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Is Kroger Stock a ‘Buy’ after Strong Q4 Earnings?

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Last week, Kroger (NYSE:KR) impressed investors with better-than-expected earnings for the fourth quarter of fiscal 2019, which ended on February 1. While the broader US stock market is in the red, Kroger stock has risen 10.5% YTD (year-to-date) as of March 6. In comparison, the S&P 500 and the Dow Jones have fallen by 8.0% and 9.4%, respectively, YTD.   

Kroger’s fourth-quarter sales rose 2.1% YoY (year-over-year) to $28.89 billion. Likewise, the company’s identical sales (or comparable sales), excluding fuel, grew 2.0%. The company’s fourth-quarter adjusted EPS increased by 18.8% YoY to $0.57. Kroger’s fourth-quarter earnings gained from a higher operating margin. Savings from the Restock Kroger initiative and a favorable comparison with the fourth quarter of fiscal 2018, which was impacted by growth investments, helped drive a higher operating margin.

Meanwhile, the company beat Wall Street’s sales and adjusted EPS expectations of $28.87 billion and $0.55.

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Was Warren Buffett right about Kroger stock?

Kroger stock rose 5.2% on February 18. Overall, investors reacted positively to the news that Warren Buffett’s Berkshire Hathaway bought about 19 million shares in the grocery store chain in the fourth quarter of 2019. The investment made Berkshire Hathaway one of the ten largest shareholders of Kroger stock.

Kroger’s better position under the Restock Kroger program and its valuation compared to its peers triggered Berkshire’s investment. The company’s recent results show the improvement in fiscal 2019. The comparable sales, excluding fuel, grew 2.0% in fiscal 2019, which was an improvement compared to 1.8% in fiscal 2018. Now, Kroger’s fiscal 2020 comparable sales guidance of over 2.25% growth shows that the company expects the improvement to continue.

Meanwhile, Walmart (NYSE:WMT) expects its US division’s comparable sales to grow by at least 2.5%, excluding fuel, in the current fiscal year. Target (NYSE:TGT) predicts low-single-digit growth in its fiscal 2020 comparable sales.

However, Amazon (NASDAQ:AMZN) and Walmart continue to threaten Kroger’s growth. In February, Amazon opened its first cashier-less grocery store in Seattle to expand in the grocery space. Also, Kroger’s significant investments in growth initiatives, including building automated warehouses, will likely put pressure on its profitability. The company has collaborated with British online grocer Ocado to build automated warehouses. The company expects the automated warehouses to be cost-efficient. The warehouses will ensure faster delivery and enhance Kroger’s omnichannel capabilities. In addition, the company’s digital sales grew 29% in fiscal 2019.

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Do analysts see more upside?

Notably, several analysts raised their target prices for Kroger stock following the fourth-quarter results.

  • Oppenheimer increased its target price to $34 from $30.
  • Scotiabank increased its target price to $36 from $30.
  • Telsey Advisory Group increased its target price to $33 from $29.
  • Jefferies increased its target price to $32 from $28.
  • J.P. Morgan increased its target price to $32 from $28.
  • Credit Suisse increased its target price to $33 from $30.
  • Guggenheim increased its target price to $37 from $26.
  • Deutsche Bank increased its target price to $31 from $28.
  • BMO increased its target price to $31 from $26.

Analysts’ recommendations

As of March 6, 55% or 12 out of 22 analysts had a “hold” recommendation for Kroger stock. Nine analysts had a “buy” rating, while one analyst rated the stock a “sell.”

Aside from building automated warehouses, Kroger’s strategic initiatives to fight intense competition in the grocery space include focusing on private brands. The company’s private brands, which it calls “Our Brands,” generated over $23.1 billion in sales in fiscal 2019. Last year, the company launched 758 Our Brands new offerings in fiscal 2019.

The company received a strong response to its “Simple Truth” natural and organic food and beverage brand. In fiscal 2019, the company started offering plant-based products under the Simple Truth brand. Also, the company expanded its pickup service to 1,989 locations and delivery facility to 2,385 locations.

As of March 6, Kroger was trading at a 12-month forward PE ratio of 13.5x. Currently, Kroger’s valuation multiple is lower than Walmart and Target’s multiples of 22.8x and 15.3x. Overall, analysts expect Kroger’s adjusted EPS to rise 7.8% to $2.36 in fiscal 2020. They expect a 3.7% and 7.7% rise in Walmart and Target’s adjusted EPS, respectively.

Kroger wants to enhance its profitability through productivity initiatives. The company generated costs savings of $1 billion in fiscal 2019. Kroger expects to generate another $1 billion in savings in fiscal 2020.

The average 12-month target price of $33.22 reflects an upside potential of 4% in Kroger stock.

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