Evercore ISI upgrades Kroger, sees shares jumping 18% as inflation boosts grocery shopping

Published Wed, Nov 9 20229:27 AM EST

Now is the time to buy into shares of Kroger, according to Evercore ISI. The firm on Wednesday upgraded the grocery chain to outperform from in-line and raised its price target to $56 from $49. That means shares could surge more than 18% from Tuesday's close. "We see a favorable risk-reward for KR as our view is increasingly that food inflation will be higher for longer with trade-down into food at home categories," wrote analyst Michael Montani. He also sees further potential for upside when the merger between Kroger and Albertsons is completed, adding fuel to his bull case for the stock. "In a Bull Case the KR-ACI merger closes with minimal divestitures, resulting in 35%+ accretion and bringing a $70+ stock into focus," he said. Consumer spending Evercore is raising its grocery industry demand forecast and boosting Kroger sale expectations by 3.3% for next year on the expectation that inflation will increase supermarket shopping as consumers trade down instead of going out to eat. "Our industry discussions, [Sprouts Farmers Market]'s inflation outlook, and commentary from our Food analyst Dave Palmer suggest further price increase are likely into 1H23," said Montani. "Our EPS outlook rises 2% on higher sales pass through to $4.20, with ACI likely to enjoy similar tailwinds." In addition, an Evercore survey shows that grocers are well-positioned to withstand headwinds from a weaker macroeconomic environment. "Consumers see grocers as a likely restaurant trade down beneficiary with prices 30-40% cheaper, and [disposable personal income] pressured," he wrote. During the Global Financial Crisis, "Grocery decelerated in '08-'09, but stayed flat to up while much of retail declined in nominal terms." Albertsons merger boost The planned merger with Albertsons could add a nice kicker to Kroger shares at the end of the year. If the merger doesn't go as smoothly as hoped or price cuts hurt Kroger's sales, the upside that Evercore sees could fizzle. If the merger falls through, it would remove the bull case but Kroger would still benefit from lower leverage and industry competitor knowledge, according to the report. Still, it appears much of the risk is already reflected in the stock, given Kroger's valuation relative to the S & P 500 and Walmart. "KR trades at a 35% S & P discount at 11.5x, and 45-50% below WMT," Montani said. "While KR is adding leverage for the ACI merger, we believe the company's competitive positioning would be enhanced with greater scale, and media insight to monetize." — CNBC's Michael Bloom contributed reporting