Stock Values

Today's story is not just about a really, really good value, it is about SuperValu - a company with a 135 year history in the food business. They are the wholesale supply chain for over 5,000 retail stores around the country in addition to servicing their own network of another 2,500 stores, many with pharmacies.

Most of SuperValu stores, as the name suggests, cater to the penny pinchers, but the company is also no stranger to the mainstream and luxury food segments. People across the US will easily recognize their bigger and more national store brands: Albertson's and Save-a-lot. But they also own the extremely popular regional store brands like Shaw's, Acme, Shoppers and Cub's Foods and even the popular niche brands, like the exclusive Bristol Farms in southern California and the warehouse style bigg's (with Walmart like selection of goods), around Cincinnati, Ohio.

As far as food goes, SuperValu covers the full range from private brands to wholesale distribution centers and store delivery to retail sales. Being able to control the entire supply chain gives SuperValu many of the same advantages that their #1 competitor in food sales - Walmart enjoys. On the other hand, different concept stores and vastly different store sizes, across the company's store brand portfolio, allow them to tailor store offerings to specific regions and neighborhoods, as well as to place many stores closer to the consumer – a significant advantage in the densely populated urban areas.

I should also mention that not every Albertson’s out there is owned by SuperValu. In many markets, Colorado being one of them, SuperValu licenses the Albertson’s brand to Albertson’s LLC, which then runs and operates these stores. Many of the Save-a-lot stores are also not company owned, but are individually licensed. All in all, this is a smart business model, with SuperValu not only deriving revenue form licensing, but also further increasing their economies of scale. It also shows that the company can be flexible in adjusting their strategy to fit heir needs, which is of extreme importance during the tough economic times.

Another demonstration of management’s flexibility is SuperValu’s history of acquisitions (some more successful than others) always focused on expanding the enterprise, but not at the expense of corporate profitability. The few misplaced stores like bigg’s in Colorado and Indiana were closed.

The difficult acquisition of the struggling Albertson’s Inc. almost three years ago by SuperValu, CVS/pharmacy, and Cerberus Capital Management was perhaps the best demonstration of management’s ingenuity. In the Albertson’s, Inc. acquisition, SuperValu management was able to carve out the right store locations for themselves and executed their acquisition as well as could have possibly been expected. Management also made two very smart moves:
1. The bringing back of the very well liked Lucky store brand in southern California.
2. The keeping of Albertson’s Boise headquarters operation intact during the three year transition period.

The first of these is self-explanatory, while the second can only ever be truly understood by people who have both been to Boise and gone through a similar sized acquisition. In any case, saving the Boise headquarters is what made this acquisition work, as it enabled continued logistics and automation technology development, prevented sabotage and saved lots of grief. However, next quarter I expect to see a large downsizing in Boise, which would help maintain corporate profitability.

Speaking of profitability, the company is extremely profitable at 3.2 x 2008 EBITDA. It also pays a nice 5.5% annualized quarterly dividend, though this quarter’s dividend has already been paid. Looking ahead, earnings outlook looks very solid. If the economy softens further, as I expect it will, SuperValu (with its major focus on super savers) will be much better positioned than the #2 food retailer, Kroger to keep its market share.

For this reason, I expect both Walmart and SuperValu to make some inroads into Kroger’s loyal customer base over this and next quarter and for Kroger to respond by lowering prices, substantially impacting their margins. This makes Kroger current relative market valuations extremely optimistic and highly unlikely to persist going forward. The similarly richly valued Walmart, may not be the stock to fall in love with right now, but at least it is much less likely to disappoint when management announces the next set of quarterly results around Valentine’s Day.

Of course, the reason SuperValu is trading at 1/3 the valuation of its competitors is that there are unique risk factors associated with this stock. Debt is one of them, but don’t you fear about that says Vitaliy Katsenelson of Contrarian Edge. In his words: “Macy's just announced that they were able to refinance their debt. Macy's has more debt than SVU, but its products are LOT more discretionary and their cash flows are less stable. We don’t believe, in light of Macyʼs news, that rolling over debt will be an issue for SVU. But even in the worst case, SVU should be alright. Here is why: SVU has $700mm of debt coming due next year. SVU has a credit line of $1.3b that it can use to pay it off, if they cannot rollover that debt. In 2010-2011 they have another $2b coming due. SVU generates about $1.6-$1.7b of operating cash flow a year. Maintenance CAPEX is about $330mm, the rest of CAPEX is semi-discretionary. Management indicated that it will push off remodeling and opening new stores if debt rollover becomes an issue.” Vitaliy, I concur.

Another reason to worry is the potential tarnishing, diminishing and mismanagement of the Albertson’s brand name by Albertson’s LLC. Albertson’s LLC to this day is owned by Cerberus, which has made plenty of serious mistakes over the past couple of years, most infamously related to Chrysler. However, many of their actions have also had a direct effect on the ubiquity of the Albertson’s brand, as they quickly closed and sold hundreds of the acquired Albertson’s stores, including multiple closings in Texas, Colorado and Arizon, the sale of all 132 of northern California and northern Nevada locations to Save Mart, the sale of all 72 Albertsons Express fuel centers to Valero and most recently the sale of 49 Florida State Albertson’s to Publix. It is my contention that, while it would be painful for SuperValu to see Albertson’s LLC sell their remaining couple hundred Albertson’s branded stores to third parties, this would only minimally affect SVU’s profitability.

Dismissing the above concerns as being overblown, I bit the bullet and purchased SVU shares at $12.46 on Tuesday, December 23, 2008.