Whole Foods (NASDAQ:WFM) found out the hard way Thursday what many momentum stocks have already learned: Being a growth darling is indeed a double-edged sword.
Being the darling is nice — the natural and organic foods grocer has enjoyed this side of the coin for some time, charging 220% in the past three years including 40% in 2012. But when you’re that popular (ask any celebrity), you’re thrown under a microscope, and the slightest hiccup sends investors running.
Whole Foods’ hiccup? It didn’t raise its full-year outlook for 2013. Its punishment? Shares closed down around 6%, putting the stock more than 10% off all-time highs above $100 set in October.
That said, investors looking for a bargain just might be on the precipice of one.
A Grocer That Doesn’t Suck
Here’s a look at some of the other numbers reported by this recently slumping company:
- Earnings per share climbed more than 40%, from 42 cents to 60 cents, matching Zacks estimates and beating Capital IQ expectations by a penny.
- Revenue climbed nearly 24% and beat estimates.
- Same-store sales improved a respectable 3.7%.
- Gross margins remained above 34%, keeping up a five-fiscal-year run.
Most companies — definitely most grocers, including Safeway (NYSE:SWY), Kroger (NYSE:KR) and SuperValu (NYSE:SVU) — would kill for numbers like that.
They’d also probably kill for Whole Foods’ potential.
The company operates 342 stores — that’s roughly 10% of Kroger’s store count and around 20% of Safeway’s — but has plans to nearly triple that figure to about 1,000 by opening in Canada and moving into suburban and other underserved markets. Even after reaching that mark, though, Whole Foods would need to stretch its legs a lot more to reach the same scale as its non-organic competitors.
While the plan is aggressive, it might be justified. WFM’s niche offerings are benefiting from a growing trend … well, two growing trends, for that matter.
To start, the organic trend is booming. Market researcher Packaged Facts projects that U.S. retail sales of natural and organic foods and beverages should exceed $78 billion by 2015 — double from $39 billion in 2010. Whole Foods already has established itself as not only the biggest player in the game, but a respected one.
Of course, organic foods are just a piece of a much broader focus on healthy eating. The statistics tell the tale, but so does a simple look around you. Notice the number of calorie-conscious options being added at not-so-healthy fast-food restaurants? The boom in vitamins and supplements? America’s love affair with healthy food chain Panera Bread (NASDAQ:PNRA)?
Whole Foods fits that wider bill, too. While it’s synonymous with “organic,” the company also offers fresh meats, seafood and produce for people that want to start cooking healthy themselves, and it targets consumers short on time with its well-received pre-prepared foods. Plus, the company also has a catering service offering a fresher option than the sad platters from Subway — something Panera and Chipotle (NYSE:CMG) also have used to bolster their sales.
So What’s the Catch?
Of course, investors wouldn’t be selling if there weren’t some issues.
As I’ve mentioned before, countless other businesses are trying to inch onto its organic turf. We’re not just talking smaller rivals like The Fresh Market (NASDAQ:TFM) and privately held Trader Joe’s. We’re even talking low-end retailer Wal-Mart (NYSE:WMT) … even drugstores like Walgreen (NYSE:WAG). In other words: WFM’s niche isn’t so niche anymore.
Plus, Whole Foods’ products tend to be pricier. The core organic-loving crowd might be OK shelling out extra cash for farm-fresh fruit, but the majority of middle-class America — which is increasingly financially strapped — won’t be so easily swayed.
The company is hoping the aforementioned expansion into more suburban areas will help lower the cost of rent, and thus allow it to offer foods at a slight discount. But there’s a flaw in that logic — any nearby competitors will be enjoying much the same benefits. In the end, organic milk is going to cost more than regular milk simply because it costs more to produce.
More logically, Whole Foods has been ramping up promotions and keeping prices steady amid rising costs to combat the high-price perception, but that too comes at a cost — namely, margins and the bottom line.
Whole Foods’ stock itself suffers from a hefty price tag. Even after a slide in the past few weeks, WFM trades at a hefty P/E of 36 and a forward P/E of 25. That’s significantly higher than just about anyone else playing in the grocery space.
Whole Foods is expensive, sure — but that’s because SuperValu and the like are fighting tooth-and-nail just to be profitable, whereas WFM is growing like a weed as two huge dietary trends are playing right into its hands.
The company has been dealing with some strong volatility even before Wednesday’s selloff, so while Friday trading saw the stock find some footing, lower prices in the near-term aren’t out of the question.
That said, it’s hard to argue that Whole Foods’ few red flags outweigh its long-term prospects. Its current dip is worth jumping into, with any further losses in the next month or so merely presenting an even better buying opportunity.
As of this writing, Alyssa Oursler did not hold a position in any of the aforementioned securities.