3 reasons why Coles shares could be a good buy right now

Sales growth and ongoing population growth provide tailwinds for Coles earnings.

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Key points

  • In the latest update, things were looking good for Coles’ revenue
  • The supermarket could pay a grossed-up dividend yield of more than 5% in FY24
  • Population growth could drive earnings higher in the coming years

Coles Group Ltd (ASX: COL) shares have generally been flat since the start of February 2023, as we can see on the chart below.

Created with Highcharts 11.4.3Coles Group PriceZoom1M3M6MYTD1Y5Y10YALL1 Feb 202328 Jul 2023Zoom ▾Feb '23Mar '23Apr '23May '23Jun '23Jul '23Mar '23Mar '23May '23May '23Jul '23Jul '23www.fool.com.au

When a business is growing sales/profit but the share price isn't moving, then it's typically becoming better value.

Coles has gone through a volatile period when it comes to inflation, but we're seeing ongoing growth in sales, which is the first reason why I like the look of the business.

Sales growth

The latest important announcement from the supermarket giant regarding its sales was positive.

In the three months to 26 March 2023, the company reported its supermarket sales had increased by 7% year over year to $8.6 billion, while liquor sales were up 2.6% to $801 million. That means, in total, its continuing operations sales were up 6.6% to $9.4 billion year over year.

While sales growth doesn't perfectly align with net profit growth (NPAT), it's one of the most important factors.

Higher sales could accelerate NPAT at a faster rate because of economies of scale benefits.

In that quarterly update, Coles advised that supermarket sales growth continued into the fourth quarter with volumes remaining modestly positive. This suggests sales growth could continue in the fourth quarter.

Dividends from Coles shares

The company has grown its annual payout to shareholders each year since FY19 when it was listed. This means investors have been getting a reliable source of growing passive income, though growth is not guaranteed.

Estimates on Commsec suggest that the supermarket company might pay an annual dividend per share of 68 cents.

At the current Coles share price, that would represent a fully franked dividend yield of 3.7%, or 5.3% grossed-up.

While those yield numbers don't exactly shoot the lights out, it's a solid boost for returns and by FY25, it's estimated to pay a grossed-up dividend yield of 5.9%.

Population growth to help earnings

Coles might be one of the ASX shares most likely to benefit from population growth in Australia. More mouths to feed should mean more demand for products from its supermarkets. As of December 2022, annual population growth was 1.9%, an increase of almost half a million people.

A combination of population growth, food inflation and more supermarkets could lead to pleasing earnings growth.

Between FY23 to FY25, Coles' earnings per share (EPS) could rise by 12% to 93 cents, which would put the company at under 20x FY25's estimated earnings.

If the Coles price/earnings (p/e) ratio never changed, then earnings growth would result in a similar rise of the Coles share price.

I'd prefer to own Coles shares than most other ASX blue chip shares because of its defensive earnings, limited major competition and the likelihood of ongoing earnings growth. The completion of automated warehouses should help future earnings and efficiencies.

Motley Fool contributor Tristan Harrison has no position in any of the stocks mentioned. The Motley Fool Australia's parent company Motley Fool Holdings Inc. has no position in any of the stocks mentioned. The Motley Fool Australia has positions in and has recommended Coles Group. The Motley Fool has a disclosure policy. This article contains general investment advice only (under AFSL 400691). Authorised by Scott Phillips.

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