LOBLAW COMPANIES LTD. $58 (Toronto symbol L; SI Rating: Above average) is Canada’s largest supermarket operator, with over 1,600 company-owned and franchised stores. The company also distributes food and other goods to independent retailers. George Weston Ltd. owns 63% of the company.

Loblaw’s revenue grew from $21.5 billion in 2001 to $26.2 billion in 2004, as the company expanded the amount of non-food items in its stores, such as clothing and housewares. It also offered more services like dry cleaning. These moves also fueled its profit growth, from $2.04 a share (total $563 million) in 2001 to $3.48 a share ($968 million) in 2004.

In 2005, Loblaw launched a new strategy aimed at protecting its market share, and keeping its costs low. The main thrust of this plan is an overhaul of its warehouse distribution network, including closing six of its 32 distribution centres.

However, the process ran into problems, leaving some stores with too much merchandise, while others ran out. The company is also building more of its “Real Canadian Superstores” and “No-Frills” discount stores in its core urban markets, which have taken sales away from its regular stores.

These problems cut Loblaw’s 2005 revenue to $27.8 billion, and profit to $2.71 a share (total $746 million). If you disregard restructuring costs, Loblaw earned $3.35 a share in 2005.

Loblaw has a historical p/e of about 19. That’s high for a low-margin food retailer, but reasonable in light of its market share and innovative President’s Choice private label products. But like most high p/e stocks, it fell sharply on news of lower growth.

The company has now sorted out most of its supply snags, and should begin to realize some of the benefits of this reorganization in the second half of 2006. That should put Loblaw in a better position to deal with rising fuel and electricity costs, as well as rising costs for food products, ingredients and packaging.

Loblaw now aims to broaden its customer base with a new deal to sell President’s Choice products in Esso gas stations. A new line of private label clothing under the “Joe Fresh” brand should also attract more shoppers. Loblaw plans to install separate checkouts, so apparel buyers can avoid busy lineups at the regular grocery checkouts.

The stock now trades at 16.7 times the $3.48 a share that it will probably make in 2006 before one-time charges. We still have a high opinion of the company, but the stock is likely to stay in a narrow range until it’s clear that the restructuring plan is delivering higher earnings. The $0.84 dividend yields 1.4%.

Loblaw is a hold.