Thursday, January 29, 2009

Retail Memo - Breaking: Whole Foods Makes Settlement Offer to FTC; FTC Halts Action For 5 Days; Natural~Specialty Foods Memo Calls For A Settlement

News & Analysis: FTC. v. Whole Foods Market, Inc. - Time For A Settlement

In an interesting but not all together surprising move to Natural~Specialty Foods Memo (NSFM), the U. S. Federal Trade Commission (FTC) today temporarily halted for five days its challenge to Whole Foods Market, Inc.'s friendly 2007 acquisition of Wild Oats Market, Inc.

The FTC announced the temporary suspension of its challenge to the merger in a brief order filed today in which it stated it would "withdraw this matter from adjudication for five business days."

David Wales, the head of the FTC's Bureau of Competition, which is in charge of the agency's challenge to the merger, said in a statement today that Whole Foods Market, Inc. sent the FTC a settlement offer to end the case today. Therefore the FTC has halted any action on the case for the five business days in order to study the offer and negotiate with Whole Foods' legal counsel.

We see the move by the FTC as a goodwill gesture in response to Whole Foods' offer. Additionally the moves by both Whole Foods (the settlement offer) and the FTC (the halt) could portend a resolution of this long legal battle over the merger of Wild oats into Whole Foods Market, Inc.

"We're going to roll up our sleeves and take a look at what they're offering," Wales said today in a statement. "We're hopeful that a settlement can be reached."

Over at Whole Foods Market's Austin, Texas headquarters, company executive vice president Jim Sud, who's been the corporate voice on the issue of late rather then CEO John Mackey, said in a statement: "We welcome this opportunity to hold constructive discussions directly with the (FTC) commissioners as well as the FTC's attorneys."

Whole Foods desires settlement deal

A person very close to the FTC. v. Whole Foods case told Natural~Specialty Foods Memo (NSFM) today that the natural grocery chain is very engaged in wanting to work out a settlement with the FTC, both because of the ruling made against the company last week by the U.S. Federal Court of Appeals, which we reported on here, and because the natural foods retailer, which will report its 1rst quarter fiscal-year sales on February 16, is extremely concerned about how much the battle with the FTC is taking its focus away from what it does, the retailing of natural, organic and premium food groceries.

Last Friday the federal appeals court ruled against Whole Foods' lawsuit against the FTC in which the company sought to block the upcoming April 6 trial before an FTC Administrative Law Judge, as well as give it a ruling that would remove FTC jurisdiction over the case and have it settled in a U.S. Federal Court courtroom.

The decision against Whole Foods' lawsuit in favor of the FTC assured that the April 6 trial will be held.

If the outcome of that trial goes in the FTC's favor it could mean a complete unwinding of the 2007 Whole Foods-Wild Oats merger. The worse case scenario could be that Whole Foods Market, Inc. would have to completely rebrand all of the former Wild Oats stores its converted (about 100) to the Whole Foods banner, which are all but about 6-12, and set up a entirely separate corporate entity to operate Wild Oats, essentially resulting in taking the merger back to where it was on the day the companies announced the deal in the summer of 2007.

In fact, the FTC has a motion before U.S. Federal Judge Paul Friedman in which it's asking the judge to force Whole Foods to do just what we describe above -- rebrand about 100 converted Wild Oats stores from Whole Foods back to Wild Oats and set up a separate entity to operate them -- even before it holds the April 6 administrative trial on the merger. Judge Friedman will hold hearings next month, on February 15-16 (the 16th being the same day Whole Foods Market, Inc. announces its first quarter financials), on this motion by the FTC, and as we reported here on January 25, 2009, says he will make a ruling shortly (likely in days) after the hearings end.

In our analysis, this upcoming court challenge to the integration of the about 100 Wild Oats stores also provides further motivation for Whole Foods to have offered its settlement offer to the FTC. The natural grocer is running out of legal options -- and time. And its legal costs continue to mount. Meanwhile, U.S. taxpayers gets to pick up all of the legal costs expended by the FTC and federal courts in the regulatory agencies legal challenge against the merger.

FTC statement, position encouraging

The statement today ("We're going to roll up our sleeves and take a look at what they're offering," Wales said. "We're hopeful that a settlement can be reached") by FTC Bureau of Competition chief competition enforcer (his official title) David Wales that the regulatory agency plans to consider Whole Foods' settlement offer in such a serious way is positive news from the standpoint of the two entities eventually being able to reach an agreement and avoid the upcoming April 6 administrative trial.

This is the first time in recent case history that Wales has indicated an interest in settling the case short of unwinding the entire merger.

Natural~Specialty Foods Memo (NSFM) has learned that Whole Foods' settlement offer to the FTC includes the selling of a number of stores in most of the 29 U.S. markets in which the FTC argues the combined Whole Foods-Wild Oats is a monopoly in, in what the regulator calls the "premium natural and organic retailing segment (PNOS)."

Post-merger -- to today

Shortly after the merger Whole Foods Market, Inc. sold off the about 36 Henry's and Sun Harvest banner natural foods markets in Southern California and Texas that were part of Wild Oats Market, Inc., and were acquire by Whole Foods in the merger. Those stores were bought by Southern California-based Smart & Final LLC., which operates over 200 hundred non-membership warehouse format food and grocery stores in the Western U.S. and in Mexico, as well as now operating the Henry's Farmers Market (southern California) and Sun Harvest (Texas) banner natural foods stores, along with a new format the retailer created last year called Smart & Final Extra, which are 30,000 -to- 35,000 square foot hybrid supermarket-warehouse-type stores.

Additionally, since late 2007 when a federal court decision in favor of the merger, a decision the FTC since got reversed on appeal, which is why it continues to oppose the deal, Whole Foods has closed a number of former Wild Oats' stores that were either underperforming or that natural grocery chain says were located to close to newer and larger Whole Foods banner stores to make the units viable.

Nearly all of the former Wild Oats stores kept after the 2007 merger have now been converted to the Whole Foods banner, accept for about 6 -to- 10 stores. Earlier this month Whole Foods Market, Inc. co-president Walter Robb said only about a half dozen former Wild Oats stores were left to rebrand to Whole Foods. Our research counts a couple more than that left to convert. Therefore we use the 6-10 store range figure.

A settlement blueprint or template

In other words, the universe of stores we are talking about regarding a post-merger, combined Whole Foods-Wild Oats isn't much more than 100 nationally throughout the U.S. in these 29 markets where the FTC deems Whole Foods Market, Inc. a PNOS segment monopoly.

Our argument since the summer of 2007 has been that a post-merger, combined Whole Foods-Wild Oats isn't a monopoly. [You can read a recent story in which we made our argument as to why that's the case at the link here: Retail Memo: Natural-Organic Foods and U.S. Retail Marketplace Realities; Why the FTC's Case Against the Whole Foods-Wild Oats Merger is Pure Folly.]

However, looking at FTC v. Whole Foods Market, Inc. today from a completely practical standpoint, we see no reason why the FTC and the natural grocer should not be able to achieve a settlement. After all, we are talking about a universe of just slightly more than 100 stores that the FTC is saying a "PNOS" category monopolist (Whole Foods) makes. We're also talking about just 29 specific U.S. markets. These two key facts need to be the starting point for negotiation, we suggest.

The FTC and Whole Foods need to look at each of these 29 markets and the number of stores the combined Whole Foods-Wild Oats has in each of the markets. Both parties then need to do an independent competitive analysis on each of these markets, including in the analysis not just natural foods class of trade retailers but also food retailers that are hybrid natural-organic-specialty supermarkets. These include retailers like Gelson's and Bristol Farms in Southern California, Raley's and Andronico's Markets in Northern California, The Fresh Market (chain), which has stores in the south, Midwest, Mid Atlantic and eastern regions, Wegmans in the east, Haggen Foods in the Pacific Northwest, and the numerous other natural-organic-specialty "hybrid" chains that fit this category in the 29 markets designated as monopolist by the FTC.

Once this real competitive analysis is done in the 29 U.S. markets, the FTC and Whole Foods then need to agree on Whole Foods' closing an agreed upon number of those 100-plus former Wild Oats stores in each of the respective markets. There still might remain 29 of those markets after the independent competitive analysis work is done, which is something that can be completed in a matter of a few days. But there also could be fewer than 29 remaining after the analysis.

The burden in the FTC's administrative process is on Whole Foods in reaching a settlement, that's why the natural foods grocery chain reached out to the FTC and submitted a settlement offer. In return the FTC suspended action on the case for five days. We think thus far that's a positive spirit of cooperation.

As all lawyers and negotiators know, first time settlement offers are seldom accepted. Instead they tend to be the opening entree to get settlement talks started. Whole Foods has served that opening entree with its offer. The FTC has responded in kind with the temporary halt of legal activity. Both moves are good negotiation openers. After all, another thing all good negotiators know is that the best negotiations come when both sides give a little something right at the start.

Natural~Specialty Foods Memo calls for a settlement

We strongly encourage the FTC and Whole Foods Market, Inc. to use a version of the simple but empirical framework we outlined above in their settlement negotiations on the 2007 merger. It's time to put this thing to bed.

If the two parties use what we suggest as a blueprint (assuming the FTC doesn't accept Whole Foods' first settlement offer, which we believe will be the case), then go from there, we think a settlement can be reached that doesn't render the deal a complete loss for Whole Foods Market, Inc., while at the same time satisfies the FTC's position that a post-merger, combined Whole Foods-Wild Oats is an anti-competitive retailer, providing the regulator with a negotiated settlement it can live with.

It's time for both the FTC and Whole Foods Market to follow new U.S. President Barack Obama's call for a less partisan Washington -- or in this case a less dogmatic regulatory agency (the FTC) and a more agreeable-to-compromise company, Whole Foods Market, Inc., along with helping to usher in the new U.S. President's inauguration day call for a "New Era of Responsibility" among the nation's governmental institutions and agencies, businesses and people.

The initial settlement offer by Whole Foods Market, Inc. started that ball rolling. And the FTC's temporary halt of legal activity on the merger has followed Whole Foods' offer in kind. Now its time to "roll-up those sleeves" and negotiate -- and work out a settlement.

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