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Growth & Income

The Kroger Co. (KR - Analyst Report) recently delivered excellent results for the third quarter of 2011, driven by a stellar 5.0% increase in same-store sales.

Management raised its guidance for the remainder of the year off the strong quarter, prompting analysts to revise their estimates higher, and sending the stock to a Zacks #2 Rank (Buy).

As it generates strong free cash flow, management has been rewarding shareholders through stock buybacks and dividend hikes. It currently yields 1.9%.

Company Description

The Kroger Co. is the largest traditional grocery retailer in the country with 2,439 supermarkets in 31 states. It was founded in 1883 and is headquartered in Cincinnati, Ohio.

It has a market cap of $13.7 billion.

Third Quarter Results

Kroger posted excellent third quarter results on December 1. Earnings per share came in at 33 cents, beating the Zacks Consensus Estimate by 2 cents. It was a penny above the same quarter last year.

Excluding volatile fuel sales, sales rose 5%, driven by a stellar 5% increase in same-store sales. This marked the 32nd consecutive quarterly increase in same-store sales.

The gross margin declined 34 basis points year-over-year due to food inflation. But this was offset by a 29 basis point decrease in operating, general and administrative expenses as a percentage of sales due to operating leverage.

Outlook

Management raised its guidance for the remainder of 2011 following strong Q3 results. The company now expects to earn between $1.95 and $2.00, up from previous guidance of $1.85-$1.90.

This prompted analysts to revise their estimates higher for both 2011 and 2012, sending the stock to a Zacks #2 Rank (Buy). Analysts have also been raising their estimates over the last few days after Kroger and its workers' union agreed on a new pension deal, which is expected to be accretive to EPS in 2012.

The Zacks Consensus Estimate for 2011 is now $1.99, within guidance, and representing 13% growth over 2010 EPS. The 2012 consensus estimate is currently $2.20, corresponding with 11% EPS growth.

Returning Value to Shareholders

Kroger generates strong free cash flow, which it has used to return more than $1.8 billion over the last four quarters through share buybacks and dividends.

In the third quarter alone, the company spent $471.2 million repurchasing 21.0 million shares of stock.

And in November, Kroger raised its quarterly dividend by 10%. It currently yields a solid 1.9%.

Valuation

Valuation looks very reasonable for KR. Shares trade at just 10.8x 12-month forward earnings, a discount to the industry average of 12.9x, and a discount to its 10-year median of 12.4x.

Based on a 5-year EPS growth rate of 9.5%, it sports a PEG ratio of 1.1.

The Bottom Line

With rising estimates, solid growth projections, shareholder-friendly management and reasonable valuation, Kroger offers a lot to like.

Todd Bunton is the Growth & Income Stock Strategist for Zacks Investment Research and Co-Editor of the Reitmeister Value Investor.

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