Breaking News and Analysis

Federal Court Gives Whole Foods the Green Light on Wild Oats Acquisition: Overules FTC Appeal


Late Thursday afternoon (Aug. 23, 2007) a federal appeals court in Washington D.C. rejected the Federal Trade Commission's (FTC) objection to Whole Foods Market, Inc.'s friendly acquisition/merger of rival Wild Oats Markets, Inc.and gave Whole Foods and Wild Oats the green light to move forward with the merging of the two natural foods retailers under Whole Foods' corporate ownership.

Whole Foods Market, Inc's CEO, John Mackey, says the company will go forward on closing the deal rapidly. "We are pleased to have cleared what we expect to be our last legal hurdle," Mackey said in a statement. We look forward to closing this merger and believe the synergies gained form this combination will create long-term value for our customers, vendors and shareholders as well as exciting opportunities for our new and existing team members."

Whole Foods' tender offer to purchase all outstanding shares of Wild Oats Markets, Inc. expires Monday. It's expected Whole Foods will begin closing the merger as early as then.

Here's an Associated Press Business story which provides further details on the federal court decision. http://news.yahoo.com/s/ap/20070824/ap_on_bi_ge/whole_foods_merger_15

Whole Foods Markets issued a press release on the federal court decision and on the company's plans to move forward. http://www.wholefoods.com/investor/pr07_08-23.html

Natural~Specialty Foods Memo's Analysis of the Decision:

Natural Specialty Foods Memo (NSFM) believes the federal court made the right decision in rejecting the Federal Trade Commission's (FTC) arguments that the Whole Foods/Wild Oats' deal would lead to higher retail prices in the "premium grocery segment." And we believe the court was right to make its decision in the rapid manner it did so the deal could be saved.

The FTC argument was wrong for a number of reasons. First, Whole Foods Market, Inc. already gets a premium price point for the products it sells in it's stores. For example, Whole Foods' gross margins are double that of supermarket industry giants Kroger and Supervalue.

That said, Whole Foods has recently been lowering some of it's retail prices on natural and organic groceries because of competition. This isn't competition from Wild Oats however. Rather it's from large mass merchandisers and supermarket chains like Wal-Mart, Inc. Kroger Co., Supervalu, Inc., Safeway Stores, Inc. and a few others. All four of these national chains (one the largest retailer in the world, the others the top three U.S. supermarket chains) are making serious commitments to natural and organic products merchandising and pricing these goods below what Whole Foods traditionally has been retailing the items for.

Therefore this is the second reason why the FTC was wrong. The increased natural and organic products merchandising programs and aggressive retail pricing of these four industry giants, and a few others, is what's putting competitive pressure on Whole Foods. These chains will continue exerting this pricing pressure. If anything the result will be Whole Foods' lowering more natural and organic product retail price points rather than raising them because they have acquired Wild Oats.

The third reason the federal court was right--and the FTC wrong--is that the number of stores Whole Foods is acquiring in the Wild Oats deal isn't of significant numbers to allow any sort of price-raising or competitive dimunision Wild Oats has 110 stores. Of those 110 stores 35 of them are under the Henry's Farmers Market and Sun Harvest banners. Whole Foods is selling these 35 stores to a newly created subsidiary of Southern California-based Smart and Final, Inc. The Henry's and Sun Harvest stores are a natural foods/basic grocery/specialty market hybrid of sorts and don't fit into Whole Foods' merchandising philosophy and program.

With the sale of the 35 stores Whole Foods will be left with 75 Wild Oats-acquired stores. Additionally a number of these stores are either located too close to existing Whole Foods stores to keep open or are too small for the grocer to express it's merchandising strengths in. Therefore it's likely Whole Foods will need to sell off some of these remaining 75 stores. Let's say Whole Foods only ends up selling or closing 10 of these stores for the reasons above. That would leave the supernatural grocer with 65 stores as a result of the deal. These are far more stores than Whole Foods could build from the ground up in say 2 or 3 years. But it's hardly enough to create a retail price monopoly on natural and organic products.

In fact, NSFM believes in the long-run the deal will actually spur more entrepreneurship in the natural foods retailing sector. We're likely to see some new independents spring up. With the banner Wild Oats no longer in the market there will be some backlash to "Whole Foods all the time" and smart independent natural foods retailers will capitalize on this by opening new stores.

Additionally we're already seeing major chains like Supervalu creating natural foods stores like it's Sunflower Market. Sunflower Market is a natural foods supermarket which also features extensive specialty foods and groceries. The chain says it plans to grow the Sunflower banner throughout the U.S. Supervalue also owns Bristol Farms in Southern California, an upscale specialty format with extensive natural products merchandise. Supervalu has said they plan to grow this banner outside of Southern California. The first Bristol Farms opened not too long ago in Northern California (in San Francisco) and you can expect more stores to open on the west coast soon. The chain also is likely to take this upscale banner national.

Kroger and Safeway Stores both looked closely at buying Wild Oats but decided against making an offer. These chains seem to be more interested in adding extensive skus of natural and organic groceries to their existing and new stores at present rather than creating a stand alone banner like Supervalue. But it's something both chains talk about and are studying. Both chains also have expanded, more upscale formats, for their new stores in which natural and organic products play a major merchandising role across all categories. Both chains, as well as Supervalu, also have created corporate/private label natural and organic grocery lines and continue to grow them. Perhaps the Whole Foods/Wild Oats deal will even be an encouragement to these chains to create a natural foods stand alone format(s).

Based on the evidence and arguments we presented above NSFM believes the federal court acted properly in swiftly denying the FTC appeal and giving Whole Foods Market, Inc. and Wild Oats the green light to move forward on the deal. NSFM also believes the deal won't be an avenue for Whole Foods to increase retail prices on natural and organic products. To the contrary we argue the supernatural grocer will feel increased competition in the natural and organic sector from large mass merchandisers and supermarkets and as a result will keep it's retail prices and margins about right where they currently are in most cases, and in some cases even have to lower retail prices.

Lastly NSFM argues the deal will in the long run actually stimulate and create more competition in the natural foods retailing segment. Whole Foods is selling 35 stores under the Henry's and Sunflower banners to a subsidiary of Smart and Final, Inc. in Southern California. Smart and Final is a large, publicly held corporation and it's likely to grow these banners in terms of store count and geographical reach. Further we see independents stepping in as an alternative to "Whole Foods fatigue", the notion that anything so popular as the chain turns off some people who will then look for alternatives like independent natural foods stores. These two developments will lead to increased long run competition in the sector.

The last competitive stimulant--and it's a big one--to this increased long-term competition is the emergence of the mega mass merchandisers and grocery chains into natural and organic products retailing in a big way. Whole Foods has served as a study laboratory for these retailers for years. And in the last 2-3 years the mega-chains have began phase two of their study of Whole Foods, which is implementation. The mega-retailers are going to grow much more aggressive in natural and organic products retailing--and they have the cash to do so. All of these factors combined are in the long run going to end up creating a much more competitive natural and organic products retail market. That's primarily why the federal court was right in it's decision.