It's almost traditional (if not quite cliché) to take Wal-Mart (NYSE:WMT) to task for ruining that pastoral ideal that was the American Main Street shopping experience. More recently, neo-hippies have done battle over whether Whole Foods (Nasdaq:WFM) has "gone corporate" by forcing many smaller organic specialty stores out of business, and catering every bit as much to the Audi and soccer mom set as the patchouli and hemp-shirt set.

Investopedia Markets: Explore the best one-stop source for financial news, quotes and insights.

With that backdrop, it may seem daft to try to enter the market with yet another food market concept. Even with a market already full of choices, companies like Aldi, Trader Joe's and The Fresh Market (Nasdaq:TFM) are showing that customers still aren't completely satisfied with the retail landscape. While The Fresh Market is going to have to prove that it can manage its growth (and make it a profitable growth), this is one of the most interesting retail growth stories going on today.

A Third Quarter with Growth and Challenges
For the fiscal third quarter, the company grew sales about 12% with a little more than half coming from square footage growth, and the rest from a 5.5% improvement in same-store comps. That's solid performance for a company that does not cater to the "everyday low price" or discount shopping experience crowd.

Profitability was somewhat more worrisome though. Gross margin slid about 60 basis points, and that seems to be the key talking point out of this quarter. Some of this erosion came from higher commodity prices (especially in proteins), while the company also took a hit from higher promotional costs and dead rent from store openings. The company regained some of this through its operations, though, and GAAP operating income rose about 11% and operating margin was basically static. (For related reading, take A Look At Corporate Profit Margins.)

The Challenge of Managing Growth
Ok, talking about "growth and challenges" is something of a cop-out, as every company has challenges and most have some growth. Still, managing significantly better-than-industry growth is more challenging than some investors realize. As a company grows, its logistical challenges increase ((something natural foods distributor United Natural Foods (Nasdaq:UNFI) has had to address)).

At the same time, building new stores drains cash out of a company very quickly - something seen both by Whole Foods and Wild Oats back in the day. And while that new store rollout is going on, there's the issue of making sure the old stores are well-tended and properly maintained (something that has also challenged Whole Foods on occasion).

So it's impressive to see that The Fresh Market only need to grow SG&A by about 10% this quarter, but keeping the right scale of internal operations will be a challenge. It's also worth mentioning that this company's cash margins and returns are stronger than they look, as share-based compensation and deferred taxes take a bite out of reported earnings.

What's the Upside?
Skeptics sometimes dismiss The Fresh Market as a poor man's Whole Foods, but that assessment seems wide of the mark and perhaps a bit oblivious to the different shopping experiences. At the same time, it's not like The Fresh Market has no competition - even in its home state of North Carolina, there is the very small (but growing) would-be rival Earth Fare. Outside of that is the aforementioned Trader Joe's, a bunch of other small regional chains and the ongoing (if inconsistent) attempts by stores like Kroger (NYSE:KR), Safeway (NYSE:SWY) and Ruddick's (NYSE:RDK) Harris Teeter to appeal to the same broadly-defined customer group.

How big can The Fresh Market get? Well, Whole Foods has about 300 stores and Trader Joe's has about 365. Kroger is 10 times that size. While matching Kroger (or Safeway) is not very likely, it's hard to see why it couldn't eventually match and exceed Trader Joe's current store count. That's quite a lot of room for sales expansion.

The Bottom Line
There are certainly some above-average retail growth concepts out there right now, with Vitamin Shoppe (NYSE:VSI) and lululemon (Nasdaq:LULU) coming to mind. Like LULU, The Fresh Market carries a hefty valuation that is absolutely predicated on ongoing beat-and-raise performance. Growth investors may yet find there's still a wave worth riding, but value-oriented investors will have a hard time loving The Fresh Market during this stage of its life. (For related reading on retail, see The 4 R's Of Investing In Retail.)

Use the Investopedia Stock Simulator to trade the stocks mentioned in this stock analysis, risk free!

At the time of writing, Stephen Simpson did not own shares in any of the companies mentioned in this article.

Related Articles
  1. Stock Analysis

    Net Neutrality: Pros and Cons

    The fight over net neutrality has become an amazing spectacle. But at its core, it's yet another skirmish in cable television's war to remain relevant.
  2. Personal Finance

    A Day in the Life of an Equity Research Analyst

    What does an equity research analyst do on an everyday basis?
  3. Mutual Funds & ETFs

    ETF Analysis: PowerShares S&P 500 Downside Hedged

    Find out about the PowerShares S&P 500 Downside Hedged ETF, and learn detailed information about characteristics, suitability and recommendations of it.
  4. Mutual Funds & ETFs

    ETF Analysis: ProShares Large Cap Core Plus

    Learn information about the ProShares Large Cap Core Plus ETF, and explore detailed analysis of its characteristics, suitability and recommendations.
  5. Mutual Funds & ETFs

    ETF Analysis: iShares Core Growth Allocation

    Find out about the iShares Core Growth Allocation Fund, and learn detailed information about its characteristics, suitability and recommendations.
  6. Mutual Funds & ETFs

    ETF Analysis: iShares MSCI USA Minimum Volatility

    Learn about the iShares MSCI USA Minimum Volatility exchange-traded fund, which invests in low-volatility equities traded on the U.S. stock market.
  7. Stock Analysis

    Should You Follow Millionaires into This Sector?

    Millionaire investors—and those who follow them—should take another look at the current economic situation before making any more investment decisions.
  8. Professionals

    What to do During a Market Correction

    The market has what? Here's what you should consider rather than panicking.
  9. Mutual Funds & ETFs

    ETF Analysis: Vanguard Mid-Cap Value

    Take an in-depth look at the Vanguard Mid-Cap Value ETF, one of the largest and most popular mid-cap funds in the U.S. equity space.
  10. Mutual Funds & ETFs

    ETF Analysis: Schwab US Broad Market

    Take an in-depth look at the Schwab U.S. Broad Market ETF, an incredibly low-cost fund based on a wide selection of the U.S. equity market.
  1. Equity

    The value of an asset less the value of all liabilities on that ...
  2. Fast Fashion

    Definition of "fast fashion."
  3. Hard-To-Sell Asset

    An asset that is extremely difficult to dispose of either due ...
  4. Sucker Yield

    When an investor has essentially risked all of his capital for ...
  5. PT (Perseroan Terbatas)

    An acronym for Perseroan Terbatas, which is Limited Liability ...
  6. Ltd. (Limited)

    An abbreviation of "limited," Ltd. is a suffix that ...
  1. How do dividends affect retained earnings?

    When a company issues a cash dividend to its shareholders, the retained earnings listed on the balance sheet are reduced ... Read Full Answer >>
  2. What is the difference between called-up share capital and paid-up share capital?

    The difference between called-up share capital and paid-up share capital is investors have already paid in full for paid-up ... Read Full Answer >>
  3. Why would a corporation issue convertible bonds?

    A convertible bond represents a hybrid security that has bond and equity features; this type of bond allows the conversion ... Read Full Answer >>
  4. How does additional paid in capital affect retained earnings?

    Both additional paid-in capital and retained earnings are entries under the shareholders' equity section of a company's balance ... Read Full Answer >>
  5. What types of capital are not considered share capital?

    The money a business uses to fund operations or growth is called capital, and there are a number of capital sources available. ... Read Full Answer >>
  6. What is the difference between issued share capital and subscribed share capital?

    The difference between subscribed share capital and issued share capital is the former relates to the amount of stock for ... Read Full Answer >>

You May Also Like

Trading Center

You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!