NEWPORT BEACH, CA—Amazon’s recent acquisition of Whole Foods sets the stage for a battle between the e-commerce giant and Walmart for supremacy in the grocery space, Landmark Capital Advisors’ managing director Adam Deermount tells As huge of a player as Amazon is now, this latest acquisition is a game changer, he says. We spoke with Deermount about why this is so and what the grocery sector faces with this acquisition. Why does this acquisition change the game for the grocery sector?

Deermount: For most of my adult life, there has been a prevailing sentiment in the financial world that the legacy players in the grocery business were in trouble.  However, their main threat wasn’t Amazon, but Walmart. The behemoth from Arkansas had devoured smaller retail competitors by opening up big-box locations with lower prices and more selection than mom-and-pop stores could ever offer. The result was that Walmart effectively killed Main Street USA by offering better selection at a cheaper price.

Walmart got into the grocery business in the late 1980s and was far and away the dominant force by the early 2000s. However, although Walmart is still the proverbial 800-lb. gorilla, it has struggled to gain traction in upscale market segments and has been losing market share in recent years. Amazon’s acquisition of Whole Foods sets the stage for a battle between the e-commerce giant and Walmart for supremacy in the grocery space. The two have been encroaching on each other’s turf for a while now, with Walmart moving into e-commerce and Amazon into brick-and-mortar. This feels a bit like the beginning of the end for a lot of legacy players caught in between the two giants. What are Amazon’s advantages over Walmart?

Deermount: Amazon has a couple of advantages upfront. First off, it has mastered both last-mile distribution and branding in a way that Walmart has not. While upscale consumers look down their noses at Walmart, the same cannot be said of Amazon. Buying a well-known upscale brand like Whole Foods as a way to get into the brick-and-mortar grocery business is not going to hurt this image.

There were two things about the transaction that really stood out to me:

  1. Amazon rarely buys high-profile existing brands. When it sees a space that it wants to be in, it typically invests heavily to build it out organically rather than buying a legacy competitor. The only other time that it did something similar to this was purchasing online shoe retailer Zappos which was a fraction of the size of Whole Foods. In fact, this would be Amazon’s largest acquisition by more than $12.7 billion.
  2. The transaction was air tight.How did this not get leaked? This will be a merger of two incredibly high-profile brands. Almost the entire hedge-fund and investment-banking set shops at Whole Foods and subscribes to Prime, yet nothing leaked about the two companies even being in conversations. This is sort of amazing in and of itself

The Amazon/Whole Foods deal dominated the financial news on the day it broke in a way that I haven’t seen for an acquisition announcement. However, if you step back and think about it, grocers are far from a sexy business. They have low margins and inventory that goes bad quickly. The space is also very competitive and highly site specific—being on the wrong side of the road for home-bound commuters can be death for a grocer. Also, Whole Foods was struggling.  It had been well documented that the grocer had sliding sales as other competitors entered the organic space that it used to dominate at cheaper price points. So, why do you think Amazon paid up for Whole Foods?

Deermount: I have a few ideas:

  1. Location is everything. Whole Foods is well known for its rigorous site selection. Its +/- 460 stores are in some of the most coveted and upscale locations in the US. This presents a distribution opportunity for Amazon, a company obsessed with last mile delivery; it is purchasing not only those 460 stores, but also the ability to transform them into distribution hubs for other products that its sells outside of groceries. This is a great real estate play for Amazon to establish a brick-and-mortar beachhead in upscale neighborhoods.
  2. Amazon understands volume. As I previously stated, grocers do not typically have great margins. They do however, drive an incredible amount of foot traffic when compared with other retailers. Grocers are one of the few retail experiences that we take part in each and every week. We may not go clothes shopping or go out to eat on a weekly basis but nearly every American goes to the grocery store and does so in high frequency. This makes a highly trafficked grocery store a potential goldmine for a retailer that relies on high volume like Amazon, which already does cross-selling and low-margin volume retailing better than anyone else.
  3. Whole Foods is a name brand. Despite recent struggles, Whole Foods is still a very well regarded brand—especially among the affluent demographic that Amazon covets. Buying an outfit like Whole Foods gives Amazon a foothold in the industry that it can build on without having to re-brand a larger legacy grocer without the name cache of Whole Foods.
  4. Despite the recent struggles, Whole Foods has substantially fatter margins than other grocers. Amazon is accustomed to thin margins. Don’t be surprised to see post-acquisition Whole Foods drop prices in order to drive competitors out of the organic grocery space. What else do you foresee happening in the grocery sector as a result of this acquisition?

Deermount: It wouldn’t surprise me if another grocer threw its hat into the ring to increase the price of this acquisition. It’s highly doubtful that anyone could ultimately beat out Amazon’s bid, but there are many competitors who would love to make them pay up as Amazon’s entry into the space becomes a matter of survival. In fact, Whole Foods is trading above the level of Amazon’s bid in expectation of a bidding war.

We’ve already seen what Amazon and other online retailers have done to the malls despite still being just north of 12% (but quickly rising) of the total non-food services retail market. The result has been struggling big-box stores, soaring vacancies and plunging property values. The grocers may not be able to avoid this fate, but I doubt that they are going to go down without a fight. By some estimates, Amazon is now going to be one of the five largest grocers within a year of the Whole Foods deal closing. It is going to be in a position to wreak absolute havoc on the space, and weak grocers or owners of poorly positioned grocery-anchored centers can’t be sleeping too well at night. The ongoing disruption of the mall and big-box models have been painful for the retail sector, to say the least. Grocers have now officially been served notice, and pharmacies could be next. The only things that I’m certain of when it comes to retail in the US is that we still have way too much of it, and it will look very, very different about 10 years from now.