How a beloved organic grocery chain collapsed

New York(CNN Business) In 2016, a homegrown grocery chain hit the big time.

Kroger, America's largest supermarket chain, took a majority stake in Lucky's Market, a Boulder, Colorado, grocer known for its farmers-market-style stores that aimed to make natural foods more affordable. Lucky's tagline: "Organic for the 99%."

The partnership seemed to make sense for both companies: Lucky's, which had 17 stores dotting college towns from Colorado into the Midwest, would receive a cash infusion to help it expand. Kroger would get an inside look at a trendy grocer to firm up its position in natural and organic foods and to woo new shoppers.

"We expect to learn a lot from each other," Kroger CEO Rodney McMullen said at the time.

But less than four years into the deal, the partnership is over. Lucky's, a grocer with a loyal base of shoppers has collapsed, thousands of workers' jobs are up in the air and suppliers have been bruised by the loss of a valuable customer.

Kroger (KR) announced in December it was pulling its investment in Lucky's. Weeks later, Lucky's said it planned to shutter 32 of its 39 stores.

And last month, Lucky's filed for bankruptcy. The company is striking deals with grocers to rescue some of its stores. And Lucky's founders have put in a bid to buy six of the company's stores, including the Boulder location that got the whole thing started.

Lucky's struggles are a symptom of growing pressure on smaller grocery chains in an industry with wafer-thin margins, rising competition and consolidation from big chains. Supermarket bankruptcies have spread, claiming Tops Market, Southeastern Grocers, A&P, Fairway, and just this week, Earth Fare, a natural foods chain with 50-plus stores in the Midwest and Southeast.

Organic and mass grocers squeezed Lucky's, but so did strategic mistakes. Kroger controlled Lucky's board and oversaw an aggressive growth plan that backfired.

"We grew too quickly believing that Kroger was in this for a strategic, long-term commitment," said a source close to Lucky's.

In a statement to CNN Business, a Kroger spokesperson said, "As part of a portfolio review, we made the decision to evaluate strategic alternatives in relation to our investment in Lucky's Market. As a result, Kroger decided to divest its interest in the company."

Lucky's founder Bo Sharon and a spokesperson for the company did not respond to a request for comment.

'Organic for the 99%'

The concept behind Lucky's was honed in Boulder, a haven for natural foods. Big brands like Celestial Seasonings and grocers such as Wild Oats Markets got their start there.

Lucky's got its start in late 2002, when Bo and Trish Sharon spruced up their North Boulder Market and renamed it Lucky's Market. The Sharons worked directly with produce distributors to sell organic produce for lower prices while also saving shelf space for traditional products such as Oreo cookies and Coca-Cola.

About 10 years after opening the first Lucky's, the Sharons opened a second location in a nearby Colorado city and set their sights on opening more grocery stores in the Midwest.

Lucky's stores are smaller than a traditional supermarket or a Whole Foods. They feature "garage door" entrances and produce in wooden crates for a farmers' market feel. In addition to cafes and delis, Lucky's launched a popular "sip 'n' stroll" program at its stores where customers can drink beer or wine while they shop.

To counter the likes of Whole Foods, which earned a reputation for exorbitant prices and the undesirable moniker "Whole Paycheck," Lucky's positioned itself as an organic store for the masses.

"I think we present an authentic brand, something that people can relate to," Bo Sharon said in an interview with the Boulder Daily Camera in 2014. "A lot of people tell us that it feels attainable."

By the time Kroger invested in Lucky's in 2016 (the amount was never disclosed), Lucky's had 17 stores in 13 states, primarily targeting college towns with demographics similar to Boulder.

Struggles in Florida

Kroger's management believed Lucky's was an opportunity to appeal to younger, price-conscious shoppers. Lucky's also represented a way for Kroger to get a foothold in Florida, a market dominated by Publix and a scattered field of independent grocers.

However, others also saw a similar opportunity in the Sunshine State.

"All of a sudden, there was kind of a race on Florida," said Christine Kapperman, senior content director at New Hope Network, a publisher of natural products industry news.

By the end of 2017, Lucky's had 11 stores in Florida. As Lucky's swept across Florida with Kroger's backing, so did rival organic chains like Sprouts, Fresh Thyme and Earth Fare. But Lucky's continued to double down. Bankruptcy filings show that of Lucky's 18 stores it planned to open, 17 were in Florida.

And as Lucky's expanded, big grocery chains like Walmart (WMT) and Aldi also increased their focus on natural and organic foods to capitalize on a growing market, blunting some of Lucky's appeal. Even Kroger has focused on expanding its organic foods, growing its organic private-label line Simple Truth by 16% last year.

"You can't specialize and hang your hat on being natural and organic because everybody is," said one Lucky's leader.

Going big on Florida would ultimately doom Lucky's.

The company had to borrow money from Kroger to fund its growth in Florida. When Lucky's filed for bankruptcy, it was more than $301 million in debt to Kroger, according to court filings.

"We were full steam ahead," a source close to Lucky's said, noting that the Florida push came with Kroger's support. "If at any point we stopped, we could be a profitable company."

Lucky's downfall

Lucky's has a more expensive labor model than Kroger because it focuses on prepared foods and highly specialized departments, which are costlier to run.

That may be sustainable for a handful of stores, but it piled on losses as Lucky's expanded.

In Lucky's latest fiscal year ending in early January, the company had an approximately $100 million net loss and a 10.6% drop in sales at stores open for at least one year, a key metric of a grocer's health. Steep competition and new Lucky's stores cannibalizing sales at older stores contributed to the drop, according to experts.

Lucky's said it would need at least an additional $100 million in new funding to become profitable. For Kroger, which is struggling to grow profits and is making heavy investments online and in new warehouse technology with Ocado, Lucky's debt and its need for new funding proved to be too steep.

"The amount of investment that it would take for Lucky's to be a meaningful contributor to Kroger overall and the efforts that it would take — we just didn't think it created a good return," Kroger CEO McMullen told analysts in December.