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Safeway (NYSE:SWY) is the third largest retail grocery chain in the US, after Wal-Mart (NYSE:WMT) and Kroger (NYSE:KR) and just ahead of Supervalu (AVU). I am reviewing this stock as part of an effort to review retailers in the Grocery, Drugstore and Discount Store industries. Over the last month SWY has been trading between $20 and $22

Please refer to the stock review explained post if you have questions on what I look for in this analysis. Click on this annotated Surfmark if you want to see the source data for this stock review

1- Business Performance Risk (-) and intrinsic returns (-)

Metric

Status

FCF / Sales

Last twelve months = 3.4%, higher than historical performance over the last 10 years, between 1 and 2% (similar to WMT and WAG)

ROE

LTM: -20.9% (!) below SWY's 5-year average of 7.7%. Historically SWY has had periods of acceptable ROE between 12-16%+, coupled with negative years, a very negative sign for me.

ROA

LTM: -7.8%, below the company's 5-year average of 2.6%. Generally even in good years, ROA has been very low, never meeting my minimum stated goals of 9%

Revenue Growth

Growth over the last 10 years averaged 3.5% lower than WMT and WAG for example. More importantly the company's sales dropped by 7%+ in 2009 and have been flat on a TTM basis

Cash distribution to shareholders

Despite its negative earnings, SWY is paying and even increasing its dividend, reaching a yield of 2.1%

In addition, SWY has been buyback shares, retiring 13% of its shares over the last 5 years.

Well, not really a good business for my long term / steady type portfolio. Not only the company is regularly experiencing negative earnings, it also performs rather poorly from an ROE and ROA standpoint in what seem to be its peak years.

In terms of intrinsic investment returns, I am not quite sure where to start given the company’s negative earnings over the last couple of years. In addition to a 2% dividend, the company is buying about 2% of its shares back per year. Interestingly the analyst consensus is that the business will grow at ~9% in the future…but I don’t really buy it and I don’t see how SWY could meet my bar of 10% intrinsic returns with negative earnings and bad growth momentum: Even in good years, SWY peaked at 15% ROE!

2- Balance Sheet Risk (-)

Metric

Status

LT Debt / Equity

Debt is a bit high although not going over 1.0x. but given the somewhat questionable health of the business, debt is a concern for me.

Current Ratio

0.95x which seems ok for a retailer and is higher than WMT. Historically, SWY's current ratio was between 0.8 and 1.1x

High debt/equity and improving due to accumulated losses on the Balance Sheet, not a good sign.

3- Valuation Risk (-)

Metric

Status

Cash Return

10.7%

Price to earnings ratio

N/A (negative)

It is interesting to see that SWY seems to have an interesting valuation on a FCF basis with a cash return of 10.7%. This is in large part due to a recent “spike” in free cash flow as the company has significantly dialed down its store Capex and focused on cost cutting. While this could be positive, it also speaks to SWY’s low growth prospects in the future. On a more “standard” FCF, cash return would be ~5% which I would not consider attractive

Conclusion

I will pass on SWY and will not perform a Company Analysis as I believe the company does not have a strong, steady/reliable business and would probably not be in a position to provide a good combination of growth/dividend/buybacks and deliver intrinsic returns.

Many happy returns!

Disclosure: No position

Source: Safeway: Poor Performance, Low Growth Prospects