Kroger – September ’17 update

By September 26, 2017 No Comments

In today’s content analysis, we are revisiting Kroger (KR), which we analyzed a little over a year ago. Since the last article, Kroger’s stock price lost about 40% of its value. Much of the market’s reaction can be explained by the deal announced earlier this year between Amazon (AMZN) and Whole Foods Market (-30% since then). The biggest fear is that Amazon and Whole Foods will put a LOT of pressure on prices which could hurt Kroger’s margins and market share. Given Kroger’s proximity with its customers thanks to its 2,800 stores across the United States, we do not see Amazon and Whole Foods replace America’s second largest grocer anytime soon. And as far as pricing fears, a recent survey notes that the average prices in Whole Foods stores are still 50% higher than those in Kroger and Wal-Mart. (Link to the article)

Kroger’s Price/Intrinsic Value ratio (0.43) has never been so low in at least 5 years. Even when adjusting the forecasts in the intrinsic value calculator to project a very pessimistic scenario, we still have an IV hovering around $25, which represents a 25% upside potential. The NOPAT has slightly decreased on a trailing 12 months basis, but the analysts’ earnings growth forecasts are generally positive or neutral, so we can expect the NOPAT to stabilize or bounce back in the coming quarters. Some help could come from Kroger’s latest initiative, Kitchen 1883, which will open a first location later this year. Kitchen 1883 will be sit-down lunch, dinner and weekend brunch restaurants to attract customers on services and experiences. 

The Future Growth Value, currently of -18%, also tells us the company is trading at a discount, while the Current Operating Value is still increasing. Kroger’s P/E Ratio of 12.5 and P/BV Ratio of 1.6 are also very conservative compared to its peers.

Kroger’s long-term EVA trend is slightly positive, close to horizontal, which is very normal for a mature company within a defensive sector.  Dividend investors will appreciate the fact that the yield is currently at a 5-year high, around 2.5%, and the dividend growth rate is also very appealing. The average growth rate has been of 13% per year over the past 5 years, and there’s plenty of room for more increases; the payout ratio is only of 30%, and the free cash-flows are very strong. Share buybacks are also common with Kroger; the company bought back an average of 5% per year of its outstanding shares over the past 5 years. 

For value and dividend investors, Kroger could be an interesting investment opportunity at these levels. It’s market share of 9% is the second largest after Wal-Mart, and Amazon/Whole Foods still need to do a lot of work to steal Krogers’ customers. 

In summary: 

The second largest U.S. grocer is currently trading at low multiples and a forward p/e of 10.5.

The company’s fundamentals are strong and are not expected to collapse.

The 40% price drop over the past year is mainly due to the fear of Amazon and Whole Foods Market. We believe this could be an overreaction. 

The dividend yield is currently “high”, the company has been increasing its dividend and will probably continue to do so given its financial strength and free cash-flows.

Patience is required – the Amazophobia has proven difficult to overturn. 

Blog post written by Diego Sanchez (intern), under supervision of Jean-Didier L.