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Commentary

Whole Foods Shares Now More Attractive

The grocery store chain continues to report sluggish same-store growth, but the market is currently pricing in a too-pessimistic scenario, writes Morningstar’s Ken Perkins.

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We may slightly lower our $44 fair value estimate for narrow-moat  Whole Foods (WFM), but we believe the shares are starting to look more attractive after falling more than 10% following third-quarter results. In the mid-$30s, Whole Foods would be priced for 3% annual same-store sales growth and flat EBITDA margins over the next decade. Even if competitive pressures continue to weigh on gross margins (as we forecast), we still believe Whole Foods will continue to capture its fair share of the fast-growing organic/natural food segment of the market. Whole Foods should also be able to leverage a reacceleration in comparable-store sales growth, which would likely bolster optimism and push the earnings multiple (currently around 22 times fiscal 2015 earnings) higher again.

The market continues to remain concerned about Whole Foods' sluggish same-store sales growth, which increased 2.2% (excluding the timing shift from Easter and up 1.3% on a constant-currency basis) during the quarter. We were encouraged by the fact that traffic (up 0.5%) and average basket (up 1.7%) are increasing, even if the rate is slower than in the past, and we still think the market's near-term concerns are somewhat overblown. Same-store sales growth slowed in the last few weeks of the quarter, which management attributes to the New York City Department of Consumer Affairs' allegations that some products were mislabeled in New York stores. Overall, new stores (less than five years old) continue to generate very strong growth, while older stores have generated more sluggish results.

Ken Perkins does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.