Organic food retailer Whole Foods Market, Inc. (WFM) recently launched its fighter brand “Whole Foods 365” to surprisingly mixed fanfare.
On the consumer end, the grand opening of “365 by Whole Foods Market” in the Silver Lake neighborhood of Los Angeles was met with tremendous enthusiasm.
However, market analysts have a different outlook.
CNBC pundits urged viewers to stay away from WFM stock, primarily on fears of cannibalization and the grocery industry’s cutthroat competition. But their bearishness stems from a misunderstanding of the Whole Foods 365 business plan.
First, we must understand what cannibalization is. According to a textbook definition, it is a business action that is deleterious or disadvantageous, such as shifting assets from one place to another or selling virtually identical products.
WFM Isn’t a Cannibal
Whole Foods 365 simply doesn’t qualify as a cannibal. WFM attracts mature, financially successful Millennials and younger “Gen-X” consumers. On the other hand, Whole Foods 365 caters to a younger crowd that is more price sensitive. To their credit, the business plan isn’t just marketing rhetoric.
According to data compiled by the Los Angeles Times, there are significant savings across multiple food items.
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A dozen eggs at WFM sell for $3.79, whereas Whole Foods 365 sells them for $2.99. The most pronounced difference came from a loaf of bread. WFM charges $2.99, but Whole Foods 365 comes in at a dollar less, or a 21% savings.
Admittedly, there’s some work to be done. Both WFM and Whole Foods 365 charge the same price for peanut butter and paper towel rolls. Still, inclusive of these items, the fighter brand shoppers still walk away with double-digit percentage savings.
But WFM stock would likely be the biggest beneficiary of the Whole Foods 365 venture. The correlation between the company’s top-line sales and the market returns for WFM stock cannot be ignored.
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In each year between 2010 until the end of 2013, WFM produced double-digit revenue growth. Likewise, WFM stock jumped from an average of nearly $18 to over $50 in the same time frame.
But from 2014 onward, annual revenue has fallen to single digits, while WFM stock has taken sharp losses. Year-to-date, shares are down 4%.
It’s obvious that besides traditional grocery competition, aggressive entries by Wal-Mart Stores, Inc. (WMT) and Target Corporation (TGT) have taken their toll on WFM stock.
In particular, both big-box retailers are crowding into the organic foods market — Whole Foods’ forte. That not only pressures revenue, but it also hurts the bottom line. Annual net margins for WFM fell an average of nearly 10% in fiscal years 2014 and 2015.
This is what makes the Whole Foods 365 concept a compelling solution. It’s not just about competing on volume. Rather, WFM is protecting its margins, and thereby, protecting the brand reputation and its investment potential.
The new stores will be, on average, 33% smaller than the typical WFM location. More importantly, Whole Foods 365 will employ about 100 workers per store, compared to the 250 to 500 workers per WFM store.
The strategic development of 365’s physical infrastructure ensures that the efficiency generated by these cost savings is maximized. For instance, the new stores will feature computerized displays, where shoppers can weigh produce and print a checkout label.
Tech-savvy Millennials will appreciate this chic-cool experience — after all, that is 365’s core audience — and checkout lanes should fly by quickly despite the comparatively reduced headcount. In addition, the fighter brand will have a spartan look. That goes in line with the concept that Whole Foods 365 is all about the savings.
Rather than cannibalization, WMT and TGT should be worried that WFM doesn’t take away from their collective market share in groceries. Big-box retailers are trying to prove to Wall Street that they can’t deliver the goods, even in the face of a soft consumer market. Neither can afford to have another rival eat away at their sales, especially one riding positive momentum.
Despite the fierce competition in the grocery industry, WFM also has the advantage of punching uphill. They’re a smaller fish taking on a bigger pond. TGT receives 21% of their sales from groceries and pet goods, whereas WMT gets more than half from groceries alone.
That puts greater pressure on the giant retailers, where margins are dependent upon disparate product lines. In contrast, all WFM has to focus on is providing better goods and services as it relates to food.
Better yet for WFM stock buyers, both WMT and TGT have shown considerable vulnerabilities in their business execution.
Walmart shoppers can and will find alternatives to their grocery needs. Target practically pushed their customers away when their CEO stupidly and arrogantly weighed in on a fiercely divisive political issue.
In other words, no one has a lock on the checkout lane — and that suits Whole Foods 365 just fine.
Many have come out to blast WFM for an ineffective and counterproductive solution to their weakening sales. However, its competitors that are shaking in their boots.
The Whole Foods 365 concept is a full-scale assault through both volume and margins. It also turns the tables on big-box retailers, giving them a taste of their own medicine. That’s great news for customers, and perhaps, even better news for WFM stock investors.
As of this writing, Josh Enomoto did not hold a position in any of the aforementioned securities.
