On Friday, Amazon sent shockwaves through the world of retail by announcing its intention to buy upscale grocery chain Whole Foods for $13.7bn.

The deal, which came as a surprise to the markets, knocked nearly $40bn off the market caps of other retails. Kroger, Costco, Target, Walgreens and Wal-Mart each saw their stocks drop by more than 4% following the announcement, and their declines accounted for over $23bn of the market cap losses.

The reason for the violent stock market reaction to the Amazon acquisition of Whole Foods is obvious: while the deal isn't final – it's possible other bidders will emerge – Amazon is clearly willing to make a bold move to get into the offline grocery business and when such a move is officially consumated, it will be highly disruptive.

How disruptive?

According to analysts at Cowen & Co., Amazon, which is expected to be the ninth largest grocery retailer in the U.S. this year thanks to Amazon Fresh, would become the third largest with the acquisition of Whole Foods. Only Kroger and Wal-Mart would be larger. That's obviously a big deal.

wholefoods

Big business

Becoming a bigger player in the grocery space is a logical ambition for Amazon as the market is a $600bn a year business. But for Amazon's to realize significant gains, a sizable bricks and mortar operation looks necessary. That's because while online grocery sales are rapidly growing, according to the Food Marketing Institute and Nielsen, they're still only going to account for 20% of the market by 2025. That's a significant five-fold jump from where sales are today, but to really accelerate the growth of its presence in this market, Amazon needed to make a big move.

But Amazon's pending acquisition of Whole Foods isn't just about the grocery market.

First, not only will it put pressure on large retailers with exposure to the grocery market, it will put pressure on two of Amazon's biggest competitors, Wal-Mart and Costco. The latter in particular, which is the largest membership-only warehouse club in the U.S., could be hurt considerably by the Amazon-Whole Foods deal.

According to Deutsche Bank analyst Paul Trussell, "The Whole Foods Market acquisition represents a game changer with Costco's competitive moat in grocery under greater threat while its digital platform lags peers, putting membership renewal at risk for decline."

Exacerbating the threat to Costco is the fact that, according to Cowan & Co., 64% of Costco members now also have an Amazon Prime membership. Cowan & Co.'s data indicates that those Costco-Prime members are visiting Costco less, so once Amazon owns Whole Foods and extends Prime's footprint into Whole Foods, Costco could lose out even more to the Amazon-owned grocery chain.

Second, and most importantly, while Whole Foods locations will give Amazon a bricks and mortar grocery platform, Whole Foods stores won't just be a grocery asset. Observers are already pointing out that Whole Foods' 450 stores, which are primarily located in upscale coastal cities that are key Prime markets, can be used as distribution and fulfillment centers for the retail giant, which has been working very hard to reduce the costs of getting products into the hands of customers.

And there's no shortage of speculation about the ways the company could innovate and leverage Whole Foods locations to further its interests. These range from introducing greater automation, such as self-serve checkout, to using Whole Foods to distribute more Amazon private label brands.

Amazon's endgame

It appears that the Whole Foods deal is the beginning of the endgame for Amazon. Having used ecommerce and digital technology to thoroughly disrupt retailers, which have already closed approximately 3,000 stores this year, Amazon is now in a prime (no pun intended) position to swoop in and use bricks and mortar to advance its goal of dominating retail.

In effect, Amazon, which is soon likely to make founder and CEO Jeff Bezos the richest man in the world, is now going to turn the physical stores that were a liability to the retailers it had to overcome into assets that could cripple those retailers, in many cases fatally.

Patricio Robles

Published 20 June, 2017 by Patricio Robles

Patricio Robles is a tech reporter at Econsultancy. Follow him on Twitter.

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