Australia's second-largest supermarket chain has been hoping to acquire the lease for a vacant lot in Somerville, a suburb of the Goldfields town of Kalgoorlie-Boulder in Western Australia.
It proposed to develop the site into a full-line supermarket and liquor store, the second of its kind owned by Coles in the town.
Following months of deliberations, the Australian Competition and Consumer Commission on Wednesday announced it had blocked the proposal.
Allowing the acquisition would likely force an independent competitor to exit the market and detract from consumer choice, it found.
The decision is the first under new rules in effect since January 1, requiring major supermarket chains to notify the ACCC of certain acquisitions before proceeding.
The proposed development would deliver some immediate benefits but ultimately leave shoppers them worse off, ACCC deputy chair Mick Keogh said.
"There is a real prospect that the acquisition would lead to the exit of an effective independent competitor, and its assets leaving the market," he said.
"New entry would not be timely enough and sufficient to offset the loss of competition likely to result from the acquisition."
Kalgoorlie's isolated location and modest population growth meant the market may be unable to support another large supermarket without forcing an existing rival to close, ACCC said.
Kalgoorlie-Boulder has about 30,000 residents and six supermarkets, including a Coles, Woolworths, Spudshed, O'Connor Fresh IGA and two smaller stores.
The proposed 2800-square-metre supermarket would have been built as part of a new neighbourhood development in the city's southwest.
The regulator concluded the likely exit of an independent provider would reduce consumer choice and weaken competition.
Coles would then operate two of the town's four full-line supermarkets, while Coles and Woolworths together would account for an even greater share of the market.
The supermarket giant argued local shoppers and the local economy would be well-served.
"We disagree with the ACCC's decision," a Coles spokesperson told AAP.
The new store would provide local jobs, improve access to a wider range of competitively priced products and not require an existing competitor to exit the market.
They argued the decision underestimated Kalgoorlie's growth prospects, including demand from the mining industry's fly-in, fly-out workforce.
"We will review the ACCC's decision and consider our next steps," they said.
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