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Whole Foods Market (WFM)Recommendation: Buy

Analyst

Carl Schiro cschiro@nd.edu

Price Target: $39.15

Source:

Company Overview

Geographic BreakdownBackground

Form 10k, Statista, Whole Foods

• Headquartered in Austin, Texas where it was founded in September 1980

• Supermarket chain retailer of natural and organic foods that are free of artificial preservatives, sweeteners, and hydrogenated fats

• 5th largest public food retailer in US • Has over 91,000 employees and 431

supermarkets in the US, Canada, and the UK• Receives an average of 8,000,000 customers

per week

Revenue by Offering Sector Geographic Diversity

Number of Stores at End of Year

2011 2012 2013 2014 20150

50100150200250300350400450500

311335

362399

431

Growing Market Size Geographic Diversity

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Financial & Industry Metrics

Financial Summary

S&P Capital IQ, www.wholefoods.com, Form 10 Q,, Yahoo Finance

Key Metric WFM Industry

EV/EBITDA 7.20x 10.95x

EV/Revenue 0.60x 0.70x

Price/Earnings 20.52x 17.95x

Financial Summary Stock Charts (1 Year & 5 Year)

Stock Charts (1 Year & 5 Year)

Stock Data Current Price 30.2552 Week Price Range 28.07-50.4650-Day Moving Average 31.94Estimated Beta 0.817253Market Cap 9.82BShares Out (mil) 324.62Average Daily Vol (mil) 5.648Institutional Ownership 80.80%Insider Ownership 0.81%Dividend Yield 1.80%NTM P/E 18.67xEV/EBITDA 7.20xDebt/EV 1.60%Gross Margin (LTM) 35.20%EBITDA Margin (LTM) 9.10%

Source:

Financial Performance

2014 Form 10-K, MSN Finance, NDIC Projections, S&P Capital IQ

Operating Cash Flow

Return on Invested Capital

EBITDA and EBITDA Margin

Revenue

Source:

Strategic Positioning

Solutions Offerings and Product Expertise

• Own brands generated over $2.1 billion in sales during 2015

• Currently features 5,300 SKUs, which accounted for 14% of total retail sales

• Approximately 50% of these exclusive brands were either characterized as “Certified Organic” or “Non-GMO Project Verified

• 100 new dietary supplements launched in 2015 alone

Form 10k and 10Q, Yahoo Finance,

• In 2003, Whole Foods became the first national “Certified Organic” grocer

• Remains the only national supermarket with all store departments and operations certified

• Some facilities have been certified through own handling plans, including Allegro Coffee™ line and 365 Organic Everyday Value™ product line

• Stores offer more than 25,000 organic SKUs, comprising about 30% of sales

• Company has shown full commitment to buying from local producers whose products have higher quality standards

• Allows the supermarket to offer customers the most savory pick of seasonal products

• Bolsters local economies which gives local consumers a higher disposable income

• Purchased locally grown produce from over 1,200 farms (24% of produce sold in stores worldwide)

Certified Organic Retailer

Exclusive Brands

In-Store Experience

• Strives to transform ford shopping from a chore into dynamic experience by intentionally designing stores to match store’s mission

• Offers unique product mix that emphasizes high-quality standards and healthy eating

• Most stores have bike racks, electric vehicle charging stations, sit-down eating areas and wine bars, customer service bars, and taprooms

• CEO: “Stores can serve as third place where people interact besides home and office”

Commitment to Local

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Growth Strategy

Acquisitions

• In 2015, Whole Foods announced plans to launch second store format called 365 by Whole Foods Market

• Mission is to target young people nationwide by offering fresh, affordable food through a smaller footprint, curated product selection, convenience, and technology

• Expects to open 3 stores in 2016 and another 10 in 2017

• Partnering with local businesses to help drive traffic to new stores

• In February 2016, Whole Foods signed 5-year partnership with $2 billion startup Instacart

• 2014: Whole Foods customers saved more than 970,000 hours using their services

• Now available in over 16 cities which have seen share of sales increase in high single digits

• Grocery delivery will expand right alongside E-Commerce

• Stock price decline due to high prices that have caused consumers to explore cheaper alternatives

• Plan on increasing perishables within stores, which will narrow price gaps on value items and broaden selection of products at entry-level price points

• Has been offering discounts and promotions through Whole Foods app

• Daily downloads of Whole Foods app jumped from 1,000 to 5,000 in periods after coupons were introduced

Forbes, Form 10K , S&P Cap IQ

365 by Whole Foods Market

Delivery Methods

Price Competition

Increased in Prepared Foods

• In December 2015, Chef Tien Ho was hired as new Global VP of Culinary and Hospitality

• Indicates desire to strengthen its prepared foods sector

• $3 billion high-margin business for Whole Foods

• Ho already announced a food truck test amongst many other creative proposals

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Risks

Acquisitions

• Whole Foods ranked 3rd on list of America’s most reputable retail companies in 2015

• Recently company had serious PR challenges including overcharging on pre-packaged goods, selling water for $6, and laying off 1,500 employees

• Has begun to recover by instituting customer-friendly promotions and other discounts

• Biggest risk to future is hit to brand

• Pillar to growth of company is announcement is 365 by Whole Foods Market

• This projects will be located next to existing store markets

• Reasonable to believe these more affordable stores will take away business from these highly profitable locations

• Has been experiencing low same store-growth compared to the past so new store growth is essential

• Ultimate goal is 1,200 locations• Real Estate market becoming competitive with

competitors announcing plans of growing to over 1,000 locations

• Must continue to expand to keep sales high and remain dominant player in natural grocer sector

Forbes, Form 10K , S&P Cap IQ

Brand Erosion

Cannibalization to Existing Locations

Failure to Grow Location Base

Other Risks

• Possibility of poor economic conditions that would adversely impact consumer spending

• Changes in availability of quality natural and organic products

• Threat of widespread health epidemic • Loss of key management or an increased

difficulty in recruiting top talent to firm

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Comparable Companies

LTM 2015E LTM 2015E LTM 2015E

KR The Kroger. Co $37.86 $36,439.50 $48,246.50 0.4x 0.4x 8.4x 9.0x 18.0x 19.1x

UNFI United Natural Foods, Inc. 35.99 1811.50 2255.30 0.3x 0.5x 7.4x 12.9x 13.9x 13.6x

TFM The Fresh Market Inc. 28.43 1336.80 1308.20 0.7x 0.9x 6.9x 8.1x 17.9x 18.1x

SFM Sprouts Farmers Market, Inc. 28.56 4300.10 4454.50 1.2x 1.4x 14.9x 16.0x 32.6x 28.6x

75th Percentile 36.46 12334.95 15402.50 0.83 1.03 10.03 13.68 21.65 21.48

Mean 32.71 10971.98 14066.13 0.65 0.80 9.40 11.50 20.60 19.85

Median 32.28 3055.80 3354.90 0.55 0.70 7.90 10.95 17.95 18.60

25th Percentile 28.53 1692.83 2018.53 0.38 0.48 7.28 8.78 16.90 16.98

WFM WHOLE FOODS MARKET $30.25 $9,819.80 $10,065.80 0.60x 1.00x 7.20x 10.30x 20.52x 21.30x

Implied EV (mean) $10,105.55 $12,437.60 $13,150.60 $16,065.50 $11,498.60 $11,104.10

Implied EV (median) $8,550.85 $10,882.90 $11,052.10 $15,297.15 $10,104.70 $10,446.60

Implied Market Cap (mean) $9,442.55 $11,648.20 $12,487.60 $15,425.50 $10,835.60 $10,441.10

Implied Market Cap (median) $7,887.85 $10,109.30 $10,389.10 $14,656.05 $9,441.70 $9,783.60

Ticker Company Name LTM Revenue2015E

RevenueLTM EBITDA

2015E EBITDAExp. Revenue Growth Exp. EBITDA Growth Margins

1 Year 2 Year 1 Year 2 Year EBITDA

KR The Kroger. Co $109,830.00 $108,872.00 $5,762.00 $5,599.00 1.3% 6.0% 10.1% 7.3% 5.2%

UNFI United Natural Foods, Inc. 8,300.00 8,269.00 302.80 307.70 9.9% 2.2% -1.2% -6.2% 3.6%

TFM The Fresh Market, Inc. 1,857.00 1,818.00 190.80 192.70 5.9% 5.4% 0.3% 2.3% 10.2%

SFM Sprouts Farmers Market, Inc. 3,593.00 3,397.00 299.90 281.50 21.1% 16.8% 13.5% 12.2% 8.3%

WFM WHOLE FOODS MARKET $15,547.00 $15,389.00 $1,399.00 $1,397.00 3.7% 6.1% -2.3% 2.6% 9.1%

Ticker Company NameLatest Close

PriceMarket Cap (USDmm)

Enterprise Value (USDmm)

EV/Revenue EV/EBITDA Price/Earnings

Source:

Discounted Cash Flow

S&P Capital IQ,

DCF model$ in millions 2012 2013 2014 2015 2016E 2017E 2018E 2019E 2020ETotal Revenue $11,699.0 $12,917.0 $14,194.0 $15,389.0 $15,964.1 $16,936.4 $18,201.7 $20,265.3 $22,061.0

Revenue Growth 15.70% 10.4% 9.9% 8.4% 3.7% 6.1% 7.5% 11.3% 8.9%Expenses

COGS 7,543.0 8,288.0 9,150.0 9,973.0 10,496.7 11,195.8 12,102.3 13,525.1 14,634.2Gross Profit 4,155.8 4,629.0 5,044.0 5,416.0 5,467.4 5,740.6 6,099.4 6,740.2 7,426.8Gross Margin 35.5% 35.8% 35.5% 35.2% 34.2% 33.9% 33.5% 33.3% 33.7%

Operating Expenses 3,412.3 3,746.0 4,110.0 4,538.0 4,601.3 4,855.8 5,181.1 5,699.3 6,326.2Operating Income (EBIT) 743.5 883.0 934.0 878.0 866.1 884.8 918.3 1,040.9 1,100.7Income Tax 286.5 343.0 367.0 342.0 355.4 368.6 400.4 445.8 485.3

EBIAT 457.0 540.0 567.0 536.0 510.7 516.2 517.8 595.1 615.3Cash FlowEBIAT 457.0 540.0 567.0 536.0 510.7 516.2 517.8 595.1 615.3

D&A 311.6 339.0 377.0 439.0 482.9 531.2 584.3 642.7 707.0Discretionary Cash Flow 768.6 879.0 944.0 975.0 993.6 1,047.4 1,102.1 1,237.9 1,322.3

Less: Increase in NWC 151.1 130.0 144.0 154.0 44.5 67.1 8.6 140.6 177.1Less: CapEx 456.2 537.0 710.0 851.0 781.4 815.1 768.0 803.5 800.0

Free Cash Flow 463.5 472.0 378.0 278.0 256.7 299.4 342.7 575.0 699.4Free Cash Flow Growth 1.83% -19.92% -26.46% -7.66% 16.63% 14.46% 67.79% 21.63% 9.61%Unlevered Free Cash Flow

WACC 7.09%Discount Period 1 2 3 4 5Discount Factor 0.93 0.87 0.81 0.76 0.71

Present Value of Free Cash Flow $239.7 $261.1 $279.1 $437.2 $496.7

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DCF Assumptions and Results

WACC Components

S&P Capital IQ, NDIC valuations, Yahoo Finance

Cost of EquityRisk-free Rate(1) 4.00%Market Risk Premium(2) 5.00%

Levered Beta 0.71

Cost of Equity 7.55%

WACC 7.09%

Enterprise ValueCumulative Present Value of FCF $1,713.8Terminal ValueTerminal Year EBITDA $1,807.7Exit Multiple 9.4x

Terminal Value $16,992.24Discount Factor 71.01%

Present Value of Terminal Value $12,066.4% of Enterprise Value 87.6%

Enterprise Value $13,780.1

Implied Equity Value and Share PriceEnterprise Value $13,780.1

Less: Total Debt $1,055.0Plus: Cash & Cash Equivalents $392.0

Implied Equity Value $13,117.1

Implied Share Price $40.41

Shares Outstanding 324.62

Short Term Debt: $3.00Long Term Debt: $1052.00Total Debt: $1055.00Credit Rating: BBB-

WACC Components DCF Results

Debt Structure

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Catalysts & Portfolio Strategy

Strong strategic positioning within market that is expected to see double digit increases within the coming years

Strategies such as 365 by Whole Foods and partnering with Instacart will target millennials who will soon have high discretionary income, which will help drive growth within the company

Innovative management team will keep company’s brand intact

If Whole Foods does not continue to expand both same stores sales growth and new store development, the drop in stock price should be expected to continue downward

Large grocery stores such as Kroger and Wal-Mart have the ability to offer much lower prices than Whole Foods for similar products, so if these operations within these companies continue to grow, expect the stock to drop

Failure to restore brand name

Whole Foods, has seen a steep decline in stock price over the last year. This has been attributed to larger supermarkets like Kroger and Wal-Mart expanding their natural grocer sectors, which has shed a negative light on Whole Foods high prices. Furthermore, a plethora of negative publicity has only continued the downfall. However, I believe this will change. In a 2015 Nielson Global Health and Wellness Survey, 88% of Americans said they are willing to pay more for healthy food (this number is even higher amongst millennials). The company will restore itself in the coming years through positive PR campaigns, opening of new, unique stores, and the advancement of technology platforms. Therefore, I recommend the Notre Dame Investment Club purchase a stake in Whole Foods Market at a final implied target price of $39.15.

S&P Capital IQ, NDIC valuations,

Upside Downside

Portfolio Strategy and Final Recommendation

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Appendix 1: Income Statement

S&P Capital IQ

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Appendix 2: Balance Sheet

S&P Capital IQ

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Appendix 3: Statement of Cash Flows

S&P Capital IQ