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Surviving Whole Foods In a Walmart World

Stocks in this article: WFM WMT SWY TGT SHLD KR

Organic food makes up about 4% of total U.S. food sales, placing it squarely in a niche category that other grocers can exploit, albeit especially Walmart and Target. Organic food products not only compete against other food products for shelf space, but more or less everything from aspirin to the windshield wiper fluid in Wal-Mart and Target.

Separating Safeway, SuperValue, Kroger, and Whole Foods Market from the kings of retail is how much additional floor space can be allocated toward organic foods. Growing sales and or margins will result in relatively greater space dedicated to organic foods until equilibrium is found.

WFM Profit Margin (Quarterly) Chart

In other words, outsized organic food margins will get squeezed until it's not advantageous for others to encroach further into Whole Foods' space. This is why the company lowered its guidance and will face headwinds moving forward.

That said, Whole Foods is positioned to remain the leader in the space, but what shareholders failed to realize before the earnings release is that a stock trading with a price-to-earnings ratio of more than 30 requires top- and bottom-line growth to support a rich valuation.

WFM PE Ratio (TTM) Chart

Using a forward P/E of 21 and $1.80 in earnings for 2015, we arrive at a stock valuation of $37.80. If you're buying Whole Foods for more than $38 this week, you're probably paying more than you need to. Whether the company can maintain a P/E more than 30% higher than its next highest valued competitor remains to be seen. As the organic sales leader enjoying fantastic consumer appeal, I believe a P/E is warranted.

Current and prospective shareholders will want to keep the three-day rule in mind as part of the decision process to buy or sell. When a company reports disappointing earnings and guidance, it normally takes a full three days before the proverbial "last white towel is thrown in" and the overriding selling pressure recedes. That places the sweet spot for buying this dip late on Friday or Monday next week. Don't expect more than a dead-cat bounce though. Stocks typically take at least one or two quarters of solid reporting to fully recover.

If you're interested in buying at a discount, you may want to wait a few days first.

At the time of publication, Weinstein had no positions in securities mentioned.

Follow @RobertWeinstein

This article represents the opinion of a contributor and not necessarily that of TheStreet or its editorial staff.

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