Who is Kroger?
Source: Kroger
Kroger ($KR) is a retail chain that is the largest supermarket in the United States in terms of revenue. They were founded in 1883 by Bernard Kroger and have since expanded to employ over 400,000 workers. Some of the most prominent companies are Food 4 Less, Dillons, Fred Meyer, and Ralphs. While these are some of their big names, they also own many smaller companies like Harris Teeter and QFC. Kroger makes their money on the margins that their customers pay for the products in their store. On top of that, they also sell many Kroger branded groceries within their stores. The company is well adapted, and management has proven to be willing to change. They started grocery deliveries and have been experimenting with drone deliveries. How does all of this affect their financial statements?
The value of Kroger is in the aisles
AP Images / LM Otero
There are many different ways to invest, and each of those ways will value a company differently. Some popular forms of investing would include value, momentum, growth, and so on. If you are interested in purchasing KR stock, you’re more than likely doing it as a value play. There are many aspects to look at when value investing. For the sake of Kroger, we’ll call them the aisles of value. Today we’ll take a stroll down three of these aisles, revenue growth, EBITDA growth, and free cash flow. Revenue growth is significant because it is key that displays a company that is expanding. That expansion could be through acquisitions, new products, or decreasing margins. While revenue shows you sales generated, EBITDA shows net income plus expenses. If you aren’t familiar with EBITDA, it stands for earnings before interest, tax, depreciation, and amortization. This power statistic gives us a look into the manager’s efforts to generate cash. EBITDA is important because it displays a better image of how the company generates cash and creates profits. Lastly, value investors like to analyze free cash flow (FCF). FCF is essential in providing a business the opportunity to capitalize on opportunities. This is particularly important for investors because it helps generate returns. Generating FCF also helps management drive revenue and EBITDA growth.
Aisle 1: Revenue Growth
When looking at value, I usually like to go 8 to 12 years back if that financial information is available. In the chart below, we look at Krogers fiscal year from 2010 leading to 2020. The chart demonstrated gradual but consistent growth over the ten years. For reference, in 2010, they had revenue of $76.61 billion, and in 2020 they had $122.27 billion. On average, they grew revenue at a rate of 4% annually. In terms of revenue, this checks out as long-term revenue growth shows consistency alongside moderate growth year-over-year.
Aisle 2: EBITDA Growth
On aisle two, we find EBITDA. Typically value investors want to see EBITDA grow steadily with revenue. This is the case for KR stock, as the chart below shows. Growth here seems a little less consistent but still following a similar trend to revenue. It looks more all over the place due to years 2010 and 2011, but take those away, and the chart begins to look remarkably similar to revenue growth. The average growth rate for KR EBITDA is around 3.2% which is just slightly less than revenue growth.
Aisle 3: Free Cash Flow
Cash flow from operations (CFO) shows an excellent number for a grocery retailer. In 2020 they announced a CFO of $6.8 billion. A year prior, CFO was $4.7 billion, an enormous growth that should be explained. In their 2021 10K filing with the SEC, they reported accrued expenses of $416 million in 2018 to $302 million in 2019. In 2020 they reported a massive increase to $1.4 billion. This explains the $2.1 billion increase from 2019 to 2020 in CFO. If we subtract $1 billion from the accrued expenses and use $1 billion from CFO to pay off those expenses, this brings their accrued expenses to around $400 million and CFO to $5.8 billion. These two numbers seem far more in line with what Kroger has reported on their financial statements in the past. It’s important to do this because, as value investors, we want to estimate future cash flows, but using growth from 2019 to 2020 in cash flow will misrepresent our expectations. This could lead us to pay a price higher than we would like, had we not adjusted for that outlier.
So what is Kroger worth
Source: Getty Images
In this newsletter, we looked into three key aspects that revolved around value investing. There is much more that would go into valuing a company than just these three pieces of information. Warren Buffet, one of the best value investors of all time, would not consider this company unless he understood how their business made money, how their management leads the company, and probably analyzing its likelihood of being around for 30 or more years. These are some other considerations to take into account before plugging the numbers into a discounted cash flow model (DCF). If all the boxes checked out, you would be ready to plug these numbers into your DCF. Depending on the other variables you used to get your results, you would find that this company would be valued near $40-50 per share in the next ten years. For our DCF, we valued the company at $42.14 in 10 years. At the current price of $35.82, this would generate a 15% return. Depending on if you were more or less conservative than our valuation, you may consider adding this company to your portfolio. Regardless of your decision, remember to read our exciting disclosure and do your research!
The Exciting Disclosure: This is not investment advice, and we do not pick or recommend any stocks to buy. All research is done for educational purposes, and each person should do their research to decide on where to put their money.
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