The Kroger Co. (NYSE: KR) supermarket chain reported first quarter earnings that beat analysts' expectations and the company was rewarded with a downgrade from Bank of America Merrill Lynch from 'neutral' to 'underperform'. Grocer Safeway Inc. (NYSE: SWY) received the same ratings downgrade.The downgrades are the result of lower food commodity prices which could mean that deflation is a threat, and intense price competition from Wal-Mart Stores Inc. (NYSE: WMT). Other low-priced stores like Costco Wholesale Inc. (NASDAQ: COST) and BJ's Wholesale Club Inc. (NYSE: BJ) are also positioned with Wal-Mart as better able to withstand a deflationary threat due to lower cost structure and better pricing from suppliers. (Related Article: BJ´s Earnings Top Estimates on Strong Sales)
On Kroger's conference call yesterday, the company's CEO was asked about the effect Wal-Mart's roll-back pricing is having on Kroger's ability to compete. He noted that Wal-Mart's new merchandising and marketing behavior is "a lot more consistent with traditional grocery supermarket operation than it is consistent with what Wal-Mart used to do."
He went on to describe Wal-Mart's roll-back pricing as based on feature items that come down in price and get a lot of publicity, while items that go up in price at the same time don't get noticed. That sounds like the familiar loss-leader approach.Kroger, by contrast, claims it follows a customer-first strategy and tries to deliver what it thinks its customers want. That strategy may have worked for the company in the first quarter, but the Merrill Lynch analyst notes correctly that over the longer term in this environment, it is not a winning strategy against an onslaught of low-priced competition.
On its earnings news, Kroger shares gained more than 2% yesterday, the stock's best one-day rise in 15 months. After this mornings ratings downgrade, Kroger shares are off more than 3%.
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