Sprouts Farmers Market Offers an Opportunity on Shareholder Sales

Typically, when large insiders unload shares, investors need to be careful that the original investors are not cashing out at the top. In the case of Sprouts Farmers Market (NASDAQ: SFM  ) , the recent unloading of shares by major insider Apollo Global Management (NYSE: APO  ) is actually a good sign for new investors.

Sprouts Farmers Market is a specialty retailer of fresh, natural, and organic foods with a focus on great prices. The company operates roughly 170 stores in just nine states, with the ultimate goal of reaching 1,200 locations.

The specialty grocer competes in a highly competitive sector with industry leader Whole Foods Market (NASDAQ: WFM  ) and similar-sized The Fresh Market (NASDAQ: TFM  ) . Not to mention, it competes with traditional grocery chains, which are moving more and more into fresh and organic products.

Unloading shareholder bullish
In the case of Apollo Global Management, the large ownership position placed a ceiling on the stock, with concerns that it would eventually unload shares. Last week, Apollo sold 9.5 million shares at $33.75. In total, selling shareholders including executives unloaded 17.25 million shares.

This comes on top of Apollo selling shares three months after the IPO in a sale that combined with other shareholders totaled 22.5 million shares. Apollo reported holding nearly 55 million shares prior to this recent offering, leaving the investment firm with around 45.5 million shares after this offering, or over 31% of the outstanding shares of Sprouts. Combined with the Premier Grocery entity, these two investors still control nearly 38% of the outstanding shares.

Apollo is a private equity firm that bought a large stake in Sprouts back in 2011 for roughly $214 million. As is typical of private equity firms, the pattern is to sell large gains after taking the firms public, and the recent two transactions confirm that intent. 

Sales by additional shareholders, including the nearly 850,000 shares sold by executive officers and directors, are a little less encouraging. With the listed group in the prospectus only controlling 3.2% of the outstanding shares, you have to wonder why they cashed out. Still, we must remember that insiders have tons of reasons to sell, many of which have nothing to do with the future prospects of the company.

Solid pre-released numbers
Prior to completing the offering, Sprouts pre-released first-quarter estimates providing evidence that investors are unloading shares for diversification and not because of any internal issues. Fellow Fool contributor Joseph Solitro provided a great summary of the fourth-quarter results for the industry, comparing Sprouts with Whole Foods Market and The Fresh Market.

The specialty grocer expects sales to grow 26%, driven by comparable-store sales growth of approximately 12.5%, over the same period last year. Even more important, gross margins will grow from 30.3% to a range of 30.5%-31% for this quarter.

Back to the fourth-quarter analysis, Whole Foods continues to lead the sector with 35% gross margins compared to 28.6% for Sprouts. Both grocers were able to slightly expand margins over last year, while The Fresh Market continues to see a decline in margins to 33.5%.

Bottom line
The good news is that Sprouts Farmers Market is getting out from under the majority ownership of Apollo Global Management. The bad news is that Apollo still has a large chunk of shares to unload. In essence, any investor has to consider the likelihood that the private equity firm will on any day sell the remaining shares limiting stock gains. 

Ultimately, the stock is valued on the strong fundamentals of fresh and organic foods combined with its better prospects for growth over competitors. The long-term growth story of Sprouts remains intact, regardless of whether Apollo continues to dump shares.

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