Sales of organic and natural products are soaring — but you would never know it from the share price of Whole Foods Market, the premier purveyor of such merchandise.
Shares are almost 50 percent lower than they were in February, the high point of the year.
Investment analysts are almost uniformly negative on the company, worried that competition from mainstream retailers, which are increasing the amount of organic and natural items in their mix, will impede the growth of Whole Foods.
Costco, for instance, claims to be the biggest seller of organic foods, and Wal-Mart now sells Wild Oats, a brand of organic products, at the same price as similar conventional brands
“Conventional retailers can get it into their stores more cheaply, and they can be more predatory on pricing,” said Mark Retzloff, a pioneer of the natural and organic foods retail business. “If one of those stores is just down the street from a Whole Foods, there’s a big segment of their customer base that isn’t going to shop at Whole Foods anymore.”
The encroachment of traditional retailers onto turf historically dominated by Whole Foods has reminded consumers of the old nickname for the chain, Whole Paycheck, Retzloff and others say.
“Their single biggest problem is their price image,” said Meredith Adler, who follows the company for Barclays Capital. “Sure, Whole Foods is working to lower prices in produce — but if it’s also selling fish that’s $45 a pound, it will be hard to convince people that prices are good.”
John Mackey, co-founder and co-chief executive of Whole Foods and, in many ways, its personification, agrees that there is more competition, but he objects to the conventional wisdom that the cure is to lower prices. “The Whole Foods Market brand may never shake that label,” Mackey said in a wide-ranging interview during a recent trip to New York.
Walter Robb, the other co-chief executive, argues that Wall Street’s relentless pressure on the chain to reduce prices is “a race to the bottom.”
“Sure, we could sell cheaper farmed salmon — but it’s terrible for the environment,” Robb said. “Our products are not the same” as what other grocers are selling.
He said he recently purchased four certified organic steaks at a mainstream retailer and had them analyzed. The steaks, he said, came from organic dairy cows that had been decommissioned at about 40 months — most beef cattle are slaughtered by 24 months for taste and food safety reasons. “Sure, those steaks technically meet the organic standards, but in terms of taste and flavor, they’re not the best example of organic meat,” Robb said.
Besides, he said, Whole Foods has worked hard to address price when it feels it can, and the effort upset Wall Street because it put a slight dent last quarter in the dollar value of the average basket at checkout.
The company’s financial performance is one of the envies of the grocery industry. Its sales per square foot in the last quarter were $990, which is thought to be among the highest in the industry. (Trader Joe’s sales per square foot are thought to be much higher, but the privately held company does not report such data.)
Whole Foods also has strong enough cash flow to finance new store development without resorting to borrowing, and almost no debt. That, combined with its low stock price, has made it a target of takeover rumors.
“Wall Street tends to understand the transactional much better than deep customer relationships,” said Paddy Spence, a veteran of the natural foods business who currently is chief executive of Zevia, a naturally sweetened, zero-calorie soda company. “Natural grocers, like high-end retailers, have a relationship with their customers that goes way beyond the transactional and is very hard to put a value on.”
There can be drawbacks to those close customer relationships as well. An example of that is the damage done to sales after the New York City Department of Consumer Affairs called out Whole Foods for mispricing some merchandise based on weight. The department found an average discrepancy of $2.75 between prices Whole Foods was charging for things like fruit plates and packaged chicken and the prices it should have been charging based on weight.
In its news release, the department did not mention infractions it had found at other grocers during its inspection of 120 stores in the city earlier this year. In three Gristedes stores it inspected, for instance, the average price discrepancy was $1.18, while at Key Food it was 20 cents and 12 cents at C-Town. Associated, Fine Fare and other grocery stores also had infractions.
After New York City’s findings went viral, sales at Whole Foods plummeted. In the two weeks after the announcement, comparable-store sales growth fell to just 0.4 percent, after running on average at 2.5 percent in the weeks before the findings were released.
“It actually hurt us worse outside New York City,” Mackey said.
The company, which apologized for the problem while emphasizing it is a common one in the grocery business, has hired a third-party auditor to monitor weights and measures in its stores and strengthened its training programs for new employees. Still, the issue continued to hurt sales in the following quarter, Robb told analysts.
Since then, Whole Foods has announced a number of changes aimed at appeasing Wall Street. It said it would cut its employee ranks by 3,000, though 1,500 of those employees are likely to get different jobs in the company, Mackey said.
It also struck an alliance with Infor, an enterprises software business, to build a system that will help it get a better read on its supply chain, improve its data analysis and reduce costs.
Whole Foods also bought a stake in Mendocino Farms, a tiny, popular chain of sandwich shops in Los Angeles. It will open Mendocino Farms outposts in some of its Whole Foods stores, starting with one in Irvine, California. Robb said that would enhance its prepared food business, which generated about $3 billion of sales in the last fiscal year.
But what everyone is waiting for is the first of its new stores, called 365, which will be smaller and sell a more limited mix of cheaper goods.
“It’s going to be interesting to see what Whole Foods does differently with 365. Are they really going to be different?” said Joe Dobrow, who has worked at several natural foods companies and is the author of “Natural Prophets,” a history of the business. “Or will it just be a downsized version of Whole Foods with a particular attention to price? I hope it’s not too little too late.”
Dobrow said the new stores could be a little more like Trader Joe’s, which gets about four-fifths of its sales from higher-margin private-label products, and Sprouts, which spends less to open stores and has lower labor costs because it has no prepared foods.
But Sprouts, which declined to comment, is not any more popular than Whole Foods with investors. Its stock is down about as much from its high this year as are the shares of Whole Foods.
Mackey is bemused by the interest in 365. “It’s not a revolutionary idea,” he said, noting that he expects the 365 concept to be to Whole Foods what Nordstrom Rack is to Nordstrom.
“In Whole Foods, you can find a wedge of brie for $2.99, and you can find a wedge of triple crème brie from France that’s made with milk from grass-fed cows that sells for $40,” Mackey said. “You won’t find any $40 brie at 365.”
365 stores will be less expensive to build, deploy more technology and be more self-service than Whole Foods stores.
More than 90 percent of the product selection and pricing for 365 will be set centrally, from Whole Foods’ offices in Austin, Texas, whereas such decisions are made for Whole Foods stores by regional teams and even at a store level. “Everything will be a lot more streamlined,” Robb said. “It’s going to be very different from Whole Foods Market.”
The first of the stores will open in Los Angeles next year. But Mackey and Robb believe 365 will do more than just add valuable new business to the company; it will help Whole Foods introduce its philosophy of food and values to neighborhoods that cannot sustain stores’ selling $40 blocks of cheese.
“365 can go places Whole Foods can’t,” Mackey said.
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