I started writing this over a week ago, but having just spent a week with our granddaughters in Geelong the time got away from me. Here are my week old thoughts anyway. The proposition has changed a little since I started writing. The share price has kicked nearly 5% in a week, but it’s worth keeping a watch on the share price over the next week before it goes ex-dividend.

Once In a while an opportunity arises where the upside of an investment seems to outweigh the downside risks. Sometimes this opportunity is hidden amongst the most boring businesses on the ASX…businesses like Metcash!

Metcash reported a lack lustre result this financial year ending 30 April 2024. The market was underwhelmed by the results:

• Group underlying EBIT decreased 0.9% to $496.3m
• Underlying profit after tax decreased 8.2% to $282.3m
• Statutory profit after tax decreased 0.7% to $257.2m
• Underlying EPS 28.3 cps, Statutory EPS 25.8 cps (down from 26.8 cps last year)
• Total dividends 19.5 cps (payout ratio ~70% UPAT), down from 22.5 cps in FY23

The market was expecting single digit earnings growth, so a slightly negative result came as a bit of a surprise.

On the positive side:

• Group revenue increased 0.7% to $15.9bn and 0.7% to $18.2bn including charge-through, and
• Operating cashflow was up 29.5% to $482.6m

Management noted:

• Strong results in challenging macro environment
• Results underpinned by diversification, resilience and disciplined execution
• Pleasing pillar performance in line with strategic positioning and current market conditions
• Food and Liquor delivered strong returns and positioned for structural growth
• Hardware continued to outperform the softer addressable market and remains ideally positioned for cyclical growth
• Retail networks healthy and strong – investments are delivering
• Independent offer continues to resonate with shoppers – increasingly relevant, differentiated and competitive
• Excellent cash, cost and operational performance underpinned by disciplined execution
• Plans, platform and capabilities in place to continue growing current, as well as future businesses
• Strong earnings since FY20 with EBIT up 56% (12% CAGR)

So what’s the opportunity?

Dividends

I think it’s possible, without too much of a stretch, for Metcash to return somewhere between 10% and 25% on a share price of $3.54 within the next 14 months. Why 14 months? Metcash will go ex-dividend in a week (on the 16 July) and pay out an 8.5 cps fully franked on 27 August 2024. Over the next 14 months we could expect 3 dividend payments totalling 28 cps fully franked. That’s a return of 11.3% over 14 months including the franking credits, providing the share price doesn’t deteriorate. That’s not a bad return without any share price appreciation. However, it’s likely there could be a kick in the share price also.

Valuation

Using McNivens formula assuming equity of $1.40 per share, forward ROE of 19.3%, 24% of earnings reinvested into growth, a 5.4% fully franked dividend, and a required annual return of 10%, I get a value of $4.20.

Analysts see some upside also. Evans & Partners have a neutral rating on Metcash with a $3.93 price target. The consensus 12 month price target from 13 analysts covering Metcash on Simply Wall Street is $4.19. Analysts are expecting modest earnings growth of c. 6% over the next few years.

Combining the dividends and a little share price appreciation it might be possible to return up to 25% on Metcash over the next 14 months.

I ended up adding a parcel of Metcash $3.51 on the 28 June. I don’t expect it to shoot the lights out, but I think it will do better than the ASX 200, or a term deposit, over the next 14 months without a lot of risk.

Held IRL (1.6%)