The Fresh Market: Correction Continues As Same-Store Sales Growth Rate Keeps Falling

| About: The Fresh (TFM)

Shares of The Fresh Market (TFM) have fallen significantly in Wednesday's trading session after the specialty retailer announced a disappointing set of fourth-quarter results. Shares ended the day some 9.7% lower after trading with losses up to 14%.

Fourth-Quarter Results

The Fresh Market generated fourth-quarter revenues of $369.9 million, up 15.3% on the year before. Growth was mainly driven by new store openings as same-store sales growth came in at merely 1.9%. Same-store sales growth was entirely driven by a 2.0% increase in the number of transactions as store traffic fell by 0.1%.

Gross margins for the business was up 30 basis points to 34.0% as a result of positive operating leverage and new store openings. Despite gross margin expansion, operating margins fell by 80 basis points to 8.3% on higher depreciation charges and a 80 basis points increase in selling, general and administrative expenses. The Fresh Market paid out more in compensation and benefit expenses and increased staffing levels during the quarter in anticipation of more traffic.

The company reported a net income of $20.6 million for the quarter, up from $18.3 million in the year before. Diluted earnings per share rose 12.7% to $0.43 per share. Earnings missed expectations by a penny.

The operating performance during the final quarter appears to be very weak. Same-store sales growth slowed down to 1.9% during the quarter, down from 5.7% during the whole year of 2012. CEO Carlock blames the poor performance due to a sudden slowdown in customer traffic, a picture which is consistent across all of The Fresh Market's stores during the holiday period.

Looking into 2013

The company looks into 2013 with "a balanced view." Consumer trends, which were very disappointing in the fourth quarter continue to make management cautious. At the same time the company remains upbeat about the concept and new store openings, with an anticipated 19-22 store openings in 2013. The company warns that most openings will take place in the second half of the year.

All in all, the company anticipates to open two new stores during the first quarter, followed by another four to six stores in the second quarter. These openings, combined with an expected 2 to 4% growth in same-store sales will result in earnings per share growth of 14 to 19%.

Earnings per share are expected to come in between $1.51 and $1.58 per share. This guidance comes in much below consensus estimates of $1.68 per share.


The Fresh Market ended its full year of 2012 with $8.7 million in cash and equivalents and $42.0 million in long-term debt, for a net debt position of roughly $33 million.

The company generated full-year sales of $1.33 billion, up 20.0% compared to the year before. Net income came in at $64.1 million, as diluted earnings per share rose 24.4% to $1.33 per share.

Factoring in Wednesday's declines in the share price, the market values the company around $1.85 billion. This values the firm at 1.4 times 2012's annual revenues and 28-29 times annual earnings.

The Fresh Market does not pay a dividend at the moment.

Some Historical Perspective

Shares of The Fresh Market went public in November of 2010 at $22 per share. After an initial spike upward, shares have consolidated in a $30-$40 trading range for most of 2011. From that point in time shares continued to rally throughout 2012 to highs of $65 in November. Shares ended last year around $45 per share and have lost another 20% so far in 2013.

Between 2009 and 2012, The Fresh Market grew its annual revenues by a cumulative 55% based on decent same store sales growth and a modest pace of new store openings. At the same time, the company's fat margins compressed a little, resulting in net earnings growth of just 31% over the time period.

Investment Thesis

Investors have often compared the company's prospects with that of big brother Whole Foods Market (WFM), both of which are seen as long-term growth opportunities in the grocery landscape. A growing niche of U.S. consumers interested in organic growth and other high-end grocery products have boosted the prospects for the industry.

The valuation of the firm is based on an expanding store base, as the company sees room for some 500 stores across the nation in the long term. Key for the valuation will be the pace of new store openings, but even more so, the pace of same store sales growth.

Yet these comparable same-store sales growth rates have come down a lot during 2012, resulting in a 40% share price correction from the highs of last Autumn. The same store sales growth rate of 8.0% in the second quarter of 2012, slowed down to 5.6% in the third quarter and just 1.9% in the final quarter of the year.

Despite increasing economies of scale, margins are flat as continued investments and slowing comparable sales rates put pressure on the margins. Yet the company clearly indicates that it will not sacrifice long-held quality and customer experience standards to achieve short-term financial gains.

The company ended 2012 with 125 stores and anticipates to open another 19-22 stores in 2013. New openings will be skewed toward the second half of the year, boosting sales growth by approximately 6-8% for the full year of 2013. On top of that, the company expects same-store sales to grow by 2 to 4%, resulting in revenue growth of 8 to 12%.

Based on 2013's full-year outlook the market values the firm around 1.3 times annual revenues and approximately 25 times earnings. While these multiples are much more reasonable, they still are not very cheap amidst the significant growth slowdown.

It has been December of 2012 since I last took a look at the prospects for The Fresh Market. After reporting its third-quarter results, shares sold off some 17%, and I concluded that risks were to the downside as shares were valued at 29 times earnings at the time. Such valuation is not compelling for a super market chain, amidst flattening margins and slower growth.

This time I reiterate my stance. The latest sell-off does not represent an automatic opportunity. The valuation multiples are still a little rich, given the lowered growth profile and the high current margins, which leave little room for margin expansion.

I remain on the sideline.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.