Can Fresh Market Pump Some Health Into Your Portfolio?

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Fresh Market (NASDAQ:TFM) operates as a specialty food retailer in the United States. The company offers various perishable product categories like meat, seafood, produce, deli, bakery, floral, sushi, and prepared foods; as well as non-perishable product categories like traditional grocery, frozen, and dairy products, in addition to bulk, coffee and candy, beer and wine, and health and beauty products. The stock is sitting near the bottom of its 52-week trading range of $28.60 to $57.16. The stock has been punished after recent disappointing quarterly results and annual guidance. However, the company’s most recent quarter suggest things may be turning around for the company.

Total net sales for the first quarter of fiscal 2014 increased 17.6 percent to $431 million and comparable store sales increased 2.5 percent to $368.3 million from the first quarter of fiscal 2013. The company’s first-quarter comparable store sales were driven by a 1.8 percent increase in the number of transactions and a 0.7 percent increase in average transaction size as a result of promotional activity and the strength of the Easter holiday, partially offset by the impact of winter storms early in the quarter.

The company’s gross profit increased 14.6 percent, or $18.8 million, to $148.2 million in the first quarter of fiscal 2014 compared to the same prior year period. The fiscal 2014 first-quarter gross margin rate was 34.4 percent versus 35.3 percent in the first quarter of the prior fiscal year. The reduction in gross margin rate reflects a decrease in merchandise margins due to the company’s decision to absorb some cost inflation and favorable responses to sales promotions, which drove a slight increase in the percent of revenue sold on promotion, as well as a slight increase in occupancy expenses as a percentage of net sales.

Selling, general, and administrative expenses for the first quarter of fiscal 2014 increased $17.4 million to $98.9 million, compared to the first quarter of fiscal 2013. Operating income was $27.6 million, or 6.4 percent of sales, for the first quarter of fiscal 2014, compared to $35.4 million, or 9.7 percent of sales, in the first quarter of fiscal 2013.

The company’s first-quarter 2014 operating income included store closure and exit costs of $7 million related to the recognition of certain lease liabilities, severance, and other exit costs associated with previously announced store closures. Excluding the store closure and exit costs recognized in the first quarter of fiscal 2014, adjusted operating income was $34.6 million, or 8 percent of sales, for the quarter. Adjusted operating income and adjusted diluted earnings per share are non-GAAP financial measures. The schedules attached to the company’s press release include a reconciliation of these non-GAAP financial measures to comparable GAAP financial measures.

The balance sheet of the company is looking quite strong, as the company has reduced its debt burden. During the first quarter of fiscal 2014, the company generated $56.2 million in cash flow from operations and invested $24.4 million in capital expenditures, of which $22.6 million related to new and remodeled stores. The total outstanding balance on the company’s revolving credit facility at the end of the first quarter was $0.5 million, a decline of 98.1 percent from $24.7 million at the end of fiscal 2013.

During the first quarter of fiscal 2014, the company opened seven new stores, including three stores in Florida, two stores in North Carolina, and one each in Virginia and Illinois. As of April 27, the company operated 154 stores in 26 states.

Based on first-quarter results and the outlook for the remainder of the year, the company is affirming its fiscal 2014 forecast of adjusted earnings of $1.56 to $1.66 per diluted share. This forecast excludes anticipated pre-tax store closure and exit costs of approximately 27 cents per diluted share related to the previously announced store closings in California and Texas to be recognized primarily during the first half of fiscal 2014.

GAAP diluted earnings per share are now expected to be $1.29 to $1.39, including the aforementioned store closure and exit costs of approximately 27 cents per diluted share. It sees comparable store sales growth of 1.5 percent to 3.5 percent and an effective tax rate of 37.5 percent. There was approximately $110 million to $130 million in capital expenditures, primarily related to real estate investments. Finally, the company should see year-on-year improvement in operating results associated with stores operating in California and Texas beginning in the second half of the fiscal year after the closure of three stores in Sacramento and one in Houston in the first quarter of fiscal 2014.

In summation, the company has struggled of late. However, this past quarter in my opinion marks the start of the turnaround for the company. It will be opening new stores, investing in them, and has reaffirmed its 2014 guidance. Comparable-store sales are growing, as are revenues. The stock, even at a 52-week low, is a bit expensive on a multiple basis, trading at a 38 price-to-earnings multiple, but this is a result of prior quarter weakness. I expect the stock to rebound from current levels, and thus recommend it as a Buy.

Disclosure: Christopher F. Davis holds no position in Fresh Market and has no plans to initiate a position in the next 72 hours. He has a Buy rating on the stock and a $43 price target.

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