Morning Word 2/13/14: Whole Mackerel! Even High-End Retail Weak, $WFM

by Enis February 13, 2014 9:28 am • Commentary

Whole Foods missed on earnings last night for only the second time in the past 5 years.  Analyst consensus was for $0.44 per share, and WFM delivered $0.42.  The stock is actually holding up ok given the earnings miss, as traders continue to eye the $50 support level (see our preview from yesterday).  The stock’s low pre-market this morning is 50.25.

This morning’s retail sales data release confirmed the broad weakness that we have seen from retailers over the past 6 weeks.  It was a 0.4% decline month over month, and last month’s figure was also revised lower to a contraction of -0.1%.  That’s the first back-to-back months of negative retail sales since mid-2012.

Perhaps most concerning about the latest retail data is that it has come during December and January, when retail sales are most robust.  The retail sector has been one of the worst-performing sectors in the market to start 2014, and WFM’s report simply reiterates a weakening consumer outlook.

As for Whole Foods specifically, its story of lower guidance and slower growth for 2014 could be telling for high-growth companies in many other sectors.  Since companies like WFM have grown so rapidly over the past 5 years, expectations have also grown along with them.  But just as expectations (and stock prices) are quite elevated, Whole Foods is having a harder time expanding as competition increases and the company itself is simply a bigger beast that has already picked the low-hanging fruit, whether by geography, consumer-orientation, or innovative products.

It’s much harder for WFM to sustain its growth momentum when it already has 370 locations (with those locations likely the best-placed geographies to begin with), than when it only had 100, 200, or 300 locations.  Meanwhile, competitors who have seen the profit opportunity in the high-end grocery segment are competing like mad to take a bit of the lucrative profit pie that Whole Foods has demonstrated is there for the taking.

That was a main focus when I detailed my thoughts in yesterday’s earnings preview:

At the end of the day, most supermarkets are simply a conduit for other companies’ products to get to consumers.  Whole Foods has done an admirable job of developing its own internal brands, however, and like COST, has garnered a much larger share of industry profits as a result.

However, as has been our beef with WFM for much of the past 2 years, the valuation prices in a lot of optimism.  At a trailing 12 month P/E of 37x, doubling its profits over the next 4 years would only cut the valuation down to 18.5x, on a larger base from which earnings growth might slow.

The risk/reward for owning the shares here does not seem attractive as a result.

As companies grow, valuations generally contract, and for good reason.  As much as some AAPL investors might complain about AAPL’s “cheap” valuation, a big reason why it trades at a 13x P/E multiple is that it’s already a $500 billion market cap company with $35 billion in annual profits.  That’s probably the biggest risk to GOOG – at a $400 billion market cap, sustaining a 15-20% earnings growth rate from a $15 billion profit base is no small task, and has rarely been achieved in history.  Even if done, perhaps the market will only value that at a 18x or 20x P/E multiple going forward given the ongoing risk of continuing that feat year after year after year.

High growth is great, but at the right price.  WFM investors are still debating what that right price is, but at a 35x P/E multiple, it’s likely still lower than here.