Kroger (KR) Q3 Earnings Misses, Sales Beat; Narrows View

After delivering positive earnings surprises in the first and second quarters of fiscal 2016, The Kroger Company (NYSE:KR) succumbed to a negative earnings surprise of 2.4% in the third quarter. The grocery retailer posted quarterly earnings of 41 cents a share that missed the Zacks Consensus Estimate by a penny and declined 4.7% from 43 cents earned in the prior-year quarter. Given the deflationary environment, the Cincinnati-based company narrowed its fiscal 2016 earnings projection and provided a bleak outlook for fiscal 2017.

Management now expects adjusted earnings in the band of $2.10 to $2.15 per share compared with previous range of $2.10 to $2.20. Kroger now projects fiscal 2017 earnings per share growth to be below the low end of its long term growth rate target of 8% to 11%. The current Zacks Consensus Estimate for fiscal 2016 and 2017 stand at $2.15 and $2.29, respectively. Shares are down nearly 3.4% during pre-market trading hours.

Total sales (including fuel center sales and Roundy's Inc.) grew 5.9% to $26,557 million from the prior-year quarter and came ahead of the Zacks Consensus Estimate of $26,246 million, after missing the same in the past six consecutive quarters. Management stated that excluding fuel center sales, total sales rose 7.1%, while excluding Roundy's, total sales without fuel rose 1.6% in the quarter.

The company’s identical supermarket sales (stores that are open without expansion or relocation for five full quarters), excluding fuel center sales, grew marginally by 0.1% to $20,960 million, whereas including fuel center sales, identical supermarket sales edged down 0.2% to $23,526 million. For the final quarter, management anticipates identical supermarket sales (excluding fuel) growth to be slightly positive.

Operating income declined 7.6% year over year to $713 million, whereas operating margin contracted 40 basis points to 2.7%.

Other Financial Aspects

Kroger, which shares space with Whole Foods Market, Inc. (NASDAQ:WFM) , ended the quarter with cash of $362 million, total debt of $13,836 million, and shareholders’ equity of $6,630 million. Total debt increased $2,577 million from the prior-year period. The company's net total debt to adjusted EBITDA ratio jumped to 2.35 compared with 1.99 in the year-ago period.

Management projects capital expenditures – excluding mergers, acquisitions and purchases of leased facilities – for fiscal 2016 to be in the range of $3.6 to $3.9 billion.

Bottom Line

We believe that Kroger’s dominant position enables it to expand store base and boost market share. The company’s customer-centric business model provides a strong value proposition to consumers. The company is now providing ClickList and ExpressLane online ordering services in over 550 locations. However, intensifying price war among grocery stores to lure budget-constrained consumers poses concern.

Kroger, which operates 2,796 retail food stores, maintain a Zacks Rank #3 (Hold). Better ranked stocks include Hormel Foods Corporation (NYSE:HRL) and Target Corporation (NYSE:TGT) both carrying a Zacks Rank #2 (Buy). You can see the complete list of today’s Zacks #1 Rank stocks here.

Hormel Foods delivered an average positive earnings surprise of 6.3% over the trailing four quarters and has a long-term earnings growth rate of 9.6%.

Target delivered an average positive earnings surprise of 9.9% over the trailing four quarters and has a long-term earnings growth rate of 8%.

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