Hot humid conditions in northern Australia produced a bumper crop of the yellow fruit, pushing prices as low as $1 a kilo in the big supermarket chains.

With the end of the financial year in sight, Woolworths and Coles were grappling with how to squeeze sales out of cut-price produce and still protect their margins.

It wasn't just bananas that were to blame. An oversupply of a number of different fruits and vegetables drove down prices in the fourth quarter but shoppers didn't take advantage of the reduced prices to fill up their trolleys and drive volumes.

In late June, Citi analyst Craig Woolford reported Coles was raising prices on a number of non-essential lines amid talk the chain was experiencing a "difficult" fourth quarter.

Analysts suggested the combined impact of fresh food price deflation, along with increased competition from long-time laggard Woolworths and expanding Aldi was weighing on Coles' performance.

Morgan Stanley analyst Thomas Kierath forecast Coles' same store sales growth – a key measure of retail sales growth – would fall in the quarter and that Woolworths' margins would suffer from its investment in cutting prices.

The picture that emerged from the release of Woolworths' and Wesfarmers' full year results this week is a dramatic rendering of how the relentless pursuit of lower prices has pushed both Coles and Woolworths to tipping points, despite sitting at opposite ends of the competitive spectrum.

Down, down

Behind the billion dollar write downs, the tangle of impairments and restructuring costs at both operations a picture emerges of just how tough it is to grow earnings in the land of $1 milk, even for clear market leader Coles, which has comprehensively out-performed Woolworths for the past 28, consecutive quarters.

Coles like-for-like food and liquor sales growth retreated in the final quarter to 3.3 per cent down from 4.4 per cent in the third quarter.

Broker JP Morgan said the measure of sales growth was still strong. But analyst Shaun Cousins said earnings margins were falling and price cuts could not be funded through cost savings and operational efficiencies on their own.

"Coles' value focus and cost reductions position it well to address a challenging competitive environment," Cousins says.

"There is now evidence due to fresh supply issues or more likely increased competitive intensity from Aldi, and to a lesser extent Woolworths, will drive earnings before interest and tax margins down at Coles.

"Wesfarmers' management has indicated a degree of comfort for this, yet we suggest earnings before interest and tax margin compression could weigh on earnings and share price sentiment."

Wesfarmers is confident it can find efficiencies across the Coles network to fund ongoing investment in cheap groceries but it didn't single out any one project.

Supermarket boss John Durkan plans to shrink Coles' product range by as much as 15 per cent to meet these objectives and said there was more work to do on its supply chain.

Managing director Richard Goyder dismissed a pattern of steady decline in its earnings growth, which fell to its lowest level last financial year since Wesfarmers bought the business in 2007.

Looking forward 

But it's not obvious what the big drivers are for Coles' future growth, even when it's the clear market leader and still taking territory from Woolworths.

Goyder's comments that Coles' fourth quarter sales were affected by Woolworths' aggressive investment in price as well as Aldi's expansion into WA and South Australia suggest the easy gains are over for Coles and it will have to work harder to drive growth and protect its market share.

Citi claims Coles will "barely deliver earnings growth in 2017".

Woolford says deflation in the fourth quarter only partly explains the fall in Coles' same store sales growth rate.

He said underlying earnings at Coles fell in the fourth quarter and Citi expects "softer sales and further decay in margins" this financial year.

"We forecast 1 per cent earnings before interest and tax growth for Coles in 2017, driven by a further slowdown in comparable sales growth to 3 per cent."

Woolworths continued to concede market share in its fourth quarter, however, it slowed the decline in same store sales to 1.1 per cent, its best performance for the year.

In the opposite corner 

Like Coles, Woolworths was hampered by seasonal falls in fruit and vegetable prices but it was able to improve its performance in the quarter. Chief Brad Banducci revealed like-for-like sales edged into positive territory in the first eight weeks of fiscal 2017.

Despite reporting a $1.2 billion loss for the year, there are signs Woolies' investment in cutting prices and matching Coles on big promotions is paying off.

Banducci claims the 0.3 per cent increase in comparable store sales in the eight weeks to August 12 is sustainable, saying Woolworths' big investment in price had put the Fresh Food People back into the competition.

"We were very transparent about the fact that we weren't where we needed to be in terms of price," Banducci says.

"We feel we've caught up and from here we want to get into what is more traditional and sustainable retail."

The chase has cost Woolworths dearly though, triggering a 40.8 per cent plunge in its full year food and petrol earnings to $1.76 billion from $2.97 billion a year earlier.

And its margins, which were once the envy of supermarket retailers all over the world, have fallen from 7.33 per cent to 4.47, below arch rival Coles.

Banducci admitted it was "incredibly difficult" to grow earnings while aggressively investing in price, which he said was reflected in the full year result.

A number of analysts are concerned Woolworths' deep investment in reducing prices will continue to weigh on its earnings in the first half of this financial year as its $500 million investment in reducing prices "washes through".

"If Brad is now saying Woolworths is competitive, the question becomes, will it need to invest in cutting prices again, what if Coles does?" one analyst says.

"We expect Coles will continue to drive its prices and so will Woolworths but Woolies still has a lot more it needs to do to its stores as well.

"That's why their profits will still be under pressure this year."

Banducci said any proceeds from its $1.5 billion exit from hardware will go into store renewals, not cutting prices on groceries.

The dark horse 

The other major challenge for both Coles and Woolworths is the growth of discounter and disrupter Aldi.

Aldi consistently undercuts both chains on major promotions and a growing group of shoppers now split their shop between Aldi and one of the majors.

The big chains' efforts to compete with Aldi will ultimately fail, according to APP Securities Matthew Felsman, mirroring the experience in Britain.

"Cutting prices on basic groceries to eliminate the price gap with discounters, at best only really slows the growth of the discounters," Felsman says.

"The discounting weighs on margins and offsets benefits of any volume growth.

"But this is not a new story…Tesco and Sainsbury's in the UK went through an almost identical scenario with the rise of Aldi and Lidl.

"Both those supermarkets are still struggling to turn things around."