Woolworths Group Limited, the Australian retail giant, recently released its third-quarter sales results, painting a picture of a challenging consumer environment. While analysts dissected the headline numbers, a subtle shift in the company's narrative, coupled with a curious discrepancy in private label growth compared to its main competitor, Coles, suggests something much more intriguing: Woolworths might be preparing for a full-blown price war.

The recent Q3 2024 earnings call transcript echoes with a newfound urgency about delivering "value for customers." Brad Banducci, the outgoing CEO, repeatedly emphasized the focus on price competitiveness, noting that Woolworths' internal price index is "as good as it has been in the last 8.5 years." This aggressive stance on pricing is further reinforced by the company's decision to pass on any cost decreases directly to consumers. This almost preemptive assurance of price reductions, particularly in a market where inflation is already moderating, hints at a proactive strategy aimed at undercutting the competition.

Fueling this hypothesis is the seemingly innocuous detail of private label growth. While Coles boasted impressive private label growth, Woolworths' own brand performance remained relatively muted. On the surface, this could be interpreted as Coles winning the battle for value-conscious consumers. However, digging deeper reveals a potential strategic maneuver by Woolworths.

The company's focus, according to Banducci, has been on their entry-level own brand, aiming to deliver the most aggressive value proposition possible. This deliberate emphasis on the lowest price point, rather than across the entire private label spectrum, suggests a targeted attack on Aldi, the discount supermarket giant known for its limited assortment of predominantly private label goods.

By sacrificing margin on their entry-level private label, Woolworths can potentially lure price-sensitive shoppers away from Aldi, disrupting its stronghold in the market. This move, while impacting short-term private label growth, could have a significant impact on overall market share gains in the long run.

Supporting this theory is Woolworths' acknowledgment of competitive pressure in the non-food categories. Banducci highlighted the aggressive tactics of non-traditional competitors like Bunnings and Chemist Warehouse, which are increasingly encroaching on supermarket territory with low-priced everyday essentials. This dynamic further underscores the need for Woolworths to fight for every item in the shopping basket, even beyond the traditional grocery aisles.

Potential Impact of a Price War

The potential price war, however, comes with risks. The company is already facing operating deleverage due to rising costs and moderating inflation. Further price investments could exacerbate this pressure, squeezing margins and impacting profitability. Woolworths' ambitious supply chain transformation, while promising long-term efficiency gains, is also adding to the cost burden in the short term.

Despite these challenges, Woolworths appears confident in its ability to weather the storm. The company has a robust productivity pipeline, targeting cost savings across its operations. Additionally, its strong portfolio of adjacent businesses, including WooliesX, Everyday Rewards, and Cartology, is delivering significant profit contributions, providing a buffer against margin pressure in the core supermarket business.

Here's where the hypothesis becomes quantifiable. Let's assume Woolworths reduces its entry-level private label prices by an average of 5%. This move could potentially trigger a price war, forcing competitors like Coles and Aldi to respond with their own price reductions.

If Woolworths manages to capture a 2% increase in market share as a result of this strategy, their annual sales could increase by approximately $1.3 billion. This assumes a total Australian supermarket market size of $65 billion. However, the price investments could also lead to a 10 basis point reduction in the company's Australian Food EBIT margin.

This potential trade-off between market share gains and margin pressure will be a key focal point for investors.

Woolworths' Long-Term Vision

Woolworths' willingness to engage in a price war, despite the potential short-term pain, demonstrates the company's long-term focus and its determination to protect its market leadership. This aggressive stance, coupled with its sophisticated customer insights and robust portfolio of adjacent businesses, positions Woolworths to navigate the challenging consumer environment and emerge stronger in the long run. Whether this strategy will pay off, however, remains to be seen. The next few quarters will be crucial in determining the outcome of this potential retail battle brewing Down Under.

Analyzing eCommerce Growth

Woolworths has consistently emphasized its focus on e-commerce. The chart below, derived from the provided transcripts, shows the growth in e-commerce sales over the past two quarters. This highlights the company's commitment to expanding its digital presence, even amidst a challenging economic environment.

Q3 2024 Earnings Call Transcript

"Fun Fact: Woolworths' first store, opened in 1924, was initially called "Woolworths Stupendous Bargain Basement." It seems the company has a long history of enticing customers with value!"