Grocers to be led astray?

Tesco SupermarketTesco-Booker deal has lured supermarket competitors into trying new things but not all of them will succeed, according to GlobalData’s senior analyst, Molly Johnson-Jones.

“Sainsbury’s is rumoured to be interested in Nisa, Morrisons has signed a wholesale deal with McColl’s and now it is speculated that the Spar group is breaking up as one of its owners seeks to sell its wholesale business,” said Johnson-Jones in a company statement.

According to GlobalData boss, the “wholesale’s sudden desirability makes some sense when you consider the slow growth, highly competitive, thin margin backdrop that the food & grocery market offers.”

Johnson-Jones commented that the food retailers have been engaging in different types of diversification. This includes partnerships with non-food specialists to fill excess floor space, through to Sainsbury’s “Chop Chop” app offering a one hour delivery service in London.

She said the times of food retailers making 4 per cent margins selling food in a relatively peaceful oligopoly are long gone and they need some new markets to hunt for growth in. Moreover, wholesale has three distinct arms, particularly Cash and Carry (C&C), Delivered Grocery and Delivered Foodservice.

“Whether wholesalers make higher margins than traditional food retail depends on which segment the wholesale business derives most of its custom from,” according to GlobalData’s boss Johnson-Jones.

C&C has a similar margin to the grocers since it’s a large pack-size supermarket. The delivered grocery has much lower margins because of the delivery cost it has to cover for small orders to independent shops and restaurants “or the bargaining power that rests with large contract customers means that large discounts need to be given to retain custom”.

“Without the ability to amalgamate supply chains, the deals do not make sense as all that would be offered is an extension of 2 per cent margins. Yet, by producing and procuring food for wholesale, supermarket supply chain capacity can be increased, subsequently making them significantly more efficient,” according to Johnson-Jones from GlobalData’s statement.

“Morrisons is using its vertical integrated supply chain to manufacture Safeway products for wholesale, and as a result taking advantage of operational leverage. As all of the machinery has been paid for, fixed costs will remain roughly similar, and profit as a percentage of cost is much higher. Thus wholesale deals using an existing manufacturing capability offer high return on capital employed (ROCE).”

Johnson-Jones has commented further the deals has to be considered in the same context as the partnerships with “Timpson’s (Tesco, Sainsbury’s, Morrisons), Doddle (Morrisons), Amazon (Morrisons), Argos (Sainsbury’s) as they are using excess capacity to increase efficiency and seek growth from another market without being as heavily regulated by the CMA as they do not own the stores.”

According to the senior analyst, supermarkets have an alternative way into the high-growth convenience channel which is by supplying existing convenience stores. These types of stores are located in the highly populated locations, which the big four would like to get into but are restricted by planning laws. “A cynic might even go as far as call it a loop-hole of sorts”, said Johnson-Jones.

She said multiple grocers have ventured into diversifying into the wholesale market will drive competition up in the sector, just as the arrival of new grocery players triggered the supermarket price war. Tesco-Booker are the obvious main players leading the industry as “we expect that its scale will enable a lower industry price point as it fights for market share”.

“For Morrisons, utilising the excess capacity in its supply chain offers incremental profit with little sacrifice, and Tesco-Booker are winning the scale game, but Sainsbury’s would be better off out of the wholesale supply market,” said Johnson-Jones.

“Sainsbury’s offers a higher-end product which does not mesh as easily as Safeway would with the convenience sector, and it does not carry as much manufacturing capacity as Morrisons or Booker, so it seems like it would just be jumping on the bandwagon – bearing more risk than its competitors.”

Furthermore, the senior analyst from GlobalData said it was not surprising AF Blakemore is potentially looking to capitalise on the increased enterprise value of wholesale companies given the boom in deals, however it does leave Spar’s future uncertain.

AF Blakemore owns 290 Spar stores and supplies over 1,000 – but the contract will likely be passed onto the purchaser. In addition, the timing of the sale makes sense given that wholesale companies are unlikely to maintain this high value. Wholesale might be sexy now, but it is at risk of being a phase, said the senior analyst.

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