When the United States' largest retailer takes on organic foods with lower priced offerings than rivals, the market responds. That is why shares of Whole Foods (NASDAQ:WFM), Annie's (NYSE:BNNY), and Hain Celestial (NASDAQ:HAIN) are all in focus this week. Wal-Mart's push for organic foods with Wild Oats is its most ambitious yet and will be huge for the industry and competition.
Wal-Mart (NYSE:WMT) announced a new partnership with Wild Oats to bring affordable natural and organic food to the masses. The leading retailer says the new product offerings "will be cheaper than national branded organic foods already in Wal-Mart." Most items will cost 25% less than other natural and organic brands in stores. Over 100 new items will be exclusive in over 2,000 Wal-Mart stores. The brands will eventually make it in over 4,000 Wal-Mart stores.
Wal-Mart's U.S. executive vice president, Jack Sinclair, is dead-on with this:
We are trying to disrupt the market. What is it that makes organic products so expensive? Where's the point of inefficiency? We want to bring accessibility to organic items.
I have long said that until organic food came down in price, it would not appeal to the masses. Wal-Mart is transforming the sector, and while the market will expand, current organic food companies could be in for a world of hurt with pressure on profits and pricing to compete with Wal-Mart. Wild Oats CEO Tom Casey thinks Wal-Mart is leading "the next phase of growth for the organic industry."
Wal-Mart has over 1600 organic grocery items in stores. A search online shows 2378 results under "organic." The company's own Marketside organic produce line has expanded throughout the chain. Wild Oats was the second largest organic grocer in the United States. Whole Foods acquired Wild Oats in 2007, but was forced to sell the brand in 2009 due to anti-trust concerns.
Ironically, Whole Foods now could have the most to lose from the Wild Oats partnership with Wal-Mart. Whole Foods is the number one retailer of organic food in the United States. The retailer also has its own private label brand called 365 Value, which could compete with the Wal-Mart products.
In the first quarter, Whole Foods saw record sales of $4.2 billion. More impressive, the company had its highest ever backlog of new stores with 107. The company ended the quarter with 373 stores in the United States, Canada, and the United Kingdom. Whole Foods remains on track to open its 500th store by 2017 and still believes it can reach its potential of 1200 stores in the United States.
Same store sales increased 5.4% in the first quarter. The company also saw impressive same store sales in fiscal 2013 with results of +7.2%, +6.9%, +7.1%, and 5.9% for the first through fourth quarters respectively. As you can see, the sales are actually coming in at lower growth rates.
To make matters worse, the Marketwatch article points out a 2007 blog post from Whole Foods CEO John Mackey predicting his company's market leadership demise. In an argument of why the FTC should have approved the Wild Oats acquisition, Mackey said if Wal-Mart were to:
acquire Wild Oats and commit their enormous capital resources to growing the company and improving its execution, then this could threaten Whole Foods' #1 leadership position.
Time will tell if Mackey was right with this prediction.
Whole Foods opened 32 stores in fiscal 2013 and plans on opening 33 to 38 in the current fiscal year. Whole Foods expects sales to increase 11% to 12% in fiscal 2014. It also expects same store sales to increase 5.5% to 6.2%. These numbers are all slight decreases over a prior range. Estimates on Yahoo Finance call for sales growth of 11.3% to $14.4 billion.
Whole Foods has a great opportunity to grow its store base and sales along with it. However, with growing competition from Wal-Mart and a price to earnings ratio in the 25-35 range based on fiscal 2015 estimates, shares are expensive and will likely see a correction soon.
Wal-Mart's biggest rival in the United States, Target (NYSE:TGT), is growing its organic and natural brands. The company has a Simply Balanced line and also recently introduced its Made to Matter Collection, featuring 17 well known organic brands. Brands included are Chobani, Plum Organics (NYSE:CPB), Ella's Kitchen , Burt's Bees (NYSE:CLX), Kashi (NYSE:K), and others. Over 120 products are offered exclusive to Target for 6 months. A search on Target's website shows 230 Simply Balanced products available in stores and an additional 145 products available online, and also for in-store pickup.
Aside from other retailers, individual organic food companies could see a huge impact from Wal-Mart's increasing entry in the market. Annie's , for example, has a strong presence in grocery stores, including Target, where it has 76 products, including 8 exclusives. However, can the company's high profit items keep the growth up with competing lower priced sales?
Hain Celestial is the largest natural organic food and personal care company in the United States. I actually highlighted the company as an investment opportunity, despite a high price to earnings in a May 2013 article. At that time, I highlighted Hain's acquisition of Ella's Kitchen and the fact that Hain had hit nine consecutive quarters of double digit earnings per share growth. Since that article, shares are up 36%.
Shares of Hain now trade at $84.10 and appear slightly overvalued, trading at 27 times current expected earnings per share of $3.11. While I normally favor a high growth company like this for a long-term investment, Hain's growth is slowing, and Wal-Mart will pose a serious threat. Analysts see revenue growing 23.2% in fiscal 2014 and only 13.5% in fiscal 2015.
Hain's CEO, Irwin Simon, appeared on CNBC Friday morning to discuss the Wal-Mart news. He discussed the growth in the organic market and seemed to not be concerned by saying, "Wal-Mart is a great customer." He also said customers will pay for good organic products. The difference here is Wal-Mart's new organic products will be 25% cheaper than Hain products. The company has more than 100 products in Wal-Mart stores today. I would take profits and stay away from Hain for now.
For General Mills (NYSE:GIS), the timing of the Wal-Mart announcement could be very bad. The company reported a poor third quarter that saw revenue and profits decline. Revenue declined 1% to $4.4 billion. The bright spots for the company were sales in Latin America and the Small Planet Foods segment. Small Planet Foods, which includes brands Cascadian Farms, Muir Glen, Larabar, and FoodShouldTasteGood, continues to be a huge growth source for General Mills.
Over the last nine months, net sales for the Small Planet Foods grew 8%, the highest increase of any category mentioned by General Mills. Broken down even further, the cereal from Small Planet Foods grew 1%, and the snacks from Small Planet Foods grew an amazing 23% over the last nine months. The search for "organic" on Wal-Mart listed Cascadian Farms and Muir Glen as top brands.
In fiscal 2013, General Mills saw total sales increase 7% to $17.8 billion. The growth was led by new businesses, which contributed 6% of the total growth. Fiscal 2014 has been rough for General Mills and if its strongest growth category faces competition, shares could feel more pressure going forward.
The organic packaged food market continues to grow in the United States, as customers try healthier food offerings. The lower price points will expand this market. Last year, the industry hit $12 billion in sales. The overall packaged food market in the United States had sales of $360 billion last year.
Investors can invest alongside Wal-Mart to capture growth in the organic market. However, for a huge company of Wal-Mart's scale, there isn't as much growth for investors to see. To me, the trade is more of a cautious play to stay away from current organic companies like Whole Foods and Hain Celestial.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.