Amazon Takes a Big Bite Out of Grocery With Whole Foods Buy

 | Jun 16, 2017 | 12:00 PM EDT
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Amazon (AMZN)  is back in the news as it once again looks to implement what can only be viewed as amping up its creative destruction, this time on the grocery industry. While the company has been making inroads with Amazon Fresh, this morning it announced it has a definitive agreement to acquire Whole Foods Market (WFM)  for $42 per share in an all-cash transaction valued at $13.7 billion.
 
With $21.5 billion in cash and just $7.7 billion in total debt on a balance sheet with $21.7 billion in equity, we see little, if any, financing challenges for Amazon. Given Whole Foods' financials, we are reviewing our $1,100 price target on AMZN with an upward bias, but we wanted to share some quick thoughts on the announcement -- even though Amazon was, as usual, scant on details.
 
We see this acquisition catapulting its position in grocery -- particularly organic and natural, which continues to be one of the fastest-growing grocery categories. Amazon should also be able to utilize Whole Foods' warehouses and stores to expand the reach of its Amazon Fresh business at a time when more consumers are embracing online grocery delivery.
 
With companies like Panera Bread (PNRA)  noting that 26% of its weekly orders are now generated digitally, we suspect we are at or near the tipping point for digital grocery. For those unfamiliar with Whole Foods's existing online delivery service, it currently offers delivery in under one hour from a growing number of locations, which strategically fits with Amazon's Prime Now offering.
 
According to the "The Digitally Engaged Food Shopper" report from Nielsen, a quarter of American households currently buy some groceries online, up from 19% in 2014. The report goes on to forecast that more than 70% will engage in online food shopping within 10 years -- resulting in online grocery capturing 20% grocery share, up from 4.3% in 2016. When dealing with percentages, we prefer to consider the actual dollar amounts -- and in this case, it means online grocery jumping to more than $100 billion by 2025, up from $20.5 billion in 2016.
 
Now, a quick word on that decade-long forecast. We tend to ignore the actual numbers, as they tend to be as right as the average meteorologist and economists that work at the Atlanta Fed. We prefer instead to note the vector (direction), which in this case is solidly higher and fits with our increasingly connected society theme.
 
That said, we know Amazon tends to play the long game, and we see it doing this transaction to create a solid base from which to flex its logistical muscles. We find this move far more appealing than if Amazon opted to build from scratch, given the existing infrastructure -- as well as the simple fact that Whole Foods management team will continue to run the chain after the deal closes and stores will continue run under the Whole Foods brand.
 
In a nutshell, we see this as a win-win for Amazon as it looks to battle Kroger (KR) , Sprouts Farmers Market  (SFM) , Walmart (WMT)  and others that have ventured into the grocery space, like Target (TGT) , for consumer wallet share. As Amazon continues to wreak havoc on even more of the retail industry, we once again find ourselves thinking as consumers and analysts that Amazon is a business to be reckoned with -- and a stock to own, not trade, as it continues to disrupt the existing landscape.
 
 

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