No one has ever accused Amazon of being risk averse.
In yet another surprising and bold move that emerged late last week, Amazon proposed a buyout of the struggling Whole Foods Market specialty chain of natural-food stores for $13.7 billion, including assumption of debt.
The buyout was surprising because it was not really anticipated by anyone, least of all those on Wall Street. The day prior to the announcement, Whole Foods’ stock ticked down slightly. The next day, shares soared on the news that Amazon had offered $42 per share. Indeed, share prices soon exceeded the buyout price, opening the possibility that Amazon bid too low and that other buyers could emerge. Imagine Whole Foods as a fine store-in-a-store concept for a conventional supermarket. Will one top Amazon’s bid?
In another surprise, days prior to the buyout proposal, Whole Foods’ founder and CEO John Mackey was quoted in Texas Monthly magazine saying that Whole Foods was his “baby” that activist investors — those “greedy bastards” — were trying to snatch from his hands. Those investors are Jana Partners, which owns 8.3 percent of Whole Foods’ shares, and Neuberger Berman, which own 2.7 percent. Together, those investors own 11 percent of Whole Foods. Whether the investors inspired the Amazon bid or not, we could imagine that Mackey’s heated description of them was the classic red herring.
Not long after the buyout news broke, a lot of breathless commentary was offered, most of it to the effect that Amazon was on course to completely upend the conventional food-retailing business by using Whole Foods as a launch pad for some sort of food-delivery system that would succeed where all other attempts have failed outright or failed to flourish. Wall Street agreed by punishing the share prices of numerous conventional food retailers and manufacturers.
Let’s see if the commentators and Wall Street are good prophets. I think not.
What exactly does Amazon seek? Whole Foods is a chain of more than 460 stores spread across wide geography. Most stores are in the U.S., although a few are in Canada and the U.K. Most, although not all, are in affluent urban areas.
The chain is so thinly spread that operational efficiencies are difficult to obtain. Each group of a few stores must make its own buying decisions and arrange for a local distribution process for a lot of product. Chains with better regional mass can enjoy the efficiencies of centralized buying and marketing. Whole Foods’ methods make its high prices a requirement of its success. But they’re also the seeds of failure.
Signs that the chain was faltering have been in the wind for a long time. Take a look at the critical comp-store sales metric. Six years ago, comp sales were approaching 10 percent, a number without precedent in contemporary food retailing. By 2014, a steep decline set in and by mid-2015, the measure slipped into negative territory; below minus 2 percent. During the most recent quarter, comp sales dipped to minus 2.8 percent.
As for share prices, Whole Foods’ most recent market top was at $60 in 2013. On the day prior to the Amazon announcement, it sold at less than $30, or half that.
What caused that decline is very simple. In addition to the inefficiencies its location strategy produced, Whole Foods once had a near monopoly on organic and natural product, which gave it great pricing power. Then competitors wised up and started to offer such product at much lower price points. So without either exclusivity of product or pricing power, Whole Foods’ financial performance fell off a cliff.
One reason Amazon wants Whole Foods is that it has long sought to reverse-engineer its way into physical-store retailing. It has tinkered with that by opening a few bookstores and one convenience-style food store. The latter, dubbed Amazon Go, was intended to be fully automated with customers’ purchases tallied and charged as they withdrew product from the shelf. This giant-vending-machine concept has apparently not worked out well. Months after it was to have been opened to the public it remains in beta mode, open only to Amazon employees.
So, assuming Amazon successfully acquires Whole Foods, what can it do with it? The initial assumption that it can figure into a home-delivery method may be valid, but only to a minor extent. Customers still remain resistant to buying food, especially fresh and natural food, online. Most prefer to examine and select their own food product, which is why home delivery of food has remained minuscule, while nearly all other product categories are burgeoning online.
Also Whole Foods is a very small retailer. It has a market share of less than 2 percent, placing it just above Trader Joe’s share. By comparison, Walmart’s market share of food sales alone is approaching 25 percent.
For some time to come, the best Amazon can do is to reduce price points at Whole Foods, endeavoring to build some market share. Amazon would also do well to put the kibosh on Whole Foods’ lower-priced format expansion, “365 by Whole Foods.” That small-store format is little more than a distraction from the core mission.
Amazon should be able to underpin a move to lower prices by improving operating efficiencies. It does know a lot about logistics. Conversely, if Amazon tries to wring price concessions from food manufacturers — as their investor slide on Wall Street implies — it will find there’s little slop left in the system. Walmart has been wringing manufacturers dry for a long time.
So Amazon may succeed with some of these moves since there is still no expectation on Wall Street that Amazon needs turn a profit, so access to capital should continue without fetters, handing Amazon something of a test laboratory.
Yet, no matter how well Amazon succeeds, surely it will lag behind Walmart’s market share in food for many years to come. After all, Walmart has been building stores for more than 40 years. That’s the difficult and capital-intensive part. Absent a huge buyout that dwarfs Whole Foods, Amazon will need a lot of time to build anything like Walmart’s store-asset base.
Meanwhile, Walmart is moving into Amazon’s online territory with a couple of recent buys of online vendors: Jet, Modcloth and most recently, Bonobos. By staffing up with entrepreneurs, add-ons of successful startups will be comparatively easy for Walmart to continue to do so.
What does it all mean? The possible acquisition of Whole Foods shows, once again, that specialty stores of all types are declining at a rapid pace and are vulnerable to being snapped up at best, or failing outright. Sadly, this is true even in the context of the decline of broad-line retailers.
So, has Amazon tried to grasp a poisoned chalice? If Amazon’s aim was to move into food retailing in a big way, and it has no additional strategies in mind, that’s just what it has.