Wesfarmers earnings preview: Why Macquarie is bearish on Bunnings and Kmart

Wesfarmers (ASX: WES) is set to report its half-year FY23 earnings on Wednesday, 15 February and expectations are running low as the rising cost of living takes a bite out of discretionary spending.

"Wesfarmers' retail divisions target middle Australia and are heavily exposed to families with mortgages," said Macquarie Research in a note last week.

The view that Wesfarmers operates a "number of best-in-class divisions" was outweighed by the broker's cautious outlook for the consumer over 2023.

Macquarie retained a UNDERPERFORM rating for Wesfarmers with a $46.20 target price. The stock closed at $48.81 on Monday.

Wesfarmer 12-month price chart (Source: TradingView)

First-half earnings in a nutshell

Earnings expectations: "We are expecting $20.6 billion of revenue, $2.7 billion of EBITDA, and $1.2 billion of NPAT." This represents a respective 15.7%, 1.5% and flat growth compared to the first half of FY22.

Dividends to remain flat: For the full-year FY23, Macquarie estimates a dividend of 180.4 cents per share, relatively unchanged compared to the 180 cents per share paid out in FY22.

DIY under pressure: "With slowing housing turnover and rising interest rates squeezing household budgets, we note that Bunnings has downside risk into these results."

Mortgage resets: Fixed rate loans are starting to roll off and mortgage servicing rates continue to trend higher. Macquarie notes that "Bunnings will be exposed to slowing housing turnover and falling consumer demand, particularly in the DIY segment."

Kmart and Target: "Kmart and Target are likely well placed for downtrading as consumer budgets are squeezed, driven by inflationary and interest rate pressures."

Clues from Best & Less: Rivals Best & Less Group reported weakening margins in its first-half trading update on January 25th. The update noted 13% sales growth on the prior year but like-for-like sales were down -4.9% over the same period. Gross margins fell 370 bps to 50.8% due to weaker-than-expected consumer demand and foot traffic, which also led to higher promotional activity. Given Kmart and Target has similar customer bases, Macquarie reiterates a cautious view for the two department stores.

Lithium contributions: Wesfarmers has hinted at the potential to sell lithium spodumene by the end of 2023 (despite the project not being fully complete until mid 2024). With spodumene prices currently trading around US$6,000 a tonne, this has the potential to "generate strong cash flows" for the conglomerate.