Tuesday, July 8, 2014

Whole Foods Markets: Still Too Pricey

We recently embarked on a visit to losers in a bull market – the worst performing stocks in the S&P 500 in the first half of 2014.  After looking at Coach, we take a gander at Whole Foods Markets Inc. (WFM), down about 32% from January through June.  Our conclusion: Diminished expectations are baked in and the stock could overdeliver, but it’s still too rich for our taste.

The organic green grocer has more than 300 stores nationwide and in Canada and the United Kingdom and is a destination for the health food crowd willing to spend extra for the benefits of organically produced food staples, but competition from mainstream operators such as Kroger and Safeway is a natural check on growth.

On the valuation front, WFM sports forward price/earnings multiple of about 23, nearly twice that of the S&P 500, and a price/earnings-to-growth ratio of 1.93, which tells us investors believe growth will resume to levels above new guidance.  Meanwhile, the price-to-sales ratio is 1.06, vs. just 0.25 for Kroger and 0.22 for Safeway, and dividend yields at Kroger and Safeway are both above that of Whole Foods’ 1.23%.

Whole Foods’ share price plummeted in May after management reported disappointing quarterly results and slashed guidance for the remainder of the year.

Bulls will tell you that Whole Foods’ plans, which include a pipeline for 114 new stores, are solid enough to warrant a premium valuation for this solidly profitable company that has a loyal customer base.  But we wonder how many more customers there are to glean from shoppers happy enough to buy their whole wheat bread from the Wal-Mart market or visit their local independent artisanal purveyor.

In the March quarter, Whole Foods reported earnings per share of $0.38, below the consensus estimate of $0.41.  The company lowered its outlook for fiscal 2014, projecting 10.5-11% sales growth compared with 11-12% previously.  It cut its same-store sales growth forecast to 5.-5.5% from 5.5-6.2% previously.

Make no mistake, this is still a growth stock, but we think the company is priced for perfection right now.  We could be buyers at under $30, another 20% haircut from the current level of about $38 per share.  A price of $30 would put the forward PE at about 17, comparable to the S&P 500, if estimates remain the same.  That, we believe, is a better entry point for this ambitious, well-managed company.

Whole Foods Market, Inc. operates as a retailer of natural and organic foods. Its stores offer produce and floral, grocery, meat, seafood, bakery, prepared foods and catering, coffee, tea, beer, wine, cheese, nutritional supplements, vitamins, and body care products, as well as lifestyle products including books, pet products, and household products. As of May 16, 2014, the company operated 360 stores in the United States, Canada, and the United Kingdom. Whole Foods Market, Inc. was founded in 1978 and is headquartered in Austin, Texas.


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