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Is It Time To Stock Up On Kroger (KR)? - Our Analysis

|Includes:Kroger Co. (KR), SWY, WMT

Kroger (NYSE:KR)     12/05/2010     Outperform


  • Price: $21.11
  • Market Cap: $13.5 bil
  • Book Value: $5.2 bil
  • Price to Book: 2.6x
  • Annual Sales: $79.8 bil
  • Profit: $16 mil (includes extraordinary one time items)
  • Profit/share: --
  • Expected Profit/share: $1.59
  • PE: --
  • Dividend: $0.4095
  • Yield: 1.94%
  • Debt: $7.8 bil


Company Profile

The Kroger Co., together with its subsidiaries, operates as a retailer in the United States. The company also manufactures and processes food for sale in its supermarkets. It operates supermarkets in various formats. The company’s combination food and drug stores (combo stores) that operate as food stores consist of natural food and organic sections, pharmacies, general merchandise, pet centers, and perishables, such as fresh seafood and organic produce. The Kroger Co.’s multi-department stores sell general merchandise items comprising apparel, home fashion and furnishings, electronics, automotive products, toys, and fine jewelry. The company’s marketplace stores offer full-service grocery and pharmacy departments, as well as general merchandise area that includes outdoor living products, electronics, home goods, and toys. Its price impact warehouse stores offer grocery, health, and beauty care items. These stores also offer meat, dairy, baked goods, and fresh produce items. In addition, the company operates fuel centers; and convenience stores that offer limited assortment of staple food items and general merchandise, as well as sell gasoline. As of March 9, 2010, it operated 2,468 supermarket and multi-department stores under two dozen banners, including Kroger, Ralphs, Fred Meyer, Food 4 Less, King Soopers, Smith's, Fry's, Fry's Marketplace, Dillons, QFC, and City Market, of which 893 had fuel centers, as well as operated 777 convenience stores and 374 fine jewelry stores. The Kroger Co. has a strategic alliance with U.S. Bank to offer a suite of payment products. The company was founded in 1883 and is headquartered in Cincinnati, Ohio.


Reason for outperform Rating:

Kroger reported per share earnings last week of 32 cents/share in line with analysts expectations.  The stock was subsequently crushed falling 10%.  Investor's were displeased with the company's cautious outlook.  Investors had been looking for KR to signal that the significant margin pressure the industry has been undergoing was over.  Instead KR indicated that several more quarters of depressed pricing power was likely.  The company did state that it is continuing to pass through price increases on branded items.  On the positive side same-store sales increased 2.4% ex fuel.  Revenue was slightly higher than expected at 18.7 billion vs. estimates of 18.53 billion.  Kroger narrowed its per share earnings guidance to $1.65 - $1.78 vs. earlier guidance of $1.60 - $1.80.  Although it slightly reduced the top-end guidance, we see this as a positive in raising the low-end guidance.  Overall we feel that investors punished the stock too much and are basing our rating on valuation.  Safeway (NYSE:SWY), Kroger's closest competitor, trades at a forward PE of 13.5.  If Kroger's earnings come in at the high end of expectations and the stock trades at a valuation of 13.5, a price of $24.05 would be justified.  This represents 13% upside potential.  We feel that as the economy begins to improve over the next several quarters the sector will experience some PE expansion as well as improved earnings.  Pricing power will come back, it may just take a little longer than some investors were hoping.  We are patient investors.



If the economy fails to improve or we enter into a second recession, Kroger may not be able to raise prices.  This would increase margin pressure and further depress the stock.  Kroger faces stiff competition from Wal-Mart (NYSE:WMT), Safeway (SWY), and others.  The depressed job market is a negative for Kroger.  This causes consumers to buy less and trade down; possibly even shop at lower-end stores.  We feel that Kroger has more limited downside risk than others in the sector due to its already low valuation and 1.94% dividend yield.


Recent News


  • Supermarket trade goes stale at MarketWatch (Fri, Dec 3)


  • Supermarket chains Kroger, Safeway downgraded at MarketWatch (Fri, Dec 3)


  • Kroger Hits Profit Estimates, but Cuts Forecast at New York Times (Fri, Dec 3)


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Disclosure: I am Long KR.
Stocks: KR, SWY, WMT