Whole Foods Market, Inc. (NASDAQ:WFM), the leading natural and organic grocer in America, experienced further challenges in the first half of 2015, with its stock price falling more than 20%, driven primarily by investor concerns about increasing competition from both grocers that focus on natural, minimally processed foods and traditional grocers, such as the Kroger Co. In addition to seeking to provide increased value to its traditional shoppers, Whole Foods has announced an initiative to build market share by more directly targeting the millennial generation (those born after 1980) and the first generation to come of age in the new millennium who are known for their preferences for value and convenience. Whole Foods believes the new chain, named 365 by Whole Foods Market in reference to the company’s popular private label brand, has the same market potential as the Whole Foods Market chain. While the company has not been specific about the number of stores it plans to roll out in total, opening just eight hundred “365” locations combined with the eight hundred additional locations anticipated for the original Whole Foods chain would nearly quintuple the company’s store count, offering Whole Foods the prospect of generating above-average sales growth for years to come.
In addition, we believe that Whole Foods’ logistics infrastructure is currently underutilized. This is particularly true of the company’s distribution centers, which were built to accommodate growth and are not used to their full capacity today. The faster the volume of business in these centers grows, the more efficient the distribution infrastructure becomes as fixed operational costs are spread over a greater amount of business. Increased sales from the company’s recently updated business model and from the rollout of the new chain of 365 stores should accelerate the use of those infrastructure assets, generating cost savings that can be reinvested for growth. Despite the near-term challenges, we have come to respect Mr. Mackey for his long-term view in managing the business and believe the capable team he has assembled is acting both decisively and quickly to respond to increased competition.
Last year when Whole Foods stock sold off in a similar manner the company aggressively repurchased shares, an action we had anticipated. We believe this time will be different as the company must marshal capital to facilitate the development of its new 365 chain. While we remain confident about the company’s pros pects, we believe the curtailment of share repurchases coupled with uncertainties regarding the execution of the new store rollout might mean we will have better opportunities to acquire more shares in the future than we do today.
From the Davis Appreciation and Income Fund Semiannual Review 2015.
