Macquarie Warns Kroger Investors: 'Sell While You Can'

Macquarie's Bob Summers downgraded the rating on The Kroger Co KR from Neutral to Underperform, while lowering the price target from $33 to $27. "We believe the stock's rerating was not permanent and expect the multiple to contract given disappointing 4Q and FY16 same-store sales guidance. In our view, the valuation expansion was driven by the strength of same store sales and not the earnings growth algorithm," Summers explained. The analyst views the food retail sector as intensely competitive, mean-reverting and commoditized, demonstrating lower returns and high capital intensity. Summers believes that this does not justify sustained premium valuation. In addition, the substantial increase in CAPX is likely to pose a problem for the company. "Investors should also be cautious when operators focus on "tonnage," Summers cautioned. Kroger's 4Q comps came in below the estimate, significantly decelerating during the quarter. The company's FY16 guidance is also materially lower than the recent trends. "Regardless of management commentary, we continue to believe (and evidenced by stock price reaction) deflation is a negative," the Macquarie report said, while adding, "CAPX appears excessive and limits stock buyback which have been important aspect of achieving EPS growth target." The FY16 and FY17 EPS estimates have been raised, after adjusting for the acquisition of Roundy's.