The Wesfarmers Ltd (ASX: WES) share price has languished around the $40 mark since early 2013, following a recovery after the GFC lows of late 2008/early 2009.
For long-term shareholders, the lack of share price appreciation might be becoming a concern, although the diversified company has consistently paid out fully-franked dividends, and yielding around 5% over the past few years.
Earnings per share (EPS) haven't exactly stood still, although they were flat between 2013 and 2014 financial years. EPS in 2013 was 197.6 cents, dropping slightly to 196.2 cents in 2014. But in 2015, earnings per share rose to 220.5 cents and increased again in 2016 to 235.6 cents, but the share price hasn't followed.
It seems the market rates Wesfarmers earnings lower, giving the company a lower price/earnings ratio. That could be reflecting a widely held view that Coles faces increasing competition from discount chain Aldi, and is losing market share. While the hardware business Bunnings continues to power along, Wesfarmers has also entered the UK hardware sector with the acquisition of Homebase in January 2016.
Several analysts have been critical of the move – and no doubt many investors are aware of the overseas expansions that have gone badly for Australian companies, including National Australia Bank (ASX: NAB) in both the US and the UK, Insurance Australia Group Ltd (ASX: IAG) in the UK and most recently Australia and New Zealand Banking Group's (ASX: ANZ) failed expansion into Asia.
Some have also labelled the Homebase as Wesfarmers' Masters – referring to the disastrous hardware venture by rival Woolworths Limited (ASX: WOW) that is currently being shut down and sold off in pieces.
To see the share price nearer $50, Wesfarmers probably needs to increase earnings per share to near $3.00 from the current level of $2.36. At the current growth rate of ~7%, EPS is likely to get close to that level in the 2019 financial year.
So how is the company going to do that?
Wesfarmers has several levers it can pull to increase earnings.
- The coal division is currently acting as a drag on the rest of the company. Either selling the business or divesting it would help.
- Fixing Target. The discount variety store is currently unprofitable and needs turning around. The good news is that Guy Russo – who fixed Kmart – is now in charge of Target.
- Homebase could be a huge winner if Wesfarmers can generate the type of success it has had with Bunnings in Australia. The UK home hardware sector is 1.6x larger than Australia's.
Foolish takeaway
If Wesfarmers manages to get all those drivers working at once, earnings per share could easily soar – driving the share price up over the $50 mark.
