Economies of Kale: Wal-Mart vs. Whole Foods

For grocery chains looking to squeeze concentrated profits from their industry's un-sexy, low margins, relying on market power demands a strong brand or economies of scale. Whole Foods Market (NASDAQ: WFM  ) associates itself with a socially conscious brand -- and charges customers more for the feel-good luxury of shopping in Whole Foods stores. At the spectrum's other end, Wal-Mart Stores  (NYSE: WMT  ) leverages its titanic company scale to buy massive food quantities at low prices -- and passes along those savings to consumers.

Which of these strategies will capture the organic food industry's cash-conjuring 20% annual growth? The answer may surprise you: Wal-Mart beats Whole Foods and other grocers.

First place: Wal-Mart
Wal-Mart wins at selling organic food from a sheer numbers approach: Sam Walton's billion-dollar baby sold the most organic food in America in 2011. Organic food has become a $30 billion industry. Since Wal-Mart alone accounts for 25% of America's grocery buying, the company's decision to push organic products in 2006 was all but guaranteed to pay off. 

By merely participating in the organic food industry, Wal-Mart has altered its structure and eroded competitors like Whole Foods' edge. As the company's chief marketing officer John Fleming said: "Typically, organic products can cost 25[%] to 30[%] more against competitive products. [Wal-Mart is] able to get those prices down to about 10[%]."

By encouraging industry consolidation, Wal-Mart has lowered organic food prices across the board. When prices fall, customers see less reason to distinguish once-luxury organic foods from their weekly bulk-grocery shopping. Indeed, the stereotypical Berkeley, CA organic food consumer proves less Wal-Mart averse than expected: in a month-long 2007 industry study, a market-whopping 29% of organic shoppers in San Francisco had bought organic groceries at Wal-Mart in the past week.

Sixth place: Whole Foods
That's right: Whole Foods doesn't even place second in the organic foods arms race. Wal-Mart, Costco, Kroger, Super Target, and Safeway sold more organic groceries than Whole Foods in 2011. Keep in mind, of course, that size isn't everything when it comes to the organics industry.

As alluded to earlier, Whole Foods can remain a leading contender for organic-clamoring investors if it maintains superior branding. As Apple has proven to Microsoft, great branding seduces consumer desires and can obliterate lower-priced industry Goliaths like Wal-Mart.

Yet with Whole Foods' first-quarter sales growth at 5.4% -- below a company-set benchmark of 7% -- and its once-abounding stock price stalling over the past six months at 0.4% returns, Foolish Whole Foods investors like myself must question whether Whole Foods' brand is faltering, or its margins, or both.

Foolish bottom line
With Wal-Mart's gargantuan scale and buying power, its bottom line will benefit from the market's rising demand for organic foods. As organic prices fall, whether Whole Foods will continue capitalizing from its brand-induced market power is another matter.

While Wal-Mart accounts for a quarter of America's grocery sales, Whole Foods sells 2%. Perhaps instead of trying to compete with Wal-Mart on price, Whole Foods should consider retaining a price premium and eking even more sales from America's wealthiest shoppers.

But what happens if Wal-Mart collapses? 
To learn about two retailers with especially good prospects, take a look at The Motley Fool's special free report: "The Death of Wal-Mart: The Real Cash Kings Changing the Face of Retail." In it, you'll see how these two cash kings are able to consistently outperform and how they're planning to ride the waves of retail's changing tide. You can access it by clicking here.

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  • Report this Comment On March 01, 2014, at 10:49 PM, BobinTexas wrote:

    Five years ago, Wal-Mart Grocery shelves were full but you couldn't tell organic from anything. Today, many of the shelves are empty or short of product. They do carry more organic but you have to look closely to tell. And don't bother asking because the few employees they have are too busy to help or or don't care. You are on your own.

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Glenn Singewald

Glenn Singewald studies Economics and Food Studies at UNC-Chapel Hill. Covers consumer goods and China's economic rise. Enjoys rare steaks, fine wines, and winning investments.

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