Whole Foods could use the help of an activist investor to whip it into shape
Deutsche Bank conducted a "detailed" risk/reward analysis on specialty grocery store Whole Foods and came away bearish on the company's growth prospects.
In fact, they think a the company could use an activist investor to come whip management into shape.
"Whole Food's strong cash position, strong operating cash flows, strong brand equity, and long-term unit growth potential could attract the attention of an outsider (e.g., activist) - and, an outsider could be the force needed to enact change at Whole Foods," wrote analysts Karen Short and Shane Higgins.
Short and Higgins began their note to clients with six reasons that Whole Foods' stock, which has slid over 40% from its 2015 high in February, could continue to underperform.
When it came time in their assessment for positives, however, they came up with three things: an outsider could come in and make significant business changes, a leveraged buyout could happen, and it can't get any worse.
Whole Foods' growth has been slowing for some time now, traffic growth in their stores has been dropping off since its peak at the start of 2012. Furthermore, the prices and margins of their food are the highest in the sector, which the analysts say is driving away traffic.
"WFM's merchandise margins (ex-LIFO, ex-rent) are well above its publicly traded specialty food retail peers," said the note. "Some of the difference can be explained by mix, but, in general, we believe WFM may need to reduce merchandise margins to the ~34.5% range - or ~400 bp lower than their current margins in order to fix its pricing problem."
Worse than any of the financial problems, say the analysts, is the lack of managerial course corrections.
"Today, the market for natural/organic food has increased dramatically, attracting many more competitors - including some truly large disruptors including both Kroger and Costco," wrote Short and Higgins.
"In our view, Whole Foods has not had much experience operating in this type of environment where many more (sophisticated) grocers sell products that are similar to Whole Food's, making differentiation more difficult to achieve and putting much greater emphasis on sharper pricing - not Whole Food's core strength."
The analysts also mentioned that the company has no clear plan "B" and that their new initiatives undertaken in July of last year have done nothing to help mitigate the damage.
This mismanagement has Short and Higgins calling for new blood like that of an activist investor.
A leveraged buyout is less likely at the current share price, said the note, but it is possible.
To the company's credit, said the analysts, it does still have strong brand recognition and they laid out a number of steps that the company could shed some of its bad ideas and get back on track, but they see it as unlikely without a new face stepping in.