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Industry Stocks Up In 2010

NEW YORK Supermarket stocks have finally started to catch up with the rest of the market, despite fears of a new price war with Wal-Mart and lingering economic uncertainty. After a dismal performance in 2009, the share prices of the big three Kroger Co., Safeway and Supervalu not only saw strong gains in the first quarter, but they also outpaced both the S&P 500 and the Dow Jones Industrial Average.

NEW YORK — Supermarket stocks have finally started to catch up with the rest of the market, despite fears of a new price war with Wal-Mart and lingering economic uncertainty.

After a dismal performance in 2009, the share prices of the “big three” — Kroger Co., Safeway and Supervalu — not only saw strong gains in the first quarter, but they also outpaced both the S&P 500 and the Dow Jones Industrial Average.

Minneapolis-based Supervalu leads the pack with a gain of about 30% year-to-date, followed closely by Pleasanton, Calif.-based Safeway at nearly 25% and Cincinnati-based Kroger at just under 10%.

Those gains compare with increases of less than 5% for both the S&P and the Dow, and have come amid warnings from some analysts that the industry is in for a tough year as Bentonville, Ark.-based Wal-Mart becomes more aggressive in its grocery pricing.

However, Karen Short, a New York-based analyst with BMO Capital Markets, Toronto, recently raised her share-price targets on both Safeway and Supervalu, citing both the potential for an improving economy and the industry speculation that Supervalu could be a target for a leveraged buyout.

“We acknowledge that the easy money has been made in the stock,” she wrote in a report. “However, we see continued upside to the stock based on No. 1, our expectation that the consumer environment will improve throughout Safeway's fiscal year 2010; No. 2, our estimate for lower deflation/moderate inflation by 2010 year-end, and No. 3, our estimate on the value of Safeway Canada,” which she said she believes should be sold.

In addition, she cited the fact that Safeway trades at a lower multiple than Kroger, even though Safeway appears to have some advantages in terms of its higher EBITDA margins and its lesser exposure to competition from Wal-Mart.

Her detailed analysis of Safeway's Canada division, based on data revealed in Safeway's annual report, values that operation at about $12 per share. She estimates that the division, which operates in Western Canada, generated $580 million in EBITDA on $6.7 billion in revenues in fiscal 2009, for an 8.7% EBITDA margin.

Deborah Weinswig, an analyst at Citigroup, New York, takes the opposite stance on Safeway, however, and rates the stock at “Sell/High Risk” in a report issued late last month.

“The food retailing industry currently faces food deflation, as well as fierce competition from the discounters and clubs, which could lead to pricing pressure,” she said. “We believe Safeway has the most exposure to these trends in light of its premium prices and product offerings.”

Other analysts note that indications that deflation may be easing, leading to some top-line gains for food retailers, could be driving the renewed investor interest in the sector.

In addition, most of the stocks lagged the market overall in 2009, making them more attractive as investors expand their search for buying opportunities.

It's not clear whether the rise in Supervalu's stock, meanwhile, is driven by performance expectations or by the buyout talk.

Short of BMO Capital Markets raised her share-price target on Supervalu last month, but noted the upgrade was based only on the possibility of a buyout.

Other industry stocks that have seen double-digit year-to-date gains include Matthews, N.C.-based Ruddick Corp., parent of Harris Teeter, which saw its stock rise about 20% in the first quarter, and Austin, Texas-based Whole Foods Market, up about 35%.