Call me conservative. Call me blasphemous. Call me late for lunch. I still say Whole Foods
Lower price or not, a stock is only a bargain if the expectations priced into it are lower than your own estimates -- and there's a margin of safety. Whole Foods has neither of those.
From the horse's mouth
I'll start by comparing the expectations management outlined in its fourth-quarter press release to those Wall Street has built into the stock price today. Investing is about making a judgment about the future, and paying the right price for those expectations. I think the market has discounted too much of Whole Foods' value to the present. And even if the company can exceed expectations, there's no margin of safety built into today's price.
Management expects to generate $12 billion in sales by 2010. Opening new stores, increasing same-store sales, and acquiring new stores will help the company to meet that goal.
Acquiring Wild Oats Markets
That means Whole Foods will have to increase sales 16% per year, via both same-store sales growth and new store openings. The company is accelerating store openings to 10%, and management expects same-store sales to increase between 6%-8%, which makes meeting the sales goal is certainly feasible.
Unfortunately, at $45, I think the market is pricing in too much free cash flow growth for the sales growth Whole Foods expects to achieve.
Accounting for maintenance capital expenditures -- for which management thankfully provided insight -- Whole Foods' adjusted free cash flow margin was 4.3% in FY 2006. That margin must be maintained through 2007 in order to justify the current stock price.
I think maintaining margins will be tough for three reasons. First, management expects higher pre-opening expenses, because of the increase in store openings. Second, stock compensation will be pushing down the operating margin slightly. Lastly, competition should put additional pressure on margins.
Aren't competitors like Kroger
From today's price, the market expects that Whole Foods' adjusted free cash flows will grow at 20% per year for the next five years, and 15% for the following five. Don't get me wrong -- it's certainly possible, but I don't think it's probable. As such, there's no margin of safety in the current stock price today that would make it attractive for my investment dollars.
Don't shoot the messenger
I know I haven't written good things about Whole Foods before, but I assure you, I've got nothing against the company. I simply have to make the most rational decision I can about where to allocate my investment capital, and a fallen price doesn't guarantee a great bargain. I still need to put together a reasonable analysis and make sure that there is a margin of safety to protect me from myself. That's how I guard against the risk of losing money. Unfortunately, Whole Foods isn't a company I'd invest in today.
Fool retail editor David Meier is ranked 703 out of 25,169 in Motley Fool CAPS, and does not own shares in any of the companies mentioned. You can view his TMF profile here. The Fool takes its disclosure policy very seriously.