The Grocery Store To Shop For Your Portfolio

Sep. 3.14 | About: Kroger Co. (KR)

Summary

Kroger has had 42 consecutive quarters of positive comp sales.

Are low margins a reason to worry?

The strategic acquisition should help the company in the long run.

Kroger (NYSE:KR) has had a great year till now. Its revenue has increased, along with its bottom line, despite a challenging past one year for the retail industry. Further, the company's stock is currently trading near its all-time high. In 2014, Kroger's shares rose over 30%, outperforming the S&P 500, which has grown over 7.5% year-to-date. Let's see what the company has in store for its investors.

Into The Numbers

In Kroger's last reported quarter, its revenue stood at $32.96 billion, up 9.9% compared to same period last year. Further, its earnings increased 4.2% to $501 million. Kroger's same-store sales have also increased 4.2% in the last quarter; further, the comp sales have been positive in the last 42 consecutive quarters.

Kroger reported TTM revenue figures of $101.29 billion on April 30, 2014, an improvement of 3.01% from $98.33 billion in January 2014. The company seems to have performed decently well, keeping in view the outlook of consumers and the poor state of the economy. Moreover, as per the Conference Board, consumer confidence has increased to 90.9 in July from 86.4 in June. As the consumer confidence improves, it should further add to Kroger's growth.

Are Low Margins a Reason to Worry?

In a really competitive retail environment, margin is always a reason to worry for the company as well its investors. In the last decade, Kroger reported a net profit margin of 1.2%. The same is the case for Costco (NASDAQ:COST), whose net profit has averaged out at 1.8%, while Safeway's (NYSE:SWY) profit stood at 1.1%. Retailers and grocery stores classically need to sell a large number of low-margin products to earn a solid profit, and Kroger seems to be doing it pretty well.

On the brighter side, as consumer confidence increases and the economy improves, the sales should improve too. Moreover, as consumers' confidence improves, they will become less cautious about price and then Kroger can easily push in high-margin products, which will help it to improve its profitability.

Although Kroger operates at a very low profit margin, it generates a very good return over equity. In the period of the last ten years, it has generated a return of 19.9% on equity (ROE) and more than 30% in the last two fiscal years. The performance of Kroger is much better compared to its peers Costco and Safeway, which generated 13.2% and 9.5%, respectively, over the last 10 fiscal years. Kroger's high ROE clearly states how well the company's management is reinvesting its earnings at a high rate for shareholders.

Acquisitions Should Come in Handy

A company can increase its scale of operation either organically by expanding its production and distribution capacity, or inorganically by buying a company in the same industry. The latter method is faster and more profitable as synergies take effect, if both the parent and acquired company operate in the same nature.

Kroger has realized the same, and has therefore acquired Harris Teeter earlier this year. The acquisition helps Kroger add 212 stores in the growing Southeastern US markets. The company will retain the Harris Teeter brand name, which has a prevailing loyal customer base. Further, Harris Teeter's stores are located in areas with people generating high income, such as in Northern Virginia and the North Carolina research triangle, which gives a direct reach to such customers.

Going forward, this acquisition should be beneficial for the Harris Teeter brand, as Kroger, the largest grocery chain in the US, can bring economies of scale and additional capital to protect and increase Harris Teeter's market share in Southeastern US. This should protect the company from Wal-Mart (NYSE:WMT), a major concern for the Harris Teeter stores in North Carolina. Further, keeping in mind Kroger's management's talent to keep and retain positive comps and market share for over a decade, and comparing it to Wal-Mart's flat or negative comps, investors should be positive about this acquisition bearing fruitful results.

Another important acquisition that Kroger has announced is that of Vitacost.com (NASDAQ:VITC), an online retailer of healthy living products. Vitacost is an e-commerce company focusing on nutrition and healthy living products. The company will benefit from the reach of Vitacost across all 50 states, including the 16 states where Kroger still does not have its access.

Although the synergies are not clearly evident at the moment, Vitacost's focus on a fast-growing healthy product market should benefit it in the long run, as people are turning more health-conscious. Kroger's management also expects the deal could enhance the sale of its own Simple Truth organic product line.

Takeaway

The world's largest grocery store has had a great year and looks to be firing all guns to maintain its strength. Kroger's management has maintained its market share, and has continuously succeeded in increasing it. The two most recent acquisitions are adding to the revenue, and have also opened new markets and increased its online reach. Being in the grocery business, a cyclical industry, I believe the company to be a good investment for a value investor's portfolio.

Disclosure: The author has no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

The author wrote this article themselves, and it expresses their own opinions. The author is not receiving compensation for it (other than from Seeking Alpha). The author has no business relationship with any company whose stock is mentioned in this article.