2015 might have been the worst year in Whole Foods Market's (WFM) history. Comparable sales declined for the first time since the recession. It suffered an embarrassing scandal involving mislabeled weights and prices, and the onslaught from rivals including Kroger Inc (KR 0.64%), Costco Wholesale (COST 0.84%), and Trader Joe's only got worse. As a result, Whole Foods' share price tumbled 36%, a decline that would have been worse had a late-year buyout rumor not circulated (a rumor the company has already put to rest).
Going into 2016, it may seem like there is reason to be optimistic about a comeback given the downward momentum and flat comparable sales forecast, but there are several reasons why shares could bounce back this year.
The debut of the 365 chain
The biggest potential catalyst for jump starting Whole Foods stock this year is the opening of its new 365-store brand. Wall Street pooh-poohed the idea when the retailer first revealed it in May, calling it a capitulation, but analysts seem to be missing the point. The budget-priced 365 chain will allow the company to tap into a different demographic -- cash-strapped millennials -- and the stores' smaller footprint will provide a greater range of real estate options, enabling it to open in neighborhoods that may not be suitable for one of its full-line stores. 365 is probably the best antidote for challenges from the likes of Trader Joe's, another small-footprint, budget-priced brand, and to undercut critics who continually lob the "Whole Paycheck" moniker at the high-end chain.
Only five 365 stores will open this year, which won't be enough to move the needle on the company's financial performance, but if the stores are well-received, expect a round of applause from the market. The potential for this concept is huge.
The runway for growth is still a long one
Despite the current headwinds, management still believes the company can open as many as 1200 stores nationwide, nearly tripling its current store count today, and it's said the success of the 365 brand would elevate that number.
While the stock swoon and flagging comparable sales have grabbed the headlines, the company's store expansion is plugging along just as always. For the fiscal year that ended September 27, comparable sales for stores five years old or more grew by just 1.5%, but at stores younger than five years it jumped by 7.6%. That means that Whole Foods' newest locations are well received, and driving steady organic growth, indicating demand for more new stores. Its sales per square foot of $970 continues to lead in the industry and is double that of rivals like Kroger, another sign of pent-up demand for new Whole Foods.
Reinforcing its quality advantage
According to the conventional wisdom, Whole Foods is losing share to rivals like Kroger and Costco because they have begun offering an equivalent product, organics, at a lower price. While it's true that Kroger and Costco are selling less, it's not fair to say that their products are the same.
Whole Foods' commitment to quality is just as evident in what it sells as what it doesn't. Among its values is "Selling the highest quality natural and organic products available." That means it eschews mainstream products like Coca-Cola and Cheerios that are found in the aisles of your nearest Kroger store, and it has a list of dozens of banned ingredients, including common ones like saccharin and bleached flour. That commitment to quality is a differentiator for Whole Foods and a brand advantage as consumers increasingly want to know where their food is coming from.
Whole Foods took another step in reestablishing this quality advantage with the hiring of Tien Ho last month, a well known chef who has worked at some of the best restaurants in the country and will serve as Whole Foods' global vice president of culinary and hospitality. The move shows that the company's doubling down on prepared foods, a key segment that drives $3 billion in annual sales, or a fifth of its total revenue.The scale of Whole Foods' plans with Mr. Ho is unclear at this point, but his impact could be immediate as he starts his new job this month. Partnering with local chefs is one avenue he seems focused on, and his input should help the company delight its customers and stand out from the competition.
Finally, the biggest reason Whole Foods could bounce back this year is the market's perception. Remember, stocks tend to move according to expectations rather than performance, and Wall Street has set a low bar for the organic grocer, expecting profits to fall this year. There's already some evidence that sales have stabilized. If Whole Foods can top those low earnings targets, the stock will be well on its way to recovering.
