Executive Summary / Key Takeaways

• Natural Grocers by Vitamin Cottage, Inc. (NGVC) delivered exceptional results in the first half of fiscal year 2025, including record sales and earnings, driven by robust comparable store sales growth fueled by increases in both transaction count and size.
• The company's differentiated business model, centered on high-quality, strictly vetted natural and organic products at affordable prices, coupled with a strong emphasis on nutrition education and customer service, continues to resonate strongly with consumers prioritizing health and sustainability.
• Strategic initiatives, particularly the highly successful {N}power loyalty program (81% sales penetration) and the expansion of Natural Grocers branded products, are key drivers of customer engagement, loyalty, and margin improvement.
• Based on strong performance, management has raised its fiscal year 2025 outlook for comparable store sales growth (6.5% to 7.5%) and diluted earnings per share ($1.78 to $1.86), while maintaining a disciplined approach to new store growth (3-4 openings planned).
• While facing potential headwinds from the broader macro environment, inflation/tariffs, and intense competition, NGVC's loyal customer base and value proposition position it favorably, though continued operational execution and strategic investments are crucial for sustained growth and profitability.

A Niche Pioneer's Enduring Recipe for Retail Success

Founded in 1955 by the Isely family, Natural Grocers by Vitamin Cottage, Inc. emerged as an early proponent of the natural and organic foods movement. From its inception, the company established core principles that continue to define its identity and strategy today: a commitment to offering high-quality, strictly vetted natural and organic groceries, dietary supplements, and body care products at affordable prices, coupled with a strong emphasis on nutrition education, exceptional customer service, and community engagement. This foundational philosophy has shaped NGVC's differentiated merchandising strategy and its focus on creating a unique in-store shopping experience.

Operating primarily through a network of smaller-format stores, typically ranging from 7,000 to 17,000 selling square feet, NGVC has steadily expanded its footprint. As of March 31, 2025, the company operated 169 stores across 21 states. While its store growth rate has been measured, increasing at a compound annual growth rate of 2% over the five fiscal years ending September 30, 2024, the focus has been on profitable expansion and enhancing the productivity of its existing base. This includes opening four new stores and relocating/remodeling four in fiscal year 2024, and adding two new stores, relocating/remodeling two, and closing two in the first six months of fiscal year 2025. The company targets a future pace of six to eight new store openings per year, subject to market conditions and real estate opportunities.

Central to NGVC's operational model is its bulk food repackaging facility and distribution center in Golden, Colorado, which supports its retail operations and helps maintain its quality standards and product flow. This integrated approach, combined with a focus on operational execution and expense management, forms the backbone of its business.

Competing in a Fragmented Landscape

The grocery and dietary supplement retail sector is characterized by its large size, fragmentation, and intense competition. NGVC competes with a diverse array of players, including large conventional supermarkets with natural/organic sections (like Kroger (KR)), national specialty chains (like Sprouts Farmers Market and Amazon's Whole Foods Market), regional natural food stores, mass merchants, and increasingly, online retailers. Competition is fierce across multiple dimensions: price, product selection and quality, customer service, convenience, location, store format, and the overall shopping experience. Many competitors are also expanding their natural and organic offerings, intensifying the fight for market share.

NGVC strategically positions itself within this landscape by emphasizing its strict quality standards and commitment to affordability. Unlike some larger competitors who may offer a broader but less curated selection, NGVC's product standards are a key differentiator. For instance, its meat standards prioritize humanely raised and sustainably sourced options, its dairy is exclusively pasture-raised and non-confinement, and its produce is 100% certified organic. This focus on product integrity, combined with a value-oriented pricing strategy ("always affordable prices"), aims to attract and retain health-conscious consumers who are discerning about what they purchase.

While larger competitors like Sprouts Farmers Market and Amazon (via Whole Foods) benefit from greater scale, potentially leading to efficiencies in sourcing and distribution, NGVC leverages its smaller format and community focus. Its in-store experience, emphasizing knowledgeable crew and nutrition education, is a core part of its value proposition, particularly appealing to customers who prefer a guided shopping journey. Approximately 98% of NGVC's sales occur in-store, highlighting the importance of this physical experience, although the company also offers online ordering via third-party services like Instacart, which currently accounts for a steady ~2% of sales and has become margin neutral compared to in-store sales.

Financially, while larger players may exhibit different margin profiles influenced by scale and product mix (e.g., Amazon's overall higher margins driven by its tech business, or Sprouts' slightly higher operating margins potentially reflecting scale efficiencies), NGVC's focus on expense leverage from growing sales has been a key driver of its recent profitability improvements. Management notes that their store performance is "pretty even" regardless of whether they are directly competing with Sprouts (SFM), suggesting their differentiated model holds its own in shared markets. However, the sheer scale and technological investment capabilities of giants like Amazon represent a significant competitive force, particularly in areas like online fulfillment and data analytics.

Operational Technology and Strategic Initiatives Driving Performance

While not a technology company in the traditional sense, NGVC leverages operational technology and strategic initiatives to enhance its business model and drive performance. The {N}power rewards program stands out as a key technological tool for customer engagement and loyalty. This program allows NGVC to offer personalized discounts and promotions based on shopping habits, effectively driving repeat business and increasing transaction frequency. With a net sales penetration reaching 81% in the first two quarters of fiscal 2025, up from 78% a year prior, {N}power is a quantifiable success metric reflecting strong customer loyalty and engagement. Management views it as the "most cost-effective way for us to market," highlighting its efficiency in driving top-line sales by encouraging more frequent transactions from engaged members.

Investments in internal systems are also evident, with administrative expenses showing an increase driven in part by "technology expenses" and costs related to "implementation costs for software hosting arrangements" (SaaS). While specific quantifiable benefits of these internal tech investments are not detailed, they are crucial for modern retail operations, supporting areas like inventory management, supply chain logistics, and potentially enhancing the customer experience or internal efficiencies. These investments, though not a proprietary technological moat on the scale of Amazon's (AMZN) AI-driven logistics, are necessary to maintain operational effectiveness and support growth.

The company's online offering, facilitated through a third-party platform (Instacart), represents a strategic use of existing technology infrastructure to provide convenience without the significant capital investment and operational complexity of building an in-house delivery system. While contributing a modest portion of sales, the improvement in its economics to be margin neutral demonstrates effective management of this channel.

Beyond technology, the expansion of Natural Grocers branded products is a significant strategic initiative. These products are positioned as delivering "premium quality at compelling prices" and meet NGVC's high standards for nutritional health and sustainability. Accounting for 8.6% of total sales in Q2 FY2025 (up from 8.5% a year ago) and 8.9% in Q1 FY2025 (up from 8.5%), these products contribute to both the value proposition for customers and potentially offer higher product margins for the company. The consistent launch of new items (22 in Q2 FY25, 23 in Q1 FY25, 80 in FY24) across categories like coffee, household cleaning, and groceries indicates a strong focus on expanding this profitable segment.

Financial Performance Reflecting Strategic Execution

Natural Grocers has demonstrated a strong track record of performance, including 21 consecutive years of positive comparable store sales growth through fiscal year 2024. This sustained growth underscores the resilience of its business model and its ability to consistently attract and retain customers.

The first half of fiscal year 2025 continued this positive momentum, delivering record sales and earnings. Net sales for the three months ended March 31, 2025, increased 9.0% to $335.8 million, and for the six months, rose 9.2% to $666.0 million. Daily average comparable store sales were a robust 8.9% for both the three and six-month periods, accelerating to 16.4% on a two-year basis in Q2 2025. This comparable sales growth was balanced, driven by a 5.9% increase in daily average transaction count and a 2.8% increase in daily average transaction size in Q2 2025. The increase in transaction count marked the ninth consecutive quarter of positive traffic, while the increase in transaction size reflected both modest inflation and a rise in items per basket.

Profitability saw significant improvement. Gross profit increased 12.6% in Q2 2025, with gross margin expanding by 100 basis points to 30.3%, primarily attributed to higher product margin from effective promotions. For the six months, gross margin improved by 70 basis points to 30.1%. Store expenses increased, primarily due to higher compensation, but decreased as a percentage of net sales (21.7% in Q2 2025 vs. 22.5% in prior year) due to expense leverage from higher sales. Administrative expenses increased due to compensation and technology costs, rising slightly as a percentage of net sales (3.3% in Q2 2025 vs. 3.1%).

The combined effect of strong sales growth and expense leverage resulted in a significant increase in operating income, which grew 55.9% to $17.6 million in Q2 2025, with operating margin expanding by 150 basis points to 5.2%. For the six months, operating income rose 40.1% to $30.9 million, and operating margin improved by 100 basis points to 4.6%. Net income saw a substantial increase, rising 64.6% to $13.1 million in Q2 2025, resulting in diluted earnings per share of $0.56. For the six months, net income was up 46.6% to $23.0 million, with diluted EPS of $0.99.

Looking back, the company's performance over the previous five years (ended Sep 30, 2024) highlights its sustained trajectory, with net sales growing 37% and diluted earnings per share more than tripling.

Liquidity and Capital Allocation

Natural Grocers maintains a solid liquidity position. As of March 31, 2025, the company held $21.2 million in cash and cash equivalents and had no outstanding borrowings under its revolving Credit Facility. This facility provides $70.3 million in available borrowing capacity (net of $2.2 million in letters of credit) and matures in November 2028. The company was in compliance with all Credit Facility covenants.

Cash flow generation from operations remains strong, providing the primary source of liquidity. Net cash provided by operating activities was $36.7 million for the first six months of fiscal 2025. Capital expenditures, primarily for new and relocated stores, totaled $15.9 million in net cash used in investing activities during the same period. This resulted in free cash flow of $20.8 million for the first half of the year.

The company plans to spend approximately $20.1 million to $28.1 million on capital expenditures during the remainder of fiscal year 2025, focused on new store openings and relocations/remodels.

The company has a history of returning capital to stockholders. Over the five years ended September 30, 2024, it returned $108 million through cumulative dividends. The Board approved a quarterly cash dividend of $0.12 per share on May 7, 2025, consistent with the dividend paid in the first two quarters of fiscal 2025. The company also has a share repurchase program with $8.1 million remaining under authorization as of March 31, 2025, extended through May 2026, although no shares were repurchased in the most recent periods. Management believes current liquidity, combined with operating cash flow and Credit Facility availability, is sufficient to meet its capital needs, including planned CapEx, debt service, stock repurchases, and dividends for the foreseeable future.

Outlook and Key Considerations

Based on the strong performance in the first half of fiscal year 2025 and confidence in ongoing business trends, management has raised its full-year fiscal 2025 outlook. The revised guidance includes:

• New Store Openings: 3 to 4 (updated from 4 to 6)
• Store Relocations or Remodels: 2 to 4
• Daily Average Comparable Store Sales Growth: 6.5% to 7.5% (increased from 5% to 7%)
• Diluted Earnings Per Share: $1.78 to $1.86 (increased from $1.57 to $1.65)
• Capital Expenditures: $36 million to $44 million

Management's outlook assumes that sales comparable store sales growth will moderate somewhat in the second half of the year as the company cycles relatively strong prior-year comps. They anticipate modest inflation throughout the year, acknowledging uncertainty regarding the impact of potential tariffs. Gross margin is expected to be relatively flat to slightly lower year-over-year, depending primarily on promotional investments. Store expenses as a percentage of sales are projected to be relatively flat to slightly lower, reflecting continued expense leverage.

While the outlook is positive, several risks and challenges warrant investor attention. The business remains susceptible to general economic conditions, including consumer spending levels, inflation or deflation, and potential recessionary pressures. The labor market continues to present challenges in attracting and retaining staff, potentially leading to increased wage costs. Global supply chain issues could still cause product shortages or delays. The competitive landscape is intense and could intensify further. Changes in consumer preferences or perceptions regarding natural/organic products could impact demand. The potential imposition of additional tariffs could increase product costs, potentially requiring price increases that could affect competitiveness.

However, management expresses confidence in the company's ability to navigate the uncertain economic environment, citing the enduring nature of consumer focus on health and wellness and the historical resilience of their customer base. The differentiated value proposition, strong customer loyalty driven by the {N}power program, and focus on high-quality, affordable products are seen as key strengths that position NGVC favorably.

Conclusion

Natural Grocers by Vitamin Cottage, Inc. continues to demonstrate the strength and resilience of its differentiated business model. By adhering to its founding principles of quality, value, nutrition education, and customer service, the company has cultivated a loyal customer base and consistently delivered positive comparable store sales growth. The exceptional financial performance in the first half of fiscal year 2025, marked by record sales and earnings and significant margin expansion, underscores the effectiveness of its operational execution and strategic initiatives like the {N}power program and private label expansion.

The raised fiscal year 2025 guidance reflects management's confidence in the company's momentum and its ability to continue driving profitable growth despite potential macroeconomic headwinds and competitive pressures. While the company operates in a highly competitive and fragmented market and faces risks common to the retail grocery sector, its unique positioning, strong customer engagement, and disciplined approach to growth provide a compelling investment narrative. Investors should monitor the company's ability to sustain comparable store sales growth, manage costs effectively to maintain margin leverage, execute its new store development plans, and navigate the evolving economic and competitive landscape, particularly the impact of inflation, tariffs, and the technological advancements of larger rivals. NGVC's recipe for success, rooted in its core values and operational strengths, appears well-suited to continue cultivating value for its stakeholders.