Meet the Analyst Who Upgraded Whole Foods

Last week was not a pleasant time to be a Whole Foods Market (NASDAQ: WFM  ) shareholder.

On Wednesday, Whole Foods reported fiscal second-quarter earnings that missed analyst estimates on both sales and earnings. Compounding the disaster, Whole Foods management cut guidance for the full fiscal year. In response, investors did some cutting of their own -- lopping 19% off Whole Foods' market cap.

By the time the selling was over, Whole Foods shares were $9 cheaper than they had been prior to the earnings release. $3.3 billion worth of market cap, gone in a flash. And yet, for one bright analyst up on Wall Street, that just meant Whole Foods had become $3.3 billion cheaper to own.

Meet the analyst who upgraded Whole Foods
At last report, at least five separate analysts -- BMO Capital, Deutsche Bank, Sterne Agee, Piper Jaffray, and Jefferies & Co. -- were sufficiently spooked by Whole Foods' report to withdraw their buy recommendations. One analyst, Cantor Fitzgerald, went a step further and cut Whole Foods to "sell." But going against the grain, an analyst at Argus Research voiced another take on the quarter entirely -- and urged investors to buy shares of Whole Foods.

This contrarian suggestion quickly caught the eye of reporters at Barrons.com, who quoted the Argus analyst, Chris Graja, at length in a column on Thursday. A few excerpts:

  • "Despite management's initiatives to lower prices, we believe that a 12% growth rate remains achievable and an attractive driver of valuation."
  • "We expect comparable-store sales to grow ... We also expect WFM to gain market share. While more retailers are offering natural foods, the core shoppers are quality conscious. WFM has demonstrated its expertise in sourcing, presenting, and profitably selling high quality prepared foods, meats, cheese and produce."
  • "We expect gross margin to decline slightly, offset by improvements in the expense rate."

Logic check
So far, so good. While admitting the potential for lower gross profit, Argus is hoping that lower operating costs will offset that, and is still sticking with its original thesis that Whole Foods Market will grow earnings at about 12% annually.

I can't say I buy the idea that 12% growth is an attractive rate for a stock selling for 26 times earnings, and 36 times free cash flow, however. And the analyst's contention that Whole Foods should be bought because it has "excellent merchandising and a product offering that can not be easily offered on the Internet." That doesn't sound quite right.

We already know, for example, that organic foods are being "easily offered on the Internet" -- by grocery delivery services Peapod, by Amazon.com's new AmazonFresh service, by Harris Teeter, and even by Wal-Mart.

For a number of reasons, from convenience to saving money on gas to saving the planet, high-end shoppers are increasingly turning to Internet grocery services, and these may pose more of a threat to Whole Foods' business than Argus Research realizes. (Curiously, Whole Foods itself appears to recognize this threat, even if Argus' analyst does not. According to The Wall Street Journal, one of the things Whole Foods is looking at as a way to boost profit margins is offering an order-over-the-Internet grocery delivery service of its own).

And one more thing...
So far, we've covered why Argus' valuation argument doesn't seem to work -- even if the analyst is right in projecting 12% long-term profits growth. We've poked a hole in the argument that Whole Foods is somehow a unique brick-and-mortar retailer, and immune from Internet e-tail competition. But there's one final reason to look askance at Argus' recommendation to buy Whole Foods when everyone else is downgrading the stock: the analyst's record.

I recently came across a new service called TipRanks, which mines historical data on individual analyst recommendations, aiming to enable investors to "instantly see the track record and measured performance of any analyst you come across online, so you know who to trust!" As it turns out, TipRanks is familiar with Argus analyst Chris Graja's record --- and what it has to say on this score is not encouraging.

Over the course of 16 measured recommendations that Graja has made over the past two years, TipRanks notes that only 8 of the 16 -- 50% -- of the analyst's picks have successfully outperformed the S&P 500. Plus, the average return per recommendation for investors who've followed Graja's advice has been negative 4.5% across these multiple recommendations (in the year following any given recommendation). (Note: These numbers will vary slightly from day to day, as stock prices fluctuate.)

Result: TipRanks' proprietary formula for ranking investment analysts has Graja pegged at less than a one-star rating (out of five possible) -- a score that places him at No. 2,774 out of a field of 3,067 analysts ranked.

Long story short: If Graja is the only analyst out there who thinks Whole Foods' 19% drop in share price last week was good news... there may be a reason for that.

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Read/Post Comments (5) | Recommend This Article (12)

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment Report this Comment icon found on every comment.

  • Report this Comment On May 14, 2014, at 9:26 AM, DrDeVito wrote:

    Wow, pretty embarrassing article. Basing your argument on not owning whole foods because of one analyst with a bad track record upgraded it?

    News flash, very few analysts pick better than 50% and almost all of them are wrong in their predictions.

    Good job picking on one analyst like a 3rd grade bully though. Whatever helps you sleep at night...

  • Report this Comment On May 14, 2014, at 10:09 AM, StockPicks wrote:

    Actually, he states: "...at least five separate analysts -- BMO Capital, Deutsche Bank, Sterne Agee, Piper Jaffray, and Jefferies & Co. -- were sufficiently spooked by Whole Foods' report to withdraw their buy recommendations. One analyst, Cantor Fitzgerald, went a step further and cut Whole Foods to 'sell.'"

    So, it's one bad analyst going against the grain. DrDeVito, you are right that few analysts pick better than 50%, but I'm glad he posted Chris Graja's record. It helps with my analysis of what to do. I now want to see if the other analysts' records are just as bad or if they are more trustworthy! Ha!

  • Report this Comment On May 14, 2014, at 11:22 AM, TMFDitty wrote:

    Um... I think I also laid out a pretty clear case for why I (if not all Fools -- opinions here certainly differ) believe Whole Foods stock is too expensive.

    The analysis of the upgrading analyst's performance is just a quality check -- to confirm whether he has a record of seeing things more clearly than everyone else. It's not my intention to "pick" on anyone -- I'm just running down the numbers and seeing where they lead.

    TMFDitty

  • Report this Comment On May 14, 2014, at 1:00 PM, MutualFundMonday wrote:

    Fail on the response TMFDitty. Mentioning TipRanks was an attack on the analyst's credibility which served no real purpose except to reinforce your negative viewpoint on WFM. Also, I LOL'd at "We've poked a hole in the argument that Whole Foods is somehow a unique brick-and-mortar retailer." You did nothing of the sort except mention a few retailers. The WFM shopper will never shop at Walmart for organics as they do value the WFM experience.

  • Report this Comment On May 14, 2014, at 1:03 PM, MutualFundMonday wrote:

    OH and I'm a buyer below $39 like I was in AAPL below $400. Analysts much like journalists at fool.com are like lemmings, they jump on AFTER the fact when they should have downgraded before earnings. Anyone with half a brain knew the increased competition from Walmart and Kroger was going to hurt margins. Increased store openings, quality of the brand, and other factors will continue growth faster than the others in the grocery space.

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