Investors can't seem to agree on whether Kroger's (KR -0.39%) business rebound is gaining momentum or stalling. The stock has oscillated between big gains and significant losses compared to the broader market this year. That's notable volatility for a retailer that books well over $100 billion of annual sales.
Below, I'll take a closer look at why the investment picture looks cloudy right now, along with a few reasons to be cautiously optimistic about the supermarket chain's business.
By the numbers
Kroger's latest operating results left a lot to be desired. Yes, the retailer saw sales gains speed up to a 1.6% rate from 1.4% in the prior quarter. But investors had reasons to hope for a bigger bounce, considering chief rival Walmart notched a 4.5% sales spike and Target's 6.5% increase was its best result in more than a decade. Kroger's store shelf remodeling plans accounted for part of the underperformance, executives explained in a recent conference call, but the retailer still appeared to lose market share ground to its peers during the quarter.
Profitability wasn't encouraging, either. Kroger cut prices aggressively, which led to lower gross profit margin. The retailer spent lots of cash on priorities like increased wages and a bulked-up e-commerce offering, too. Altogether, these moves reduced operating profit margin to $549 million, or 2% of sales, from $684 million, or 2.5% of sales, continuing a long-term trend for the business.
It wasn't all bad news in this earnings report. Kroger posted a 50% spike in digital sales after blanketing the country with more home delivery services, for one. Its in-store brand portfolio, a major competitive advantage, also saw robust demand thanks in part to the extra pricing support. These Kroger franchises accounted for a record 27% of sales during the quarter and helped the company stand out against a sea of competition. Finally, the retailer says its shelf space shifts are beginning to lift revenue as customer satisfaction rises.
Together, these metrics show that Kroger's spending strategies are delivering results even though they're pressuring short-term sales and profits.
The key question now is whether Kroger's next few quarterly reports will end up showing improved momentum in those growth initiatives while demonstrating that the retailer isn't sitting out of the industry's faster expansion.
If you believe the management team, that's exactly what will happen. CEO Rodney McMullen told investors they can expect a clearer growth picture to emerge over the next few months and into fiscal 2019, one that shows how its shift into multichannel retailing is working just as it has for peers like Walmart. Kroger is earlier along in this process, after all, given that its rebound strategy kicked into gear only six months ago.
The chain's latest sales results aren't robust, but they also don't suggest that customers are abandoning it for other supermarkets. And Kroger's long history of steady market share growth supports the idea that it has durable competitive advantages it brings to the fight against Walmart and online-focused specialists, including price leadership and brand power.
Thus, it might just be a matter of time before the retailer returns to its modest but market-leading sales rates, followed by faster earnings gains. Investors willing to patiently watch that recovery play out might want to take a closer look at the stock, which is valued at 14 times expected earnings, a discount to rivals like Target and Walmart that are priced at 16 and 20 times profits, respectively.