Have you noticed that market media tends to focus on just a few segments of the market at a time, while at the same time pretty much dismissing all the others? I think at least part of the reason is that investors are always looking for the “next big thing” in the stock market to give them something to talk about with their friends. The easiest way for CNBC, Bloomberg and other outlets to draw eyeballs to their programming is to drive the investing public’s focus to the fastest-growing industries. Sectors and industries that don’t fit that narrow field tend to get less attention, simply because they’re not as fun to talk about.
One of the most un-sexy segments of the market to talk about is Food, Food Products, and Food Retailing. That’s because Food is just a regular part of daily life – and grocery shopping is just another chore that everybody has to get out of the way to keep pantries and fridges stocked. The early stages of the pandemic created big increases in food storage and home consumption, and that is a trend that many economists expect to persist as a long-term trend in American homes throughout the year even as the economy reopens and social activity. That trend has been a good thing for a lot of stocks in the Consumer Staples sector for more than a year now, and along the way it made stocks in the Food Products and Food Retailing industries attractive. The last month or so has made that less true, as many stocks in this industry have been languishing or even reversing previous upward trends.
A lot of indications seem to suggest that the eat-at-home trend has started to level out, suggesting that it has gone as far as it could; but I think the better explanation for the industry’s bearish shift has more to do with issues throughout the supply chain that started during the pandemic and have finally begun to bleed into consumer prices. Higher supply and basic costs that were largely being absorbed by retailers are now being passed on to the consumer, which makes it harder for the average American family to make their food budget stretch.
Kroger Company (KR) is the largest traditional food retailer in the United States, and a company that I’ve kept an eye on for some time. After following a strongly bullish trend for most of this year, the stock peaked at around $48 at the beginning of September; but the inflationary pressures I just described have pushed the stock sharply lower, only recently finding support at around $40, putting the stock at a nearly -20% discount relative to that previous high.
KR has been among the most proactive in the entire Consumer Staples industry over the past couple of years, investing heavily in alternative revenues streams like Kroger Personal Finance and Kroger Precision Marketing, as well as online shopping and curbside delivery that is now in place in 95% of its coverage area. These have yielded positive results on the company’s earnings reports, and have enhanced the company’s ability to compete against larger rivals like Wal-Mart and Target Stores. I think the stock’s fundamentals give a bullish investor good reason to adding KR to a diversified portfolio; along with the stock’s current downward slide, are they also strong enough to say the stock is a big value? Let’s dive in and take a look.
Fundamental and Value Profile
The Kroger Co. (KR) manufactures and processes food for sale in its supermarkets. The Company operates supermarkets, multi-department stores, jewelry stores and convenience stores throughout the United States. As of February 3, 2018, it had operated approximately 3,900 owned or leased supermarkets, convenience stores, fine jewelry stores, distribution warehouses and food production plants through divisions, subsidiaries or affiliates. These facilities are located throughout the United States. As of February 3, 2018, Kroger operated, either directly or through its subsidiaries, 2,782 supermarkets under a range of local banner names, of which 2,268 had pharmacies and 1,489 had fuel centers. As of February 3, 2018, the Company offered ClickList and Harris Teeter ExpressLane, personalized, order online, pick up at the store services at 1,056 of its supermarkets. P$$T, Check This Out and Heritage Farm are the three brands. Its other brands include Simple Truth and Simple Truth Organic. KR has a market cap of $29.9 billion.
Earnings and Sales Growth: Over the last twelve months, earnings increased by about 9.6%, while sales improved by 3.91%. In the last quarter, earnings declined nearly -33% while revenues also decreased by nearly -23.3%. Like most Food retailers, KR operates with razor-thin margins, as Net Income was about 0.87% of Revenues for the last twelve months, but strengthened somewhat in the most recent quarter to 1.47%.
Free Cash Flow: KR’s free cash flow is healthy, at $1.9 billion over the last twelve months. That marks a decline from $4.1 billion in the last quarter and $1.97 billion in the quarter prior, and translates to a free cash flow yield of 6.44%.
Debt to Equity: KR has a debt/equity ratio of 1.36. This is higher than I usually prefer to see, but isn’t unusual for Food Retailing stocks. The company’s balance sheet indicates that operating profits are more than adequate to repay their debt, and is a sign of strength, with $3.28 billion in cash and liquid assets, up from $2.7 billion earlier this year, against $12.6 billion in long-term debt. Their long-term debt is a reflection of the capital-intensive investments in itself the company has made to streamline its operations, modernize and automate its own supply chain, and to stay competitive in its market.
Dividend: KR pays an annual dividend of $.84, which marks an increase from $.64 per share in early 2020 and $.72 per share earlier this year. The current payout translates to a yield of about 2.09% at the stock’s current price. The increasing dividend should be taken as management’s confidence in their operating model and ability to keep the business growing in the long-term.
Price/Book Ratio: there are a lot of ways to measure how much a stock should be worth; but I like to work with a combination of Price/Book and Price/Cash Flow analysis. Together, these measurements provide a long-term, fair value target around $44 per share. That means that despite the nearly -20% decline in price this month, KR is only modestly undervalued, by 10% from its current price, with a practical bargain price at around $35.
Technical Profile
Here’s a look at the stock’s latest technical chart.
Current Price Action/Trends and Pivots: The chart above marks the last year of price movement for KR. The stock’s upward trend began in December 2020 at a low point around $30, peaking at the beginning of September at $48. The stock dropped sharply from that high, and only recently appears to have begun to stabilize with current support at around $40 and just a little above the 50% retracement line. Immediate resistance is a little above $41 at the 38.2% retracement line. A push above that level, to $41.50 should have near-term upside to about $45.
Near-term Keys: KR’s drop this month has helped to make the stock far more interesting as a potential value play than it has been for most of the summer; however for practical purposes it won’t really offer a compelling value proposition unless it continues to drop to about $35 per share. That means that the best probabilities to work with this stock lie with short-term, momentum-based trades. You could use a push to $41.50 as a signal to buy the stock or start working with call options, using $45 as a good first bullish profit target, and $48 possible if bullish momentum remains strong. A drop below $39 on the other hand would act as a strong signal to consider shorting the stock or buying put options, with bearish profit targets sitting between $37 and $36 per share.