And Private Label Margin
Jim Prevor’s Perishable Pundit, July 14, 2009
Recently The Wall Street Journal ran two pieces that, taken together, constitute a one-two punch against the way food retailing has been conducted for 20 years.
The first piece, Retailers Cut Back on Variety, Once the Spice of Marketing, puts it this way:
For years, supermarkets, drugstores and discount retailers packed their shelves with an ever-expanding array of products in different brands, sizes, colors, flavors, fragrances and prices.
Now, though, they believe less is more.
Pharmacy chain Walgreen Co. is cutting the types of superglues it carries to 11 from 25. Wal-Mart Stores Inc. has decided that 24 different tape measures is 20 too many. Kroger Co. has tested stripping out about 30% of its cereal varieties.
In the next year or so, these and a few of the other largest retailers are expected to slice the assortment of products in their stores by at least 15%, industry executives and analysts say.
Wal-Mart is approaching the matter analytically:
Before the recession, sales at Wal-Mart stores had begun to slow as the company saturated the nation with its “big box” outlets. Now, the chain has stopped opening so many new stores and sought fresh ways to increase sales inside those it has.
Wal-Mart analyzed sales data for all products and categories to find the optimal selection for each store. Research showed shoppers spent an average of 22 minutes in a Wal-Mart, but suggested that the wide product variety was curtailing the number of items they put in their shopping baskets, says John Fleming, chief merchandise officer.
The company decided to add variety and shelf space in the fastest-growing categories and to trim variety and space in slower ones. It has since increased the number and variety of flat-panel television sets it sells, and finds its share of sales has increased. A study by Sanford C. Bernstein analyst Ali Dibadj said shelf space devoted to cat food doubled in Wal-Mart’s new store setups, while men’s shaving cream increased 35% and trash bags and diapers grew by more than 20%.
But cutbacks outweigh increases. Space for toilet paper and mouthwash dropped by 44% and 39%, respectively, in the new store format, according to the Bernstein analyst, while sanitary napkins, household wipes and bar soap fell by at least 20%.
In microwaveable popcorn, where sales are in decline, Wal-Mart halved the number of brands and reduced the total variety by 25%. Its stores now carry two sizes of market-leader Orville Redenbacher’s plus a lesser-known brand and Wal-Mart’s store brand.
On Wall Street, one of the biggest jobs analysts have right now is predicting how Wal-Mart’s product rationalization strategy will affect individual companies that sell to Wal-Mart.
Two days after that article appeared, The Wall Street Journal published Frugal Shoppers Drive Grocers Back to Basics, which extolled the center store and private label, specifically seeing Kroger’s success as tied to these strategies:
The recession-driven shift to eating at home more often is giving new life to grocery stores’ most basic offerings, and upending a multiyear strategy of using coffee bars, fancy bakeries and exotic products to attract shoppers.
Kroger Co. on Tuesday posted a 13% rise in quarterly profit, fueled in part by higher sales of private-label goods. Store brands accounted for 35% of the Cincinnati-based chain’s item sales for the quarter, up three percentage points in the last two years.
The second-largest U.S. food seller after Wal-Mart Stores Inc. said sales at stores open at least 60 weeks climbed 3.1% from a year ago, excluding fuel. “We’re actually selling more items to many households than we were before,” said Chief Executive David Dillon.
Kroger, Stop & Shop, Publix and other big food chains tried for years to make themselves into a one-stop destination by revamping their store perimeters to include floral shops, prepared meals and other offerings. But the recession has refocused them on the staples sold in center aisles.
These chains are aggressively pushing private-label versions of canned vegetables, breakfast cereals and whole-wheat bread, draping center shelves with coupons and price comparisons, and bundling ingredients for homemade meals.
These middle aisles can generate as much as 70% of weekly profit for a given store, according to a study this month by Willard Bishop LLC, a Barrington, Illinois, supermarket consultant. But 10 years ago, before discounters began stealing business, these aisles accounted for 85% of profit, according to analysts.
The back-to-basics drive is helping grocery chains become among the best performing retailers. In addition to Kroger, the U.S. division of Belgium-based Delhaize Group last month reported quarterly sales rose 2%, while Ahold NV’s Stop & Shop posted a 3.1% rise.
In contrast, Whole Foods Market Inc., a grocery chain that emphasizes exotic and perimeter-store specialties, posted a 4% decline in sales at stores open at least a year in its fiscal second-quarter.
We are always a little skeptical when reporters ask store managers, who often don’t really know, what is “lucrative” or not, but the piece goes on to find a reason for Kroger’s powerhouse performance in center store and private label:
Mike Filzen, a Kroger supermarket manager in Bourbonnais, Illinois, said his store opened a sushi bar and a Starbucks outlet to attract customers. But he said they never became as vital to business as the mundane, middle aisles of his 78,000-square-foot store. Today, cooking staples like canned soups, pasta, packaged bread, ground coffee and breakfast cereals are proving more lucrative. “That’s where the money is made,” he said.
Unit sales for many center-store items rose 0.6% to 2.6% this April from a year ago, even as overall food sales declined 3.1%, according to market researcher Nielsen Co. Sales of home-pantry items such as frozen and dry vegetables, grains, pasta, baking mixes and flour inched up, reversing years of declines.
“There is a resurgence in the center store,” Mr. Dillon, the Kroger CEO, said in an interview. The recession is proving a “big opportunity” for Kroger and other grocers to recoup center-store sales lost to Wal-Mart, Costco Wholesale Corp. and other discounters, he said.
The grocery chain posted profit of $435.1 million for the quarter ended May 23, up from $386 million a year ago. Revenue declined to $22.8 billion, compared with $23.1 billion a year ago, on a 41% drop in gasoline prices at its outlets. Excluding fuel, total sales rose 3.9%.
In part, the stores’ recognition of the increasing popularity of private-label goods is fueling the share gains, Mr. Dillon said. Consumers are increasing their shopping trips to Kroger as a result of the lower-cost private label products, he added.
Store brands are popping up on more consumers’ pantry shelves. Reagan Gandy, 45 years old, of Tampa, Florida, said she recently switched to buying the private-label shortbread cookies sold by Publix Super Markets Inc. The savings are about $1.80 per package. “If there are things you can switch on, what’s your downside?” Ms. Gandy asked.
Between 2003 and 2007, grocers’ share of sales for staples slipped 3% as rivals siphoned away about $7 billion a year, according to Information Resources Inc., a market research firm. Supermarkets countered by expanding and embellishing the outer edges of their stores with high-margin offerings like florists and sushi bars.
Obviously changes in consumer buying habits related to the recession will lead to changes in assortment, but there are some issues these two insightful articles leave dangling.
It has long been known that assortment is excessive in some areas. One of the pieces catches Target’s CEO pointing out the problem:
Target Chief Executive Gregg Steinhafel says even he is baffled by Target’s array of shampoo choices. “I have found myself standing in front of the Pantene display, trying to figure out if I need the product for dry hair with frizz or dry hair with split ends,” said Mr. Steinhafel, a thick-haired 54-year-old.
A typical Target store has 88 kinds of Pantene shampoo, conditioner and styling products.
The big problem is not actually too much assortment but rather too many spin offs of brand names that are not appreciably different.
For many stores, though, handling this array of products is highly profitable. They get slotting fees, free product, promotional money, etc., and that is why it is there.
Wal-Mart’s attempts to rationalize assortment based on real analysis is a positive thing. Eleven years ago, we wrote a column for Food Distribution Magazine that analyzed a study done at HE Butt. They did nothing but remerchandise the salad dressing aisle without regard to the size of the case shipped to the store. That simple change let them contract the shelf by four feet. H.E. Butt then gave that excess space to a Direct Store Delivery Distributor who filled it up with specialty foods. The comeuppance: Salad dressing sales stayed the same in less space and consumers were happy over the added assortment of specialty foods, which also generated extra profits for the store. You can read the piece here.
Still and all, conventional supermarkets may manage to increase some center-store sales as demand for economical product increases — although the articles don’t actually show that Wal-Mart or club stores have lost market share on these items… they may be up even more.
But the margins on dry grocery are so small that it is hard to see how a focus on these products can really compensate for any loss in perishables.
In fact, we bet if you broke down the numbers, you would see that any substantial increase in center-store profits is being driven by frozen foods rather than dry grocery.
We also note that reducing assortment may make sense if you have 88 barely distinguishable types of Pantene shampoo, but that type of direct product duplication is significantly less in the fresh food areas. Eliminating lots of different chili peppers may look like eliminating duplication, but to a Hispanic shopper you may be eliminating her product preference and shooing the customer away.
The whole issue of private label in produce is also problematic. It is a trend slowly growing for years, we highlighted it in this cover story in Pundit sister publication, PRODUCE BUSINESS, back in 2007. You can read it here.
Sometimes, as part of an overall store branding strategy, a produce component makes sense — though we suspect the first food safety issue and retailers will be ruing the day they put their name on the product.
Usually, however, private label produce doesn’t make sense. In produce, there are no large marketing budgets to “save” by going to private label. So the cost is very close. Except, that is, when producers allow themselves to get caught in the marginal cost trap. Here they assume they have spare capacity and, thinking they can price a private label customer at the marginal cost of operating the plant, they offer a great deal.
It is usually a catastrophe. First, these producers put supermarkets with private label product into competition with supermarkets that buy the same product that is branded. The producers’ own customers who pay the prices covering all costs in effect are subsidizing the private-label customers who get the advantage of that spare capacity. Not surprisingly, the private label products gain market share, so what was a good deal because it was “free money” coming in for that last unused 10% of capacity now suddenly accounts for 20% or 30% of business. Second, some of the existing branded retail customers catch on that their competitors are buying for less, so they demand a reduction in price or they, too, will go private label.
It is almost always a mess for the producer, and if one is going to sell private label product, the thin marketing budgets in produce mean buyers should always be charged at least what the branded product goes for. Often they should pay more because of the added expense of maintaining multiple packaging inventories and changing films on the production line.
Now, of course, the customer is always right, and if retailers want private label then producers need to offer it — but they should not offer it at reduced margins, unless there are real savings and there almost never are in produce — unless the product quality is being reduced.
We would also suggest that a little more innovative thinking could help both buyers and sellers deal with this private label issue.
Many produce labels have a consumer constituency and retailers would be foolish to throw that away. Yet there is often corporate pressure to present a private label and marketing pressure to differentiate from other stores. One solution is co-branding between retailers and top producers.
Neiman Marcus uses this technique to great effect. One doesn’t just go to Neiman Marcus and buy the same Brioni suit one can get at many high-end retailers; one goes to Neiman Marcus to buy a suit that is branded “Brioni for Neiman Marcus.” It is a win-win. The designer maintains the visibility of its name, and the retailer gets to offer its clients something perceived to be exclusive.
We’ve been hearing that corporate executives at retail are getting sore at produce directors around the country. Corporate is pushing private label to increase margin, which is actually possible on consumer packaged goods, but produce doesn’t have those thick margins to thin down, so if a retailer is going to do private label in produce it really has to be part of a grander marketing strategy.
Otherwise they ought to stick to the branded product.