NATURAL PROGRESSION

On Oct. 21, uniform organic standards will be fully realized across the country. After 10 years of debate, the U.S. Department of Agriculture will become the sole regulatory authority governing the production, handling and labeling of all organically grown foods in the United States.During these past 10 years, the market for packaged and processed organic foods has experienced exponential growth,

On Oct. 21, uniform organic standards will be fully realized across the country. After 10 years of debate, the U.S. Department of Agriculture will become the sole regulatory authority governing the production, handling and labeling of all organically grown foods in the United States.

During these past 10 years, the market for packaged and processed organic foods has experienced exponential growth, driven by the harried lifestyle of today's health-conscious consumer. Industry observers expect to see continued growth in line with the steady demand for convenient, wholesome choices.

Many within the industry see the federal stamp of approval as a tremendous boon for the mainstream viability of this segment.

However, certain questions remain. For example, what does the future hold for the nebulous "natural" designation? How will the new standards impact the habits of shoppers and retailers alike, and what can traditional operators do to strengthen their position -- and profits?

In an attempt to shed some light, SN assembled a virtual roundtable of experts drawn from all quarters of the organic and natural foods industry. What follows is a discussion of several key issues facing retailers, distributors and manufacturers in an adolescent market.

SN: After 10 years of debate, the USDA's National Organic Standard will be fully implemented next month. Do you feel that a standardized stamp of government approval will have a significant impact on the sale of organic grocery products to the conventional consumer?

Mazur: While it is welcomed by consumers and the supermarket industry, we don't believe the USDA's Natural Organic Standard will have a significant impact on sales of natural and organic products. What it will do is generate consumer confidence in the organic products they purchase.

Mulry: As the organic products industry continues to grow at double-digit rates, we are seeing more and more conventional customers come to our stores for a wider selection of organic products. Customers typically think of the produce department as a place to find organic products, but as the new USDA Organic seal is rolled out onto packaged goods, it is likely to drive customers to shop the grocery aisles of our stores more and more.

Leonard: Certainly, established National Organic Standards will make a very positive contribution to the continued growth of the organic products industry. Consumers can now be confident that the products for which they pay an organic foods-price premium are, in fact, "organic." Remember, this industry segment has been growing at a compounded annual rate in excess of 20% for more than 10 years. To continue anything like this high rate of growth will require reaching out to a larger, more mainstream consumer base, one who currently knows little or nothing about the real benefits of organic foods.

Badishkanian: The USDA's National Organic Standard should spur growth of organic products overall. It could, however, have a detrimental impact on produce sales at conventional supermarkets, given the new handling procedures. As a result, those food retailers that are unable to properly segregate their organic products will need to bag the products so as not to compromise the organic integrity. This is less appealing than the current merchandising practices. We therefore could see either lost sales of higher-margin organic products or customers could chose to shop at health food stores.

SN: Where does the "all natural" designation fit into this scheme? Might products labeled as simply "natural" suffer from the absence of a readily recognizable organic seal?

Mulry: At Wild Oats, the products we sell must go through a rigorous product-standards process to ensure they meet our criteria for "all natural." Additionally, our customers trust us to choose the highest-quality products that meet our definition so they have the reassurance that products do not contain artificial ingredients. Therefore, we offer a healthy mix of "all natural" and "organic" products to offer our customers a choice while ensuring the highest standards are met. We believe that there is a place in consumers' cupboards for both natural and organic products to meet their individual preferences and, therefore, do not think natural products will suffer with the introduction of the USDA Organic Seal.

Pratt: One reason the new rule is so important is that it specifically defines the word "organic." The term "natural" has always been confusing to consumers. "Natural" refers generally to packaged products free of synthetics with minimal processing. Natural products will still be in demand, but the problem of ambiguity and lack of a national standard will likely lead to more sales of organically grown food with the new rule.

Badishkanian: "All natural" products will likely become less appealing than organic food. This trend will not occur immediately, but rather over time as consumers become educated on the benefits of eating organic.

Leonard: Mainstream food marketers have probably abused the word "natural" more than any other word in the English language. Unfortunately, there is no federally mandated definition for the term, though for shoppers and marketers in the natural food-store channel, there is a commonly accepted meaning. Organic foods have no such liability. The value-added position is clearly defined. We expect many of the products currently positioned as natural to reformulate with organic ingredients to take advantage of increasing consumer interest and category growth.

SN: What adjustments, if any, need to be made in the aisles by conventional grocers to accommodate the new rule?

Mazur: Natural and organic products have a better chance of success if merchandised in aisles directed at mainstream supermarket shoppers. Most consumers faced with the choice of buying a good-tasting, competitively priced organic product for their family vs. a non-organic product will buy the organic products. We think we have a lot of work to do in educating the consumer, but the rising sales trends indicate that we are becoming more successful in doing so.

Leonard: I don't see the merchandising approach changing as a direct result of the organic standards. The branders are going take the lead with helping consumers identify which products contain organic ingredients. Either store-within-store or integrated approaches can be very effective in promoting the organic food assortment. Retailers should either develop their own effective consumer-education tools or support legitimate vendor efforts to help consumers better understand this category.

SN: Which approach -- integrated vs. store-within-store -- best suits the conventional grocery format?

Pratt: Integration has worked for us since we added organics in 1989. We like to consolidate certain categories such as produce and frozen food in those departments to create a larger visual impact. We like the exposure and storewide commitment the integrated approach sends to the consumers.

Badishkanian: A store-within-a-store approach is the best strategy for those stores that have the ideal demographics -- wealthier and educated consumers. It illustrates the dedication to the category, makes for an easier and more differentiated shopping experience, and can support appropriate customer service for those higher-priced products. We think the ideal approach would be for a conventional food retailer to acquire one of the two natural food chains -- Wild Oats Market or Whole Foods Market. This would provide a highly recognizable and trusted brand, marketing/merchandising expertise and purchasing scale. For those retail stores, which operate in markets that cannot sustain a store-within-a-store approach, we think an integrated merchandising strategy would work best.

Mazur: Fish where the fish are. Many consumers are bypassing separate natural and organic sections on their way through the store. It's important to provide consumers with a choice of products at the point of purchase.

Leonard: Both approaches are effective. The demographics of the particular store site and the maturity of the natural category in the store mix often determine which is a more successful format. If the category is new to the store mix, a designated store-within-a-store department creates a focused, natural shopping destination. We stress that the store-within-a-store model is significantly more effective (higher volume, sustained sales growth) when it is staffed by knowledgeable, dedicated employees. Integrating natural product sections throughout the store in the cereal, dairy alternative, special diet, beverage, packaged foods, pasta and tomato products, baking, condiments, oils, snack foods, cookies and crackers, dairy, frozen, produce and even meat and poultry sections requires an extensive commitment to maintaining the integrity of the section and to signage to educate consumers. High-volume stores often do very well with integrated merchandising.

SN: Which grocery categories are experiencing the strongest growth in the natural and organic segments? Is there a reason that consumers are particularly susceptible to these products in these categories? What can be done at retail to accelerate growth in these categories?

Pratt: In our stores microwaveable frozen food is the fastest-growing area in organics. Generally, organic is following the trend of convenience that we see in our customers' lifestyles.

Leonard: The organic food categories that are experiencing the greatest growth are those which deliver the most tangible consumer benefits. At the top of the list would be dairy (no growth hormones), followed closely by frozen meals (convenience). Other organic categories growing rapidly include breads and grains, packaged goods, snacks and condiments, though some of this growth is coming at the expense of their non-organic "all natural" counterparts. In both natural and organic segments practically anything soy, but most especially non-dairy soy beverages and meat alternatives, is enjoying tremendous growth.

Badishkanian: The fastest-growing categories include produce, frozen, refrigerated and snack products. With the exception of natural snacks, these categories do not have adequate shelf space allocated within the conventional supermarket channel. The negative press related to fried starch foods having detrimental health consequences should continue to lead to a shift to healthier snacks. The conventional food retailers will need to work more closely with their primary distributors in order to become more successful in competing in these faster-growing segments. Tree of Life and United Natural Foods are currently the only two national, natural food distributors. Nature's Best (West coast) and North East Cooperative (East coast) are the two largest national distributors. Importantly, these distributors sell to a variety of formats and best understand which marketing and merchandising techniques are most effective.

SN: What can be expected in the way of innovation and new products for the coming year?

Mulry: Since the organic products industry is growing faster than the overall food industry, we believe we will see conventional food manufacturers developing and introducing organic product lines. For example, recently, Heinz introduced its first organic catsup and General Mills introduced a new line of organic cereals under the Cascadian Farms brand. Additionally, we think we will begin seeing more organic single-serving and convenience items in several product categories. These are being geared to children and women as key consumers of organic products.

Pratt: I am expecting more products directed to children as the new rule makes organic more meaningful. Organic fruit snacks, juices and cereals directed toward children have a lot of growth potential. Educated consumers will demand organically grown food for their children.

Badishkanian: A key driver to growth has been a narrowing of the price, taste and appearance gap between natural/organic and conventional food products. This should continue as natural food suppliers gain greater skill in marketing their products to mainstream customers, as well as achieve economies of scale. We could see some line extensions of already-successful products.

Leonard: The No. 1 new product driver for the immediate future will be the conversion of existing natural products to organic product positions, and No. 2 would be the introduction of new organic food products aimed at the mainstream consumer. The sleeping giant may be new product offerings that take advantage of growing consumer concerns about genetically modified organisms. One of the drivers to organic food category growth has been that genetically modified food technology is not allowed by the National Organic Standard. If any kind of food-safety scare related to GMOs occurs in the U.S., these kinds of products will see explosive growth.

SN: How can retailers work with vendors and distributors to facilitate the growth of this burgeoning market?

Mulry: We believe that consumer education in the stores is paramount to supporting the organic market. Retailers can partner with their vendors to develop consumer education materials and to execute in-store events that highlight the benefits of organic agriculture, both from a health and environmental perspective.

Pratt: When organics are available through mainstream distributors, costs go down significantly. The price barrier for organics can be reduced in this way, which should help sales. Retailers can encourage their wholesalers to slot fast-moving organic items such as organic soy-drink products to help reduce retail prices.

Leonard: Staff training is an essential part of a successful program, and retailers should take advantage of the educational opportunities that natural and organic distributors and vendors provide. Retailers are in the best position to educate consumers about the benefits of including natural and organic products in their diet and lifestyle choices. Education is the key to growing sales: Signage, distribution of consumer brochures, books and magazines focused on natural living, electronic information kiosks and in-store product demonstrations all highlight product benefits and increase sales.

Badishkanian: In general, the conventional food retailers have done a dismal job in merchandising natural/organic food products, as illustrated by 10+% comps and 5+% comps at Whole Foods Market and Wild Oats, respectively. Conventional food retailers need to devote greater shelf space and expertise to the category in order to capture sales from this rapidly growing industry.

Natural Progression

The following individuals participated in SN's recent virtual roundtable discussion on the state of the organics industry:

Mary Mulry senior director of product development and standards

Wild Oats Markets

Boulder, Colo.

natural foods retailer

Greg Leonard

corporate VP of trade relations

Tree of Life

St. Augustine, Fla.

distributor, natural foods

J.B. Pratt

CEO

Pratt Foods Supermarkets

Shawnee, Okla.

conventional retail chain

Greg Badishkanian

VP of equity research

Salomon Smith Barney

New York

investment banking co.

Daniel F. Mazur

senior VP of Center Store, Topco Associates Skokie, Ill. private-label sales and marketing cooperative