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Safeway: On Safer Turf

After three years of sluggish sales and crimped earnings, Safeway (SWY) is back. The supermarket chain was "sailing in treacherous waters," says Hitesh Kuvelkar, an analyst at investment firm First Global, but has "recovered smartly." In 2005's fourth quarter, earnings jumped 15% on a sales rise of 7.2%. Safeway's stock, up from 22 in mid-February to 25.33 on Mar. 22, should outperform the market, says Kuvelkar. "We see substantial upside" from the current price, he says. What impresses Kuvelkar is Safeway's focus on operating margins, which have leaped from 1.6% in 2004 to 3.3% in 2005, and are estimated to hit 3.9% for the year 2006. That will translate into operating earnings of $1.64 a share in 2006, Kuvelkar figures, compared with $1.40 in 2005. The key to the chain's improved margins is keeping costs down in the face of rising fuel prices, he says. Safeway has also seen sales volume improve, thanks to its new "lifestyle" format at many of its 1,800 stores. The campaign offers better-quality products, such as natural and organic foods, and greets customers with a more pleasant store environment, according to analysts. Joseph Agnese of Standard & Poor's (MHP), who rates Safeway a "buy," lauds the improving sales trends, and he also points to restructured union contracts that will stabilize labor costs. Agnese says Safeway's valuation will improve as it continues to recover the business it lost after the September, 2004, strike in California.

Note: Unless otherwise noted, neither the sources cited in Inside Wall Street nor their firms hold positions in the stocks under discussion. Similarly, they have no investment banking or other financial relationships with them.

By Gene G. Marcial

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