Can Whole Foods' organic growth continue?
The grocer has a strong brand and loyal customers, but competition is heating up
Whole Foods Market opened its first store in Austin, Texas, in 1980 and has since become the undisputed king of organic grocers. The company has laid out plans to open 1,000 stores in the U.S. in the coming decades, but it remains to be seen if its business model can support this kind of growth in the long term. Let's use our CHEAT SHEET investing framework to decide whether Whole Foods is an OUTPERFORM, WAIT AND SEE, or STAY AWAY.
C = Catalysts for the Stock's Movement
Shares of Whole Foods jumped almost 10 percent on May 7 as the company announced strong second-quarter earnings. The organic grocer improved its gross margin by five basis points in the second quarter. This alleviated some concerns by investors that Whole Foods margin would erode as the competition intensified in the organic food space. Additionally, some analysts thought that Whole Foods's investments in price discounts and promotions would hurt its margins. Instead, these investments were offset by a reduction in administrative expenses due to greater economies of scale and strong comparable store sales growth of 6.9 percent.
Subscribe to The Week
Escape your echo chamber. Get the facts behind the news, plus analysis from multiple perspectives.
Sign up for The Week's Free Newsletters
From our morning news briefing to a weekly Good News Newsletter, get the best of The Week delivered directly to your inbox.
From our morning news briefing to a weekly Good News Newsletter, get the best of The Week delivered directly to your inbox.
The company is scheduled to announce its third-quarter earnings on July 31. Greater capabilities in customer analytics and more investments in price discounts and promotions should give way to increased growth in same-store sales. Whole Foods continues to demonstrate a high return on invested capital, even in its oldest stores, and expects to open 32 more stores this year. The company has opened 16 new stores in the first half of the fiscal year and recently bought the leases of six Johnnie's Foodmaster stores in the greater Boston area last quarter. While it is too early to tell whether Whole Foods can meet its ambitious goal of opening 1,000 stores across the country in the long term, new store openings will boost economies of scale, strengthen supplier relationships, and increase national brand recognition.
E = Earnings Are Increasing Year-over-Year
Whole Foods' earnings growth has been impressive: The company has increased earnings per share over the past 18 consecutive quarters on a year-over-year basis. The most recent quarterly number of 38 cents showed an 18.75 percent increase from the previous year's quarterly earnings of 32 cents. Administrative and selling expenses continue to compress due to greater economies of scale. Additionally, promotional endeavors like its Team Member Appreciation Double Discount Day last quarter, along with the increasingly popular 365 Everyday Value line, have given more budget-conscious consumers a reason to shop at Whole Foods.
Row 0 - Cell 0 | 2013 Q2 | 2013 Q1 | 2012 Q4 | 2012 Q3 | 2012 Q2 |
Qtrly. EPS | $0.38 | $0.39 | $0.30 | $0.32 | $0.32 |
EPS Growth YoY | 18.75% | 20.00% | 43.82% | 26.00% | 25.49% |
Revenue Growth YoY | 13.37% | 13.71% | 23.64% | 13.65% | 13.59% |
E = Exceptional Relative Performance to Peers?
Sign up for Today's Best Articles in your inbox
A free daily email with the biggest news stories of the day – and the best features from TheWeek.com
Whole Foods' biggest competitors in the high-growth retail store space are Fresh Market and Vitamin Shoppe. Whole Foods has the highest forward price-to-equity multiple of the three stores, implying that it is the most expensive. However, it has a reasonable price-to-sales ratio — an important metric in measuring retail stores. Whole Foods is a growth stock, so one should expect to pay a higher price for its future earnings potential. Also, it benefits from being a much bigger company than its peers and has a much lower debt-to-equity ratio than Fresh Market. Still, Whole Foods is expensive relative to the industry.
Row 0 - Cell 0 | WFM | TFM | VSI |
Forward P/E | 32.74 | 28.57 | 18.01 |
Price/Sales | 1.68 | 1.90 | 1.50 |
Operating Margin | 6.71% | 7.76% | 10.76% |
ROE | 14.61% | 36.26% | 14.92% |
T = Technicals on the Stock Chart Are Strong
Whole Foods is currently trading at around $56, above both its 200-day moving average of $47.09 and its 50-day moving average of $52.50. The stock has experienced a strong uptrend in the past year — it's up 20.81 percent in the past 12 months. Whole Foods management announced a two-for-one stock split along with its second-quarter earnings announcement, which provided the impetus for an almost 10 percent gain in the stock price on May 7. Additionally, the 50-day moving average recently crossed over the 200-day moving average, suggesting that investor sentiment is improving. The company is trading right around its 52-week high of $56.72.
Conclusion
Whole Foods continues to demonstrate profitability as a natural foods grocer. With an impressive expansion plan over the next several years and substantial investments in pricing discounts and promotions, the company will be able to cater to more customers than ever before and capitalize on the estimated 12 percent growth in the organic food industry over the next two years. While competition will certainly intensify as bigger-name retailers shift their focus toward natural foods, Whole Foods has built strong brand equity and a loyal customer base. There is certainly some downside risk if the macroeconomic picture darkens: Some customers will inevitably find cheaper substitutes to Whole Foods. However, because of the grocer's strong history of profitability and impressive growth prospects, Whole Foods is an OUTPERFORM.
Using a solid investing framework such as this can help improve your stock-picking skills. Don't waste another minute — click here and get our CHEAT SHEET stock picks now.
More from Wall St. Cheat Sheet...
Create an account with the same email registered to your subscription to unlock access.
-
'A new era of hurricanes'
Today's Newspapers A roundup of the headlines from the US front pages
By The Week Staff Published
-
How Britain's demographic is changing
A 50-year record population increase was fuelled by greater migration
By Richard Windsor, The Week UK Published
-
The story of Japanese jeweller Tasaki
The Blend A revival in the use of pearls in fashion and jewellery design places heritage brand Tasaki centre stage
By Felix Bischof Published