Grocery Outlet's Q2 Exceeds Expectations Despite Profitability Drop
Coming off a less-than-stellar first quarter, Grocery Outlet Holding Corp. experienced better-than-expected gross margins and earnings for its second quarter ended June 29. Although decreased by 140 basis points, the 30.9% gross margin was 90 basis points ahead of expectations and a 160-basis-point improvement from the first quarter.
“This was a very strong margin performance, considering that it was net of about 100 basis points of residual systems transition impact, which came in as expected,” said President and CEO RJ Sheedy during the company’s earnings call.
It’s been a challenging systems transition year for Grocery Outlet. At the end of August 2023, the company upgraded its product, inventory, financial and reporting platforms. This transition has disrupted the retailer’s business operationally and financially since September. Such disruptions are estimated to have negatively affected gross margin by 110 basis points during Q1.
In May, the company revealed that it had resolved the last two large remaining system issues affecting profit and that warehouse shrink had returned to normal levels. Grocery Outlet’s gross profit for Q2 increased 6.9% to $349.2 million.
“We continue to make good progress with ongoing systems transition work,” said Sheedy. “Our effort is currently focused on improving visibility to additional operating data, increasing system speed, enhancing functionality and optimizing the system for efficiencies.”
To support these efforts, Grocery Outlet continues to bring on new resources. For instance, the company hired Sandeep Chawla as its SVP, CIO, reporting to COO Ramesh Chikkala. Chawla brings to his new role more than 20 years of experience in developing, implementing and managing technology and business strategy.
Meanwhile, net income decreased 42.8% to $14.0 million, or $0.14 per share. Adjusted EBITDA in Q2 fell 3.7% to $67.9 million, or 6.0% of net sales. “This was 60 basis points ahead of our expectations and a 220-basis-points sequential improvement from the first quarter,” noted Sheedy. “Altogether, we are very pleased with our progress in returning gross margin and adjusted EBITDA to healthier levels.”
Strong transaction count also continued throughout the quarter, increasing 5.1%, even though comparable-store sales softened in late June, finishing slightly below expectations, with a 2.9% increase.
Grocery Outlet believes that this softening of comps is the result of a slight year-over-year moderation in the value provided to customers. Sheedy gave three reasons for this. “First, we are currently lapping our strongest opportunistic buying months last year, when our value to customers was particularly strong,” he said. “Second, in an effort to return the business to healthy margins, we over-indexed, in some instances, to price, which impacted customer value. Third, as we were making these adjustments, we experienced increases in promotional and pricing activities from key competitors, putting further pressure on our relative value.”
As a result, Grocery Outlet is actively negotiating costs and adjusting prices to sharpen its value proposition in reaction to competitive dynamics.
UGO Acquisition, New App & Private Label Debut
Also during Q2, Grocery Outlet completed the United Grocery Outlet (UGO) acquisition, adding 40 Southeast stores to its network.
“Our integration focus this year is on expanding the assortment, investing in store refreshes and new fixtures, and introducing some of our marketing programs to the Southeast region,” said Sheedy. “We have already begun coordinating on buys and recently added new everyday low-price products as well as incremental opportunistic items into the UGO stores.”
In addition to the 40 stores Grocery Outlet acquired from UGO, the company opened 10 net new stores in Q2, increasing store count to 524 locations at quarter end. Most notably, Grocery Outlet opened its first store in Delaware, and its second store in Ohio with an entry into the Cincinnati market. Q2 net sales increased 11.7% to $1.13 billion during Q2 due to new store sales.
Grocery Outlet also continues to see high levels of customer engagement with a personalization app that it introduced in Q1. Customer response has been strong, with more than 700,000 total downloads so far.
“We are pleased to see that app basket size continues to be consistently higher than non-app transactions,” said Sheedy. “We believe that this app will increase engagement even further and lead to greater customer loyalty, which should accelerate trip frequency and share of wallet growth.”
In addition, Grocery Outlet recently debuted SimplyGO, its new private label line. Initial categories for this food brand include beverage, dairy, baking and pasta.
Following the launch of SimplyGo will be two additional store brands: GO Home & Haven for household products and personal care, and GO Paw & Pamper for pet food and accessories.
Grocery Outlet remains on track to introduce approximately 100 new private label SKUs by the end of this year.
“In addition to better value and inventory consistency for our customers, these initial products will deliver better margin for Grocery Outlet and operators,” said Sheedy.
Looking Ahead
Grocery Outlet continues to expect full-year adjusted EPS of 89 cents to 95 cents per diluted share.
For the full year, Grocery Outlet anticipates comp-store sales growth of approximately 3.5%. In Q3, it expects comp growth to be approximately 1.5%.
In total, Grocery Outlet continues to expect fiscal 2024 net sales between $4.3 billion and $4.35 billion. For the full fiscal year, the company expects gross margin of approximately 30.5%. It anticipates gross margin for Q3 of approximately 31%.
For the full fiscal year, the company continues to expect adjusted EBITDA to be in the range of $252 million to $260 million. Q3 adjusted EBITDA margin is expected to be approximately 6.4%.
The food retailer has opened two additional stores so far in Q3. It expects to add between 62 and 64 new stores this year, including the UGO acquisition. This range represents store growth of approximately 13% over last year.
“Our future store pipeline is very robust, and we are in a great position to deliver 10% new store growth in 2025,” observed Sheedy.
Emeryville, Calif.-based Grocery Outlet offers products sold through a network of independently operated stores at more than 500 locations in California, Washington, Oregon, Pennsylvania, Tennessee, Idaho, Nevada, Maryland, North Carolina, New Jersey, Georgia, Ohio, Alabama, Delaware, Kentucky and Virginia. The company is No. 66 on The PG 100, Progressive Grocer’s 2024 list of the top food and consumables retailers in North America.
