The natural retailer says it's winning with a 'nontraditional approach to natural foods.'

PARIS — With its “nontraditional approach to natural foods,” Sprouts Farmers Market has become a formidable foe to Whole Foods Market, Trader Joe’s and the like. Generating approximately $3 billion in annual revenue, the Phoenix-based grocery chain operates more than 200 stores in 13 states with a long-term goal to open 1,200 stores.

Unlike Whole Foods, which attracts affluent consumers, Sprouts targets middle-income shoppers by locating its stores near traditional supermarkets and selling inexpensive produce.

“The middle-income consumer represents the largest segment of the use population in most of our trade areas, and it is the fastest growing segment of Americans adopting healthier eating habits,” said Doug Sanders, president and chief executive officer of Sprouts, during a June 9 presentation at the Deutsche Bank Global Consumer Conference in Paris. “Our broad customer appeal allows us to operate more stores in a trade area than any other natural foods competitor. And, lastly but most important, targeting the middle-income consumer allows us to compete with retailers across the $600 billion supermarket industry.”

The retailer’s success has not gone unnoticed. Feeling pressured by the emergence of Sprouts and other more affordable natural food stores, Whole Foods Market recently announced plans to open a value-oriented store concept geared toward millennial shoppers. 365 by Whole Foods Market is slated to open beginning in 2016, featuring a modern, streamline design with a smaller product mix than what’s offered at its flagship stores.

While Sprouts has nibbled into Whole Foods’ market share, the company’s primary competition is conventional grocery.

Doug Sanders, president and c.e.o. of Sprouts.

“When we open a store, our research shows that 60% of the sales in the stores for a new store are coming from the traditional supermarket,” Mr. Sanders said. “So it is an everyday middle income supermarket customer. And that kind of goes into everything we do: our pricing strategies, our advertising strategies, our pricing model, even where we place our stores. If you look at our real estate strategy, we place our stores in close proximity to the supermarkets because that is the similar customer that we are targeting.”

Sprouts differentiates itself from Trader Joe’s, the value-oriented specialty food chain, by offering a broader selection, Mr. Sanders said.

“We are obviously both value players in the space, but the biggest difference with Sprouts and Trader Joe’s is going to be the product offering,” he said. “Trader Joe’s does a great job with packaged grocery, great job with frozen, good job with wine, but from the perishable side they are going to be a bit lacking when it comes to the difference between a Sprouts and a Trader Joe’s offering. If you look at our stores, we are a full grocery store offering. We have a full meat and seafood department. We have a full deli department, a full bakery department.”

Sprouts opened its first store in 2002 and has grown from a $1 billion business to a $3 billion business in the past six years, driven by tailwinds in the natural segment, expansion through organic growth and two acquisitions, and innovation in branded and private label products. The company has reported 32 consecutive quarters of positive comparable-store sales growth.

For the fiscal year ended Dec. 28, 2014, Sprouts had net income of $107.7 million, or 70c per share on the common stock, up 110% over the prior year, driven by increased comparable-store sales, strong performance in new stores opened, and reduced interest expense. Net sales increased 22% over the prior year to $2,967 million.

For 2015, the company has projected net sales growth of 20% to 22% and adjusted net income growth of 18% to 22% over fiscal 2014.

“With the natural and organic sector projected to grow at a healthy rate of just over 9% through 2018, we continue to believe that Sprouts is well-positioned to grow sales and market share for many years to come,” Mr. Sanders said. “Unlike most natural foods retailers, we are a complete healthy grocery store, with all the departments you need for your weekly shopping trip. From fresh produce, meat, and dairy, to packaged grocery, vitamins, and bulk foods, to a wide selection of attribute-based products like gluten-free and non-G.M.O., we offer over 17,000 good-for-you products across the store at prices that won’t break the bank.”

What consumers won’t find in a Sprouts store are traditional consumer packaged goods.

“The Sprouts model takes the traditional supermarket model and kind of flips it backwards,” Mr. Sanders said. “We are a natural foods retailer, so we don’t sell Coke, Tide, Pepsi, and things of that nature. We move produce to the center of the store and take lower margins in produce and make higher margins in our perimeter departments, but our perimeter departments are a little bit different than a traditional supermarket.”

The perimeter of a Sprouts store features a selection of natural and organic packaged grocery, dairy and frozen products. Recently, the chain began testing new in-store elements, including a salad bar and expanded deli section. The more than 500 varieties of conventionally and organically grown produce offered at Sprouts represents 25% of its sales, which is two to three times that of a traditional supermarket, Mr. Sanders said.

“To attract the everyday grocery shopper, we use fresh, conventionally grown and organically grown produce as our primary business driver at prices that are, on average, 20% to 25% below the supermarkets and even further below the specialty and natural foods players,” he said.

Sprouts routinely price checks its competitors across all markets and maintains 19 pricing zones to address competitive differences at state and market levels. The company also offers promotional pricing on a weekly basis, with about a third of items in the store on sale at any given time.

At 28,000-square-feet, the average size of a Sprouts store is about half the size of a traditional supermarket. The company spends approximately $2.8 million to build a new unit, below the industry average for food retail, according to the company. Because of its significantly lower capital expenditures, Sprouts is able to pass on savings to customers and still have a strong cash-on-cash return, the company said.