business

When it comes to explaining why Supervalu Inc. shares have plunged 35 percent since early June, Wall Street analysts have no shortage of plausible explanations.

Shoppers, beset by a wide range of economic woes, from falling home values to rising food and energy costs, had been buying food at Wal-Mart and warehouse clubs like Costco. They've also been trading down to lower-priced brands of basic items, from cereal and orange juice to shampoo and paper towels.

Amid slumping sales, executives at several other grocers, including Safeway, Costco and Delhaize Group, the Belgian owner of Food Lion, have warned of lower earnings or sales growth.

But some analysts believe the heavy selling has been too extreme and that Supervalu, in particular, could stage a comeback. Supervalu, which is based in Eden Prairie and whose chains include Cub Foods, Albertsons, Jewel-Osco, Shaw's and Save-A-Lot, has yet to reap the full benefits of an aggressive store remodeling program that it began two years ago. And unlike some of its rivals, Supervalu has kept discounts under control, which could give it more pricing flexibility if food and energy costs continue to spiral upward, analysts argue.

"Supervalu is doing all the right things to position itself for the long term," said Mitchell Corwin, a retail analyst at Morningstar in Chicago. "But investors have been overly punishing them because of the macroeconomic headwinds."

Among supermarket stocks, Supervalu has been beaten down far more than its peers. The company's stock is trading at just 7.6 times its projected 2009 earnings, compared with 11.6 times earnings at Safeway and 14.4 at Kroger, based on Friday's closing stock prices.

The sharp selloff of Supervalu stock began in June, and accelerated after the company in late July warned that annual profit will increase less than forecast, blaming in part higher energy costs and shoppers' trading down to less expensive products. Shares plunged 6.5 percent on the day of the announcement, and on Thursday hit a five-year low of $23.11 a share. All told, some $2.6 billion of Supervalu's market value has been wiped out over the past three months.

Yet all news hasn't been bad. Economic headwinds are showing signs of easing. Gas prices, while still high, have fallen 11 percent since their peak of $4.11 a gallon on July 17. Consumer confidence rose in July after falling for six months in a row, although it's still much lower than it was a year ago. And this week, the Commerce Department said the economy grew at a surprisingly strong 3.3 percent in the second quarter, better than initially expected.

And Supervalu's woes should be put in perspective. In July earnings guidance had only been cut by 6 cents, or 1.9 percent, and the company's 10 percent earnings per share gain in the first quarter ended June 14 matched analysts' forecasts. Customers were certainly trading down, but the impact was not dramatic; Supervalu's gross profit margin in the first quarter decreased just one-fifth of 1 percent.

In fact, the true factor driving down Supervalu's low valuation, argue some analysts, is nervousness over the company's debt burden, which is the highest of the nation's three largest supermarket chains. The company has $8.4 billion in long-term debt, most of it incurred through its 2006 acquisition of 1,124 stores from Albertsons. In the company's fiscal quarter, Supervalu's interest expenses totaled $190 million, more than its net income of $162 million.

Supervalu's large debt payments -- it expects to pay down $400 million of its debt this year alone -- could become an issue if the economy worsens and shoppers continue to cut back their spending. "Wall Street is putting them in the penalty box over their debt," said David Dietze, president and chief investment strategist at Point View Financial Services, a Summit, N.J.-based investment advisory firm that owns shares of Supervalu. "I think it's severe when you consider they're trading at such a steep discount to their peers."

To be sure, there is some concern that Supervalu's focus on integrating the Albertsons acquisition has caused the company to lose some of its competitive edge. A recent research report by Jefferies & Co. in New York found that prices at Supervalu's stores in Chicago and Las Vegas were significantly higher than those at several of its major competitors. For instance, in Las Vegas, Supervalu's Albertsons store were 14 percent more expensive than Smiths and 23 percent more expensive than Wal-Mart for the same basket of items. In Chicago, Supervalu's Jewel-Osco stores were priced as much as 30 percent above its competitors, according to Jefferies & Co.

"They appear more focused on paying down their debt and remodeling stores than making sure their pricing is right," said Scott Mushkin, a Jefferies analyst who initiated coverage of Supervalu on Aug. 7 with an "underperform," or "sell," rating. "Our biggest fear is that if Supervalu continues to play this game, and gets too cute, then one quarter they're going to wake up and their sales will be negative. And that would be a huge problem."

However, more bullish analysts commend Supervalu for not getting caught in a discount spiral like its peers. Last week, Royal Ahold NV, the Dutch owner of the Stop & Shop chain, saw its stock decline 4 percent in a single day after it said price cuts had hurt its second-quarter earnings. "Supervalu needs to be sharp on price relative to their peers," said Corwin of Morningstar, "but they shouldn't get in a price war."

Chris Serres • 612-673-4308