Sprouts Farmers Market (SFM): A Rapidly Growing, Value-Oriented Specialty Grocer

Sprouts Farmers Market is one of the largest natural and organic health food retailers focusing on health and wellness. It offers a broad selection of high quality, competitively priced perishables, bulk items, vitamins, and supplements.

SFM is a high-growth, value-priced, natural and organic food retailer operating 160 locations in the southwestern region of the United States. SFM has a highly differentiated food retailing business model that appeals to a broad demographic attracted by industry-leading prices in produce, a full grocery selection of natural and organic products, and a high level of customer service.

SFM’s stores focus on a unique combination of health, value, service, and selection in a convenient format with a farmer’s market atmosphere. Given its focus on fresh produce, natural and organic products, and supplements, the company is well positioned to benefit from the secular trend towards healthier eating and wellness. According to the Nutrition Business Journal, the nutrition industry has grown at a 9% CAGR over the past decade. In addition, the same industry is expected to sustain an 8% annual average annual growth rate through 2020, driven by the ongoing tailwinds from rising healthcare costs, an aging population, and rising consumer awareness. It is important to note here that SFM has been gaining share in this rapidly growing industry. Going forward, this trend should continue due to store expansion and comps.

SFM with its aggressive pricing strategy has also established a value perception since people tend to purchase produce frequently and are sensitive to price. SFM sells its natural and organic products at prices 20%-30% below traditional supermarket and other healthy living players. The company’s aggressive pricing strategy is highly effective in driving traffic. It then leverages this traffic to build basket size with higher-margin products like vitamins, bulk, grocery, and deli. This aggressive pricing strategy not only differentiates SFM from the competition and broadens store expansion potential, it should also drive consistency across economic cycles. While SFM’s aggressive pricing strategy differentiates it from its peers, it is also important to note that if competitors were to try to replicate SFM’s model it would likely put pressure on margins as the company reacts with its own price investments.

SFM currently operates 160 stores across eight states in the southwestern region and is targeting a 12% square footage growth annually to 1,200 stores (7.5 times current locations) in the long-term. SFM’s new stores growth target is not only the most realistic among its peers, it may prove to be a little conservative. In the long-term, SFM’s differentiated value/healthy living strategy should provide it with the largest total store potential among all the growth players. SFM’s value proposition enables it to cater to a wider demographic compared to its peers; moreover, the company’s smaller format and lower productivity relative to its peers should allow for deeper penetration.

SFM also has the broadest customer base compared to its peers. The company’s value message allows for more density in local markets, access to smaller markets, and more overall store locations. The Phoenix, Arizona based company has had success in small, medium, and large markets and continues to add to its density in existing markets. It is also important to note that SFM’s four-wall model features an attractive 3-4 year cash-on-cash payback period that provides more than enough cash from operations to fund targeted unit growth.

While most of its competitors target the higher end customer, SFM’s combined focus on health, value, and wellness enables it to appeal to a broad customer base. Sprout’s value strategy allows for greater density in markets and a larger long-term store opportunity than its peers. For consumers looking to eat an all-natural diet, SFM can be a one-stop shop. It offers a full grocery selection of entirely natural and/or organic products.

For retailers like Sprouts with a high mix of fresh, natural, and organic products, an aging population also represents a great opportunity. According to the estimates of the United States Census Bureau, the number of adults age 65 and over will grow at a compounded annual growth rate of 3.4% through 2020 versus the total population average of around 0.7-0.8%. Healthy and active lifestyle would be a main focus point of this older group, as they are more likely to pay attention to nutrition in their diet than other groups. As the median age of people in the U.S. increases and healthcare costs continue to outpace economic growth, the role of healthier lifestyle will become progressively more important. Again, SFM is well-positioned to benefit from this trend.

Many customers are drawn into the store by attractive specials in produce and SFM’s strong customer service is critical for helping to build the basket over time. The company places knowledgeable staff members throughout each store to help customers navigate through departments and select new products. SFM’s stores have no self-checkouts and no aisle numbers to help encourage interaction between customers and associates.

Conclusion

SFM is a rapidly growing value-oriented specialty grocer. Given its focus on produce along with natural and organic products, the company is well-positioned to benefit from the secular trend towards wellness. Its aggressive pricing strategy also caters to a wider demographic and has helped SFM establish a broader customer base compared to its peers. SFM’s value proposition appeals not only to dedicated consumers of natural and organic products, but also to average grocery shoppers, creating an economically resilient model with consistent same-store-sales growth.

SFM has strong growth potential. The company plans to expand its stores by 7-8 times in the next few years and its growth target is one of the most realistic among its peers. Moreover, if the company was to accelerate its square footage growth trajectory, it could have a positive impact on its share price. Driven by the ongoing tailwinds from rising healthcare costs, an aging population, and rising consumer awareness, the nutrition industry is expected to grow at a high rate over the next several years and SFM has positioned itself to benefit from these trends.

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