Winn Dixie: Why the Market Is Wrong Again

Since WINN emerged from chapter 11 nearly three years ago, the company has shown some significant turnaround momentum. They have nearly generated $500 million of EBITDA earnings and remodeled over 170 of its stores. The striking thing about the remodel program is they have been able to achieve one third of their entire store base using nothing but their own cash flow (the company is debt free) yet shareholders have been left holding the bag. The truth is, the share price is near the same levels as the IPO price in Nov of 2006. All this progress and patience results in a big fat “zero return” for the original shareholders. What’s up with that?

Wall Street overreacted on first quarter results: First quarter results were bad, but they were not that bad. In fact, the company was able to still improve its gross profit margin from 27.9% to 28.2% despite a 2% loss in the top line. The company also saw its transaction counts stabilize, though its basket size shrunk due to deflationary headwinds and consumers' lack of overall confidence, especially due to continued pressure on the job market. WINN’s CEO expects the second half of fiscal 2010 will show deflation transform into moderate inflation, while employment and the overall economy will gain additional traction.

The company reduced its EBITDA guidance range to $140 -$160 million from $170-180 million and declined to offer assistance on revenue projections. Hopefully, management this time was clever enough to sandbag expectations (under promise) enough, to enable them to surely over deliver when it is time to report second quarter results.

More cannon fodder for the critics: It was revealed on the conference call that WINN’s $3.5 million impairment charge was related to a write down on two recently remodeled stores. Write offs this soon are certainly disheartening and should not occur. WINN’s EBITDA of about 2% of sales is 300 basis points lower than its peer average of 5%. If there is a silver lining, WINN has ample opportunity for huge improvement. Its competitors on average are producing EBITDA at 2.5 times what WINN is delivering and if WINN is able to just improve by 100 basis points, its EBITDA would rise a staggering 50%.

Analyst question: As I listened to the conference call, the usual esoteric, hypothetical and elaborate questions evolved from the slew of analysts participating, until the line of final questioning came up. The analyst, George Schultze of Schultze Asset Management, asked what we all wanted to hear. (1) Why are the other supermarket operators offering an improved outlook and WINN is not? (2) Wouldn’t it be a better use of corporate funds to reduce the remodel activity and use those funds to purchase back common shares in the open market? (3) Why are impairment charges being incurred against remodeled properties? (4) What G&A amount do you expect to reduce in 2010? (First quarter saw a 70 basis point spike from 27.9% to 28.6%). The CEO attempted to deal with these questions, and did a pretty good job, but in reality, it is really hard to pull a rabbit out of a hat. The bottom line is the CEO’s responses were not what the stake owners wanted to hear.

Bottom line: with a market cap of only $618 million and a total of 515 stores, the market is valuing each store at a paltry $1.2 million each. This fact is even more outrageous when you consider the company is spending up to $2 million on a single remodel project. This low valuation is certainly not warranted and appears to be a classic case of inefficiency in an efficient market. Translation: The market is wrong again and eventually the shares will be priced at much higher levels when the “market” comes back to its senses. Adding more persuasion to the long side, the company is certainly vulnerable as an acquisition target from a larger national operator, such as KR, SWY or SVU.

Disclosure: Long

Comments

[spinetta:]

Let's apply Mr. Krieger's extensive financial observations where the proverbial rubber meets the road: On Winn-Dixie's retail floor.

The stores' low valuation may be entirely appropriate. Many of WD's stores are old to the point of obsolescence. A typical WD lacks nearly all of the features that make a modern grocery store efficient.

Compare a typical Safeway Lifestyle store to a typical Winn-Dixie, and WD comes up short on every major. Safeway features much more modern construction and infrastructure. HVAC systems, refrigeration systems (central glycol tank in Safeway, lotsa individual compressors at WD), lighting, and information systems at Safeway create more efficient stores that are more comfortable for shoppers and easier to operate for managers and staff.

WD spends an inordinate amount per square foot on remodels because their buildings are old and their remodeling process is inefficient. Lack of uniformity among stores/buildings creates higher remodeling costs as well. Furthermore, WD postponed remodels for years. This mindset created additional wear on buildings and resulted in slapdash repairs that now must be undone during major remodels.

The market may well value each WD store at a paltry $1.2 million because that's the value of a WD in relation to the value of a competitor's store. An individual WD may be worth more than $1.2 million, but it's really only worth a fraction of a Safeway store or a modern Kroger store.

WD may look to remodel its way into a takeover/merger. Methinks they're putting some makeup on the pig before walking her to market.

WD's inefficient remodel process will be evident to the majors, and they'll wait for the company to flop before making a move. Savvy retailers need something more than a fresh coat of paint before they'll make an acquisition. WD's best negotiating point with a suitor may be its low price per store.

Nov 02 11:23 AM

[casey00001:]

Mark:
Walk into a Winn Dixie store and you will change your tune. What a dump. Its an out and out depressing shopping experience.

Nov 02 11:39 AM

[GimliJan:]

I serviced Winn Dixie stores in 2004-2005 before and after the bankruptcy. I grew up in Jacksonville, Fl. where almost everyone shopped at Winn Dixie. The company started going down in store appearance, maintenance & modernization, quality, selection and price of products in the late 1980's. It was depressing to watch a once great store and family run business, deteriorate. The employees were major stockholders when the company declared bankruptcy. Many of them had their entire retirement investments in company stock and were long term employees near retirement age. They sued Winn Dixie in during the bankruptcy hearings in an attempt to get their retirement pensions and the bankruptcy judge ruled that their "claims" weren't a valid creditor's claim and threw it out. The "Good Old Boys" at Winn Dixie and the judicial system made sure that the common employee and the common stock holders lost everything while the Davis family and the Board of directors were rewarded for ruining the company. The company didn't change with the times and were 20 years behind all it's competitors in supply/chain management, IT, store amenities, and management philosophy. I would NOT invest a dime in Winn Dixie!

Nov 02 12:21 PM

[hmonem:]

Casey:

Your comments may have applied to the "old" Winn-Dixie model, but the remodeled stores are well updated. New refigeration, freezers, delis, hot food bars, salad bars, a brand new produce section that looks like something out of a Whole Foods market. Even the quality of the food they sell looks better than the old WINN.

I think the WINN management finally has it right, even if they've overspent makeovers in the short term. You can tell their money was well spent by the amount of increased traffic I see in my local store.

Bottom line, the changes make sense and I agree that the market has it wrong.

Nov 02 12:23 PM

[Kevin_T:]

Here in Florida there are plenty of Winn Dixie stores around. I seldom shop there and am not a shareholder.

The stores seem dingy and dark, the shelves old and battered but the prices are premium. After shopping at the WalMart super center going to a Winn-Dixie produces sticker shock. The reason they went to bankruptcy is still there even though the debt has been relieved.

Prices are the same or higher than Publix (another regional chain) but the Publix stores are bright, modern, and a much better shopping experience in my view.

Winn Dixie requires me to carry around a "discount card" to get their advertised specials. Why should I put up with this if I don't get a tangible price advantage over other stores from it?

So before you invest in Winn Dixie stock, go shop at the stores, shop at the competing stores then ask yourself if this is the best investment you can find for your capital.

Nov 02 12:39 PM

[Mark Krieger:]

I don't care how clean or bright or airy a store is. i don't need Fancy displays or an architectual experience or any other fluff! All I care about is convienance, location and price. The stock is cheap and will go higher..The rewards card is a pain though and should go --its merely smoke and mirrors and is just one more thing the customer has to deal with. About deflation--I don't see it, I just got back from spending $200 at costco and all I saw were rising price tags..

Nov 02 01:07 PM

[David Livin...:]

What was not mentioned is that Winn Dixie operates some of the lowest sales per sq ft grocery stores in the United States. Perhaps there is one chain doing worse, but not much worse. Winn Dixie continues to operate stores 30% below market average on sales per sq ft. Market share is declining. This analyst is only going by Winn Dixie's cooked books, press releases, and the bull crap management is feeding him

Nov 02 06:47 PM

[Karldean:]

Buy Winn Dixie stock, I dare you. I used to work for Braniff and after 7 years I flew the coupe. The retirement that was supposed to be there, wasn't. People who had been there for 40+ years discovered the CEO fled to South America and somehow managed to take their money with him, as the story goes. I was part of Braniff 2 for 2 years and then it folded again and became Dalfort, Braniff retirees had to settle for a penny on a dollar as their retirement pay, instead of 40000 dollars they got 40000 pennies,damn. I bought a lot of Braniff memorabelia (sp) it's worth more than Braniff stock, buy Winn Dixie memorabelia (sp) it too will be worth more than their stock.

Nov 12 05:33 PM

[Karldean:]

Memorabilia

Nov 12 05:34 PM