Remember when malls were the center of American living?
It wasn’t too long ago. Between 1956 and 2005, about 1,500 malls were built. It was a Golden Age of mall retail. Malls transformed into much more than shopping destinations. They became social and cultural centers.
But then the internet started to mature into a shopping tool. And Amazon.com, Inc. (NASDAQ:AMZN) pioneered a new era of online shopping.
Malls died. 2007 marked the first year since the 1950s that a new mall wasn’t built in the United States. Since then, it has been a torturous grind lower for all things mall-retail related.
Now, Amazon is pioneering a similar radical transition in the grocery world. With its acquisition of Whole Foods Market, Inc. (NASDAQ:WFM), Amazon promises to shake up the grocery world like it shook up the mall retail world 10 years ago.
Some grocers are doomed. The price cuts and Amazon technology integration will prove too much to handle.
But others will survive. After all, some brick-and-mortar retailers have survived the Amazon onslaught.
Let’s dig deeper to find out which grocery stocks you should add to your portfolio.
Grocery Stocks: Sprouts Farmers Market (SFM)
The first grocery stock on this list is Sprouts Farmers Market Inc (NASDAQ:SFM), and unfortunately, I think it’s one of the biggest losers in this new era of grocery shopping.
The market thinks so too. SFM stock has fallen over 9% since Amazon announced price cuts at Whole Foods last week.
Why will SFM be so adversely affected? Because its value proposition has now essentially been commoditized. Both Sprouts and Whole Foods differed from traditional grocers by offering healthy, organic foods. But SFM differentiated itself from WFM through its lower prices.
But now Whole Foods is getting much, much cheaper, and that erodes the one thing that differentiated SFM from WFM. Granted, prices at SFM at still largely lower, but because Whole Foods is perceived to offer higher-quality goods, consumers have gotten used to a large price gap between the two.
Now that this price gap has shrunk considerably, SFM has lost its biggest value prop to consumers — more bang for your buck.
Meanwhile, SFM stock isn’t particularly cheap at 10 times trailing EBITDA. If you want to extend the mall retail analogy, most mall retailers are trading at low-to-mid-single-digit EBITDA multiples.
That implies that the valuation on SFM stock still has a long ways to fall. Considering this grocer is likely due for negative comps and margin compression over the next several years, Sprouts is a must avoid here.
Grocery Stocks: Kroger (KR)
The second grocery stock on this list is Kroger Co (NSYE:KR), and I think it will fare much better than SFM in this new era of grocery shopping.
Once again, the market also agrees here. KR stock is actually up 3% since WFM price cuts were announced, versus a 9% decline for SFM.
Why is Kroger better positioned than Sprouts? Because its portfolio of grocery stores (Kroger, Ralph’s, Dillon’s, Fry’s and many, many more) offer different stuff than Whole Foods. You can’t buy a bag of Ruffles or Lay’s chips at Whole Foods, but they are all over Ralph’s and Dillon’s grocery stores.
In fact, there is a whole list of ingredients which Whole Foods considers “unacceptable.” From the company’s website:
Among other criteria, we draw a line when it comes to hydrogenated fats and artificial colors, flavors, preservatives and sweeteners.
So don’t expect to find your favorite Hershey’s candy bar at Whole Foods. Or Diet Coke. Or Doritos.
In this sense, Kroger actually has a product moat against WFM. It is likely that consumers who shop at KR shop there for more than just the low prices. They shop there because they still enjoy some of America’s favorite snacks, like those Doritos. And lower prices and/or enhanced omnichannel capabilities at WFM aren’t going to convince people to stop eating Doritos.
Its also worth noting that KR stock trades at a very reasonable 6 times trailing EBITDA multiple. This is in line with most mall retailers, so I don’t think this name is due for much multiple compression even if things do go south in a hurry.
I am a buyer of KR stock here. It’s cheap, and it has the scale and product assortment to fend off competition from Amazon.
Grocery Stocks: Wal-Mart (WMT)
The third grocery stock on this list is an all-in-one retailer, Wal-Mart Stores Inc (NYSE:WMT). WMT stock hasn’t bled much since Whole Foods price cuts were announced, but it is still down about 0.3% versus a 1.5% gain for the S&P 500.
The recent weakness is worth noting, and it’s also a compelling buying opportunity.
WMT is hardly affected by this new era of grocery shopping. It already has everyday low prices on groceries, so WFM whacking prices doesn’t exactly shift the price-sensitive Walmart shopper into Whole Foods.
Meanwhile, Amazon is sure to leverage its e-commerce ecosystem to enhance WFM’s omnichannel capabilities. But WMT is already doing this. Online grocery ordering is already a widely used feature at Walmart. In some areas, doorstep delivery is also a thing.
Walmart is also much, much more than a grocer. It’s an all-in-one shopping destination. This feature gives Walmart a convenience advantage over Whole Foods.
All in all, Walmart will hardly be affected by Amazon’s excursion into the grocery space. At 8.5 times trailing EBITDA, WMT stock isn’t all that expensive. Consequently, this stock should be bought on this unfounded dip.
As of this writing, Luke Lango was long WMT, KR and AMZN.