Kroger (NYSE: KR), the largest supermarket company in the U.S., posted better-than-expected earnings on Thursday. Investors were initially pleased with the results, and sent Kroger stock up more than 2% in early trading. However, as the trading day progressed, Kroger stock eventually lost all those gains and ended the day down 1%.
The reason investors got more pessimistic throughout the day could be that, despite another strong quarterly performance, Kroger stock may simply be too expensive.
Here’s a wrap-up of Kroger’s latest quarter.
Make It 50
Kroger has demonstrated a proven ability to generate consistent growth, no matter the condition of the broader economy. For evidence of this, consider that last quarter marked the 50th quarter in a row in which Kroger grew comparable store sales, a key measure for retailers that describes growth at stores open at least one year.
Same-supermarket sales rose 2.4%, which naturally flowed through to result in strong earnings growth. For the first quarter, Kroger earned $0.70 per share in profit. That represented 13% year-over year growth from the same quarter last year; that’s an excellent growth rate in a slow-growth economy.
Kroger’s earnings per share beat the average analyst expectation, which called for $0.69 per share of profit.
Total sales increased 4.7%, and excluding the effects of gasoline price deflation, sales excluding fuel rose 7.8%. A key contributor to Kroger’s sales growth last quarter was the contribution from Roundy’s, operator of the highly popular Mariano’s chain as well as other banners such as Pick ‘n Save, which Kroger acquired last year for nearly $800 million including debt.
Excluding fuel and Roundy’s, sales were up a more modest 3.5% year over year.
Along with its revenue growth, Kroger managed to grow earnings thanks to cost cuts. Last quarter, total operating expenses excluding fuel and Roundy’s decreased four basis points as a percentage of sales.
Going forward, Kroger management has its eye on innovation to drive future growth.
Growth Catalysts Ahead
Kroger is investing heavily in new business areas, primarily technology, to drive future growth.
The goal of this investment is to more efficiently and accurately respond to changing consumer preferences. U.S. consumers are paying closer attention to what they are eating like never before. This is why Kroger has seen strong growth of its natural and organics products. This is why in April Kroger made a strategic investment in Lucky’s Market, a specialty store focusing on natural and organics, which has 22 locations.
In addition, younger generations of consumers like millennials are widely embracing technology, even for groceries. The industry, as brutally competitive as it is, needs to respond. Those that don’t will quickly fall behind. To this end, Kroger merged with Harris Tweeter two years ago. That was a savvy deal for Kroger because, using Harris Tweeter’s technological capabilities, the two companies formed ClickList, which allows shoppers to order online and pick up items in-store.
Leveraging its distribution, Kroger has now expanded ClickList as well as its ExpressLane online ordering services to 25 markets.
Kroger had another great quarter, but the market didn’t seem impressed. While the company continues to fire on all cylinders, it’s reasonable to question the valuation.
Management expects the company to earn $2.23 per share at the midpoint of 2016 guidance. Based on its June 16 closing price, Kroger stock trades for 16 times 2016 EPS estimates. This is roughly on par with the S&P 500, so the valuation doesn’t seem to be overheated.
That being said, Kroger has had an incredible run over the past few years. The stock has gained 50% in the past two years, compared with just a 6% return for the S&P 500. As a result, it is natural to see the stock take a breather this year, even when it reports strong earnings.
The good news is, due to the company’s focus on customer service, technological innovation and cost controls, the future still seems bright.
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