At this point, it’s safe to say that Whole Foods Market (WFM) is the single biggest brand name in the organic food universe. Through a combination of organic growth and acquisitions — namely, buying niche brand names like Mrs. Gooch’s — Whole Foods has captured the hearts and minds of everyone who wants to be healthy.
And yet at least two Spartan-like competitors remain on the battlefield of organic food stocks. The first is The Fresh Market (TFM) which opened in 1982 — just two years after Whole Foods. The second is Sprouts (SFM), a granola-come-lately chain that appeared in 2002.
Putting the three side-by-side makes for some interesting comparisons — especially when it comes to investing.
Sprouts has gone for the regional markets, with just over 160 locations in eight states. The Fresh Market has chosen to go broad with 130 stores in 25 states. And Whole Foods, despite its seemingly ubiquitous presences, actually only has 340 stores throughout 39 U.S. states, the UK and Canada.
But while Sprouts has about half the stores of Whole Foods, it only generates about one-sixth the revenue and about 7% of the net income. Meanwhile, The Fresh Market has 40% of the store base and 11% of the revenue, with 13% of the net income. And not much changes if you compare on a square footage basis. An average Whole Foods store is 38,000 sq. ft, while Fresh Market’s is at 21,000 sq. ft. and a Sprouts store 28,000 sq ft.
So no matter how you slice it, Whole Foods is clearly doing something much different — and much better — than its competitors. But that’s not to say the competitors are bad businesses, however.
Last week, The Fresh Market reported that its second-quarter earnings rose 17% thanks to new store openings. And since 2009, revenue has increased by more than 37% and earnings have more than tripled. Meanwhile, The Fresh Market’s margins are actually a percentage point better that margins at Whole Foods, and more than triple the margins at Sprouts.
Still, I’m not sure I would buy. Same-store store sales were only up 3.4% at The Fresh Market, compared to respective gains of 7.5% and 10.8% for Whole Foods and Sprouts. Plus, free cash flow is only $20 million over the trailing twelve months, as the company plows money into expansion. And the stock is trading at over 30 times this year’s estimates, which is too pricey.
A same story can be told for Sprouts. The company saw second-quarter earnings double, while free cash was $49 million in the first half alone, with $51 million of capital expenditures reducing the operational cash flow of $101 million. That comes on the heels of the company’s IPO, too, which raised $344 million to pay down half of its outstanding debt.
But while the company is growing nicely but with earnings expected to be 35 cents per share this year, it’s trading at 100x earnings. No thanks.
That leaves us with Whole Foods which, as I’ve written before, is also a pricey stock. The company trades at around 33 this year’s earnings … and that’s after backing out its cash. Sure, $920 million in operating cash flow is wonderful, as is 19% projected annual growth for the next five years.
But even if I give a premium to the company, I can’t see paying more than 22 times earnings, which means Whole Foods won’t get my investment until the stock drops to the mid-$30s.
For now, that means my best advice is eat the food from these stores, but don’t buy organic food stocks.
As of this writing, Lawrence Meyers did not hold a position in any of the aforementioned securities.