Delhaize: A Retailer With A Lot Of Problems, But Still Worth A Buy

Post Introduction

A few hours ago I went shopping at my local Delhaize and as I was standing at the register I realized that this is a company I really like and could possibly write about. I got home, typed its American ticker in the Seeking Alpha search, and guess what? Not even ONE contributor has ever covered this stock. Well, in this case I think it is appropriate to say: FIRST.

Introduction

During this article I shall discuss the Delhaize Group (DEG) and give you a brief explanation on why I believe it is buy-worthy on dips.

Let's start this article off by giving you some back-ground information.

Delhaize is a Belgian based food retailer (founded in 1867 by Jules Delhaize) and is currently active on three continents while operating in eight countries. Its main markets are the United States, Belgium and Serbia (based on % of stores, see table below). 65% and 22% of its revenue is coming from the United States and Belgium respectively.

Delhaize entered the US market through its acquisition of 'Food Town Stores' in 1983, renaming it 'Food Lion'. In the US, the company is most known for its brands 'Food Lion', 'Bottom Dollar Food', 'Hannaford Brothers Company', 'Brothers Company' and 'Sweetbay Supermarket'.

Latest figures

2012 was a very bad year for Delhaize as the crisis hit them hard, free cash flow went negative and the company had to lower its dividend for the first time in over 10 years. Delhaize's share plummet from €40 to €30 and became a favorite stock for shorters.

Thankfully, under the excellent leadership of Pierre-Olivier Beckers, the company successfully closed hundreds of non-profitable stores and reorganized/transformed most of its existing stores.

Since 2013, despite the difficult economic environment, the company has been able to show strong revenue and organic growth figures while beating analysts expectations over and over, making the shorters leave the stock and rally to €50.

Unfortunately, during Q3 of 2013, Delhaize took a loss as they had to write down 195 million of goodwill as its Balkan chain 'Delta Maxi' did not perform as expected. Without this write down, the company would have made €108 million in profits. Delhaize is planning on keeping its 'Delta Maxi' chain though, as it gives them a market leading position in Serbia.

New CEO

Because of his excellent leadership and his constant effort to improve Delhaize's portfolio, investors were not amused when Pierre-Olivier Beckers announced that he would leave the company.

Investors eventually were hoping that fast food veteran Roland Smith (who was in charge of the American part of Delhaize) would be appointed CEO, but he also left the company at the same time.

Shares fell 7% on the news and lost another 13% of value the following months.

Delhaize's new CEO, Frans Muller, ex-CEO of 'Metro Cash & Carry' was not received with open arms.

Many investor doubt the Dutchman's skills as he was unable to fight the crisis while being active for 'Metro Cash & Carry'. Why would he be able to do today what he couldn't do yesterday? Anyways, we'll have to wait for official figures to know what he is capable of.

What to expect

Fiscal year 2013 would actually have been a really good year for Delhaize without the write-down of 'Delta Maxi'. My earnings model expects Delhaize to report an EPS of €2.1 for 2013 (€4.02 write-down excluded) and a flat revenue growth. Management is expecting to report €500 million free cash flow and an operating profit of €755 million. For 2014 I expect an improvement of Delhaize's fiscal results (EPS of €4.49) and a raise of its dividend (see table below). My assumptions are moderate and conservative so could definitely be used as an indicator for future earnings.

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Delhaize's main problem in America might be its biggest advantage in Belgium

As a Belgian, I can easily tell that Delhaize is one of the more exceptional retailers of our country. Most of our retailers are discount retailers. In fact, all of them are. Let me point some of them out by name: Albert Hein, Lidl, Colruyt, Carrefour, Aldi.

What's the problem with these discounters? Well, they are actually killing each other without even noticing it. They are waging a real price war and sooner or later, someone will get killed. They believe that lowering prices will make them gain more market share. And as I believe this is true on one side, I also believe it is not on another.

Let me explain what I like so much about Delhaize.

Compared to its peers, Delhaize did not participate this price-war (until very recently) and decided to maintain its premium feeling for its customers.

When I am shopping at my Delhaize, I'm actually having a nice time. Everything is clean, the shelves are nice and tidy, the shop gives you a comfortable feeling, there is some nice music playing in the background, there are not many people rushing around, everyone seems to be relaxed, you won't get bothered by people who 'smell badly', are 'unfashionably dressed', 'look poor' or 'look depressed'. This might sound very snobbish or controversial, but it is the harsh truth. Delhaize seems to attract a different type of customer because of its premium brand. I'm sure you'll get my point.

I can imagine that most people are now, during these hard economic circumstances, avoiding a Delhaize and prefer an Aldi or a Colruyt to save some money, but I'm sure that they'll soon enough will be fed up by these discount retailers as they just aren't focusing enough on the customer's shopping experience. Shopping at these retailers actually make you stressful and make you want to leave the store as soon as you get in.

I believe that if Delhaize continuous to maintain its premium feeling in Belgium during harsh economic circumstances, it will prosper much more during boom times than its competitors. In my opinion, the biggest mistake Delhaize can make, is joining the price war, give up their premium feel for the sake of short term improved quarterly results.

In the US of course, things are little different. This is what Goldman Sachs had to say about Delhaize today after it raised their outlook for Delhaize to Neutral.

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As I believe Delhaize's market position in Belgium is relatively save, it is certainly not in the US. One of the main reasons of Delhaize's 2012 disaster, was that it had raised its prices in its American stores to improve margins. Consequence => shoppers hang up on Delhaize and went somewhere else.

In the US, Delhaize needs to improve its brand name and make clear that it can also be a great discounter. Once it has established this, I'm sure its results will improve over the years as they gain customers' trust.

Current valuation

Delhaize's current share price of €42.8 indicates a market cap of €4.33 billion, an expected Price/Earnings ratio of 10, a Price/Sales ratio of 0.18 and an expected Price/Free Cash Flow ratio of 9.53. Furthermore, the company is quoting 20% below its book value. As one can read in this article, Delhaize is by far the cheapest retailer compared to its Belgian peers while its prospects are not so bad as Goldman suspects.

Conclusion

The company has made a big turn-around since 2012 but there is still a lot of work that needs to be done. Especially in the US. Much will depend on the performance of new executive, Frans Muller and how he will establish the Delhaize brand in Belgium and America.

2013 won't be astonishing for Delhaize, but its future should become brighter once Europe's economy starts to kick in again. Delhaize is currently the cheapest Belgian retailer compared to its peers and will be the first to enjoy revenue increases once consumers start focusing more on the shopping experience again. The stockmarket has already in calculated a lot of bad news. A small beat in earnings could lift the stock right back to €50 as the 6% shorters would have to cover their positions.

Combine all of this with a little comeback of Greece's (268 stores) economy and Delhaize is set for a much higher valuation.

First price target: €50 (+16% current share price)

Expected dividend yield for 2014: 3.7%

I'm planning on initiating a position if the stock falls below €40.

Source: Delhaize: A Retailer With A Lot Of Problems, But Still Worth A Buy

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article. (More...)

Additional disclosure: Please note: If you want to buy Delhaize on its original (Belgian) stock exchange @ Euronext Brussels here is the ISIN: BE0003562700 and Ticker: DELB

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