The grocery industry has always been considered a bastion of stability, with sales unaffected by changes in economic conditions or technological advancements. Now that we're in a high-inflation environment that's embracing the artificial intelligence revolution, does this sentiment still hold water? Although some grocery stores are seen to be struggling with increasing labour costs and the unpredictability of inventory management, others are seeing unprecedented growth thanks to the wise decision to innovate and adapt to their customer base. In this article, we will dive into the current state of grocery stocks and analyse the key players and trends in this rapidly-changing market ahead of the earnings reports of giant national grocery chains like Walmart and Costco.
Why Do Investors Invest in Grocery Store Stocks?
The best thing about defensive sectors like consumer staples is that they're all-weather investments. Regardless of whether it's a bear or bull market, there is consistent demand for the goods and services that grocery store stocks provide because food is a basic necessity. Although some critics might describe these types of businesses as low margin, top grocery store chains like Walmart, Costco and Target all exhibit low volatility and consistent revenue streams that allow investors to weather any storm. To ensure they don't lose any market share to their competitors, these huge grocery chains refrain from resting on their laurels and actively choose to innovate so they're one step ahead of their competition. From developing proprietary e-commerce platforms to offering home delivery options, these grocery chains showcase their ability to adapt to changes in consumer behaviours and economic conditions.
Ultimately, what keeps defensive investors coming back is the offering of attractive fundamentals like a robust capital structure, consistent dividend yields and a keen focus on innovation. These present a compelling investment opportunity for investors seeking consistent and reliable returns. Keen on uncovering the potential of these investment opportunities? Here are our top picks to keep on your watchlist when it comes to the best grocery store stocks ahead of their earnings season.
What Are the Risks of Investing in Grocery Store Stocks?
While they are the go-to places for basic necessities, this doesn't mean grocery industry stocks are invulnerable to headwinds like inflation and supply chain disruptions. Typically, large grocery chains rely on their pricing leverage to shift the burden of higher costs of goods sold onto consumers. Unfortunately, their thin net profit margins can dissipate rapidly if they are made to take up this burden of higher-costing goods. This was last seen during the pandemic when the inventory glut and supply chain bottleneck weighed heavily on the balance sheets of the grocery industry.
Another risk worth mentioning is the heavy reliance on their existing workforce. From stocking shelves to providing quality customer service, employees are the lifeblood of grocery chains and play a key role in ensuring daily operations go smoothly. If there were to be a sudden strike or an increase in wage pressures, it could lead to huge losses for the grocery store as the already low margins are threatened with extra costs and lowered profit levels.
The Biggest Publicly Traded Grocery Store Stocks in the US
1. Walmart (NYSE: WMT) – Unmatched Scale
Founded in 1962, Walmart is one of the largest grocery chains in the world, with a presence in nearly every country and a market share that continues to grow. The company has achieved immense success through a combination of supply chain management, operational excellence, and the use of technology to optimize sales and customer experience. While traditional grocery chains might be resistant to changing legacy systems, Walmart has wholely embraced technology and partnered with tech leaders like Microsoft and Google to make use of their technology solutions. This helped optimise operational efficiency and customer service.
By developing an extensive network of suppliers and distributors and implementing rigorous quality control standards for all products sold in stores, Walmart can pass on existing cost-savings to its customers and offer competitive prices while still ensuring healthy profit margins of about 3%. Throw in automated warehouses and advanced inventory tracking systems and you have a hyper-efficient grocery chain that's well-equipped to survive any macroeconomic whirlwind. Although the pandemic's supply chain constraint initially caused profit margin scares, Walmart was able to swiftly adapt to the bottleneck issues and turn the company around within a year as WMT stocks are a mere 5% away from all-time highs.
2. Costco (NASDAQ: COST) – Memberships & Hot Dogs
Costco is the world's second-largest retailer with a reputation for offering consistently low prices, high-quality merchandise and excellent customer service. While Costco's business model does involve razor-thin margins and maintaining an attractive pricing strategy like the rest of its competing grocery stores, it stands out in two ways, namely bulk selling and its renowned membership-based warehouse clubs. The company's stores are designed to be simple, with high ceilings, concrete floors and large open spaces to accommodate bulk products. By charging an annual membership fee, Costco's customers have access to exclusive discounts and deals. The membership model also creates a sense of exclusivity and loyalty among members, who feel compelled to shop at Costco for their everyday needs to get the most out of their membership. Furthermore, Costco's bulk purchasing strategy allows the company to negotiate lower prices from suppliers, making it possible to offer criminally low prices to its customers while still maintaining a profit.
Interestingly, while we normally see grocery stores go all-out when it comes to cost-cutting to maximise pricing efficiency, Costco does things a little differently in the form of its US$1.50 hot dog and soda deal. Although there have been inflationary pressures to raise the price of this crowd-favourite food and beverage combo, CFO Richard Galanti has shrugged off said pressures and reassured customers that Costco plans to keep the combo at its affordable price forever. It's ultimately this commitment to appeasing members alongside its highly profitable business model that has made Costco such a popular grocery store stock option among investors keen on getting invested in the sector.
3. Target (NYSE: TGT) – Beyond Big Box Retail
Target Supermarkets has been able to sustain its popularity amid other top grocery store chains by implementing a strategic approach that appeals to customers. The store has been able to thrive in the competitive grocery industry by offering a wide range of quality products that range from clothing and household goods to electronics and toys. By pricing them competitively and offering additional services like contactless, same-day delivery and a focus on a quality online shopping experience via its e-commerce website, Target manages to effectively offer a one-stop-shop for customers that go beyond the conventional big box retail store visits.
In terms of profitability, Target is also well-poised to weather the storm as it consistently generates strong earnings growth despite being a fraction of the market capitalisation of Walmart and Costco. This can be attributed to the company's aggressive cost-cutting measures that have allowed it to reduce expenses while still maintaining its attractive customer service standards through investments in advanced technologies such as sorting centre automation and artificial intelligence. As a result of this aggressive cost-cutting and effort to maximise efficiency, Target has been able to enjoy a strong and resilient level of profitability that benefits from the current inflationary environment.
The Bottom Line
In conclusion, investing in grocery store stocks like Walmart, Costco and Target ahead of their earnings has its benefits. This includes stability, consistent demand from the masses and attractive dividend yields. However, it is essential to be aware of the risks that come with investing in this industry, such as unexpected macroeconomic headwinds like inflation, unemployment rates and consumer behaviour, supply chain disruptions, wage pressures, and labour disputes as well as paying attention to key factors such as revenue growth potential, management efficiency and the company's willingness to innovate. By fully understanding the industry's potential risks and benefits, a well-informed investor can capitalise on the grocery store industry's stability and reliable returns while minimizing the potential downside.
Interested in reading up about the online counterpart of these huge grocery store stocks? Read up on our guide to e-commerce stocks and learn about their potential upside and downside.