Whole Foods Market (WFM, Financial) delivered its fourth quarter and fiscal 2016 operating results on Nov. 2. The $9.45 billion grocery chain delivered 2.2% sales growth to $15.7 billion compared to fiscal 2015 and 5.4% profit loss to $507 million.
Whole Foods experienced an increase in the cost of goods sold and occupancy costs, about 3.4%, resulting in a lower margin for the period. As a result, the grocer’s shares closed down 0.18% that day while the broader Standard & Poor’s 500 index was down 0.44%.
(Whole Foods Market, annual filing)
John Mackey, co-founder and co-CEO of Whole Foods Market:
“In a year that presented many headwinds for food retailers, we made measurable progress on positioning our company for continued success while producing industry-leading sales per gross square foot and healthy returns on invested capital.
“Through our strong balance sheet and robust cash flow, we self-funded our new store development and technology investments and, in keeping with our capital allocation strategy, returned more than $1.1 billion to our shareholders through dividends and share repurchases.”
Walter Robb, co-CEO of Whole Foods Market:
“Food retailing is evolving at an incredibly fast pace, and consumers have many more options for how and where they buy their food than ever before. At the same time, the market opportunity is expanding as the consciousness about fresh, healthy foods continues to awaken.
“Our company mission and commitment to transparency are more relevant and timely than ever, and we will keep innovating and creating environments where people can connect and find a sense of community – in our stores and in the digital world.”
Valuations
Whole Foods Market had a trailing 12-month price-earnings (P/E) multiple of 20.8 times (industry median: 20.8), price-book (P/B) value multiple of 3 times (industry median: 1.97) and price-sales (P/S) ratio of 0.6 times (industry median: 0.49) (5). The grocery chain also had a trailing 12-month dividend yield of 1.87% with a 37% payout ratio and 2% buyback ratio.
(Whole Foods Market share price, Google Finance)
Market performance
Whole Foods Market underperformed the broader index on a five-year total return basis with -0.3% return versus 14.4% (6). Year to date, the company did not demonstrate any reversal as it provided -9.79% to its shareholders while the S&P 500 had 7.84%.
Whole Foods Market
Whole Foods Market was incorporated in 1978. Its first store opened in Austin, Texas, in 1980. Whole Foods Market is the leading natural and organic foods supermarket, the first national “Certified Organic” grocer and is uniquely positioned as America’s Healthiest Grocery Store.
The company has one operating segment: natural and organic foods supermarkets. In its fiscal 2015 filing, Whole Foods was the largest natural and organic foods supermarket in the U.S., the fifth-largest public food retailer and the 10th-largest food retailer overall based on 2014 sales rankings from Progressive Grocer.
Whole Foods Market had a total store count of 464 stores in the U.S., Canada and the U.K. as of fiscal 2016, up from 431 in the previous year. The company had a five-year store average growth rate of 8.16%.
Whole Foods also does its grocery business by selling natural products. The grocery chain follows certain quality standards that are more centered on high-quality natural and organic products (1). Through this type of business model, the company earns most of its business through perishable products with about 66.5%, or $10.2 billion, total fiscal 2015 sales. Whole Foods also indicated that it had earned about 6.14%, or $945 million, of total fiscal 2015 sales with its certified organic or “Non-GMO Project Verified” products (2).
The company also implements a stringent Premium Body Care TM standard that currently bans more than 400 ingredients in its products. This standard bans any product to be sold in its store if it has been tested on animals. Also, as there are no mandatory government standards for labelling organic foods, the company requires the producers to meet one of two certifications before putting the label on its products (3).
Whole Foods Market is committed to buying from local producers whose products meet its high-quality standards. With this commitment, the company is able to deliver its customers the freshest of seasonal products. Whole Foods also has its Local Producer Loan Program to support farmers. Nonetheless, Whole Foods also buys a portion of goods from regional and national producers as long as they meets its standards. In fiscal 2015, Whole Foods Market relied about 32% of its purchases from United Natural Foods (UNFI, Financial).
Comparable store sales
(Whole Foods Market Comparable-Store Sales (4), annual and quarterly filings)
Whole Foods’ comparable-store sales has weakened in recent years and evidently suffered during the fiscal year that ended in September.
Overall, Whole Foods Market had five-year sales and profit growth averages of 14.48% and 16.87%.
Outlook
(Whole Foods Market Outlook, quarterly filing)
As per its fiscal 2017 outlook, Whole Foods Market expects lower sales and corresponding same-store growth. The company expects about a -4.05% change from fiscal 2016.
Cash, debt and book value
Whole Foods Market had about $852 million in cash, short-term investments and restricted cash as of Sept. 25. The non-GMO-oriented grocery chain also had $1.05 billion in debt with a debt-equity ratio of 0.33. Whole Foods had 12.4%, or $784 million, of its assets in goodwill and intangibles while having a book value of $3.22 billion.
Cash flow
(Whole Foods Market Cash Flow, quarterly filing)
Whole Foods delivered a -1.15% change, or $1.12 billion, in its cash flow from operations for fiscal 2016. The company allocated $716 million in capital expenditures with $395 of it for new location developments.
The grocery chain also allocates money toward investment in available-for-sale securities. In fiscal 2016, the company allocated $593 million.
Whole Foods had about $400 million in free cash flow, of which 280%, or $1.12 billion, of it was used for dividends and share repurchases. In the past three years, Whole Foods allocated 243% of its free cash flow in shareholder payouts.
Conclusion
Whole Foods demonstrated that doing business with organic food can be rewarding, but also challenging. No doubt the company takes pride in providing a wide selection of produce to its customers. Meanwhile, company sales and profit growth indicate the company experienced good double-digit growth over the past few years, except for fiscal 2017.
Despite its very generous allocation to shareholder payouts in terms of free cash flow, the company has maintained an admirable balance sheet.
Analysts at Barclays rated the grocery chain’s shares as equal weight in late September with a $30 price target. Meanwhile, Bank of America Merrill Lynch downgraded its outlook and ranked Whole Foods’ shares as underperform from neutral. Despite the company’s recent return underperformance, versus the broader index, the company is fairly valued in comparison to its peers.
The five-year earnings multiple multiplied by its fiscal 2017 EPS outlook (floor EPS figure) and taking into account a 20% margin gave me a value of $38 a share.
In summary, I have Whole Foods as a hold with a value of $30 a share.
Notes
(1) Annual filing: few highlights that demonstrated Whole Foods Market’s commitment to selling high-quality natural and organic products:
(2) Annual filing: Whole Foods Market had committed itself to provide full GMO (“genetically modified organism”) transparency to its customers by 2018. The company stated that it's on its way to meeting this goal.
(3) Annual filing: certifications must be met from the USDA’s National Organic Program or NSF International’s 305 Standard for Personal Care Products Containing Organic Ingredients.
(4) Annual filing: Comparable Store Sales of a store are deemed to be comparable commencing in the 57th full week after the store was opened or acquired. Stores closed for eight or more days are excluded from the comparable store base from the first full week of closure until reopened for a full fiscal week. Comparable store sales growth is calculated on a same-calendar-week to same-calendar-week constant currency basis.
(5) GuruFocus data.
(6) Morningstar data.
Disclosure: I do not have shares in any of the companies mentioned in the article.
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