Clean up, aisle four! Things aren't necessarily getting messy in the supermarket scene, but with shopping cart-wielding investors hoping to clean up in this low-margin industry we may as well pit Safeway against Kroger to get a snapshot of the grocers.
The two companies are undisputed giants. Safeway rang up $36.1 billion last year. That's a lot, but naturally the $98.4 billion that Kroger rang up reigns supreme.
There's more to assessing grocery stores than top-line performance, of course. Let's take a closer look.
Taking the safe way
Safeway operates 1,331 stores, but it won't be that way for long. This summer shareholders approved a deal to be acquired by privately held Albertsons. The combined company will have close to 2,400 stores with total annual sales of nearly $60 billion.
The pending merger should close next year, making Safeway a stock with limited upside until it goes private. This doesn't mean that the market's already moving on. There were more than 11 million shares sold short at the end of last month, and more than 1.5 million shares are exchanged on an average trading day. It's still drawing a crowd with investors on the receiving end of a reasonable 2.7% yield.
Safeway itself has been steady. Consistent with most of its peers, Safeway has grown slowly with net margins clocking in at ho-hum levels. According to CapitalIQ , net margins at Safeway clocked in at 1.4%, 1.5%, and 1.7%, respectively, in the three years leading to 2013 when profitability spiked on the sale of its Canadian operations. However, with its performance from continuing operations taking a step back last year. Things didn't get better in 2014 with its operating profit declining through the first 36 weeks of the fiscal year.
Kroger takes over
This brings us to Kroger. The industry behemoth operates 2,638 grocery stores under two dozen local banners including Ralphs, Harris Teeter, and its namesake chain. Its results have been steady. Its net margins have clocked in between 1.4%-1.5% in three of the past four fiscal years. Gross margins have also been consistent, checking in between 21.2%-21.5% in the past three fiscal years.
Top-line growth has been decelerating, with Kroger revenue climbing 10%, 7%, and 1.8% over the past three years, respectively. Its yield of 1.4% is just a little more than half of Safeway's rate of quarterly distributions, but with Safeway going private it's not as if investors deciding between the two stocks really have much of a choice to keep the dividends coming next year.
In Kroger's defense it has returned more than $10 billion to its stakeholders though stock buybacks and dividends since reinstating its payout policy in 2006.
Supermarkets are slow yet steady growers. The Commerce Department reports that grocery store sales are up 2.2% through the first nine months of the year. This doesn't mean that grocers are safe. Working on lean margins can translate into bottom-line volatility, and even the compelling yields can fade in a flash. SUPERVALU -- the parent company of Albertsons before unloading it to the entity that's now acquiring Safeway -- eliminated its once hefty dividend two years ago.
There has been a fair share of sector consolidation over the years, and that's been happening long before Safeway and Albertsons agreed to pair up. There have been blow ups, bankruptcies, and turnarounds that didn't exactly pan out. Sticking to the larger players that have proven themselves worthy is a sensible strategy, and right now that trend tends to favor Kroger.
Analysts see the recent trend of decelerating revenue growth at Kroger reversing. Wall Street pros see revenue and earnings climbing 10% and 15%, respectively this fiscal year. It's a good place for Kroger -- and its shareholders -- to be.
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The article Safeway vs. Kroger: Which Grocer is the Better Buy? originally appeared on Fool.com.
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