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Risk Reward Balances Kroger

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We maintain our Neutral recommendation on The Kroger Company (KR - Free Report) with a target price of $42.00 following the company’s second-quarter fiscal 2013 results. The company also retained a Zacks Rank #3 (Hold).

Why the Reiteration?

A dominant position among the nation’s largest grocery retailers enables Kroger to sustain growth in top and bottom lines, expand its store base, and boost its market share by introducing new items. The company posted quarterly earnings of 60 cents a share that surged 17.6% year over year, buoyed by the Customer 1st strategy. Total sales climbed 4.6% during the quarter.

The company’s strong corporate and national brands helped gain customer loyalty. We believe that given the company’s strong identical store sales growth for about 39 successive quarters and strong bottom-line performance, Kroger is poised to achieve its long-term earnings per share growth rate target of 8% to 11%. Management reiterated fiscal 2013 earnings between $2.73 and $2.80.

Management continues to deploy capital to concentrate more on remodels, merchandising and other viable projects. These include nearly 45 to 50 major capital projects comprising new store openings, expansions and relocations, and 130 to 160 remodels.

Kroger also remains optimistic about its acquisition of regional grocer, Harris Teeter Supermarkets for $2.44 billion in cash. It will provide Kroger an opportunity to expand its footprint in high-growth markets including Delaware, Florida, Maryland and Washington.

The economy is not devoid of risks, and Kroger is not immune to such adversities. The intensifying price war among grocery stores to lure budget-constrained consumers may adversely impact the company’s sales and margins.

The recent economic downturn has transformed the way consumers used to shop. Cash-strapped consumers are now prioritizing their purchases, choosing cheaper substitute brands and shopping for groceries at low-price leaders.

Further, higher debt-to-capitalization ratio remains a major concern. Kroger ended second-quarter fiscal 2013 with a total long-term debt (including obligations under capital leases and financial obligations) of $7,892 million, reflecting a debt-to-capitalization ratio of 62%, which is substantially higher, and could adversely affect the company’s creditworthiness and make it more susceptible to the macro-economic factors and competitive pressures.

The pros and cons of the stock fairly support our unbiased view.

Other Stocks Worth Considering

Other stocks worth considering in the food-miscellaneous sector include, Pinnacle Foods Inc. holding a Zacks Rank #1 (Strong Buy),  and Green Mountain Coffee Roasters, Inc. and Dole Food Co. Inc. both carrying a Zacks Rank #2 (Buy).

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