Aided by the grocery store strike in California, the two leading natural food store chains accelerated their gains against conventional grocery stores in the last quarter.
For its second quarter, industry leader Whole Foods Market (Nasdaq: WFMI) reported a 24% increase in sales, a 32% increase in earnings per share (EPS), and a record-high 17% comparable-store sales growth. Wild Oats Markets (Nasdaq: OATS) reported sales up 12%, a 60% increase in EPS, and 8.5% growth in comparable-store sales.
In contrast, Safeway (NYSE: SWY) reported a 5% drop in sales and a 72% decline in EPS for its latest quarter.
While the strike played a role in the quarterly results, the outcomes ultimately reflect the viability of the underlying business models. As I have written in previous articles, the traditional grocery store business model is stuck in the middle. On the one hand, traditional grocery stores are being attacked with severe price competition by discounters like Wal-Mart (NYSE: WMT) and Costco (Nasdaq: COST). On the other hand, their higher-end customers are being lured away by Whole Foods and others with better quality and service, particularly on high-margin, differentiated products such as fresh fish and other perishables.
Stripping away the effects of the strike, Whole Foods noted that it would have had comparable-store sales growth of 16.4%. Wild Oats estimated that same-store sales growth would have been 3.6%. Excluding the strike and fuel sales (which increased significantly due to an increase in the price of gas), Safeway's comparable store sales decreased 1%.
Current valuations reflect these fundamentals. On one extreme, Safeway's stock is trading at 0.3 times sales; on the other end of the spectrum, Whole Foods trades at 1.4 times sales.
Despite the fact that based on its strategy and value proposition, Wild Oats more closely resembles Whole Foods than Safeway, Wild Oats' valuation is closer to Safeway's -- it trades at 0.4 times sales. Using price-to-book ratios, Wild Oats currently trades at 2.4, even lower than Safeway at 2.9 and significantly below Whole Foods at 5.8.
The key issue with Wild Oats is execution. Management has yet to demonstrate that it can operate the stores efficiently. Profit margins are unimpressive, cash flow remains anemic, and the quality, service, and in-store operations significantly lag the operational excellence at Whole Foods. There's no doubt that the segment of the market that Wild Oats is focused on will grow. If management can increase profits through better execution, Wild Oats could very well thrive in the shadow of Whole Foods.
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Fool contributor Salim Haji lives in Denver, Colo. He owns shares of Costco and Whole Foods, but none of the other companies mentioned.
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