Kroger (KR) is on the Hedgeye Consumer Staples SHORT bench.



Kroger reported lackluster figures today, as the business continues to struggle through a deflationary environment, resulting in tighter margins and decreased ROIC; and adding to the headwinds are increased competition and continued pressure from their multiemployer pension plans (MPP). Kroger is in a position where they are destroying shareholder value with the hopes of moving the company and the brand forward. With sales, margins and returns all decelerating, the company is not adjusting to the new operating environment.  In addition, Kroger has its hands tied with its MPP’s which are increasingly impactful to the business. In order to add relevant value to the business, management will have to be smart in reallocating savings to value-added areas that improve the experience for consumers.


ID SSS came in at +0.1%, after trending at +0.5% near the end of the quarter, missing FactSet estimates of +0.5% and gross margin was 22.2% versus FactSet 22.2%. EPS was $0.41 for the third quarter, matching FactSet estimates. For the remainder of the year, the Company narrowed their EPS guidance to a range of $2.10 - $2.15 (excludes the $0.07 charge from 2Q), down from their prior guidance of $2.10 - $2.20.


The next big data point for the company will come when management outlines its official guidance for FY17.  Management has alluded that FY17 will be the second year in a row that it will not hit its long-term EPS guidance of 8-11%.  Without significant changes to the operating environment it will be difficult for the company to get the low end of the range over the next couple of years; if ever!   


Our bearish bias to KR is tempered by our bullish bias to the grocery retail space.  We expect the entire grocery space to trend upward as we enter a reinflationary environment. However, of all of the names in the space, Kroger faces the most fundamental issues, the most important of which is their multiemployer pension plan obligation, followed by their tightly wound business model. Their MPP obligation will continue to be a drag on the business, and there are many aspects of the financials that are not sustainable.  We will provide further detail of this in a more detailed note that is forthcoming. 



“It’s worth noting, over a longer time horizon we do expect our net total debt to EBITDA ratio to grow if we continue to successfully negotiate restructuring of troubled multiemployer pension plan obligations to help stabilize associates’ future benefits,” (Michael Schlotman, CFO).

HEDGEYE After taking their $0.07 EPS charge in relation to the restructuring of certain MPP obligations last quarter, the company appears to be giving us a heads up that there is more coming down the pike.


“When we take on additional debt to fund these obligations, this reduces the off balance sheet amount of estimated multiemployer pension plan obligation,” (Michael Schlotman, CFO).

HEDGEYE – Surprisingly, the Company provided much more MPP information than they have on previous calls. Such information further solidifies our SHORT bias.


“As expected, deflation persisted during the third quarter, and as we’ve said before, transition periods created a difficult operating environment. This is the third time we’ve had such deflation in 30 years and in previous instances, deflation lasted from 3-5 quarters in a row…We are in the middle of the cycle right now,” (Rodney McMullen).

HEDGEYE This statement mirrors the guidance provided prior to the call, with KR expecting the operating environment in the first half of 2017 to be “similar to today.”


On their approach to e-commerce: “Where we’re situated, our customers live within two or three miles of the store. They more regularly shop in. It’s extremely convenient for them to order online and make that stop by the store on their way to and from either work or daily activities,” (Michael Schlotman, CFO)

HEDGEYE When pressed on whether they would pursue home delivery, as some competitors have done, management did not take the bait. According to management, ClickList has allowed them to gain share while offering added convenience to their customers.



  • Revenue: $26.56B vs FactSet $26.33B
  • 3Q EPS:$0.41 vs FactSet $0.41
  • IDs (ex-fuel): +0.1% vs FactSet +0.5%
  • Gross Margin: 22.2% vs FactSet 22.2%
    • Ex-fuel: -5bps
    • OG&A: 16.7% vs FactSet 16.5%
      • Operating expenses ex-fuel: +19bps (15bps of this is related to depreciation increases in capital program)
      • Operating Margin: 2.7% vs FactSet 2.7%






Q4 Guidance:

  • Company expects slightly positive identical supermarket sales growth (ex-fuel).


FY16 Guidance:

  • Adjusted EPS $2.10 - $2.15 vs FactSet $2.13 (prior guidance of $2.10 - $2.20).
  • Expected capital investments $3.6B - $3.9B.


FY17 Guidance:

  • The Company is completing its business plan process for 2017 and will provide specific 2017 guidance in March.
  • KR anticipates both positive identical supermarket sales and net earnings per diluted share growth (excluding the 53rd week).
  • Net earnings will likely be below the low end of the company’s 8-11% net earnings per diluted share long-term growth rate guidance.
  • KR expects the operating environment in the first half of 2017 to be similar to today. The second half of 2017 should show improvement as the company laps current figures.
  • The Company is committed to achieving a net earnings per diluted share growth rate of 8-11%, plus a growing dividend.


Please call or e-mail with any questions.


Howard Penney

Managing Director


Shayne Laidlaw



Flowers Foods (FLO) is on the Hedgeye Consumer Staples Best Ideas list as a SHORT.



Slow business fundamentals, increasing lawsuit costs, and a looming DOL investigation are all headwinds currently facing FLO, and relief is nowhere in sight. As we expressed in our Sneak Peek note earlier this week (CLICK HERE), an increasingly competitive environment and slowing consumer demand have continued to take a toll on the business, and management has struggled to find a way to strengthen the brand through this difficult environment. They have committed to increase their own promotional activity to better compete and regain market share. Outside of bread, their cake business is being increasingly threatened by Hostess, and this pressure will not abate easily.


The company announced that it had settled one of its 23 lawsuits this quarter for a surprisingly low $1.25M.  We suspect that the company needed a “win” to shift the conversation away from a potentially catastrophic scenario.  Still, there is nothing in this announcement that changes our opinion of the potential issues the company faces.      


The lone bit of tangible progress seen this quarter was the company’s completion of the first phase of Project Centennial, which included a comprehensive diagnostic evaluation of opportunities to reduce costs, drive growth, and strengthen the brand’s competitive position (Phase two of the project began in mid-October). Management has yet to quantify the savings but did enlighten us on some buckets they are focusing on; reducing indirect costs, network optimization and the potential for SKU rationalization are top of mind. Management also spoke to wanting to reinvest and drop some to the bottom line. Given that FLO is already a pretty lean structure, we feel that dividing the cash amongst too many buckets could limit its positive effects, but that remains to be seen.


However optimistic they are about Project Centennial, the legal headwinds seem to have stumped management, as they have no idea of possible effects going forward and were unable to provide listeners with any details on how litigation will affect the business in the near future.


The company missed on all major categories, reporting Direct-Store sales of $768.9M vs Consensus $769.1M, with volume down -2.1%. Sales from warehouse operations came in at $149.8M vs Consensus $151.7M and adjusted operating income was $67.5M vs Consensus $71.6M.


We continue to stay firmly SHORT FLO in our Position Monitor.



“While we are pleased with the performance of Dave's Killer Bread, which continues to gain share as America's #1 organic bread brand, our results in the third quarter were affected by challenging category dynamics and elevated marketing and legal costs,” (Allen L. Shiver, CEO)

HEDGEYE DKB is a distraction and will never be a reason to buy the stock.   


“If you look at legal costs year over year, I’d say obviously they’re up fairly significantly. It’s hard to project how they turn out as we continue with the litigation that’s before us, so to sit here today and try to say if they’re more elevated than they will be in the future or I mean that’s hard to predict. All I can say is they are elevated compared to the prior year…We continue to monitor each case and at this point not taking any further reserves in terms of what we committed for the Connecticut case. We do continue to monitor each situation and will act accordingly when we think it’s best.”

HEDGEYE – Management is unable to provide any significant information regarding future legal costs, or what to expect from any pending settlements. This does not bode well for future profitability.


“Generally, when you look at our internal expectation, I’d say we continue to see downward pressure on our core business and that’s the primary driver of where we want to perform better. We think we should be performing better, we just continue to see overall pressure on our core brands. We’re very pleased with our non-retail and warehouse segments, and cake has been slightly down with the brand as well.”

HEDGEYE As we touched on earlier, the core business is taking the biggest hit and management is hard-pressed to find a solution that will create meaningful growth for that part of their business.


In response to a question about how much commodity inflation to expect: “Obviously we haven’t given guidance for 2017, but as you look at it overall, in 2016 there was a nice tailwind; commodities and all input cost seems to have stabilized somewhat now as we progress through the year. So as we move into 2017, while we expect some important benefits, we’re not expecting tremendous tailwinds like we saw in 2016,” (Allen L. Shiver, CEO)

HEDGEYE Management expecting commodity prices to normalize and this could hurt the business if things continue the way they have. 



EPS: $0.21 ex-items vs FactSet $0.21


Revenue: $918.8M vs FactSet $920.5M


Adjusted EBITDA $101.7M vs FactSet $104.8M


Net Sales:

  • Direct-store: $768.9M vs Consensus $769.1M
    • Volume (2.1%)
    • Price/mix +1.1%
  • Warehouse $149.8M vs Consensus $151.7M
    • Volume +2.8%
    • Price/mix (1.3%)
  • Adjusted Operating Income $67.5M vs Consensus $71.6M
    • Direct-store $66.3M vs Consensus $69.3M
    • Warehouse $12.3M vs Consensus $12.9M
  • Adjusted operating margin 7.3% vs Consensus 7.8%




Although management reaffirmed their guidance range, they noted that they were trending towards the low end of the range across all metrics and remain cautious going forward. Looking to 4Q and 2017, FLO will be faced with a higher level of legal expenses, increased marketing expenses to strengthen core brands and grow DKB, as well as a lesser or non-existent benefit from input costs, which was a strong tailwind 2016.

  • Company reaffirms EPS $0.90 – $0.95 vs FactSet $0.91
  • Revenue $3.930B vs $3.986B vs FactSet $3.93B
  • EPS Guidance: $0.88


Please call or e-mail with any questions.


Howard Penney

Managing Director


Shayne Laidlaw



Whole Foods Market (WFM) is on the Hedgeye Consumer Staples Best Ideas list as a LONG.



WFM reported 4Q16 results last night that provided the glimmer of hope that we were looking for. While deflation, competition and lackluster consumer demand remain headwinds for the company and the industry overall, WFM’s improvements to the business to offset the macro seem to be resonating with core consumers. And from a macro perspective the deflation story seems to be bottoming as well, as management commented on a relatively flat commodity environment in 4Q16 with some items being inflationary, namely farm raised salmon and a couple of produce items, with Avocados being on the top of that list.


SSS declined -2.6% in 4Q16, dragging the two-year average down 75bps sequentially to -1.4%. Breaking down the comp, transactions declined by -4.2%, representing a 150bps decline in the two-year average, while change in basket size improved to +1.6%, representing an 80bps increase in the two-year average. Although the improvement in basket size is encouraging and shows strength with their core consumer, the reduction in transactions remains troubling as their efforts have yet to make a meaningful impact on the fringe consumer. In 2017 they have much more planned from a marketing and price investment perspective and we are looking to see this number improve.


Margin performance was a highlight of this quarter as gross margins declined just 36bps to 34.1% beating consensus expectations of 33.4%. EBITDA margins were also stronger than expected coming in at 7.9% versus consensus expectations of 7.2%. Looking into next year, WFM management expects operating margin declines of up to 60bps with greater declines in the first half of the year due to higher YoY pre-opening expenses in 1Q and marketing expenses in 1Q and 2Q. EBITDA margin in FY17 is expected to be 8.2%, which is in line with current consensus estimates.


WFM also made transformative changes to their executive team, with the big news being the removal of the co-CEO structure. Walter Robb will step down as co-CEO but remain on the Board, while John Mackey will become the sole CEO of WFM. EVP and CFO Glenda Flanagan (age 62) will also be stepping down as CFO as she plans to retire at the end of the calendar year.



“We continued to make selective investments on key items to narrow pricing gaps while offering strong weekly deals, which were supported by the continuation of our enhanced ad campaign…We also successfully launched our new affinity program in the Dallas/Fort Worth metro area.” (John Mackey, WFM CEO)

HEDGEYE – Turning consumer perception is a slow process that will take time.  


“…Reduce expenses by a $300 million run rate by the end of fiscal year 2017. We are pleased to report that as of year-end, we were more than 50% of the way towards our goal. The biggest reductions to date have been achieved through various labor savings measures, including evolving our marketing and HR functions from a store to metro model, reducing buying positions as we transform purchasing operations.” (John Mackey, WFM CEO)

HEDGEYE – Cost cutting is a necessary action to offset price investments.


“We just still think it’s really too early to give long term projections on 365. Our results have been a little bit mixed, some of the results have been absolutely blowing us away and others have been a little bit less than we had hoped for, so we’re still incredibly bullish.” (John Mackey, WFM CEO)

HEDGEYE – 365 appears to need some more work before it is deemed successful.


“We’ve been continuing to expand our partnership with Instacart. A big part of the year-to-date has been around expanding zip codes in existing markets.” (Jason Buechel, WFM CIO)

HEDGEYE – Delivery is the future of food and WFM seems to have a good partner to grow with.  



  • Sales growth of 2.5% to 4.5%
  • Comps of -2% to 0%
  • Ending square footage growth of approximately 6%, reflecting approximately 30 new stores, including up to six relocations and four 365 stores
  • Diluted EPS of $1.42 or greater, excluding any potential share repurchases
  • EBITDA margin of approximately 8.2%
  • Capital expenditures of 4% of sales
  • ROIC of 11% or greater


Please call or e-mail with any questions.


Howard Penney

Managing Director


Shayne Laidlaw



EVENT | Whole Foods (WFM) Black Book

Thursday, September 15th at 1:00PM ET

Watch live below.

CLICK HERE to access the associated slides.

CLICK HERE to access the audio-only replay.

EVENT | Flowers Foods (FLO) Black Book

Tuesday, August 9th at 11:00AM ET

Watch a replay below. 

CLICK HERE to access an audio-only replay.




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