Mendoza School of Business

Why Amazon Whole Foods’ launch gets a B+

Published: August 30, 2017 / Author: CNBC

Joseph Cherian

As Amazon geared up to close its acquisition of Whole Foods last Thursday, the company said it would focus on four areas going forward: (1) A price decrease on a set of items from organic responsibly farmed salmon and tilapia to organic butter; (2) A switch to Amazon Prime as Whole Foods’ customer rewards program; (3) The availability of Whole Foods’ healthy and high-quality private label products through Amazon’s channels; and (4) The introduction of Amazon Lockers in select stores, so that customers can pick up ordered items while shopping their local Whole Foods, and even return Amazon products.

Here’s a detailed look at each one of these goals and how they will help or hurt consolidation.

  1. There will be two segments of shoppers at Whole Foods’ in the short run: the old faithful and the new switchers drawn in by the price cuts on items presumably most likely to attract them. For the old faithful, the new model will no longer be ‘Whole Paycheck,’ as the tired old cliché went, but a welcome respite from high prices. Will they buy more, as our old demand curve would suggest? Perhaps, but likely not so much. The net result with the old faithful will be a loss of revenue (and margin), even if the volume of shopping goes up. How about the new switchers? Will they be enough to offset the revenue drop? Even without specific numbers, it seems likely there will be more than enough, at least in the short run because of the price drops. These “new switchers'” sales numbers should be monitored to get an early warning whether these are good strategies.

    The other side of this question is margins. Will Amazon’s supply chain expertise and footprint help reduce the costs enough to keep the margins at Whole Foods levels? No, because Whole Foods has very healthy margins. But they certainly will be higher than Amazon’s customary margins. Indeed, Amazon’s margins will improve, but perhaps not to a great extent as Whole Foods constitutes a relatively small part of Amazon overall sales. (For 2016, Amazon’s was $136 billion, while Whole Foods was $15.4 billion.) Whole Foods margins will be lower than before, but that will still be higher than Amazon’s margins; for that reason, the new entity -Amazon plus Whole Foods-will have a higher margin than Amazon did before, although only by a small amount.

Read Cherian’s entire op-ed on the MSNBC website.