Kroger (NYSE:KR) discussed its third quarter results in a conference call on Thursday. The stock sold off during the call as the market reacted to the company's revenue surprise, which came in slightly lower than expected. However, this revenue shortfall is only a blip in the otherwise rosy Kroger growth story.
There are three main takeaways from Kroger's earnings call which suggest that the company's future remains bright for long-term investors:
1. Kroger is becoming a cheaper alternative to Whole Foods Market
Kroger's third quarter results indicate that the grocer is well on its way to becoming a cheaper alternative to Whole Foods Market (NASDAQ:WFM). Although natural foods are still only a small contributor to Kroger's overall revenue, it is the fastest-growing department in the chain. The company expects its organic department to double in size within the next five years -- high expectations for a division that already surpasses any single organic grocer except Whole Foods.
Kroger's acquisition of Harris Teeter Supermarkets (UNKNOWN:HTSI.DL) is an important step in its move toward natural and organic food. The acquisition will help the company to appeal to a more affluent set of customers than grocery peers such as Safeway typically attract. Harris Teeter courts a higher-income customer base like that of Whole Foods while offering lower prices. This is the niche that Kroger ultimately wants to occupy, allowing it to build out an organics offering that appeals to Whole Foods customers while keeping its traditional grocery offerings that draw in customers and earn thin margins as well.
2. Kroger's same store sales continue to impress
Everyone following Kroger knows that the company has an impressive streak of increasing same-store sales. The streak continued in the third quarter as the company's same-store sales grew 3.2%. The increase put the streak at 40 consecutive quarters -- that's 10 straight years of increasing same-store sales every quarter. A company that can attract more customers to its stores each quarter for that long is clearly adding value in its customers' eyes.
One of the keys to Kroger's continued success is its loyal households -- customers that spend, on average, about half of their grocery budgets at Kroger. According to the company, loyal households have increased by 83% over the last ten years; this has provided a tremendous boost to Kroger's sales.
During the conference call, the company announced sales growth in every single department, led by produce and natural foods. That these departments lead Kroger's growth is encouraging because they are key to positioning the company as a cheaper alternative to Whole Foods.
3. Inflation is low
Perform a quick Google search on inflation and you will find countless articles howling over the hidden food cost inflation that is not reflected in government data. Whatever the actual rate of inflation is, Kroger's results indicate that it is on the lower rather than higher end. The company estimates its rate of cost inflation to be 1.5% (exclusive of fuel, which actually declined, and pharmacy.) The rate of inflation for Kroger's groceries was just 1%.
Food prices have tended to fall over time. According to the National Bureau of Labor Statistics, the price of food is 30% lower as a percentage of American's income than it was three decades ago -- a finding that runs contrary to many consumers' perceptions about the cost of food.
High inflation is terrible for grocers because margins get squeezed as prices increase. Deflation can also be troublesome, however. A 1% to 3% inflation rate is a good safe zone for grocers, so the fact that Kroger is experiencing cost inflation in this range is encouraging.
One quarter's results do not make or break a company. Kroger's revenue came in lower than expected this quarter, but everything else points to a company with a bright future ahead of it.
John Mackey, co-CEO of Whole Foods Market, is a member of The Motley Fool's board of directors. Ted Cooper has no position in any stocks mentioned. The Motley Fool recommends Whole Foods Market. The Motley Fool owns shares of Whole Foods Market. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.