Whole Foods’ Turnaround Could Hinge on Prepared Food and In-House Restaurants

(Bloomberg) — Inside the Whole Foods Market in midtown Manhattan at lunchtime, it’s easy to forget that the organic supermarket chain is suffering its biggest crisis since going public in 1992.

A line 20-people deep waits at a juice and espresso bar near the bustling store entrance across from Bryant Park. In the food hall upstairs, the tables are packed with customers noshing on superfood salads and sushi. Too harried to stop for oysters, many shoppers order Nashville-style fried chicken sandwiches from digital kiosks and sample cold brew from Stumptown Coffee Roasters.

Whole Foods Market Inc., facing pressure from restless shareholders after nearly two years of sliding sales, still has cachet in New York and other pockets of the U.S. That unique foodie appeal is key to a turnaround if Chief Executive Officer John Mackey is able to improve operations, said Charles Kantor, a managing director at Neuberger Berman, one of the grocery chain’s 10 biggest investors.

“He got all the hard things right over the years, but he didn’t get the easy stuff right,” Kantor said. “There hasn’t been laserlike focus in a long time.”

As grocers fight for traffic amid an intense price war and the threat of e-commerce, Whole Foods stands out among its peers with its prepared foods and in-house restaurants that make its stores destinations. The challenge for Mackey, who co-founded the company in 1980, is how to assuage Wall Street by boosting profits without ruining what made Whole Foods wildly popular in the first place.

“They have to do two things at the same time that are diametrically opposed,” said Roger Davidson, a former Wal-Mart grocery executive who works as a consultant. “They have to make sure they don’t dumb it down.”

Brand Loyalty

The hubbub at newer Whole Foods locations like the one in midtown Manhattan illustrates a brand loyalty that most retailers would envy, especially when brick-and-mortar stores are closing at a record pace. Neuberger Berman increased its stake in the company in 2015 because of its rare ability to “connect in an emotional way” with shoppers, said Kantor. The firm owns about 2.7 percent of Whole Foods shares, according to data compiled by Bloomberg.

There was a time, before the current slump, when the arrival of a Whole Foods store meant shoppers would get access to products that weren’t widely available elsewhere. The stores became magnets for foodies and affluent customers who were more likely to buy kale than iceberg lettuce. And usually there was little competition to lure them away.

Now, the competitive ground has shifted. Whole Foods, which has about 450 U.S. stores, is getting pummeled by Kroger, Wal-Mart, Costco and other retail giants that have muscled into a market that it helped create. Sales have dropped for seven straight quarters, and shareholders are getting agitated.

Proxy Defense

Jana Partners, the activist hedge fund, announced a stake in Whole Foods last month, pushing for wholesale changes including a possible sale of the company. The news sent shares soaring 10 percent on April 10. They were little changed on Tuesday. The stock has gained 18 percent this year, after three straight years of declines.

Hoping to avoid a proxy fight, Whole Foods recently announced it would overhaul its board of directors by adding five new members. The company had hoped the changes would appease Jana, but the hedge fund rejected a proposed truce, preferring to keep its options open. In a bid to reignite sales and profit growth by October 2018, Whole Foods also said it would expand its nascent loyalty program and use data to improve how it stocks products,

A few months earlier, Whole Foods abandoned its 1,200-store target, which had come under fire from Wall Street for being overly ambitious. The grocery chain is now focusing on relocating smaller stores to bigger nearby locations, banking that it can create flagships that double as dining destinations.

“We’ve had tremendous success with those stores,” Mackey said on a recent conference call, citing locations in Chicago, Philadelphia and New York.

Whole Foods also recently said it was doubling its cost-savings target to $600 million by the end of fiscal 2020, with a plan to invest some of that money in lower prices. The grocer has been dogged by its reputation for being overpriced — customers gave it the tongue-in-cheek nickname “Whole Paycheck” — making it tricky to bring in new shoppers.

Lower Prices

And while the chain can’t win a price war with the likes of Kroger, Wal-Mart and the German chain Aldi, getting some of its prices more in line with conventional stores is still a key piece of a potential turnaround. Whole Foods can stand out with local cheese and olive oil that can’t be found elsewhere, but it needs to lower prices on standard fare like organic milk, industry analysts say.

“That can have a halo effect on the entire store’s pricing,” meaning shoppers will perceive value across the store, said Jim Hertel, a grocery analyst at Inmar’s Willard Bishop.

Part of the company’s effort to cut costs includes centralizing much of its buying in Austin, Texas, where its headquarters are located. For years, Whole Foods has relied on a regional system. Buyers in the Northeast, for instance, controlled what products got put on shelves in that market. The strategy allowed Whole Foods to feature artisanal local brands. With the change toward more centralization, the retailer risks losing its reputation as a destination for unique products.

“As you start to take away people with knowledge of the market, you lose,” said Tim Sperry, a former Whole Foods executive and industry consultant.

Threading Needle

Mackey, 63, who took sole control last year after six years of sharing the CEO post with Walter Robb, insists that he can thread the needle: reducing expenses and lowering prices on groceries while keeping his stores on the leading edge of food trends.

“We’re not making these changes randomly — it’s very data driven,” he said in an interview, adding that shoppers will find unique local products at stores, despite the move to centralize operations in Austin.

With activist pressure looming, Mackey doesn’t have much time to show signs that he can get the company back on track.

“You can’t make these types of changes that quickly,” said Davidson, the industry consultant. “It’s a whole new way of doing business.”

–With assistance from Beth Jinks

©2017 Bloomberg L.P.

This article was written by Craig Giammona from Bloomberg and was legally licensed through the NewsCred publisher network. Please direct all licensing questions to [email protected].