Woolworth's bond risk surges as supermarket competition spikes

Sydney

THE battle for the shopping dollar of Australians buffeted by a slowing economy is pushing up bond risk for Woolworths Ltd, the nation's biggest supermarket chain.

The cost of protecting bonds issued by Woolworths using credit-default swaps climbed to 66 basis points on April 2, the highest level since October 2013. Woolworths CDS in March rose above contracts for Wesfarmers Ltd, owner of the second-largest supermarket chain Coles, for the first time in about 10 months and reached the highest level on a relative basis since 2011, according to CMA pricing.

Woolworths is struggling as competition ramps up from Coles and German discount rival Aldi, with the 90-year-old Sydney-based retailer cutting earnings projections. Consumer confidence is wilting as unemployment increases amid a collapse in prices for key exports such as iron ore. "There's been some bearishness around Woolworths" after it reported a decline in profits in the second half of 2014, said Anthony Ip, a credit sector specialist at Citigroup in Sydney. "Investors are worried about competition, not just from Wesfarmers but also from foreign entrants such as Aldi."

CDS on Woolworths have risen from a four-year low of 45.5 basis points in August and are the worst performers in the past three months in the iTraxx Australia index, CMA data show. Wesfarmers contracts were at 61 basis points on April 2, up from a 2014 low of 50.7.

"Woolworths CDS has underperformed in the last few weeks and it's now wider than Wesfarmers," Mr Ip said. "That hasn't happened on a sustained basis for a long time and that is an outlier when you look at the historical relationship between the two." Woolworths spokesman Russell Mahoney declined to comment on the company's CDS or its debt situation.

In addition to its retailing businesses, Wesfarmers also operates mines, sells insurance and manufactures industrial goods. Woolworths will be left more exposed to any price war on the grocery shelves. Supermarkets accounted for 93 per cent of the company's A$3.78 billion (S$3.93 billion) in operating income in the last fiscal year compared to 44 per cent at Wesfarmers, data compiled by Bloomberg show.

Woolworths' net debt was A$3.21 billion as of Jan 4, down 9.1 per cent from a year earlier, according to company filings. The company has A$5.2 billion of gross debt outstanding, with $632 million of US dollar-denominated notes maturing in 2015, according to data compiled by Bloomberg.

Perth-based Wesfarmers's Australian dollar-denominated debt returned 2.1 per cent this year through April 2, compared with 1.5 per cent for Woolworths, Bank of America Merrill Lynch indexes indicate.

Both Wesfarmers and Woolworths are rated A- at Standard & Poor's, the seventh-highest investment grade, and the equivalent A3 at Moody's Investors Service.

Wesfarmers shares climbed 4.3 per cent this year through April 2, while Woolworths fell 5.5 per cent.

Woolworths's net income declined 3.1 per cent to A$1.28 billion in the six months ended Jan 4. It predicts profit will increase at the lower end of a 1.8 per cent to 6.6 per cent range in the current fiscal year, according to a reduced forecast released on Feb 27.

"This quarter will probably be another weak one for Woolworths' same-store sales growth," said Chris Walter, a credit research analyst at Westpac Banking Corp in Sydney. "On sales growth, Coles has had the upper hand for the best part of five years, really since Wesfarmers' turnaround took effect, and that's not going to change in a hurry." BLOOMBERG