I was reading an article from Fortune magazine about the AMZN takeover of WFM. Although it echoed much of what the rest of the press is saying, I was struck by it–mostly because my expectations for Fortune are higher than for financial reporting in general.
Three ideas in the article stuck out in particular:
–that AMZN’s goal with WFM is to compete head-to-head in groceries with Wal-Mart (WMT)
—the implication that because the margins of grocery chains are low they have a poor business model
–that the price cuts made by AMZN on Monday are small, therefore they make no difference.
–ten campers, including yourself, are being chased by a bear. If the goal is purely personal survival, you don’t need to outrun the bear. You only need to outrun one of the other nine.
Put a different way, the goal of, say, Zara or Suit Supply is not to compete head-to-head on price with WMT. that would be suicide. Instead, those firms intend to provide differentiated clothing to a more focused audience. Yes, it’s still clothing, but it’s different clothing. Initially, at least, that’s AMZN’s goal with WFM. It wants to expand WFM’s appeal to a smaller, younger, more affluent audience, not steal traffic from WMT.
–the key to profitability in a distribution business is to turn inventory over rapidly, taking a small markup on each transaction. This is surprisingly badly understood by most professional investors, as well as virtually all the financial press–and by WFM, as well. This is one reason that as an investor I love distribution companies.
Low markups defend against competition and create customer loyalty; continual effort to keep the growth in inventory under the growth in sales creates positive operating leverage.
WFM appears to me to have chosen do pretty much the opposite–to take large markups on each transaction, a “strategy” that has stunted sales growth. Inventory turns are higher for WFM than for other grocers, although I suspect that this is a function of differences in product mix. In any event, something else (or, more likely, a bunch of other something elses) in WFM’s organizational structure is all messed up. The income statement shows that its very fat gross margins are frittered away almost completely by high overhead expenses.
If I were AMZN, I’d figure I’d attack what I think is the abundant low-hanging fruit in operating inefficiency and lower food selling prices as I made gains there
–it’s very easy to lower prices. It’s extremely hard to raise them again–a key reason that couponing is a favorite supermarket strategy. So it would be crazy for a merchant to lower prices across the board on day one. $.49 a pound bananas, displayed prominently by the store entrance, is aimed at setting customer expectations about pricing throughout the store. It’s a symbol, a promise …at this point, nothing more.
I’ll be honest — the logic of the distribution turn over from investors is over my head as well, although you have made that point before. Ebay seems be me the world leader there — zero distribution costs.
I can’t find the article, there was a buy from Bain saying that the former WFM could cut prices by 15 basis points and compete with Wal-mart, which is a similar figure to your 11 percent margin that could be cut.
In Whole Foods defense I suspect their distribution chains are a lot tougher than usual. I know they have a strange relationship with United National, but look to get that high quality beef, fish, granola etc takes a lot of investment — and one that Amazon may not appreciate.
When I see badly run at WFM, I don’t see supply chain issues but customer facing one . They can’t figure out how many cashiers they need. Lines are awful. I actually had to spend an hour in line a few weeks ago — didn’t have a choice as the parking there would have been $45 if I left without validation. The desert section is pretty weak and bland except when do a special and make something fresh. Santiary conditions around salad bar disgusting. They can’t figure out online coupons or discounts. No frequent shopper program. AC is stores is awful as well. I’ve almost gotten into fishfights with instacart ladies running me over.
Some of this amazon might know something about (shopper programs, discounts) but most of it is stuff that Amazon knows zero about.
If anything it is an opportunity for amazon to learn retail, fast.
Thanks for your comment. I’ll write about distribution vs. manufacturing (which is the model most investors have in their heads) next week.
You might find this of some interest, in term of some of the value that WFM historically brought:
Although I have since read that organic doritos are coming to it now.