Shares of Kroger (KR) have been eaten alive, with the stock is down almost 26% year to date. Is it time to chow down on some Kroger?
In the February/March time frame, commodity food deflation took down the entire supermarket industry. Sprout Farmers Market (SFM) , Whole Foods (WFM) and Supervalu (SVU) , to name a few, all saw their stocks decline as company after company missed earnings.
Protein and dairy deflation took their toll. Kroger's "identical store" (ID) sales fell. In the third quarter of fiscal 2016, which ended last November, identical store sales were 5.4%. But by the end of January (Q4), identical-store sales were up just 3.7%. The year before, ID sales were up 6%. Meanwhile, operating profits fell as the industry battled on price. Fourth-quarter operating profit grew just 1.8% versus 27% in the year-earlier period.
On Sept. 9, Kroger reported second-quarter fiscal 2017 earnings of 47 cents a share, which was two cents ahead of analyst estimates. However, revenue of $26.6 billion was a hair below the consensus estimate of $26.7 billion. The earnings "beat" was driven by a lower tax rate and the completion of the Roundy's acquisition.
While earnings were mostly in line, investors focused on ID sales of 1.7% (ex-fuel). ID sales were below the 2% number Wall Street was expecting. Management said the company experienced broad-based deflation during the quarter, with lower prices across most departments. The grocery department had price deflation of 1.5%, including 25 basis points from lower milk prices. Management said price deflation is likely to continue throughout the rest of the year.
Consumers have been eating up lower food prices. Tonnage remains strong, but analysts have been forced to trim estimates because the company is making less profit.
Identical-store sales ex-fuel are likely to be up just 0.5% in the third quarter versus 5.4% in the same period last year. That means revenue growth probably will decline 60 basis points to 3.4% and operating profits will be down 6%.
Kroger bulls argue comparisons get easier in the back half of the year. They also think food inflation is picking up again, which should help the stock. According to the Commerce Department's data, dairy inflation shot up in April and overall food inflation picked up a bit. Margins on beef, poultry and pork are high, which should aid gross margins down the line. Bulls also argue the stock is cheap and the worst is behind the company.
Bulls also like to point out Kroger has set aside nearly $900 million to buy back stock. Two weeks ago, management announced a $500 million incremental share repurchase program in addition to the $392 million left on its current buyback authorization.
Fiscal 2017 earnings per share are expected to be up 4% to $2.15, which means the stock is trading between 14x and 15x forward estimates. I think 15x estimates is fair for Kroger. I really can't see the stock trading much beyond $34 to $35.
I'm just not in the mood to chow down on Kroger.