5 min read
This story originally appeared on Market Beat
Our local grocery stores have faced extreme challenges during the pandemic trying to keep up with stockpiling consumers and increased demand for online orders. As a result, the grocery store stocks have been under investors’ microscope lately.
And while profit margins are notoriously slim in the supermarket business, these defensive stocks provide a level of downside protection for a well-balanced portfolio. Let’s take a look at a few of the strongest grocery store stocks that should be first in line to be plucked off the shelves.
Albertsons (NYSE:ACI) stock, which made its market debut last summer, is gaining momentum after a strong third quarter report this week. Sales were up 12.3% and net income more than doubled year-over-year driven by a 225% surge in digital sales.
With more than 2,000 locations across 34 states, Albertson’s holds the number one or two position in approximately 70% of major U.S. metropolitan areas.
One of the more intriguing aspects of Albertson’s business model is its focus on its in-house brands. It has over 12,000 SKUs across 500 categories that combined represent a $14 billion business. These high quality, lower cost products appeal to most customers and help generate sales growth and higher margins for the company. Albertson’s own brands have a 10% gross margin advantage over the national brands they sit beside. It is particularly strong in frozen pizza, a mainstay that consumers have increasingly leaned on lately.
What also makes Albertson’s a cut above its peers is its commitment to trying out new things. Earlier this month it launched an automated grocery pickup service in Chicago making it the first U.S. grocer to test out a contactless pickup kiosk concept. Customers there can opt for a “Kiosk Pick-up” and gather their robotically delivered groceries from a temperature-controlled kiosk. Given shoppers’ focus on safety and convenience, this e-commerce initiative has a high likelihood of success.
Kroger (NYSE:KR) is another grocer on the rise. Last month the company reported a 51% jump in earnings and easily topped the Street consensus on the strength of increased consumer purchases.
Despite the strong results, Kroger’s share price sunk on investor concern that sales growth had peaked. This created a great entry point for a stock that should trend higher this year. Sure, growth may have slowed a bit, but with same-store sales growth still in the double digits, we are still talking about strong, abnormal growth for a grocery store chain. The market reacted as if this was a technology stock and unjustifiably so.
While customer purchase volumes are likely to subside as pandemic conditions improve, Kroger’s diverse business model makes it a standout company in the grocery store space. In addition to its nearly 3,000 supermarkets (most of which include resilient pharmacy businesses), it operates some department stores, fuel centers, and even fine jewelry stores. It also runs processing plants that produce Kroger’s popular private label products.
With many restaurants still closed across the country, cooking at home will likely remain the norm for much of 2021. This should keep consumers coming back for more meats, produce, and other fixings—and keep sales levels elevated at Kroger.
Sprouts (NASDAQ:SFM) is a smaller grocery operator that makes fresh fruits and vegetables as the centerpiece of its stores. At 9x trailing earnings this under-loved stock is cheap even by grocery store standards.
This health-conscious chain of a few hundred stores caters to like-minded consumers by offering a range of gluten-free, plant-based, and grass-fed products. The stock offers exposure to a natural and organic corner of the market that is among the fastest-growing segments in grocery. Ninety percent of Sprouts products are of the natural or organic variety.
Sprouts recent financial performance has been good but not outstanding. Sales and earnings have grown more modestly than some of its bigger competitors. But more importantly, the company is headed in the right direction after struggling to find its way in the ultra-competitive industry.
Some Sprouts bears argue that Sprouts emphasis on pricier organic and natural meats, dairy, and produce limit its customer base to only affluent, health-driven consumers. They also say Sprouts stores are for complementary stops to pick up a few items rather than a one-stop place to complete a grocery list.
But these arguments amount to sour grapes. First, despite its smaller store size, Sprouts markets have everything from produce to bulk foods to baked goods and a full-service deli (not to mention a selection of craft beer and wine). Second, while Sprouts may be a more exclusive brand, this is one of its main positives as an investment. Its loyal customer following has more discretionary income to spend on higher-margin products which equates to above industry growth potential.
Over the next few years, Sprouts management plans to build out its store footprint at a gradual 10% annual pace in regions with higher growth potential. This strategy makes sense given the uncertain economic environment and should lead to steady, visible growth over time.
This is a stock that is trading 25 percent below its July 2020 peak and looks ready to make a run to $30 this year. Its hard not to like the grocery store space in this environment and Sprouts’ focus on the health and wellness trends make it particularly interesting stock to drop into the cart.