Adding Loblaw to short bias list
Canada’s largest grocer reported Q2 EPS of C$.74, C$.03 above consensus expectations, but down 27% from the prior year. Loblaw’s market division SSS grew 18.8% while the discount division SSS grew 4.9%, and drug SSS declined by 1.1%. Food retail SSS grew 10% while pharmacy SSS decreased 6.2%, and front end SSS grew 3.3%. The average food retail price increased by 4.6%. Gross margins in retail contracted 30bps, but on an organic basis contracted 90bps, driven by mix and front end drug store pressure. SG&A costs deleveraged 90bps due to higher operating costs. The company spent C$282M more in COVID-19 related costs, including C$180M related to temporary pay premiums. Operating margins contracted 190bps. Canadian grocery executives had to appear before a parliamentary committee about ending their employees’ pay premiums during the pandemic. Management said that COVID-19 costs have fallen from C$23.5M per week in Q2 to C$4.75M in July. Pandemic costs are not the only source of pressure. Loblaw will have to step up its e-commerce investments to accommodate the shift in demand. Walmart Canada announced this week that it would spend C$3.5B ($2.6B) over the next five years to better tie together physical and digital, with much of the capital going towards distribution centers. Walmart will also renovate more than 150 stores (400 total store base) over three years. While Loblaw’s food revenues are 50% larger than Walmart’s Canadian revenues, it will force a competitive response.
We are adding Loblaw to our short bias list. Loblaw will have the same difficulty lapping the sales benefit from COVID-19 that all grocers have, but it did not have the profit benefit. The consensus projects more than a snapback in earnings in 2021 with 17% EPS growth over 2019, which is too aggressive with competitive and inflationary pressures. Shares are also trading at a significant premium to other North American grocers that are not growing their store base.
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SAM’s Q2, Truly remarkable
Boston Beer reported Q2 EPS of $4.69 vs. consensus of $2.34. Revenue grew 42%, accelerating nearly 10% from Q1. Depletions grew 46% while shipments grew 39.8%. This level of growth is outstanding, but investors are well aware of the hard seltzer category off-premise growth of ~200-300% in Q2. 4% of the depletions growth was from Dogfish Head. Management said Truly was the only incumbent hard seltzer brand that did not lose share this year. Truly closed the share point gap by 15 points with White Claw. This is in large part because it was better able to overcome supply constraints to gain share against White Claw. White Claw is building its first own production capacity currently while Truly is looking to more than double capacity for next year. With the tremendous growth in the category, there is probably too much emphasis on market share when the better question is, what is the potential penetration? Management reinstated guidance with EPS between $11.70-12.70 compared to a consensus of $9.84. Depletions and shipments are expected to grow 27-35%, which seems conservative to us.
Margins showed some pressure from the high level of growth as gross margins contracted 350bps. With the company chasing demand, margins should probably be considered mostly in the context of when the hard seltzer category matures. Shares are trading at 45x the high end of this year’s EPS guidance, but probably below 30x on 2021 EPS power. Hard seltzer’s growth is truly remarkable, and we see multiple reasons that it will continue at a very high rate in 2021. At the same time, we consider half the business as mature and fully penetrated.
Discover card grocery trends report elevated spend in July (ACI)
Discover card reported card users spent 14% more on groceries in Q2 in line with growth in Q1, which captured both pre-COVID trends and stockpiling. So far, in July, the growth in groceries has remained up 14% as seen in the following chart from our Financials analyst Josh Steiner.
