Woolworths may need to sacrifice profit margins for growth "A common thread in our discussions (with supermarket industry leaders) has been declining Woolworths in-store execution," said Morgan Stanley analyst Tom Kierath. Woolworths may have to sacrifice profit margins in food and liquor to revive sales and regain lost market share after reporting its weakest sales and volume growth in more than a decade. Analysts have cut profit forecasts and share price targets for Woolworths, saying the company may have to discount more deeply and more often to regain share from Coles, Aldi and independent retailers as consumers become increasingly value conscious. "In order to improve sales growth, we believe the food and liquor business needs to lift its discounting intensity and effectiveness, which would have negative margin consequences," said Citigroup analyst Craig Woolford. Mr Woolford said Woolworths discounted more heavily in the September quarter after the retailer took its foot off the promotional pedal in the June quarter. However, standard shelf prices (excluding promotions) rose at a faster rate, partly due to higher tobacco and fruit and vegetable prices, countering Woolworths' promotional activity. Higher standard shelf prices seemed to confirm industry talk that Woolworths had been 'creeping up' prices on lower profile products this year to protect profit margins. "In the second quarter, more advertising is likely, along with deeper promotions on high-profile items," said Mr Woolford, who has cut his full-year net profit forecast by $50 million to $2.57 billion. Woolworths chief executive Grant O'Brien admitted on Monday that Australia's largest retailer needed to do more to overcome consumer perceptions that its prices were not as competitive as those of Coles and Aldi. "It's about the communication, it's not about the actual pricing," Mr O'Brien said. Woolworths' same-store sales in food and liquor rose just 2.1 per cent in the three months to October 5 - less than half the rate at Coles - and group sales rose 3 per cent, the slowest growth for at least 12 years. After rejigging its marketing team and advertising agencies twice in the last three years, Woolworths now plans to cut the price of grocery staples and will relaunch its popular animal trading cards to spur sales in the all-important December quarter. Woolworths shares fell 93¢ to $33.30 on Tuesday, taking losses this week to 7.5 per cent, and are now trading at the lowest level since December. Analysts also believe Woolworths may have to spend more on sprucing up stores and improving in-store execution, suggesting that recent cost-cutting measures may have taken a toll on sales. "Rising out of stocks, declining fresh food displays and tired stores were comments of note," said Mr Kierath, who has trimmed his price target from $31 to $30 and cut his net profit forecast from $2.55 billion to $2.53 billion. Analysts say Woolworths has been losing market share in food for three consecutive quarters, mainly to Coles and discounters Aldi and Costco. UBS estimates that Woolworths' share fell 75 basis points in the September quarter, the biggest drop in more than four years. Food and liquor volumes, after stripping out inflation, fell 2.5 per cent in the September quarter, the steepest decline in 12 years, after sliding 0.6 per cent in the June quarter 2014. Morgan Stanley says Woolworths has been increasingly relying on lower costs and gross margin expansion rather than operating leverage to achieve profit growth, but this practice is unsustainable. "Supermarkets rely hugely on scale to fractionalise fixed supply chain costs, so declining volumes is likely to lift cost-to-sales ratios," Mr Kierath said. Analysts are hoping the launch in late September of Woolworths' Cheap Cheap promotion - including 85¢ a loaf private label bread - will reinvigorate sales growth in the current quarter, helping the retailer achieve its guidance for 4 to 7 per cent net profit growth. "We do not view (the weaker sales) trend as permanent given the market dynamics are healthy and the step up in promotion should help Woolworths' standing," said Deutsche Bank analyst Michael Simotas. While improvement may take some time, we don't believe (the result) provides evidence of a structural deficiency within the business.