Financial results for the 10 largest publicly-held chains during last year's second half were generally positive and ran true to expectations, but escalating utility prices could have a significant impact on results going forward, securities analysts told SN.
The analysts said most of the 10 chains were on upswings during the second half of 2000, with two very notable exceptions -- Albertson's and Safeway.
According to the analysts, Albertson's encountered a dip in its third-quarter results, prompting the company to shift its focus from basic integration issues to pricing and promotional strategies that it had largely ignored -- an ongoing challenge the company is currently dealing with -- while Safeway saw fourth-quarter results fall off when management's attention was distracted by a 47-day Teamster strike at the distribution center supplying its northern California stores -- an aberration that is already behind it.
Despite some peaks and valleys by individual companies, the Top 10 chains as a group did somewhat better in the second half of 2000 than they did a year earlier, with aggregate sales up 9.6% and operating income up 2.4%. However, comparable-store sales increased just 1.1% during the half, compared with gains of 1.9% in the same two quarters of the prior year.
The 10 chains included in the comparison were identical to last year, except for the substitution of Harris Teeter, Mathews, N.C., a division of Ruddick Corp., Charlotte, N.C., for Hannaford Bros. Co., Scarborough, Maine, which merged into Delhaize America last summer.
Debra Levin, an analyst with Morgan Stanley Dean Witter, New York, said the financial performance of the 10 chains was heavily influenced by the benefits of scale most of the larger players were experiencing. "Those companies have learned how to get synergies and use best practices to improve operating margins," Levin said.
Jonathan Ziegler, San Francisco-based managing director of Deutsche Banc Alex. Brown, New York, said second-half results were generally in line with expectations -- with the exceptions of Safeway and Albertson's -- while Ed Comeau, an analyst with Credit Suisse First Boston, New York, said overall results in the second half of 2000 were "relatively disappointing" at those two chains and at A&P and Winn-Dixie.
Looking ahead, Comeau said he believes overall financial performance among the top chains should remain relatively strong, although the increasingly competitive sales environment and growing expense pressures in labor and energy could make the first half of the year tough, "and some of the companies that struggled last year -- including Albertson's and A&P -- are continuing to struggle through the first half of this year."
Gary Giblen, senior vice president and director of research for C L King Associates, New York, said he expects good overall financial performances during the first half of 2001. "There's some weakening of consumer confidence and demand, but that won't hurt supermarkets -- and to some extent it should help the industry when consumers stop going to restaurants," he noted.
"The only negative factor looking forward is energy costs, and those will get passed on -- although there could be some short-term disruption if one company chooses not to pass the increases on immediately and uses that as a competitive weapon."
Ziegler said he expects good financial numbers in the first half of 2001, despite the ongoing softening of the economy. "The results should be really solid and should shine when compared with the rest of the economy," he pointed out.
"The only downside surprise could be the extent to which utility cost increases affect the profit-and-loss statement," Ziegler added. "There will probably be some lag before operators raise prices to cover any cost increases, but those increases are certain to accelerate this summer when airconditioners are turned on, and ultimately the industry will have to pass those costs on to customers, which will make same-store sales look better this year."
The energy problem is not limited to California, Levin said, with companies like A&P already citing higher utility costs in reporting their results. "And companies in California have typically signed forward contracts to hedge utility cost increases," she pointed out.
Levin said energy-related cost increases are likely to show up in the second half of 2001. However, she doesn't see a slowdown in the economy having much impact on consumer spending in supermarkets, "because any shift would mean meals away from home will decline, and if there's any real belt-tightening, that should benefit private-label programs."
Analysts commented on results at each of the 10 chains separately. Their comments follow:
KROGER CO., Cincinnati, with second half sales up 23.7%, operating income up 16% and same-store sales up 1.9% in the third and fourth quarters.
Giblen said Kroger was "Mr. Consistency. It turned the corner on the integration of Fred Meyer in the first half, then simply continued to pick up steam in the second half."
Levin said Kroger's integration of Fred Meyer continued to go smoothly during the half, with significant integration benefits being realized. "Those benefits should slow down somewhat going forward, but there will still be enough there to drive fairly healthy earnings growth of 16% a year," she said.
Kroger's results also benefited from "the terrific job it's doing competing with supercenters," Levin added.
ALBERTSON'S, Boise, Idaho, with second-half sales down 1.8%, operating income down 7.6% and comps down 0.2% for the third quarter and up 0.3% for the fourth quarter.
"Operations took a backseat to integration for most of last year as management focused on moving the integration of American Stores along at an accelerated pace, and in the process it lost some of its focus on how it positioned its stores on price and merchandising," Ziegler said.
He said Albertson's management was surprised by the integration bumps it encountered, "but things are changing now, and with the integration just about done, the focus is shifting back to operations, with the expectation that operating numbers will start to improve."
According to Levin, "Albertson's is still trying to figure out how to compete more effectively after letting prices rise and promotions weaken while it concentrated on integrating American Stores."
But even the improvement in comparable-store sales from the third quarter to the fourth had its downside, Levin added. "The increase lagged other major operators, and because Albertson's benefits from a higher percentage of pharmacy sales, which are growing faster than any supermarket department, it's clear that food comps are still fairly weak."
Giblen said Albertson's financial performance in the second half of 2000 reflected "the culmination of its integration strategy -- the final coming-home-to-roost of its faulty strategy in converting the Lucky stores to the Albertson's banner. Going forward, the challenges should get easier as management deals with more basic operational issues."
SAFEWAY, Pleasanton, Calif., with second-half sales up 6.5%, operating income up 7.3% and comps up 4.9% in the third quarter and 0.4% in the strike-impacted fourth quarter.
Although Safeway was hurt significantly by the fourth-quarter strike, "it did a terrific job driving operating margins," Levin said, "and for the year as a whole, it had very strong sales -- a trend that continued into the first quarter."
Safeway benefited from doing "a terrific job" at Randall's in Texas and Dominick's in Chicago, she added.
According to Ziegler, the impact of the strike was a major surprise, particularly in terms of fourth-quarter comps, "but by the time Safeway reported first-quarter results, things were back on the mend and the recovery was in place, so the fourth quarter can be looked at as an aberration."
Comeau said the strike resulted in higher expenses and lower same-store sales than Safeway had been predicting -- 1.9% without the impact of the strike, compared with the company's guidance of 3% or more, "which Safeway attributed to the fact management took its eyes off the ball during the strike," he said. "Overall, however, Safeway still outperformed the industry and showed strong results in a difficult environment."
AHOLD USA, Chantilly, Va., with sales up 53.2% following acquisitions of U.S. Foodservice and other food-service companies, operating income up 36.3% and comps up 2.9% and 3.9% in the third and fourth quarters, respectively -- comps that excluded the chain's Edwards stores in the New York metropolitan area, which were subsequently converted to the Stop & Shop banner.
Comeau said Ahold's retail stores showed significant market share gains in a tough environment. "Ahold enjoys a maturing store base, and issues that made some store groups problematic have apparently been resolved. So Stop & Shop continued to do well and Giant Food [of Landover] showed great traction."
According to Levin, "Ahold's supermarkets are doing a tremendous job with comparable store sales. They are benefiting from strong sales trends, particularly at Giant, whose comp sales were up 7.7% in the fourth quarter."
Levin said second-half results at Ahold also benefited from its food-service acquisitions, and the chain is beginning to utilize food service in its supermarket business, with prepared foods at Giant Food being supplied by U.S. Foodservice during the half.
WINN-DIXIE, Jacksonville, Fla., with sales down 7.3% -- reflecting in part the shutdown last spring of 112 underperforming stores -- operating income down 15.8% and comps down 2.8% in the first quarter and 3.9% in the second.
Ted Bernstein, an analyst with Grantchester Securities, New York, said Winn-Dixie is moving on so many fronts -- closing stores, centralizing purchasing and other administrative functions, streamlining personnel, reformatting and retrofitting stores, reducing inventory and rolling out performance-based incentives -- "that it's not surprising to see these results."
Last year was a transition year for Winn-Dixie, Ziegler said, "with the company still in disarray through the second half of the [calendar] year as it restructured its business and the ways it goes to market. But operating results were improving in the second quarter, even as sales were deteriorating, and the numbers should start to cycle and improve by the summer and we should begin to see a more measured pace of growth."
Levin said Winn-Dixie sales -- excluding discontinued operations -- picked up in the second quarter, "so the closing of unprofitable stores and the streamlining of management are beginning to pay off. The question that remains is, are the retrofits going to be effective? It's still too early in the process to answer, because Winn-Dixie had completed only about one-third of the retrofits by the end of the half."
Giblen said Winn-Dixie's results in the half "completed the easy, first phase of its turnaround, though it still faces grave challenges ahead to change its store base. But during the half it cut out grossly excessive costs that resulted from its archaic decentralized approach to buying and merchandising."
DELHAIZE AMERICA, Salisbury, N.C., with sales up 41.1% -- due in large part to the acquisition of Hannaford last summer -- operating income up 34.1% and same stores sales up 1% in the third quarter and 2.1% in the fourth.
Giblen said the second half at Delhaize America showed a solid performance, with the dip in profits reflecting more intensified promotional pricing. "Somewhat out of the blue, Delhaize said the competitive environment in the Southeast, which had been intense for a long time, had gotten so tough that it suddenly felt the need to invest some margin, and the result was it did get decent comps," he noted.
Ziegler said the strong fourth-quarter comps followed a slowdown in promotional activity. "Delhaize did strong promotions earlier in the year to win back some traffic, and it benefited in the second half from the traffic it built up," he explained.
A&P, Montvale, N.J., with sales up 4.8%, operating profits down 60.7% and comps up 1.4% and 2.8% in the third and fourth quarters, respectively.
A&P continued to struggle in the second half to absorb its restructuring costs, Levin said. "Its profits have historically been weak, but the good news is, the company was more effective in the fourth quarter than in the third in its ability to execute on promotions and drive sales," she said.
A&P has benefited during the first phase of its restructuring from closing its weakest stores, "and now it's redoing all systems and business processes in the second part of the restructuring, and management believes those benefits will outweigh costs by the end of the year to improve profitability," Levin said.
According to Bernstein, A&P is not getting the profitability it had anticipated from its investments in Project Great Renewal. "It's invested very heavily in new stores and has incurred additional expenses and debt on which it isn't getting a return yet, and its operating numbers are not really improving -- and the revitalization at Pathmark and the reformatting of Ahold's Edwards stores to the Stop & Shop banner is complicating the situation."
Giblen said A&P's transition period through Project Great Renewal "seems to be infinitely prolonged, and the second half was another period of treading water."
However, he acknowledged that A&P has taken some positive steps. "During the half it changed its strategy to reduce the number of new-store openings and to focus more on basic, less expensive ventures, but that was due to the lack of success that the new stores were having," he said.
PATHMARK STORES, Carteret, N.J., whose sales rose 6%, operating cash flow fell 7.5% and comps fell 0.5% for the third quarter and rose 1.1% for the fourth -- reflecting results in the third quarter, when it was still in bankruptcy, and the fourth quarter, when it had emerged.
Giblen said the Chapter 11 process was very distracting for Pathmark management, "but the new Pathmark is a vastly improved company, which became clear in the fourth quarter, which was a major breakthrough quarter because the company achieved positive comps even against a tough Y2K comparison and an operating cash flow margin of 5.5%, which was the highest it had achieved in several years."
Bernstein said Pathmark was able to hold things together very well during its bankruptcy, and following its emergence in September, "it's emerged as a much stronger company in the quality of its balance sheet, and its excellent management team has the company very well positioned to perform well going forward and to take advantage of the disarray in the Northeast, where A&P is weak, Grand Union has liquidated and Wakefern faces possible disruptions from the potential withdrawal of Big V -- all of which is working to Pathmark's advantage."
PENN TRAFFIC CO., Syracuse, N.Y., whose sales rose 5.4%, operating cash flow fell 9% and comps fell 0.1% in the third quarter and rose 2.2% in the fourth.
"Penn Traffic deserves credit for doing a very good job since coming out of Chapter 11 [in mid-1999]," Giblen said. "Joe Fisher [president and CEO] has done a fine job picking low-hanging fruit to achieve basic improvements in a lot of areas that had gone to seed, and the company did reasonably well in the second half."
HARRIS TEETER, Mathews, N.C., with sales up 3.1%, operating income up 7.8% and comps up 0.6% in the fourth quarter and 2.5% in the first.
Mark Husson, an analyst with Merrill Lynch, New York, said Harris Teeter had a disappointing peformance in the fourth quarter because it underestimated what consumers were looking for. "Harris Teeter considers itself rather above making investments in price and promotions, but that's what customers want and they were finding it elsewhere. So the company invested in price more aggressively during the first quarter to get comps going, and while sales improved, gross margins weakened."