Coles’ (ASX: COL) shares fell 8% after it reported core supermarket sales growth of 4% in the September 2026 quarter, similar to the growth achieved in the June 2026 quarter. Liquor sales declined 1% in the quarter, but sales momentum is improving.

Why it matters: Coles is underperforming archrival Woolworths, whose Australian supermarkets grew nearly twice as fast during the September quarter. We expect Coles to defend market share at the expense of profitability over the year.

  • Guidance for flat first-half Supermarkets EBIT would preclude margin expansion, which we believe the market was expecting. We leave our flat EBIT margin forecast unchanged for fiscal 2027.
  • The liquor segment continues to face headwinds from lower alcohol consumption, though sales declines are moderating. Even so, Coles is still losing share to industry leader Endeavour, whose sales grew 3% in the quarter.

The bottom line: We trim our fiscal 2027 sales forecast, but our earnings estimates are broadly unchanged, and we maintain our fair value estimate for no-moat Coles at $16.50 per share. Shares remain materially overvalued despite the fall following the September quarter update.

  • Coles underperformed Woolworths over the past 12 months, but we expect it to match Woolworths’ deliberate discounting to reinvigorate sales momentum. Coles is flagging more discounts to boost sales, but we expect Woolworths to follow suit in real time.
  • We forecast average supermarket sales growth of 4% through to fiscal 2031, with flat EBIT margins around 5.5%.

Between the lines: Although e-commerce growth is strong at 23%, we estimate higher-margin in-store sales growth is weak at just 0.6%. To drive more foot traffic, Coles is increasing discounts and relaunching its Every Day Price program. We expect this to weigh on margins.

Coles’ liquor business underperforming Endeavour’s

Coles Group’s businesses are defensive in nature, with its cash flow largely from consumer staples, which are relatively stable across the economic cycle. Coles also profits from negative working capital, allowing it to release capital as the business scales. The quality of these cash flows is high, and with cash generation of around 100%, we expect the dividend payout ratio to average over 80%. Coles’ investment appeal as a defensive income stock is further underpinned by its strong balance sheet, manifested in investment-grade credit ratings from both Standard & Poor’s and Moody’s. Operating leases have an average lease expiry of around six years, providing the group with the flexibility to optimize its store network.

Coles operates the second-largest supermarket chain in Australia. The group gradually expanded its market share under Wesfarmers ownership, peaking in fiscal 2016. Since then, we estimate Coles lost some 160 basis points in market share, chiefly to Woolworths. Over recent years, the combined market share of the full-service supermarkets, Coles and Woolworths, has been steady at 65%. At the same time, Aldi gained market share, while the independent supermarkets and grocers were the losers and the IGA network’s market share shrank.

Coles supermarkets currently capture 28% of Australian food and grocery retailing, compared with market leader Woolworths at 36%, the IGA network at 9%, and Aldi at 9%. Costco operates membership-only warehouses and has a market share of under 2%. The US giant commenced trading in Australia in 2009 and currently operates 15 warehouses.

E-commerce penetration of Australian food retailing remains low, at around 7%, with Coles and Woolworths as the dominant online players. We expect in-store sales to continue to dominate total industry sales for at least another decade, accounting for about 90% of revenue. However, we estimate incremental sales growth is increasingly sourced from online. Therefore, we anticipate optimizing e-commerce economics and convenience to be key focus areas of supermarkets.

Bulls say

  • Coles’ market-leading position and difficult-to-replicate store network are competitive advantages over smaller existing competitors and any new entrants.
  • The significant market share of independent supermarkets and grocers with lesser buying power over suppliers due to their smaller scale provides an opportunity for Coles to further consolidate the market and gain share.
  • Coles is a leader in e-commerce food sales in Australia. Together with relatively low online penetration, the threat from online-centric competitors to Coles’ core supermarket business is manageable.

Bears say

  • Coles could face significant loss of market share to Woolworths, new entrants like Amazon Fresh, or to existing competitors with higher sales growth rates like Aldi and Costco.
  • Coles’ strategies are easily replicable by arch-rival Woolworths. The two market leaders have a history of mimicking each other’s initiatives. The limited potential for long-lasting operational advantages makes differentiation challenging beyond just pricing.
  • Despite the relatively low online penetration of Coles’ supermarket sales, the fast-growing e-commerce channel dilutes food EBIT margins.