Safeway Posts Q4 Earnings, Hints Possible Sellout

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Safeway Inc. (SWY) reported adjusted earnings per share (EPS) from continuing operations of 53 cents in the fourth quarter of 2013, down 10.2% year over year. However, the figure stood 6 cents ahead of the Zacks Consensus Estimate of 47 cents. Including the impact of certain one-time items like foreign currency translation, impairment of notes receivable and gain from the reduction of contingent consideration related to Blackhawk's acquisition of Cardpool, reported EPS for the quarter came in at 35 cents, half the year-ago EPS of 71 cents.  Full-year adjusted income from continuing operations was $1.10 per share, up 3.8% year over year.

3 Strategic Initiatives Including Possible Sellout

During the fourth quarter and fiscal earnings call, this supermarket chain also disclosed its desire to sell out its operations. However, as of now, Safeway has neither unveiled the potential buyer nor has it dropped any hint on the financial details of this possible transaction. According to the company, discussions are still on and the company is yet to reach an agreement. Safeway maintains that no conclusion should be drawn whatsoever about an agreement or complete transaction resulting from these discussions.

In addition, Safeway separately decided to distribute the remaining 37.8 million shares of Blackhawk Network Holdings (that it owns) to its shareholders. This distribution will be done on a pro rata basis and will be tax free. However, it the company ultimately divests its operations, the distribution will be taxable. The timing and details of this proposed distribution will be announced shortly. Notably, last year in April, the company sold nearly 11.5 million shares of its then majority-owned subsidiary – Blackhawk in an initial public offering (IPO).

Safeway also revealed its plans to monetize its investment in Casa Ley, the fifth largest food and general merchandise retailer in Mexico, where the company owns a 49% stake. Safeway is currently exploring suitable alternatives to sell its interest in Casa Ley.

These strategic initiatives seemingly boosted investors’ optimism driving up the share price of Safeway in after-market trading yesterday.

Quarter in Detail

Total sales inched up 0.71% year over year to $11.30 billion in the fourth quarter, marginally missing the Zacks Consensus Estimate of $11.49 billion. The weak top line was attributed to a 1.6% increase in identical-store sales (excluding fuel), offset by soft fuel sales. The shift to generic drugs in pharmacy business negatively impacted fourth quarter ID sales by about 20 basis points (bps). The 1.6% rise in Identical (:ID) store sales resulted from a similar 1.6% increase in price per item with flat volumes. For 2013, sales were $36.1 billion, flat with the year-ago period.

Gross margin in the quarter expanded 20 bps year over year to 26.5%. However, excluding the impact of 19 bps fuel sales and fuel partner discounts of 19 bps, gross margin declined 15 bps as benefit from investments in price, increased revenue from Blackhawk and increased shrink expense were offset by reduced advertising expense and increased LIFO income.

Operating and administrative expenses rose 24 bps to 24.51% of sales in the reported quarter. Excluding the impact of 33 bps from fuel sales, operating and administrative expense margin dropped 9 bps on the back of reduced self-insurance expense, reduction in fair value of contingent consideration related to the Blackhawk acquisition of Cardpool, and lower depreciation expense, partially offset by the $46.5 million gain from legal settlements in 2012. Nonetheless, operating margin declined 37 bps to 2.5% in the quarter.

Guidance

Safeway provided its fiscal 2014 guidance. The company expects adjusted EPS in the range of $1.15 to $1.35, way below the current Zacks Consensus Estimate of $1.60. Non-fuel ID sales growth is anticipated to be between 1.5%−2.5%. Operating margin is estimated to remain within negative 10 basis points to flat compared with the previous year.

Capital expenditure is envisaged in the band of $800-$900 million for 2014. Free cash flow guidance is forecast in the range of $625-$725 million.

Our Take

Safeway finally ended an eventful year. During the year, the company was in news several times due to the Blackhawk IPO, exit from the Canadian market, the decision to sell off its Dominic stores and exit the Chicago market by fiscal 2014, and its decision to voluntarily recall many of its products. Notwithstanding, the revelation of the three recent strategic initiatives including the likely divestment plan of its own operations clearly attracted all the attention of investors yesterday.

Amid a challenging macroeconomic environment, due to uncertainties related to unemployment rates, energy prices, difficulties in the banking and financial services sectors, and falling consumer confidence leading to reduced consumer spending, Safeway continues to experience poor ID sales. Moreover, the sluggish non-fuel ID sales growth guidance for 2014 failed to bring about any positive indication about an improvement in the economy.

Currently, Safeway retains a Zacks Rank #4 (Sell). Retail-supermarket stocks such as Carrefour SA (CRRFY), Etablissements Delhaize Fr (DEG) and Tesco PLC (TSCDY) are also expected to do well. All these stocks hold a Zacks Rank #2 (Buy).

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