The traditional grocery business these days appears to be a zero-sum game, with the three big players, Kroger (NYSE:KR), Safeway (NYSE:SWY), and Albertsons (NYSE:ABS) desperately trying to hold on to share and profitability in the face of a relatively flat market and stiff competition from discount giant Wal-Mart (NYSE:WMT) and warehouse club operators Costco (NASDAQ:COST) and BJ's (NYSE:BJ). The problem is that none of the traditional grocers are making headway on share, while price competition continues to erode margins.
Safeway reported first-quarter results this morning, a mixed bag of improved sales and earnings compared to a strike-affected Q1 last year, and caution about results for the second quarter. Total revenues increased 12% to $8.6 billion. Comparable sales were positive for the quarter, up 4.4% excluding strike-affected stores. Factoring out higher fuel prices and the Easter holiday shift, it reported a closer read on comparable sales to be in the range of 2%.
Earnings per share were $0.29, greatly improved from the strike-affected earnings last year, and better than First Call consensus estimates by $0.04 per share. Safeway gave cautious second-quarter guidance, saying it expects EPS in the second quarter to be similar to first-quarter results, due to the timing of the Easter holiday and heavier marketing investments. The Street had been expecting the second quarter to come in around $0.34, very close to what the company reported during the second quarter last year, and sent stock down just over 6% in early trading.
Safeway is clearly regaining some of the lost sales from the strike in California last year. On the call, management indicated it expects to return to pre-strike sales levels in early 2006. It is also driving hard to improve the shopping environment, upgrading the fresh areas of the stores including the meat, produce, and bakery departments, and offering higher quality prepared meals and organic foods in its remodeled "lifestyle" format stores. By the end of 2005, the company estimates it will have converted 25% of its 1,802 stores to the upgraded format.
I have no doubt these are all the right moves for the company to be making. The fresh and specialty food departments are really the only place to go when you're caught in the middle between rock-bottom prices from the discounters on the one hand, and the upscale specialty food offerings from Whole Foods Market (NASDAQ:WFMI) and Wild Oats Markets (NASDAQ:OATS) on the other. Perhaps there will turn out to be a successful middle ground here.
The specialty grocers are showing that quality and variety are making a comeback. Anyone who doubts this should check out the crowds at the HEB Central Market stores in Dallas or Austin on a Saturday morning. Safeway is showing signs of making the transition, but until one of the traditional grocery players can demonstrate they have cracked this code, I remain cautious on the industry as a whole.
One glance at the charts for Safeway, Albertsons, and Kroger tells the story of the last five years. It isn't pretty.
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Fool contributor Timothy M. Otte avoids packaged foods like the plague. He lives in Atlanta and welcomes comments on his articles. He owns shares of Wal-Mart, but none of the other companies mentioned in this article.
