• High supply chain costs in the Health division impacted earnings, and ongoing cost pressures could continue to squeeze net margins if not managed effectively.
  
• The lithium hydroxide project faces significant ramp-up and cost challenges, with potential losses from the lithium business due to lower market pricing, which could negatively impact earnings in the medium term.
  
• Increased competition and pricing pressures in key retail segments, such as the promotional intensity in the apparel market impacting Kmart, may lead to margin compression and impact overall profitability.
  
• Economic uncertainty, including geopolitical developments and inflationary pressures, poses risks to consumer demand and could negatively influence revenue growth and profitability across Wesfarmers' portfolio.

Valuation

• The analysts have a consensus price target of A$69.408 for Wesfarmers based on their expectations of its future earnings growth, profit margins and other risk factors. However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of A$85.0, and the most bearish reporting a price target of just A$44.5.
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2028, revenues will be A$50.3 billion, earnings will come to A$3.4 billion, and it would be trading on a PE ratio of 28.6x, assuming you use a discount rate of 7.3%.
• Given the current share price of A$73.66, the analyst price target of A$69.41 is 6.1% lower. The relatively low difference between the current share price and the analyst consensus price target indicates that they believe on average, the company is fairly priced.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.