Description

I believe Weis Markets, Inc. (NYSE: WMK, “Weis” or “WMK”) is one of the most compelling and timely short-sell opportunities I’ve come across in several years.

My short thesis combines both an imminent event-driven catalyst with a structural catalyst.

My price target for WMK is ~$35 per share, which represents >50% downside from the current share price of $74.56.

Background

Weis is a regional grocery store operator with 197 conventional grocery stores spread across seven states in the northeastern US.  Pennsylvania (60% of locations) and Maryland (25%) represent the bulk of Weis locations, with the remainder in New York, Virginia, New Jersey, Delaware, and West Virginia.

In many respects, Weis and its stores feel like a relic from a bygone era.

Weis may be public, but in practice it remains a clubby family business.  There are no earnings calls, and outside investors do not receive advance notice regarding earnings releases.  The company’s board of directors has five members – all men.  The company’s CEO, Jonathan Weis, is paid royally ($10M total comp per year), including access to the company’s aircraft for personal use.

Excluding Mr. Weis, the other four board directors have an average age of 68, an average tenure on the WMK board of 11 years, and an average share ownership of less than 4,000 shares apiece.  Mr. Weis and his family own 65% of the company.  Board members are acutely aware that they serve at the pleasure of Mr. Weis and his family, not of outside shareholders.

Weis’s grocery business is similarly old-fashioned.  In an intensely competitive industry, Weis’s legacy grocery stores do not offer the highest-quality products, the lowest prices, or the best service.  As a result, the business has generally been in slow but steady decline for a decade as it is attacked by Whole Foods on the high-end, Aldi on the low-end, and Target and Wal-Mart in the middle.  This is the very definition of a business that is likely to be worth less in the future than in the past.

Two business characteristics of Weis stores are worth quickly highlighting at this point.

First, Weis heavily targets customers who rely on EBT/SNAP benefits (“Electronic Benefit Transfer” and “Supplemental Nutrition Assistance Program”, collectively “SNAP benefits”) provided by the US Government.  I estimate nearly a quarter of Weis’s current sales come from SNAP benefits.  Weis specifically targets these customers in its advertising, and even goes so far as to select vendors based on whether products are SNAP eligible (I’ve reviewed vendor forms for many grocery operators, including Weis’s major public grocery peers, and Weis is the only operator to specifically ask on vendor forms whether products are SNAP eligible).

Second, the company’s locations are generally located outside metro areas.  For example, Weis’s footprint in Pennsylvania broadly consists of suburban/exurban locations on the outskirts of Philadelphia as well as tier-2/tier-3 towns and small cities spread across the eastern half of the state.

In 2022, Weis reached $4.7 billion in revenues with earnings per share of $4.65.  The company’s stock price is $74.56 and its market cap is $2.0 billion.

Event-Driven Catalyst: End of SNAP Benefits

Beginning in March 2020, the US federal government (specifically the USDA) approved a series of increases to SNAP benefits in response to the pandemic that are referred to as “emergency allotments” (“EA’s”).

Weis was a massive beneficiary of this program.  In 2019, Weis’s net income was $2.53 per share.  In 2020, WMK’s earnings per share soared to $4.42.  WMK’s same-store-sales ex-fuel (“SSS”) was a record +17.5% in 2020, followed by +0.2% in 2021 and +7.5% in 2022 (as additional EA benefits kicked in).  The company put up three consecutive years with $4+ per share of EPS for the first time in company history.

I believe this period of prosperity is now at an end for Weis.  EA’s expired nationwide in the US at the conclusion of February 2023.

Importantly, this has happened before.  The American Recovery and Reinvestment Act (“ARRA”) was passed in 2009 to support the economy coming out of the financial crisis.  The ARRA included a temporary boost to SNAP benefits of about $11/month. 

When these benefits expired in 2013/2014, WMK experienced a full year of negative SSS and a -30% decline in WMK’s share price.  By comparison, Ingles Markets, Inc. (NASDAQ: IMKTA), a listed regional grocer that does not rely on SNAP benefits to nearly the same degree as WMK, experienced no quarters of negative SSS following the expiration of temporary SNAP benefits from the ARRA (see Exhibit A).  This highlights the extent to which WMK is reliant on SNAP benefits.

                Exhibit A

The scale of this year’s decline, however, dwarfs what happened ten years ago.  Instead of an $11/month reduction in SNAP benefits, this year’s reduction is $95/month.

Let’s put that in perspective.  In 2014, the decline in SNAP benefits per beneficiary household was -5.5%.  In 2023, the decline in SNAP benefits is likely to be more than -30%.  If Weis’s SSS were down in the low-mid single-digits in 2013/2014, it is hard to imagine WMK’s comps not being down far worse – well into double-digit declines - in the current cycle.

WMK has more than a half-billion dollars of revenue at imminent risk.  I see SSS going strongly negative when WMK next reports in less than 90 days, with SSS remaining deeply negative for a year or longer.  Earnings per share should collapse back to pre-Covid levels of $2.50 or below.

In 2013, WMK added a risk factor in its 10-K related to decreases in SNAP benefits, shortly before its stock price declined by one-third.  WMK recently added the same risk factor back to its 10-K.  While markets are yet to catch on, the company is well aware of what lies ahead.

Structural Catalyst: Aldi

The end of SNAP benefits is not the only challenge WMK faces today.

Weis is also under severe pressure from the arrival of low-cost operator Aldi in its markets.

Back in 2016, I published a short thesis on VIC regarding Smart & Final Stores (“SFS”).  My thesis was that Aldi had recently launched an aggressive expansion in SFS’s core California market and the competitive pressure would have a disastrous effect on SFS’s business.  I published the thesis in Aug 2016 when SFS traded at $14.44/share.  Less than three years later, Apollo acquired SFS for $6.50/share, representing a decline of -55% from the time of the write-up.  Aldi did indeed prove a significant threat to SFS’s business.

I believe the same phenomenon is now underway with WMK.  In recent years, Aldi has expanded aggressively in Pennsylvania.  However, the vast majority of Aldi locations are in major metro areas such as Pittsburgh and Philadelphia, where WMK has little presence.

In our location tracking, we are now seeing Aldi expanding to suburban/exurban Pennsylvania locations and into tier-2/tier-3 markets.  This can be seen in Exhibit B, which shows Aldi has recently started targeting WMK’s core markets.

                Exhibit B

As Aldi becomes an increasingly relevant foe to WMK, we are skeptical Weis’s earnings power will remain what it was pre-Covid.  In the coming years, we could see the company’s earnings per share fall to $2/share or less as Aldi’s influence in WMK’s core markets is fully felt.

Conclusion

“We positively comped through cycles of reduced SNAP funding.  So as you think about when SNAP funding is reduced, to your point, in many ways, that is good for our model.  As those benefits decline, it does put more pressure on those consumers and they come to us to stretch their dollar.”

-Grocery Outlet Q4 ’22 Earnings Call – Feb 28, 2023

Late last night, WMK published its Q1 2023 earnings release.

The quarter included two full months of SNAP benefits and just one month of reduced benefits.  Even with just a few weeks of impact, Weis’s SSS were more than cut in half to +3.6%.  On a positive comp, Weis’s earnings per share still fell -17.8% yoy.

This bodes poorly for what’s ahead.

As the full impact of reduced SNAP benefits comes through in the Q2 2023 results (less than 90 days away), we believe WMK’s same-store-sales will go strongly negative and the company’s earnings per share are likely to collapse back to (or below) pre-Covid levels.  In addition, increasing competition from Aldi make this a structural short in addition to an event-driven short.

In 2024, earnings per share could easily come in at $2.00-2.25 per share.  Using a 10x earnings multiple for a declining business, and adding $12/share of cash on the balance sheet, we get to a price target of ~$35/share.  Weis’s stock traded at this level as recently as 2019 and 2020.  While Weis is unlikely to go bankrupt, this represents downside of more than -50% from the current share price.

As with every investment, there are risks to worry about.  Could there be a new emergency that leads to a fresh increase in SNAP benefits?  It’s possible, though also worth noting that (1) the GOP debt ceiling plan includes further cuts to SNAP benefits and (2) Senate Republicans recently proposed cutting out eligibility for soda and desserts from SNAP benefits, indicating any attempt at raising SNAP benefits would face considerable hurdles.  In addition, while WMK shares do have decent liquidity ($5-6M per day) and a GC borrow rate, as a relatively off-the-radar stock with zero analyst coverage, it may take time for the market to appreciate just how severely Weis’s earnings power should deteriorate over coming quarters.

Predicting the exact moment the market “cares” about WMK’s operating performance is difficult to pinpoint, but I am confident the market will eventually get there.  WMK shares traded in the $30’s as recently as late-2019 and early-2020.  As comps turn deeply negative amidst the reduction in SNAP benefits, and as Aldi’s relentless pressure on WMK’s business continues, I believe WMK’s stock price has a good chance of re-testing its lows from recent years in the months ahead.

Disclaimer

The author of this posting and related persons or entities ("Author") currently holds a short position in this security.  Author may short additional shares, or cover some or all of Author's shares, at any time.  Author has no obligation to inform anyone of any changes to Author's view of WMK US.  Please consult your financial, legal, and/or tax advisors before making any investment decisions.  While the Author has tried to present facts it believes are accurate, the Author makes no representation as to the accuracy or completeness of any information contained in this note.  The reader agrees not to invest based on this note, and to perform his or her own due diligence and research before taking a position in WMK US.  READER AGREES TO HOLD AUTHOR HARMLESS AND HEREBY WAIVES ANY CAUSES OF ACTION AGAINST AUTHOR RELATED TO THE NOTE ABOVE.  As with all investments, caveat emptor.

Catalyst

-SNAP benefit reductions flow through WMK's P&L

-Aldi's Pennsylvania expansion increasingly pressures WMK's business

-Investors realize WMK's earnings power could be cut in half over the next 12 months