Whole Foods Market: On Track for Organic Success

In 1980, the first Whole Foods Market (WFMI) was opened by John Mackey, a liberal, tree-embracing bohemian with a vision of human and earth symbiosis. With the most righteous of intentions, Mackey grew his business into the nation’s largest natural food vendor. Today, Whole Foods is a hot-spot for health nuts and selective shoppers alike. Listening to Whole Foods’ management, you get the sense that these people are genuinely out there to improve everybody’s wellbeing, especially by helping us get healthier.

As it turns out, the best way to do that is by growing Whole Foods into a mammoth corporation, even if that means eating up the competition. On August 28, it acquired Wild Oats, the next largest competitor, and consequentially has control of practically the entire organic grocery industry now. In fact, the Federal Trade Commission thinks they have a monopoly but the reality is there are plenty of supermarket competitors out there, from Kroger to Safeway; they just aren’t as health-friendly as Whole Foods. Management has plans in place to take advantage of its market leadership position and they fully expect the Company to become the nation’s #1 health guru. When you have true concern for your customers, success inevitably seems to follow. One Company that follows similar guidelines is Google (GOOG), which has a nice $163 billion market capitalization. Google strives to provide unbiased, fair search results as it follows a company motto of “don’t be evil.” The moral of the story: always bet on the good guy, because ultimately he will head in the right direction; up.

Further improving Whole Foods’ monopolistic position are current trends that are at the forefront of Americans’ minds these days:

America is Gaining Weight

With U.S. obesity rates that health officials are calling an epidemic, WFMI has set out to be part of the cure. Diet pills and downright loony exercise fads have taken the country by storm, and the kicker is none of them seem to work by themselves. Healthy eating is far and away the best method of maintaining a normal weight and overall health for that matter, and everybody knows it. Whole Foods’ product offerings are all-natural, free of trans-fats, chemicals, hormones, and all those other bad influences. The Company strictly prohibits many unhealthy ingredients in the products it sells, and suppliers are carefully chosen to ensure only the healthiest foods are made available.

Global Warming is a Real Threat

We have always acknowledged this idea, but for a long time, we as a country were reluctant to do anything about it. I think Al Gore finally knocked it into our heads, thus winning him the Nobel Prize. Actually, “improvement in the state of the environment “ is in Whole Foods’ mission statement, and the Company has always made an effort to buy from eco-friendly suppliers, while making its own stores energy efficient at the same time. The construction of new stores follows a waste reduction program, many products utilize recycled packaging, and maintenance uses eco-friendly cleaning products, among other initiatives. One soon-to-open Whole Foods market in Texas boasts a giant leaf-shaped roof that summons natural light into the store and collects rain water to self-irrigate plants in the main corridor. The Company recently ditched plastic bags at its stores in favor of more biodegradable paper.

Whole Foods is a great example of a modern, progressive Company that is ahead of the curve. Fatty, colored, preserved, brand name foods no longer hold the same value that they once did, and the well-being of body and environment are becoming more and more a part of the “in” society. The Company has a massive competitive advantage in the fact that it is now the only major organic grocer in the country. It already charges a premium for the majority of its products, which should only increase as synergies from the Wild Oats acquisitions are realized. Other supermarkets are trying to break into the huge market that has become the organic food industry, but selling “normal” food alongside organic food does not have the same market penetration, and the variety is not near what Whole Foods offers. As food prices have soared in recent months, led by increases from corn and wheat, Whole Foods has not seen a significant dent in sales. In fact, as conventional foods become more expensive, the premium products Whole Foods offers actually become a bit more attractive from a relative value standpoint.

Organic food revenue has been increasing at an annual rate of approximately 18.7%, and there are no signs of it slowing down. In 1997, organic food represented 0.8% of the entire food market and by the end of 2006 it was 2.8%. Whole Foods gathered roughly 35% of U.S. organic food revenue last year, approximately $5.8 billion, and this was before the acquisition of the second largest player in the space, Wild Oats. Including Wild Oats, Whole Foods will account for almost half of all U.S. organic food revenue. Another point deserving mention is that Whole Foods opened a record twenty-one stores during its fiscal year 2007, and it plans to open just as many in 2008. In a market that can grow between 15% and 20% in any given year, business looks promising for Whole Foods, especially if it is able to gain relative market share for itself. By averaging the annual growth rates of organic and total food sales from 1997 through 2006 and applying this average rate, one finds that organic food sales should be roughly $33 billion by 2010, representing 4.8% of the total food market. Whole Foods’ management stated that it expects to generate over $12 billion of revenue by 2010 and as such, it would command over 1% of the U.S. food market.

As a long-term buy and hold, Whole Foods is highly promising and its future looks bright for years to come. In a few years it will surely be a nationwide icon of organic nutrition. The Company is currently in the middle of an exhaustive integration effort to incorporate Wild Oats into its operations, and therefore I would not recommend it as a short term play, as value will not increase significantly for some time. The Company will be spending heavily all year and its expenses will be high, which represents a good opportunity to invest in the Company on weakness. The stock value should stay relatively flat throughout 2008 before accelerating sometime next year as new store openings and improvements start paying off. With a dividend yield of 2.13, the stock represents a solid value play until management is able to fully integrate the Wild Oats acquisition and begin to benefit from the synergies.

Written by David Urani a Research Analyst for Wall Street Strategies (www.wstreet.com) specializing in the homebuilding, staffing, medical devices, and logistical services industries.

Disclosure: none

Comments

[Alan Brochs...:]

Your fluff piece is laden with inaccuracies. Last time I checked (earlier this week), they sold a lot of "unhealthy products" - cheese for one. Their muffins are ridiculously fatty. They sell chocolate chip cookies!

It sounds like you love the company - many do (including me). Unfortunately, this doesn't mean doodly for the stock. You don't address valuation, which remains high.

As disclosure, I tried to get short the stock again recently before they reported, but I was unable to do so (my account is at Charles Schwab).

2008 Feb 22 07:26 AM

[ballsschweaty:]

Buying Wild Oats was a huge mistake. Many customers are tired of the Whole Foods con job. Conventional Mexican produce at triple the prices is not a sustainable business model.

Wackey Mackey is a fraud in my opinion.

2008 Feb 22 11:57 AM

[petervankan:]

It is true that WF also sells not organic foods. And that is the only inaccuracy I can see. One thing that wasn't mentioned is the international expansion that has already started. WF is the future, no question about it. I agree this is the time to buy the stock, and just did.

2008 Feb 23 07:29 AM

[User 155020:]

Hi David, have you heard /been to a Trader Joe’s? WF stores are BIG & BEAUTIFUL, TJ stores are selling machines, about 3 times higher in sales per square feet. TJ opens their new stores very close to WF, they take away over $200,000. a week in sales. As WF reduces their retail prices to compete with TJ their MARGINS DECREASE, causing their earnings to decline. They are big & beautiful stores, the customers go to TJ.

2008 Feb 23 11:10 AM

[tessant:]

anyway you slice it, whole foods has a monopoly. i think buying at these levels and holding, you will be fine in the long run.

scott
growthportfolio

2008 Feb 24 04:12 PM

[Alan Brochs...:]

Monopoly? You are crazy if you believe that. Here in Houston, Central Markets, owned by HEB, is the better place by far. Supermarkets are local/regional. Yes, there are no national chains (yet) that compete with WFMI, but there are plenty of regionals. Trader Joe's would be one to some degree, the new Tessco format another.

2008 Feb 24 08:52 PM

[Blantonw1:]

Personally -- I don't think Whole Foods is a monopoly. The market is plenty big for additional competitors. However -- without question, the growth opportunity for Whole Foods is enormous, which will provide huge returns from current levels for long term investors. Let the short term traders debate about where the stock goes this month or next…for true investors, this is the time to load up for the long term.

And Alan -- you are not too bright...

First off -- Tesco is spelt with one S.

Second -- the Tesco US effort is already in big trouble.

"LOS ANGELES - A report from Supermarket News (yes, we read everything) indicates that Tesco's Fresh & Easy is doing miserably in the US. "...the 52 Fresh & Easy stores that have opened since November are averaging weekly sales volumes of $50,000 to $60,000, or about $5 a square foot — below the goal of $200,000 a week and $14-$22 in sales per square foot the company had projected." More ominously, even though the stores aren't laying people off, the article says F&E isn't replacing people who leave. [SN]"

2008 Feb 25 05:45 PM

[Doctoroe:]

Anyone have an update on the FTC and the Wild Oats merger? Didn't the FTC appeal the ruling. Other regulatory shoe could drop any time, seems like, unless I missed a final decision.

2008 Feb 27 02:50 PM