LOOKING AHEAD TO 2005

JON SPRINGER

Analysts contacted by SN agreed the slump among supermarket stocks isn't likely to improve dramatically in 2005, but they were split over the severity of the industry's struggles.

Gary Giblen, director of research for C L King & Associates, New York, has a decidedly bearish outlook, likening the decline of conventional supermarkets to that of the U.S. steel industry. "The problem with supermarket stocks is that they've become a value trap: They look cheap, as if things can only get better, but they get worse, and I think that will continue in 2005," he said.

Giblen maintained the supermarket industry has failed to find solutions to many of its troubles, including labor ("Southern California has not been the success it was once thought"), sales ("Inflation didn't come to the rescue") and scale ("The big acquisitions have not worked out as planned").

"I hate to be so negative in my view, but things have changed. This time it really is different," he added. "It's as if we're in an inevitable decline like that of the U.S. steel industry, where you saw it decline year after year even though it seemed like things could only get better."

Not nearly as pessimistic is Mark Husson, analyst for HSBC Securities, New York, who maintained the recent difficulties encountered by supermarket companies are simply the downside of a "normal cycle" that can begin to improve along with the economy this year. He believes the era of heavy margin investments will wind down as consumer confidence returns, allowing supermarkets to re-emphasize aspects of convenience, quality and brand equity as price recedes in importance.

"There's lot of Old Testament stuff about seven lean years and seven fat years," Husson said. "We're just getting to the bottom of the lean years now. I think 2005 will be a better year -- not a great one, but a better one. I think we'll see a pickup in consumer confidence, a pickup in employment, and we'll see some price inflation as interest rates rise."

Analysts for the most part agreed things will look better in 2005, as the "big three" cycle the anniversary of the Southern California strike. They also expect to see cost savings having some effect.

"The comparisons will be easy. So on a GAAP basis, earnings will be up," said Andrew Wolf, an analyst for BB&T Capital markets, Richmond, Va. "I don't think that will be the case on an adjusted basis, but interpreting earnings is often in the eye of the beholder. Bullish people will be up; more cautious people will still be down.

"What will be unambiguous is that adjusted earnings will be down less in 2005 than they were in 2004 because some of the cost areas will be better behaved, particularly around labor," Wolf added. "I also think the inflationary environment will be a little more favorable. But overall, I'm not expecting 'up' earnings -- just that they'll be down less than they have been on an adjusted rate."

While the market may stay down on the supermarket industry, it may still attract value-minded investors, said Stephen Chick of JP Morgan, New York. "The stocks are trading vehicles," he said. "You can trade in and out of them, and if your timing is right, you can make money on that. Over the longer term, investors have to bank on which company gets it right first, and then time your entry point right. But it's tough to say when that point is going to be."