3 Takeaways From Whole Foods Earnings

Earlier this week, I suggested three things investors should watch going into Whole Foods'  (NASDAQ: WFM  ) fiscal third-quarter report Wednesday.

Sure enough, Whole Foods reported its results after the market close yesterday, so let's dig in to see what the self-proclaimed "healthiest grocery store in America" had to say.

On maintaining healthy margins...
First, I wanted to know how Whole Foods' gross margin is holding up.

After all, management stated earlier this year that they would be pursuing more value-oriented (read: lower-margin) items in an effort to improve their value proposition to consumers. As a result, they warned, while margins had shown impressive improvements so far in 2013, those gains might not be nearly as impressive in the back half of fiscal 2013.

Of course, while shareholders may not like it, this was largely viewed as a necessary move in order to help Whole Foods compete on a broader scale not only with other up-and-coming organic grocery stores like The Fresh Market, but also with larger grocery chains like Safeway, which is doing everything it can to improve its own meager sales.

Remember, with an increasingly cost-conscious consumer base and without the opportunity to build out nearly as many new locations as a percentage of its more than 1,600 stores, Safeway's revenue in its most recent quarter actually fell 1.7%.

So how did Whole Foods do this time around on the margin front?

Curiously enough, Whole Foods' gross profit actually managed to improve to 36.6% of sales in the third quarter, primarily thanks to continued improvements in cost of goods sold and occupancy costs as a percentage of sales. For those of you keeping track, note that that's up from 36.4% last quarter, and a 61-basis-point gain from 36% in the same year-ago period.

Meanwhile, operating margin remained steady from last quarter at 7.5%, which you might recall Whole Foods boasted three months ago was a record-setting number at the time. 

Even so, despite the relief in cost of goods and occupancy, Whole Foods' earnings release still states that they expect operating margin to come in next quarter between 6.1% and 6.2% as expenses related to new store openings ramp up.

On earnings and sales growth...
Next, I wanted to know whether Whole Foods' earnings would continue to outpace sales growth.

For reference, last quarter Whole Foods' earnings grew 19% on sales growth of just 13%. The quarter before that, earnings grew 20% on a year-over-year sales increase of 13.7%.

So did Whole Foods keep the streak alive this time?

As a matter of fact, it did: Sales in the third quarter grew 20% over last year to $0.38 per share, while revenue increased 12.1% to $3.06 billion, helped by a solid comparable-store sales increase of 7.5%.

However, while those earnings beat estimates for earnings of $0.37 per share, revenue fell just barely short of analysts' estimates of $3.09 billion, one of the few weak points this quarter.

Going forward, though, Whole Foods also increased its full-year 2013 earnings guidance to between $1.43 and $1.46 per share, up from the previous range of $1.43 to $1.45. Additionally, the company narrowed its revenue guidance for fiscal 2013 to 11%, or the top end of its previous range.

Finally, for 2014, Whole Foods said they expect sales growth of 12% to 14% on comparable-store sales growth of 6.5% to 8%, with 2014 earnings growth of 17% to 18%.

On location expansion plans...
Last but not least, I wanted some color on Whole Foods' progress in building new locations en route to its ultimate goal of eventually operating approximately 1,000 stores in the U.S. -- and that's not even including the untapped potential the company sees in Canada and the United Kingdom.

Whole Foods opened six new locations last quarter, bringing its total to 349. This time around, though, investors were told to expect only four new stores, followed by another 12 in the fiscal fourth-quarter.

Sure enough, four new units were opened in the fiscal third quarter. In addition, the company has already opened another four so far in the fourth quarter, and is planning to complete the remaining eight by the end of the quarter. All told, that'll bring the total number of openings in fiscal 2013 to 32.

Finally, Whole Foods provided guidance on estimated openings for fiscal 2014 of between 33 and 38 new units, two or three of which will be relocations.

Foolish takeaway
Apart from the small revenue miss and the fact that Whole Foods admittedly trades at a premium -- around 40 times last years' earnings and 32 times next years' estimates -- I can't find a lot not to like about its most recent quarter.

In the end, we're still talking about a solidly profitable business that not only epitomizes conscious capitalism, but also boasts a history of shareholder-friendly policies. Remember, Whole Foods' last quarter paid $37 million in dividends, and the company repurchased $25 million of its common stock. As a result, I'm still convinced that the premium is well deserved, so I intend to continue proudly holding my own shares for the foreseeable future.

As for the future of retail itself, the industry is currently in the midst of the biggest paradigm shift since mail order took off at the turn of last century. Only those most forward-looking and capable companies will survive, and they'll handsomely reward those investors who understand the landscape. You can read about the 3 Companies Ready to Rule Retail in The Motley Fool's special report. Uncovering these top picks is free today; just click here to read more.


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