Whole Foods: 'Food for Thought' or Wholly Expensive?

Richard Saintvilus - The Street  NOV 12, 2012 2:48 PM

Whatever the immediate outlook, the long-term story remains intact.

 


Warren Buffett once said "Price is what you pay, value is what you get." While I understand "the Oracle" was referring to individual stocks, I've recently realized that this maxim is especially true while shopping at stores such as Whole Foods (NASDAQ:WFM), a company that has been given the nickname "Whole Paycheck" due largely to its premium prices.

Nonetheless, amid a sluggish economy that has hurt food stocks such as Chipotle Mexican Grill (NYSE:CMG), Whole Foods continues to enjoy a stock valuation that presumes growth will continue for the next 10 years. Is it still a good bet?

A Good End to a Great Year, but...

For the period ending in September, Whole Foods saw its net income increase to $112.7 million, or $0.60 per share -- representing a year-over-year increase of 42% from the $75.5 million earned in fourth-quarter of 2011. Likewise, revenue for the quarter were solid -- increasing 24% to $2.91 billion. The company beat on both its top and bottom lines as analysts were expecting profits of $0.59 per share on revenue of $2.90 billion.

Impressively, despite what has been a difficult economic climate, the company continues to demonstrate solid growth as comps increased 8.5% while identical store sales were up 8.3%. Profitability also continues to impress. In terms of gross margins, Whole Foods logged a year-over-year improvement of 80 basis points. While a slight drop in gross margins from the third quarter might raise a few eyebrows, it was not unexpected.

The company has been working hard trying to figure out ways to increase its foot traffic. One of the ways was to execute the Wal-Mart (NYSE:WMT)  strategy and utilize its own margin leverage to offer lower prices. Given that the company's operating income grew by almost 50% year over year, I would say that this approach worked pretty well.

Overall it was a solid performance. Unlike many of its peers, the company made a strong showing, completing its fiscal year earning $465.6 million, or $2.52 per share -- a 30% improvement from fiscal year 2011. Still, this was not enough to keep investors from selling off the stock, which followed after management's Q1 guidance.

Sandy Brings Caution

The company said revenue for the first five weeks of the current quarter has been adversely impacted by Hurricane Sandy. As a result, investors should expect a one-time charge in Q1. But the company stopped short of revealing to what extent -- only to say that it is working with its insurance company to assess damages, results of which might not be reveled for several months.

As a consequence, the company is seeing current comps in the areas of 7% -- much lower than the 8% to 9% investors had become accustomed to. With that in mind, the company is forecasting fiscal 2013 earnings of $2.88 to $2.87 per share -- falling short of analysts' estimates of $2.91. On the news, the stock fell almost 5%, which has cause me to wonder if the stock is now "food for thought" or still expensive particularly due to its P/E of 36. Moving Forward

There aren't many companies in the retail sector, or any sector for that matter, that are performing as well as Whole Foods. Despite some near-term concerns regarding the effects of Sandy, Whole Foods remain one of the best-run businesses on the market. I don't think investors should focus too much on the company's guidance, which several analysts already consider extremely conservative.

What's more, it has become clear that the company has become equally disciplined in terms of its capital -- working hard to dismiss the "Whole Paycheck" moniker it has acquired by looking for ways to lower its prices.

While it will never reached the market dominated by Wal-Mart, Whole Foods certainly has become better positioned to compete more effectively with the likes of Fresh Market (NASDAQ:TFM), Harris Teeter (NYSE:HTSI) and Kroger (NYSE:KR). While Whole Foods may still arrive more expensive than the latter two companies, the shopping experience alone should make up the difference since the company also sells the idea of a "lifestyle."

Bottom Line

Although the company did not issue its customary beat-and-raise performance, investors have to understand the long-term story for Whole Foods remains intact. With revenue growth still well above 20%, the company has not shown any meaningful signs that valuation should (at this point) be a concern.

Having said that, I would not dismiss any indicators suggesting that comps have started to deteriorate. The first quarter of 2013 may be rocky, but I think it is safe to wait until Q2 and possibly Q3 of next year to say with any degree of certainty that the stock can no longer work. For investors, here's some food for thought -- buy Whole Foods on any signs of weakness.

At the time of publication, the author held no position in any of the stocks mentioned.

This article is commentary by an independent contributor, separate from TheStreet's regular news coverage.