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Safeway (SWY) is a large cap grocery store whose stock currently trades at attractive valuation multiples, both on an absolute basis and also relative to other grocery stocks. Furthermore, Safeway stock is attractive based on its recently expressed plans to spin off its gift card business. Investors should consider buying SWY shares.

Computing Future Valuations from Growth Projections

Investors should buy stocks trading at prices which make them good deals. A poor company trading at a dismal price may be an excellent trade. Safeway is a solid company trading at remarkably low valuations, which make it attractive. Its metrics are provided with other grocery stocks:

Ticker

Company

P/E

Earnings Growth Est.

P/S

Sales Growth Est.

SWY

Safeway

8.6

9.2%

0.1

1.7%

CASY

Casey's General Stores

18.8

12.6%

0.3

11.5%

HTSI

Harris Teeter Supermarkets

19.4

12.0%

0.4

5.6%

KR

The Kroger

21.5

9.2%

0.1

6.5%

WFM

Whole Foods Market

41.3

17.3%

1.6

12.5%

TFM

The Fresh Market

47.7

22.3%

2.3

13.5%

These data inspire an investigation of whether Safeway's lower valuations are justified by its lower earnings growth projections and sales growth trend. Put another way, do the higher growth estimates of its competitors justify their higher valuation multiples? Future valuation multiples of Safeway and its peer stocks were modeled by combining expected growth and trailing valuation multiples for sales and earnings. Graphs of future price-to-earnings and price-to-sales ratios based on analyst earnings growth estimates and historical sales growth follows:

(click to enlarge)PE Growth Analysis

(click to enlarge)PS Growth Analysis

These projections illustrate how Safeway's lower valuations more than compensate for lukewarm growth. Analyst estimates for faster-than-economic growth are not predictive after three years or so, yet somehow investors are paying prices for grocery peers shares which imply they can see earnings at least fourteen years ahead.

Estimated convergence years were calculated below for Safeway and its competitors:

Safeway Competitor

P/E Equivalence

P/S Equivalence

Casey's General Stores

2036

2024

Harris Teeter Supermarkets

2042

2052

The Kroger

4022

2018

Whole Foods Market

2032

2039

The Fresh Market

2026

2040

The projected crossover dates span well into the distant future for the price-to-earnings multiple, demonstrating how Safeway is a bargain relative to its peers. Investors should consider Safeway at current prices over peers since their valuations only cross over well beyond a three-year horizon.

Gift Card Spin-off Bonus

Investors who buy shares of Safeway also stand to benefit from the spin-off of Safeway's gift card business. Safeway announced that its gift card business, Blackhawk Network Holdings, is planned to IPO in the first half of 2013. Spin-offs generally benefit investors as the parts of the original firm are usually valued more than the whole.

Conclusion

This spin-off news is icing on the cake for investors. Long investors should strongly consider Safeway as a good stock to buy now. Investors who seek a hedged position should consider buying shares of Safeway while taking short positions in Whole Foods Market or The Fresh Market.

Please read the article disclaimer.

Source: Safeway's Safe Value