Why Whole Foods' Future Is Smaller and Less Certain Than Ever

The largest supermarket operator in the country, Kroger (KR 1.36%), looks like the long-term winner as most supermarkets now offer more and more of what once made Whole Foods unique.

A full transcript follows the video.

Mac Greer: We wrap up with tough time for Whole Foods. According to a report from Barclays, Whole Foods traffic has fallen by 14 million customers over the last year and half. That's a 3% drop. I should add that Whole Foods co-founder and CEO John Mackey is on the board of directors of the Motley Fool. Jason, according to the report, Kroger is the big beneficiary. Nearly half of Kroger stores are within three miles of a Whole Foods.

Jason Moser: Yeah, it was pretty smart to do that, huh? I guess maybe they felt like they were on to something. This goes back to what we've been talking about a lot in this space. Scale is really a tremendous advantage. Having that big footprint, where you can get things from point A to point B in the quickest fashion, and really carry a very wide selection of offerings, both private branded and brand names, is immensely advantageous. I think what we always wondered with Whole Foods for a time was, would they be able to get rid of that Whole Paychecks moniker that they had earned. It seemed like they were doing a pretty good job of that. They were making that way toward offering more 365 branded items, which certainly were more affordable. And I think that attracted more customers, for a time. But they really have run into a buzzsaw here in that every grocery store concept in the country is copying that model now, and bringing more and more naturals and organics into their mix. And furthermore, we talked about this, Whole Foods doesn't really do a very good job of attracting the crossover consumer. So, they don't have a lot of what people really still want. And that's a big problem, because now you're telling me I have to go to more than one place to get everything.

Greer: Yeah, I don't want to do that.

Ron Gross: That was always, though. You would go to a regular supermarket for your paper towels and household items. Then, if you wanted organics or really good produce or really good meat and fish, you would pop over to Whole Foods. Two trips. Kind of annoying. Now, Kroger's brand, Harris Teeter, you get a lot of that right there. Now, I do not think the quality of the produce in the meats are the same at Harris Teeter and Whole Foods. Whole Foods still does a better job. If I have a dinner party, I'm still going to Whole Foods. But on a regular, weekly basis, it becomes less necessary to go to Whole Foods, which is never good for a business model.

Moser: No.

Greer: So, what does this mean if you're Whole Foods investor, or you're someone who's looking at the stock?

Gross: I am a Whole Foods investor, and I'm not that thrilled about it lately. Even over the last five years, the stock is down around 30%. In my head, it was a more recent decline. But they've really been on the downturn for quite some time. I'm not a seller yet. To be honest, I'm not sure why I'm not. It's because I like the experience, I'm a consumer and I shop there, and I'll continue to support it as a shareholder.

Greer: And you have lunch there a lot.

Gross: I have lunch there almost every day. [laughs] 

Greer: So, they have their prepared foods, some of the stores have bars now, so they have some built-in advantages, right?

Gross: They do. I remain a loyal customer, and therefore, for now, I remain a loyal shareholder as well.

Moser: I don't know. I'm not a Whole Foods investor. We did own shares of Whole Foods in Million Dollar Portfolio, but we sold them a little while back. I think really, the icing on the cake for us was in the most recent quarter, when they finally came to reality here in that they needed to pull back on what they saw as their full market opportunity. For a while, they were targeting 1,200 total stores around the country, which, we felt like, was too many. They, I think, now realize that that's too many. They pulled back on that guidance. They put that 365 store concept on hold to reasses which way they want to go with it. Right now, they're talking about going back to their roots and really focusing on that core Whole Foods customer that helped get them to this point today. It's almost like saying they're going back to that Whole Paychecks moniker. They're going back to targeting that consumer. Honestly, that probably is their best bet. I think we've come to a point where we realize, Whole Foods isn't going to be able to grow as much as a lot of people thought it was going to. So, maybe their best bet is to be that high-end grocer that focuses on a smaller overall market opportunity, but serves that market opportunity in an excellent fashion.

And if they do that, it can certainly still perform well, possibly even see margins get back to expanding if they're able to keep on raising those prices a little bit. Because, for the last few years, they really have been focusing on value, to the extent that you would get it even on the grocery bags. If you have your grocery bags from Whole Foods you would see on the bags that they were talking about daily deals and value offerings and all this stuff. They were getting down to having to compete on pricing with all of these other bigger competitors out there. They can't win that game. They're too small to do it. So, then you have to wonder, really, is the path to success here some type of an acquisition? Do they need to acquire something like a Publix to grow that market opportunity and focus on a number of different tiers? Sprouts, a company that just went public shortly ago, a competitor to Whole Foods, sounds like they may be acquired by Albertsons, which also owns Safeway. So, you can certainly see consolidation in this sector. I think Whole Foods is more than likely going to have to either make an acquisition of some sort, or they are really going to be focusing just on that whole paycheck customer, and accepting the fact that they can only become so big.