RealMoney Silver - Supervalu Is Exactly That

Supervalu Is Exactly That
By Bill Trent
RealMoney.com Contributor
7/11/2008 10:18 AM EDT

Given that the grocery industry is typically classified as noncyclical, nondiscretionary and defensive, Supervalu's (SVU) stock chart looks pretty scary. After reaching a high of more than $47 a share last year, the stock drifted down along with other grocers, then plummeted in late December and early January after it lowered its fiscal 2008 (which ended in February) earnings to a range of $2.91 to $2.97 a share before one-time acquisition-related costs. The original forecast was for $2.93 to $3.03 a share. The stock ultimately hit $26 in March.

Then shares of the third-largest U.S. grocery chain got a pop when the earnings came in at the high end of the new guidance range and the company issued favorable guidance for 2009.

When you cut through the noise, however, earnings estimates for the operator of the Shaw's, Jewel-Osco and Albertson's chains have been fairly stable over the last few months. The final tally for 2008 came in at $2.97, just a penny shy of the midpoint of the original range. Both the 2009 and 2010 estimates were raised a couple of months ago and have since been trimmed somewhat, but remain above the original levels. The company met or exceeded analyst estimates in each of the last four quarters.

So just get comfortable with the fact that earnings will be "about" $3.08 a share, which is the current consensus estimate for fiscal 2009. Incidentally, management's latest guidance is for $3.06 to $3.22 per diluted share on a GAAP basis and $3.10 to $3.25 on an adjusted basis when excluding one-time acquisition-related costs. With analyst estimates at the low end of the guidance range, the chance of further disappointments is reduced.

With earnings of "about" $3.08 a share, SVU shares are currently trading at a measly 10.2 times earnings. And if I have in mind that the earnings are "about" that level I might be less inclined to panic if they only come in at $3.00 or to become euphoric over a $3.15 number. The multiple would hardly budge in either circumstance.

That multiple looks especially low compared to Kroger's (KR) 15.2 times current-year earnings, or even the 12.9 times earnings at which investors value Safeway (SWY) .

It's true that the 2006 acquisition of Albertson's left Supervalu with a higher level of debt, relative to total capital, than Kroger or Safeway. The higher debt could explain Supervalu's lower valuation. But Supervalu slashed its debt by $638 million last year. At that rate, it won't take long for the company's capitalization to resemble that of its more conservative (and more richly valued) peers.

Supervalu accomplished the massive debt reduction by generating lots of cash flow from operations -- $1.7 billion, to be exact. Only $1.2 billion of that was needed to equip its stores, resulting in a free cash flow yield of 7.5% based on the current $6.7 billion market cap. As the debt load becomes more manageable, the reduction of interest payments will increase the cash flow further, and management will likely adopt a more even approach of returning this cash to stockholders as well as bondholders.

Analysts expect Supervalu to post annual earnings growth of 6% over the next three to five years, an estimate I think is reasonable. I also think the company can expand its price-to-book multiple to the 1.39 industry average over the same period, which would add another 10% annually, for a total annual return of 16%.

Seen another way, if the debt reduction continues, I see no reason the shares wouldn't merit the 13 times earnings accorded to Safeway. If the company earns "about" $3.30 a share in fiscal 2010, the math could work out to a $43 share price, or a 36% increase from the current level.

As long as they don't get too hung up on the day-to-day fluctuations in estimates, investors could find that Supervalu lives up to its name.