E Amazon's Acquisitions Create Adverse Reactions

Some analysts are of the opinion that what Amazon has done in other retail categories it will bring to the organic grocery retail business segment, lower prices and forgo profits. I would tend to believe that is a possibility, but it is much lower on the spectrum of possibilities than one would have you believe. Mark Astrachan of Stifel Nicholas states the following with regards to Amazon’s Whole Foods Market acquisition and participation in grocery going forward:

We anticipate Amazon's ownership is likely to result in lower prices at Whole Foods, forcing other grocery participants to follow, negatively impacting category margins. 

Here’s what I have to say about Mark Astrachan and with regards to such a forecast: “Remember, Mark Astrachan rated Keurig Green Mountain as a Sell and with a $14 price target when GMCR was trading in the $20 range and before shares rallied over 3 years to above $150 a share”. Certainly, analysts aren’t going to get every call right, but understanding where the opportunity lay for error in a forecast may reveal the true investment or trading opportunity. And that’s what we care about as investors/traders. Mark Astrachan’s reasoning and scrutiny of the GMCR business were all accurate and revealed by 2016, but between 2012 and 2016 GMCR had ample time to grow its customer base and earnings power. This is largely why the Sell rating and price target were found in error. 

Moreover and with regards to Astrachan’s forecast for Amazon’s grocery pricing activity, here’s what I would recognize more prominently; Grocery is not hard goods, it is not soft goods and it is not services. There lays the problem with suggesting that Amazon can and will put pricing pressure on its peers in the grocery business segment.It’s largely why Amazon has yet to capture any meaningful share of the grocery segment. Groceries are commodities, consumables and with that already carry little margin. And that is before the actual operating of a grocery business that expresses great logistical and supply line challenges is calculated. 

There very simply isn’t a lot of profit to be made in grocery for which is largely evidenced by the revolving door of grocery business liquidations that seem never ending, decade after decade and brand name after brand name. It’s why Costco (COST) doesn’t really make its monies and profits off its grocery business, but rather its membership business and fees. Take a look at Costco’s gross margin percentage for goods sold; it’s an eye-opener for sure. Costco is fortunate if it captures a gross profit margin of 13% on goods sold as a total assortment in its storefronts, much of which is the result of its grocery assortment dragging down the total gross profit margin that includes jewelry, hard goods and apparel. To offer a comparison with regards to how little profit exists in grocery, apparel or clothing, especially fashion can offer upwards of 75% profit margin. So from the potential of 75% profit margin and the inclusion of groceries in a product mix, Costco largely generates less than 14% gross profit margins annually. Kroger (KR), Albertson’s and Safeway (SW), simply name the grocer and you’ll understand the struggles in the business segment that align with capturing a profit exist in perpetuity. Target (TGT) and Wal-Mart (WMT) are no strangers to the struggles of grocery but achieve a greater profit margin due to an even assortment mix and the expansiveness of their retail footprint across the United States and abroad. Having said greater profit margin, understand it isn’t by much and when compared to those retailers that choose not to sell groceries. 

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Disclosure: I am long TGT and COST.

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Comments

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Harry Goldstein 2 years ago Member's comment

Good comment thread. Another good thread to read with a similar discussion is here: www.talkmarkets.com/.../winner--losers-from-amazons-proposed-purchase-of-whole-foods

Carol Klein 2 years ago Member's comment

#Walmart acquired #Jet to compete with #Amazon. Now Amazon wants to acquire #WholeFoods to compete with Walmart. I don't think Walmart's acquisition did a think for them. Hopefully Amazon's will work out better for them $WMT $AMZN $WFM

William F. Lampe IV 2 years ago Member's comment

That acquisition was only completed in late September of last year. I think it will take time for results to really show for Walmart, so I wouldn't write off that acquisition yet... Not to mention that Walmart payed approximately 20% of what Amazon paid.

Carol Klein 2 years ago Member's comment

Walmart acquired Jet to get a very much needed technological edge over Amazon. But have you ever shopped at Jet? I have. It pales in comparison to Amazon's technical knowhow and breadth of features/reach. There is no comparison. In fact overall I found Jet's website to be buggy, boring and confusing. And shipping is as slow as Walmart. I saw no advantage to the acquisition.

Do you see it differently?

Fabrizio Galvez 2 years ago Member's comment

I definitely agree, i think that $AMZN is just so much better at what they do that it is sort of insulting to compare them to Walmart. I always say that Amazon is sort of like $APPL in the sense that they may not be the first to do something, but they are always the ones to make it better, and this will definitely be the case.

Seth Golden 2 years ago Author's comment

The food and logistics supply chain is dry complicated, cumbersome and wildly expensive. I like the comparison offered, but it's highly unlikely that in this particular case, "better" is going to be the outcome.

William F. Lampe IV 2 years ago Member's comment

I personally found Jet to be relatively easy to use and visually pleasing, but that is more personal opinion I suppose.

My point was more about how it's too early to tell at this stage. Anything could happen with Walmart and Jet, or Amazon and Whole Foods, so I don't think it's prudent to write off one of their acquisitions

Carol Klein 2 years ago Member's comment

It's been a while since I shopped at Jet. But I found their process of getting extra savings by buying items from similar warehouses to be very confusing. Overall it was difficult to understand how much I was paying for each item. And I found those numbers often changed. For instance, if I added an item to my cart it would list thousands of items that I could get cheaper. But wanted they didn't mention is that the savings would only apply if I added ONE item, I would not get more savings by adding more than one item. Also, if purchasing many items, it was hard to keep track of which item was linked to savings on which items. So if you deleted an item from your cart later, you might lose the extra discount on something else which may have been the only reason you added it to your cart in the first place.

Without the additional savings, every item I looked at was cheaper on Amazon. Just a very confusing model over all. And that was the only technological enhancement I even saw. Otherwise the website was extremely basic. The search function was dismal and their item selection was pretty limited and ever changing. So there were many times I bought an item I liked and wanted to re-order it, but when I tried, I found they no longer carried it.

I will say they had very good customer service though. Something Walmart could benefit from but which I fear might work the other way around. At least Walmart's customer service is as poor as ever. Personally, I wouldn't mind if Amazon put Walmart out of business with the exception that competition is good for the consumer.

William F. Lampe IV 2 years ago Member's comment

Don't forget the logistics network that $AMZN is bringing to Whole Foods! That being shared between the two companies could reduce costs for both of them.

Seth Golden 2 years ago Author's comment

Grocery logistics is far different than what Amazon understands or has experienced proficiency with. That is what they are actually acqui omg in the deal, not bringing to the table. On a mass scale Amazon doesn't have scaled expiry, chargeback and DSD experience as they don't have those busines relationships or operations.

Angry Old Lady 2 years ago Member's comment

"Grocery logistics is far different than what #Amazon understands or has experienced proficiency with." = Hitting the nail on the head. $AMZN $WFM

Bill Johnson 2 years ago Member's comment

Seth Golden is exactly right. This is uncharted territory for Amazon. I'm not saying they will fail, but I think they are going to have a harder time of it then they expect.

Bruce M. Knoth 2 years ago Member's comment

Amazon does sell food online, so I would argue that they do have a lot of experience. And they certainly have the $$ to hire more people with more direct experience.

Seth Golden 2 years ago Author's comment

selling food online and doing so successfully are two different indicators. Their market share clearly indicates they don't have good experience and know how or likely the right skill sets and personnel.

William F. Lampe IV 2 years ago Member's comment

I agree with Knoth, they have started #AmazonFresh, and their partnerships with shipping companies can help them expand with less growing pains. That, and they have some of the greatest minds in the field of supply chain! Who knows what other knowledge and experience those minds hold.

BreakingBad News 2 years ago Member's comment

Actually Amazon started their own shipping company. But I would think super markets use their own workers as delivery men rather than using UPS.

William F. Lampe IV 2 years ago Member's comment

But look at their same day shipping roll outs: the distribution network is already very promising!

Seth Golden 2 years ago Author's comment

The grocery business is highly complex and complicated to maintain, nonetheless maintain profitably over extended periods of time. It's one thing to sell groceries that are dry goods as Amazon has and will continue to do, it's an entirely different thing to sell cold, frozen and dairy foods. Expirations, shelve lives and the necessity of sourcing locally is NOT in any way shape or form something Amazon has done on scale or with any proficiency along the lines of what I've noted within. Moreover, there is a profound reason as to why the major beverage companies have a dominant position within the grocery supply chain inclusive of DSD operations. Again, this is not something that is available to Amazon and obviously as such Amazon has NO experience with this such aspect of the grocery business. The beverage and snack business make the grocery business profitable, most everything else outside of meats is considered minimal profit to losses. Amazon likely understands this as it has been trying for many years now to expand its grocery business to include greater sales volumes, but without a DSD, high volume business it has been extremely difficult. So you buy Whole Foods with local sourcing DSD operations and all that comes with the business of selling cold, frozen dairy goods. Having said all of that, Amazon will still likely not be successful without large scale modifications to the Whole Foods business model as Whole Foods has a very finite consumer base. Again, Amazon likely understands this but most importantly...and here is the biggest takeaway as we share this experience going forward: Amazon doesn't care. Amazon doesn't care because its shareholders don't care. We're talking about a company that went unprofitable were over a decade and with the stock price doing nothing but appreciating over that time period. So while we banter and rationalize this acquisition whichever way we choose to do so, no matter what the outcome, shareholders will likely continue not to care as the core Amazon business has proven disruptive and, now, more profitable than ever. Maybe the real question is can Amazon do no wrong? Thank you all for the comments and sharing!

William F. Lampe IV 2 years ago Member's comment

I can't agree that Amazon and it's stockholders do not care. Amazon has had those long periods of operating on losses in order to innovate and expand, which has shown tangible success! As for the DSD operations, you have a great point, and much more experience looking into this industry than I, however looking back at amazon's expansions into new fields, I find historical precidence to back up my feeling that they will successfully find a way to set up those local DSD connections, or work around their lack of them.

I have to thank you for responding to my comments as well Seth, this has been a great discussion!