A NEW TOOL IN THE TOOLSHED

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1 STAPLES RETAILING Food & Drug Chains Market Weight Broadlines Market Weight Healthy Lifestyle Market Weight A NEW TOOL IN THE TOOLSHED Click here to enter text. Monitoring Internet Traffic Investment conclusion. We have added one more tool to our toolshed monitoring internet traffic. Through a partnership with CORE2 Group, the sole provider of comprehensive daily Internet traffic data including web/mobile traffic, external and machine to machine communications, we have taken a look internet traffic trends specifically for companies in our Staples Universe. While generally the data has improved over the last few months, we are a little surprised that it is not stronger given the strength seen in the labor markets coupled with the much lower cost of gasoline. Target appears to be benefiting from the current climate more than Wal- Mart. Indeed, the rolling 90 day Business Performance Index, a measure of all internet activity domestically for a company, has seen steady improvement at Target since the beginning of the fall. For Wal-Mart, the index is positive but its trend has been more flat. This matches other research we have done that suggests Wal-Mart is benefiting less from the current economic climate than Target and appears to support our current ratings of Outperform on Target and Underperform on Wal-Mart. Company Price Rtg Costco Wholesale Corporation(COST) Dollar General Corporation(DG) Sprouts Farmers Market, Inc.(SFM) Target Corporation(TGT) The Fresh Market, Inc.(TFM) $ OP $68.51 OP $36.35 OP $75.87 OP $38.21 PP The Kroger Co.(KR) $70.50 OP Wal-Mart Stores Inc.(WMT) $86.19 UP Whole Foods Market, $53.41 UP Inc.(WFM) Source: FactSet/Wolfe Research OP=Outperform, PP=Peer Perform, UP=Underperform, NR=Not Rated The most recent data looks constructive for Sprouts, but more mixed for Whole Foods and The Fresh Market. CORE2 also looks at a seven day rolling average of internet traffic to help gauge current trends. When the rolling seven day exceeds the rolling 90 day average we believe it is an indicator that trends are accelerating and this is certainly the case for SFM. For WFM, the data is solid and seems to support the idea comps are in the 4.5%-5.0% range. However, the data appears somewhat volatile, surging during Thanksgiving, falling rapidly and then surging again into the New Year. TFM s data is a virtual rollercoaster driven, we believe, around a much more aggressive promotional program. We would note that it appears the effectiveness of the promos is declining and may partly explain the departure of the CEO. Kroger is Steady Eddie, Costco is slowing a little and Dollar General is trudging along. Granted those are our interpretations of the data, as well as our readings from many different industry contacts. We believe Kroger s business did waver a little as the company cycled through some snowstorms in December, but generally is not skipping a beat. Costco, after phenomenal sales growth at the end of 2014, seems to have slowed just a tad and Dollar General s business looks ok, but not robust. Scott Mushkin (646) [email protected] Michael Otway (646) [email protected] Brian Cullinane (646) [email protected] DO NOT FORWARD DO NOT DISTRIBUTE DOCUMENT CAN ONLY BE PRINTED TWICE This report is limited solely for the use of clients of Wolfe Research. Please refer to the DISCLOSURE SECTION located at the end of this report for Analyst Certifications and Other Disclosures. For Important Disclosures, please go to or write to us at Wolfe Research, LLC, 420 Lexington Avenue, Suite 648, New York, NY WolfeResearch.com Page 1 of 14

2 Investment Conclusion The S&P Consumer Staples Index has increased slightly but is outperforming the market in The index has increased +% YTD, better than the -0.4% decline in the S&P 500 and the -% return of the Russell We remain Outperform rated on TGT. Early thus far in 2015, Target s stock is essentially flat, roughly in-line with the -0.4% decline in the S&P 500. In 2014, TGT s +20.0% return outpaced the +11.4% increase in the S&P 500, mainly driven by a stronger second half of the year. Target is trading at 17.0x NTM consensus EPS which is above its 1-, 3-, and 5-year historical averages of 16.1x, 14.4x, and 13.6x, respectively. We believe that if Target can turn its U.S. business around, the company should be able to command a premium multiple to the S&P 500. Our calendar year-end 2015 price target of $85 represents approximately 17x our FY16 U.S. Business EPS of $5.02. We remain Underperform rated on WMT due to structural hurdles. Wal-Mart s equity has increased +0.4% YTD, better than the -0.4% decline in the S&P 500. WMT underperformed in 2014, increasing by +9.1% vs. the +11.4% return of the S&P 500. Wal-Mart is currently trading at 16.5x NTM consensus EPS, above the company s 1-, 3- and 5-year averages of 14.7x, 13.9x, and 13.2x respectively. We believe the company s structural issues, including narrow price gaps, understaffing in stores and needed investments into perishables will continue to pressure EPS growth, warranting a lower multiple. This is evidenced by our forecast for WMT s EPS growth for the upcoming fiscal years (FY16, and FY17) of +2% and +3% (following what we forecast as negative EPS growth in FY15 to be reported in 2 weeks). This is well below the current expectations for earnings growth of the S&P 500 of +6% and +9% and also well below Kroger s expected EPS growth. As such, we view a multiple discount is warranted. Our calendar year-end 2015 price target of $66 is based on 12.5x our FY17 (CY16) EPS of $5.27. We remain Outperform rated on SFM. SFM s equity is up +7.0% in 2015, better than the -% decline in the Russell In 2014, SFM underperformed the market, falling -11.6% vs. the +3.5% return in the Russell 2000 despite continued sales strength and positive EBITDA surprises. While we believe that the poor equity returns in 2014 (following very strong returns in 2013) are due in part to investor concern around the still sizeable private equity ownership of the stock and when this position will be exited as well as limited interest in owning higher (relative) valuation equities, we continue to assert that the combination of robust sales performance, the probability of positive EBITDA surprises and a valuation which has compressed significantly create a favorable risk/reward for owning SFM. SFM is currently trading at 18.2x NTM consensus EBITDA which is below the average NTM EBITDA multiple since the IPO of 21.6x. Our calendar year-end 2015 price target of $47 is based on just over 18x our FY16 Adj. EBITDA estimate of approximately $411mm. We remain Underperform rated on WFM. WFM s equity has increased +5.9% YTD compared to the -0.4% decline in S&P 500. WFM underperformed in 2014, falling -12.8% vs. the +11.4% increase in the S&P 500. WFM is trading around its historical norms as its 29.8x NTM P/E multiple is above the 1-year average of 25.8x, in-line with the 3-average of 29.9x and slightly above the 5-year average of 29.1x. We currently forecast calendarized EPS growth in 2015 and % and +6%, nearly in-line and then below the current consensus forecast for the S&P 500 earnings growth of +6% and +9% respectively. This average earnings growth does not justify the significant premium P/E multiple relative to the S&P s current NTM P/E multiple of 16.3x, in our opinion. We remain Underperform rated and our 2015 calendar year-end price target of $36 represents approximately 20x our CY16 EPS estimate of $1.81. WolfeResearch.com Page 2 of 14

3 We remain Peer Perform rated on TFM. TFM s equity is down -7.3% YTD driven largely by the company s leadership changes, underperforming the -% return of the Russell TFM underperformed in 2014 as the +1.7 return fell short of the +3.5 return of the Russell TFM is trading at 2x NTM consensus EPS, just above its 1-year average of 20.5x but below the 3-year average of 27.6x. Our fair value estimate of $39 represents approximately 20x our FY16 EPS of $1.96. We view the fair value multiple of 20x (which is a discount to its current multiple but more-line with the 1-year average) as fair given the uncertain outlook for sales and profitability. We remain Outperform rated on COST. The company s equity has increased +8.5% YTD, better than the -0.4% decline of the S&P 500. In 2014, COST increased +19.1%, better than the +11.4% rise in the S&P 500. COST is trading at 28.4x NTM consensus EPS which is above the company s 1-, 3-, and 5-year historical averages of 24.1x, 22.7x, and 21.6x, respectively. We believe the company s above-average valuation (relative to itself) is due in part to the strong business trends seen by the company. We also believe the combination of superior merchandising and great prices as well as the potential for an acceleration of revenue and EBIT growth in the coming years sets COST apart from other retailers and justifies a premium multiple. Our calendar year-end 2015 price target of $150 represents approximately 25x our CY16 EPS estimate of $6.00. We remain Outperform rated on DG. DG has declined -3.1% YTD compared to the -0.4% fall in the S&P 500 driven largely by the failed offer for FDO. This offer buoyed DG in 2014 as the equity increased +17.2% in 2014 and outperformed the +11.4% return of the S&P 500. DG is trading at a NTM P/E of 17.1x consensus EPS which is above its historical 1-, 3-, and 5-year averages of 16.0x, 15.8x and 15.4x, respectively. While this is not the perfect time to own a dollar store business, DG is an exceptionally well-run company and our research suggests the business is on stable footing. We believe that the target multiple is justified and that there is even room for valuation expansion as our projected EPS growth rates for DG in FY16, FY17 and FY18 of 14%, 15% and 11% are significantly more robust than the expected growth in both the S&P 500 (6%, 9% and 3% over similar time periods) and our EPS growth forecast for Wal-Mart (2%, 3% and 4% over similar time periods). We also believe management will move to clarify the company s core strategy going forward as well as capital allocation with respect to share repurchases. Our calendar year-end 2015 price target to $75 represents approximately 16.5x our CY16 EPS, in-line with the current multiple. We remain Outperform rated on KR. Kroger s equity has outperformed YTD, up +9.8% in 2015 compared to the -0.4% decline in the S&P 500. This follows a +62.4% return in KR s equity in calendar 2014, which again outpaced the S&P 500 s +11.4% return. We believe the consistently strong EPS growth we forecast over the next few years supports current valuation levels. KR s equity is trading at 19.0x NTM consensus EPS which is above its 1-, 3-, and 5- year averages of 14.9x, 12.4x and 12.0x, respectively. KR s current P/E multiple at the top of its range since the financial crisis, and with the recent rise in the stock price, is also at parity with the peak multiples (19x) seen during the last economic cycle in conjunction with the bottoming of the unemployment rate. However, with the business performing exceptionally well, and many U.S. consumerfocused equities seeing multiple expansion in the market, we believe the current valuation for KR is justified. Our DCF also places intrinsic value for the equity in the high $70 s. Our calendar year-end 2015 price target of $75 represents approx. 18x our FY17 (effectively CY16) EPS of $4.16. WolfeResearch.com Page 3 of 14

4 CORE2 Data We have partnered with CORE2 Group, the sole provider of comprehensive daily Internet traffic data. The data includes three sources of internet data, including web/mobile traffic, external and machine to machine communications. The data is amalgamated by a 3rd party vendor who sends CORE2 daily data updates. CORE2 then processes the data by company to provide analytics. CORE2 provides two very interesting measures of total internet traffic: The first is an index called Business Performance Index ( ) which is calculated by total internet traffic (web, and machine to machine) over the last 90 days (exponentially weighted so that today is more important than yesterday which is more important than the day before, etc). The second measure is called the.gps which calculated by total internet traffic (web, and machine to machine) over the last 7 days, again exponentially weighted so that today is more important than yesterday which is more important than the day before, etc. Finally, CORE2 calculates a ratio by dividing the.gps (7-day moving average) by the (90-day moving average) to get a relative measure of internet traffic. A ratio greater than 1 is an indicator of growth in internet traffic while a ratio less than 1 is an indicator of decline. The distance of the ratio from 1 indicates the magnitude of growth or decline. WolfeResearch.com Page 4 of 14

5 Target, we believe, is benefiting from the current climate more than Wal-Mart. The rolling 90 day Business Performance Index (), a measure of all internet activity domestically for a company, has seen steady improvement at Target since the beginning of the fall. We would also note that machine to machine traffic and web 6 traffic (this in part measures mobile traffic) have both moved up meaningfully for the company. For Wal-Mart, the index is positive but its trend has been more flat. This matches our other research that suggests Wal-Mart is benefiting less from the current economic climate of strong growth in payrolls and much lower gas prices. We would note that the one exception is that we believe WMT is seeing some acceleration in its food business. This coincides with comments from Visa that some of the gas savings was finding its way into the grocery basket. Exhibit 1: TGT: &.GPS (left) and Ratio (right) 1.3.GPS Target Note: is a 90-day moving average of total internet activity (which includes web/mobile traffic, external and machine to machine communications)..gps is a 7-day moving average of total internet activity. The Ratio is a relative measure that divides the.gps by the. A ratio greater than 1 Exhibit 2: TGT: By Activity Type 2,000 1, by Activity Type Target WolfeResearch.com Page 5 of 14

6 Exhibit 3: WMT: &.GPS (left) and Ratio (right) 1.3.GPS WalMart Note: is a 90-day moving average of total internet activity (which includes web/mobile traffic, external and machine to machine communications)..gps is a 7-day moving average of total internet activity. The Ratio is a relative measure that divides the.gps by the. A ratio greater than 1 Exhibit 4: WMT: By Activity Type 2,000 1, by Activity Type WalMart WolfeResearch.com Page 6 of 14

7 The most recent data looks constructive for Sprouts. CORE2 also looks at a seven day rolling average of internet traffic to help gauge more recent trends. When the rolling seven day exceeds the rolling 90 days, we believe it is an indicator that trends are accelerating and this is certainly the case for SFM. Our other data, including our recent store manager s survey (see our note: And The Survey Says A Rising Tide is Lifting Sales on 01/21/15), is similarly supportive of the idea that Sprouts was able to comp its very hard comparison comp of 13.8% in 4Q13, and has accelerated some since the beginning of the year. Exhibit 5: SFM: &.GPS (left) and Ratio (right) 1.3.GPS Sprouts Note: is a 90-day moving average of total internet activity (which includes web/mobile traffic, external and machine to machine communications)..gps is a 7-day moving average of total internet activity. The Ratio is a relative measure that divides the.gps by the. A ratio greater than 1 Exhibit 6: SFM: By Activity Type by Activity Type Sprouts WolfeResearch.com Page 7 of 14

8 TFM s data is a virtual rollercoaster driven, we believe, around a much more aggressive promotional program. We would note that it appears the effectiveness of the promos is declining and may partly explain the departure of the CEO. Exhibit 7: TFM: &.GPS (left) and Ratio (right).gps Fresh Market Note: is a 90-day moving average of total internet activity (which includes web/mobile traffic, external and machine to machine communications)..gps is a 7-day moving average of total internet activity. The Ratio is a relative measure that divides the.gps by the. A ratio greater than 1 Exhibit 8: TFM: By Activity Type 2,000 1, by Activity Type Fresh Market WolfeResearch.com Page 8 of 14

9 For WFM, the data is solid and seems to support the idea comps are in the 4.5%-5.0% range. The data appears somewhat volatile, surging during Thanksgiving, falling rapidly and then surging again into the New Year. We would note that the Core2 data is new and we are still trying to understand which measures are the most relevant. It is interesting that the machine to machine traffic has picked up noticeably since October. Machine to machine traffic for a retailer should largely reflect business activity like ordering and could portend to acceleration in Whole Foods comps. Our other channel checks, however, suggest that this is not the case. There are indeed other reasons this measure could increase or decrease such as a technology upgrade. Exhibit 9: WFM: &.GPS (left) and Ratio (right).gps Whole Foods Note: is a 90-day moving average of total internet activity (which includes web/mobile traffic, external and machine to machine communications)..gps is a 7-day moving average of total internet activity. The Ratio is a relative measure that divides the.gps by the. A ratio greater than 1 Exhibit 10: WFM: By Activity Type by Activity Type Whole Foods WolfeResearch.com Page 9 of 14

10 Costco s January sales look a little slower we will find out tomorrow! Costco, after phenomenal sales growth at the end of 2014, seems to have slowed just a tad if we look at the rolling seven day average in Exhibit 11 below. Exhibit 11: COST: &.GPS (left) and Ratio (right) GPS Costco Note: is a 90-day moving average of total internet activity (which includes web/mobile traffic, external and machine to machine communications)..gps is a 7-day moving average of total internet activity. The Ratio is a relative measure that divides the.gps by the. A ratio greater than 1 Exhibit 12: COST: By Activity Type 2,000 1, by Activity Type Costco WolfeResearch.com Page 10 of 14

11 Dollar General is trudging along. The current climate is actually a little more challenging for the company the economy is too strong. Nevertheless, the combination of easier compares and the company s solid merchandising and execution should help sales and profits. Interestingly in Exhibit 14, the spike in traffic does seem to coincide with DG s efforts to purchase FDO. Exhibit 13: DG: &.GPS (left) and Ratio (right) 1.3.GPS Dollar General Note: is a 90-day moving average of total internet activity (which includes web/mobile traffic, external and machine to machine communications)..gps is a 7-day moving average of total internet activity. The Ratio is a relative measure that divides the.gps by the. A ratio greater than 1 Exhibit 14: DG: By Activity Type by Activity Type Dollar General WolfeResearch.com Page 11 of 14

12 Kroger Steady Eddie. While we believe Kroger s business did waver a little as the company cycled through some snowstorms in December, it is generally not skipping a beat. Our latest channel data continues to point to a company taking share, particularly the acquired Harris Teeter operations. Exhibit 15: KR: &.GPS (left) and Ratio (right).gps Kroger Note: is a 90-day moving average of total internet activity (which includes web/mobile traffic, external and machine to machine communications)..gps is a 7-day moving average of total internet activity. The Ratio is a relative measure that divides the.gps by the. A ratio greater than 1 Exhibit 16: KR: By Activity Type by Activity Type Kroger WolfeResearch.com Page 12 of 14

13 DISCLOSURE SECTION Analyst Certification: The analyst of Wolfe Research, LLC primarily responsible for this research report whose name appears first on the front page of this research report hereby certifies that (i) the recommendations and opinions expressed in this research report accurately reflect the research analysts personal views about the subject securities or issuers and (ii) no part of the research analysts compensation was, is or will be directly or indirectly related to the specific recommendations or views contained in this report. Other Disclosures: Wolfe Research, LLC Fundamental Stock Ratings Key: Outperform (OP): Peer Perform (PP): Underperform (UP): The security is projected to outperform analyst's industry coverage universe over the next 12 months. The security is projected to perform approximately in line with analyst's industry coverage universe over the next 12 months. The security is projected to underperform analyst's industry coverage universe over the next 12 months. Wolfe Research, LLC uses a relative rating system using terms such as Outperform, Peer Perform and Underperform (see definitions above). Please carefully read the definitions of all ratings used in Wolfe Research, LLC research. In addition, since Wolfe Research, LLC research contains more complete information concerning the analyst s views, please carefully read Wolfe Research, LLC research in its entirety and not infer the contents from the ratings alone. In all cases, ratings (or research) should not be used or relied upon as investment advice and any investment decisions should be based upon individual circumstances and other considerations. Wolfe Research, LLC Sector Weighting System: Market Overweight (MO): Market Weight (MW): Market Underweight (MU): Expect the industry to outperform the primary market index for the region (S&P 500 in the U.S.) by at least 10% over the next 12 months. Expect the industry to perform approximately in line with the primary market index for the region (S&P 500 in the U.S.) over the next 12 months. Expect the industry to underperform the primary market index for the region (S&P 500 in the U.S.) by at least 10% over the next 12 months. Wolfe Research, LLC Distribution of Fundamental Stock Ratings (As of December 31, 2014): Outperform: 41% 2% Investment Banking Clients Peer Perform: 50% 1% Investment Banking Clients Underperform: 9% 0% Investment Banking Clients Wolfe Research, LLC does not assign ratings of Buy, Hold or Sell to the stocks it covers. Outperform, Peer Perform and Underperform are not the respective equivalents of Buy, Hold and Sell but represent relative weightings as defined above. To satisfy regulatory requirements, Outperform has been designated to correspond with Buy, Peer Perform has been designated to correspond with Hold and Underperform has been designated to correspond with Sell. RISK: Wolfe Research, LLC does not claim to have back-tested Core2 data and only maintains electronic data back to October 31, Current data trends are not necessarily indicative of future data trends or stock performance. Wolfe Research Securities and Wolfe Research, LLC have adopted the use of Wolfe Research as brand names. Wolfe Research Securities, a member of FINRA ( is the broker-dealer affiliate of Wolfe Research, LLC and is responsible for the contents of this material. Any analysts publishing these reports are dually employed by Wolfe Research, LLC and Wolfe Research Securities. The content of this report is to be used solely for informational purposes and should not be regarded as an offer, or a solicitation of an offer, to buy or sell a security, financial instrument or service discussed herein. Opinions in this communication constitute the current judgment of the author as of the date and time of this report and are subject to change without notice. Information herein is believed to be reliable but Wolfe Research and its affiliates, including but not limited to Wolfe Research Securities, makes no representation that it is complete or accurate. The information provided in this communication is not designed to replace a recipient's own decision-making processes for assessing a proposed transaction or investment involving a financial instrument discussed herein. Recipients are encouraged to seek financial advice from their financial advisor regarding the appropriateness of investing in a security or financial instrument referred to in this report and should understand that statements regarding the future performance of the financial instruments or the securities referenced herein may not be realized. Past performance is not indicative of future results. This report is not intended for distribution to, or use by, any WolfeResearch.com Page 13 of 14

14 person or entity in any location where such distribution or use would be contrary to applicable law, or which would subject Wolfe Research, LLC or any affiliate to any registration requirement within such location. For additional important disclosures, please see. The views expressed in Wolfe Research, LLC research reports with regards to sectors and/or specific companies may from time to time be inconsistent with the views implied by inclusion of those sectors and companies in other Wolfe Research, LLC analysts research reports and modeling screens. Wolfe Research communicates with clients across a variety of mediums of the clients choosing including s, voice blasts and electronic publication to our proprietary website. Copyright Wolfe Research, LLC All rights reserved. All material presented in this document, unless specifically indicated otherwise, is under copyright to Wolfe Research, LLC. None of the material, nor its content, nor any copy of it, may be altered in any way, or transmitted to or distributed to any other party, without the prior express written permission of Wolfe Research, LLC. Data copyrighted and attributed to Core2 Group, Inc All rights reserved. This report including all analysis and discussion are proprietary to Wolfe Research, LLC. This report is limited for the sole use of clients of Wolfe Research. Authorized users have received an encryption decoder which legislates and monitors the access to Wolfe Research, LLC content. Any distribution of the content produced by Wolfe Research, LLC will violate the understanding of the terms of our relationship WolfeResearch.com Page 14 of 14