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One of the leading grocery chains in US, Safeway Inc. (SWY - Analyst Report) recently declared its fiscal 2012 financial guidance. The company expects to earn $1.90–$2.10 per share in 2012, surpassing the Zacks Consensus Estimate of $1.83. Notwithstanding the prevailing difficult macroeconomic condition leading to anticipated decline in sales volume, the high EPS expectation was on the back of several cost reduction initiatives on the company’s part, which may lead to operating margin improvement.

Also, the company expects a high level of share repurchase activity in 2012 that will likely lead to bottom-line improvement. However, despite the impressive EPS outlook, shares of Safeway fell 5.4% to $20.89 with the anticipation of modest 2012 identical-store sales, excluding fuel.

For 2012, the company expects identical-store sales, excluding fuel, to rise in the range of 1–2%. Operating profit margin change, excluding fuel, is expected to range from positive to negative 5 basis points (bps). The company also expects around $900 million in capital expenditures in 2012 with free cash flow in the range of $0.85–0.95 billion.

Earlier in February, Safeway had reported encouraging fourth quarter results amid the prevailing weak macroeconomic conditions, which are adversely impacting on the company’s Lifestyle strategy. The macro environment in the U.S. and Canada is also taking a toll on consumers. Wealth destruction from the equity markets, uncertainties and a decline in the housing market and falling consumer confidence are forcing consumers to opt for cheaper substitutes or cut back on overall spending.

The declining margins still remain one of the key challenges for the company. However, we are somewhat encouraged by the company’s gradual improvement in non-fuel identical store sales. We also anticipate further shrink improvement in the first quarter, which will complete the company’s 18-month goal of reducing shrink by $350 million.

Additionally, in an attempt to control operating expenses and increase focus on areas with a strong presence, Safeway recently entered into agreements to sell its Genuardi's stores in Pennsylvania and the greater Philadelphia area. Moreover, the company has closed its distribution centers in British Columbia and Vancouver to lower its operating expenses further. We expect all these strategies to bode well for the company’s cost reduction initiative.

Safeway confronts a wide spectrum of competitive threats, especially from SUPERVALU Inc. (SVU - Analyst Report), The Kroger Co. (KR - Analyst Report) andWal-Mart Stores (WMT - Analyst Report).

Safeway currently retains a Zacks #3 Rank (short-term Hold rating). Over the long term, we are Neutral on the stock.

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