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August 2018

In light of consolidation and diversification, what does the future hold for the UK grocery sector?

Introduction

The UK retail market is currently in the midst of seismic change, a once in a generation shift that is impacting on the way that retailers operate and sell. Driven by a consumer that is undergoing a demographic and lifestyle evolution, retailers in every sector are having to adapt in order to both survive and thrive. The grocery sector is no exception to this rule, and here the KPMG / Ipsos Retail Think Tank (RTT) set out to discuss, in light of consolidation and diversification, ‘what does the future hold for the UK grocery sector?’

Members were in unison that fundamental changes are taking place, with a wide spread of factors discussed and taken into consideration. Members agreed that the following five ‘influences’ were having the biggest impact on the UK grocery sector, and as such hold the key to shaping its future: the rise of the discounters, shifting consumer shopping habits, technology, consolidation & diversification, and Brexit.

Whilst change can be disruptive, the RTT was keen to express that they felt optimistic about the future of the grocery sector, with Nick Bubb, retailing analyst, noting “that the Food Retail sector has been one of the best performing sectors in the UK stock market so far this year, implying that the City is optimistic about the outlook for the main players”.

The rise of the discounters

The discounters’ rise in popularity has forced the hand of the ‘big four’ into adapting their offering and changing how they operate as retailers. The RTT wanted to stress just how seismic the impact of Aldi and Lidl had been, and also how there is room for further expansion. Mike Watkins, head of retailer and business insight at Nielsen UK, said: “In 2011 Aldi and Lidl had 6% market share, and by the end of 2018 this will have more than doubled to 14%. A market share of 20% no longer seems impossible, which incidentally is still below the European average of 22%. Put another way, £15 billion sales per annum are being lost by supermarkets each year, which is equivalent to a retailer the size of Morrisons.”

RTT members also pointed out that the pinch being felt by the ‘status quo’ of supermarkets was not just in food sales from the likes of Aldi and Lidl, but homewares and general merchandising were also being impacted on. Maureen Hinton, group research director at GlobalData, stated that: “Not only have Aldi and Lidl taken market share, and will take even more as they open more stores, the general merchandisers such as B&M and Poundland are diluting spend at the big players. So, from having 58% of all consumer spending in food & grocery in 2008, the big four grocers will have just under 52% in 2018.”

Driven by uncertainly in politics and the economy, the popularity amongst consumers to shop for better value products is a trend that the RTT didn’t expect to fade away anytime soon. The supermarkets, whether through lethargy or ignorance, underestimated the discounters and failed to react quickly enough to their rise. The discounters tapped into what the customer of today valued in their grocer, and now we are seeing the big four consolidate and diversify in an effort to catch-up with themselves.

Shifting consumer shopping habits

The way that people in the UK shop is changing, whether that is for cars, clothes, technology, property or food, as we see, the next generation of consumers spend money in a very different way to their parents.

Up until five years ago, it could be said that the majority of ‘food shops’ were undertaken in the same way that they had been for decades before. Yet the RTT members agreed that in the future it was “inconceivable that this generation would be spending nearly two hours every Sunday walking around a supermarket for a weekly food shop”.

With people shopping more often, more frequently and increasingly online, the RTT members stated that, “brand loyalty to specific supermarkets is now a thing of the past, it doesn’t exist in the mind of the next generation of consumer”. The grocers are going to have to re-invent their loyalty schemes and offerings, at a time when people are happy to buy their meat from one store, fresh vegetables daily and then have larger bulky items delivered weekly, grocers have a challenge ahead of them and could look to the likes of Amazon Prime and the non-food sector for inspiration.

Experiential shopping has been a strategy adopted by swathes of non-food retailers in an effort to combat the rise in online shopping, persuading consumers to put down their laptops and smartphones, leave the sofa and enjoy shopping on the high street in physical stores again. Dr Tim Denison, director of retail intelligence at Ipsos Retail Performance said, “supermarkets need to provide immersive experiences and a compelling reason for people to choose to spend time in them.”

The way that ‘millennials’ and ‘generation X’ consume and use services away from food shopping will no doubt influence the offering of the grocers, and Martin Newman, CEO of Practicology, believes this has already started: “Tesco now talks of frictionless shopping, and one of its most interesting developments is same-day delivery in one hour. Thinking about where future competition for service and solutions-focused offerings come from – Amazon, but also Deliveroo and Uber Eats-style services – this is particularly relevant.”

Technology

The digital revolution, unlike the industrial revolution is not a long-drawn out cycle of engineering and construction. The digital revolution re-invents itself almost continually as technology improves, and as such retailers have to adapt their offering to ensure that the consumer’s demands in terms of convenience, ease of use and experience, are met.

The RTT looked to Amazon as having the potential to lead this shift-change in utilising technology, or depending on how they enter the market, force the supermarkets themselves to start adopting solutions that make the shopping experience more appealing to younger generations.

James Sawley, head of retail and leisure at HSBC, commented: “Online grocery is still a minority channel for supermarkets in terms of sales, which I have no doubt will grow, but in terms of penetration, I can’t foresee it reaching the heights of non-food retailers. The till-less supermarket, however, is a space I see excitement, with Amazon leading the way in the US and Tesco currently testing smartphone scan/pay as you go technology in the UK – this way of shopping will possibly be a game changer in taking the customers experience to a new level.”

The RTT acknowledged that Amazon would have a huge challenge ahead of itself to gain market share in the UK grocery space, but its breadth of product, existing customer base and Prime ‘loyalty’ offering will all work in its favour. The RTT believed the big four supermarkets would be best advised to not directly compete with Amazon, as it will offer something very different to what makes them so successful, although that’s not to say there isn’t anything to learn from the internet giant. If the dust settles on the Sainsburys / Asda merger, with their partnership with Argos, they would have a product range that appeals to the general consumer to compete with Amazon.

Martin Newman added: “Online developments are not always the answer for the incumbent main players, but with Amazon taking an increasing interest in becoming a platform to supply grocery products, then they should certainly be keeping a close eye on further signs of digital disruption.”

It isn’t just initiatives from supermarkets and the likes of Amazon that are changing and disrupting the online grocery space, with Nick Bubb pointing out “that Ocado’s recent success in licensing its online grocery delivery software and systems to overseas food retailers has propelled its market capitalisation to £7.5bn (which makes it bigger than Sainsbury’s) and elevated into the ranks of the prestigious FTSE 100 index”. This blurring of lines between retailer and tech company is a trend that the RTT expects to continue, as businesses seek opportunities to take full advantage of improvements in technology that are changing consumer habits.

Consolidation and diversification

Headlines have been made in recent years as grocers look to consolidate their positions with mergers and acquisitions, with deals such as Sainsbury’s/Asda, Tesco/Booker and Co-Op/Nisa to name but a few. Paul Martin, head of UK retail at KPMG, commented on recent activity: “This is happening due to increased competition within the sector, alongside rising costs resulting in decreased margins. Therefore the perception is prevailing that scale and buying volume is one of the few means to survive and to demonstrate growth.”

The RTT called the proposed Asda and Sainbury’s merger a ‘defensive move’ to shield themselves against rising competition in the grocery sector. Whilst it has been proposed that the increased buying power will result in price cuts of up to 10% for the consumer, the RTT delivered a warning regarding staff redundancies and store closures.

Jonathan De Melo, head of retail consultancy, Harper Dennis Hobbs, said: “In the case of Asda and Sainsbury’s, consolidation is inevitable – whether Asda and Sainsbury’s want it or not. The overlap that exists and the fact that both chains offer product from relatively similarly sized stores, will mean the CMA will have to step in – with all the ramifications to store closures and job losses that will bring.”

In terms of how this series of deals could impact on the grocery sector, the RTT suggests a series of interesting implications, unintended consequences, opportunities for smaller brands and even a direct market response from supplier brands. The RTT also discussed what the catalyst was for such a sudden burst of activity that resulted in a strategy of consolidation and diversification.

Martin Hayward, founder of Hayward Strategy and Futures, said: “The underlying driver of consolidation across the major grocers lies in their ‘success’ at making price such an overwhelmingly important driver of trade.”

The supermarkets know that with the pressures that come from the rise of the discounters, ensuring low prices and great value is key to driving demand, something they believe they can achieve through increased buying power. This is supported by recent research, which Maureen Hinton shared: “research at GlobalData shows that UK consumers in 2018 are looking primarily for value for money (92% cite this reason) in their food and grocery shopping.”

Martin Hayward went on to paint a picture of what this ramped up consolidation could mean for consumers: “The ultimate state of efficiency is commoditisation – everyone gets the same products, from similar, faceless, efficient outlets at a bargain basement price” – a statement that is further supported by the increasing popularity of own-brand products within supermarkets.

In a world where the price of goods has been driven to rock bottom lows, the RTT discussed how opportunities would emerge for smaller retailers. Unable to compete on price, message and marketing will play a key role in selling to consumers these retailer’s ‘own unique way’, whether that be improved customer service, innovation in offering or provenance in product. This was echoed by James Sawley, who expected “a renaissance of farmers markets and both boutique and independent food stores, as the millennial generation matures and is happy to take the time to enjoy the food shopping experience again if it is something unique and different.”

Brexit

Brexit and the negotiations currently being undertaken by the UK Government and the EU will certainly effect how the grocery sector operates. The RTT discussed at length the varying scenarios, negatives and opportunities for the supermarkets, but Brexit is a moveable beast, and it will be years before the dust has settled and its true impact can be assessed. What was unanimously agreed amongst members was the sense of the danger Brexit brought with it – James Knightley, ING chief economist, called Brexit “from a macro point of view, the biggest threat right now to the grocery sector”.

The trade deals that are signed, and the details within those agreements have the potential to require grocers to completely overhaul their supply chains. James Knightley continued: “40% of food consumed in the UK is imported with the majority coming from the European Union, Netherlands, Ireland and France being the big three, via roll on roll off ferries.”

The RTT feared that many supermarkets currently did not have enough of their focus on sourcing ‘shadow supply chains’, in an effort to minimise the cost and disruption in the event of a Brexit deal that either priced out the EU or made it logistically impossible to import certain goods. The natural direction to take would be to look closer to home, however the UK food manufacturing sector would require sizeable expansion in both farming and production in order to even come close to fulfilling demand.

RTT members were quick to suggest that Brexit shouldn’t take all of the focus, as it is not just European borders that retailers may find importing and trading through more difficult in the coming years. Macro and geo-political lines are shifting all of the time, US-China and US-EU trade barriers and tariffs could all lead to changes that will mean grocers need to be agile in their supply chains, with the RTT members suggesting both the price and size of produce ranges could change extensively in the future.

Conclusion

Undoubtedly, UK grocers are undergoing a step-change in nearly every aspect of their businesses. Their customers are shifting, technology is evolving, new competitors are entering the market and of course, there is Brexit. The future of the sector is one where supermarkets ensure they understand their new generation of customers, following the path of the non-food sector with experiential instore experiences, true multichannel shopping and of course, great value.

Consolidation and diversification has come about for many retailers as a defensive move, whether that be against Amazon, Brexit, the changing desires of consumers or the rising fortunes of the discounters. The RTT stated that those operating in the grocery sector that can quickly tap into the unique benefits that consolidation brings, whether that is with lower prices, wider product range or better margins, will be the ones to succeed and drive consumers to the tills.

Dr Tim Denison concluded: “To my mind, future success in the UK grocery sector is about putting the customer first, getting all the basics right, embracing new technologies to achieve this and creating more innovative and rewarding store experiences – that’s the way to ‘be in the money’.”

 

Part II: In detail – individual views of the KPMG/Ipsos Retail Performance Think Tank members

James Knightley, ING Chief International Economist

From a macro point of view Brexit is the biggest threat right now. The government’s position on the future trading environment with the EU is unclear with bookmakers suggesting that it is 50:50 as to whether Britain and the EU will actually agree a deal by the deadline in March 2019. If not, all UK-EU trade could be faced with a hard border and customs checks from next April.

This is important because 40% of food consumed in the UK is imported with the majority coming from the European Union (Netherlands, Ireland and France being the big 3) via roll on roll off ferries. Dover is the main UK port with 2.6 million lorries making the journey across the English Channel each year.

At present, the most likely scenario is that there will be a last gasp agreement next March that will allow the transitional deal to kick in, keeping trade procedures unchanged until the end of 2020. But for the subsequent period the government’s aspiration of “frictionless trade” looks wishful thinking given the EU’s stated position.

If all lorries going to the EU were to be subject to checks – currently there are none – then the British Freight Transport Association has suggested it would create a 29 mile queue along the M20 even if those checks took just 2 minutes per lorry. There would also be huge queues at Calais with the port operator fearing 30 mile queues in northern France. Antwerp and Rotterdam also fear higher congestion at their container depots.

As such the supply of food into the UK will take significantly longer to arrive, requiring more storage space, more lorries and more lorry drivers. This is likely to mean shorter shelf life of produce, implying more spoilage and lower profits. We may also see the supply of labour weaken with fewer EU workers available to staff warehouses and shops while there is already the prospect of fewer lorry drivers (issues relating to free movement of labour across borders, licenses being recognised and also retirement – the industry has a large wave set for retirement with few young people attracted to the industry).

As such, grocers are increasingly looking for British grown produce, but this will be challenging. If more food can be grown are there the workers to pick and pack and transport in what is a notoriously low paid sector at a time when UK unemployment is at record lows? This suggests profits could be heavily squeezed unless the British government and the EU can come to an agreement to prevent border checks happening.

 

Dr Tim Denison, Director of Retail Intelligence – Ipsos Retail Performance

We’re all aware of the rash of announcements about strategic alliances and acquisitions in the grocery sector over the last year – the most recent being the announcement from Tesco and Carrefour only this week. Much is made by the company execs about the benefits to consumers from such deals. Mike Coupe is on record as stating that the Sainsbury-Asda merger would result in 10% price cuts for “many of the products customers buy regularly”. But is this really such a tasty carrot for the British shopper?  In its 2016 Global Retail-Growth Strategies survey, Nielsen revealed that product availability and convenient location are the two most highly influential factors in deciding where to shop for groceries. Indeed 3 of the top 5 factors related to product assortment. Lowering prices is not that important to the majority of consumers. Rather than championing the consumer cause, the current wave of consolidation and partnerships is more about growing margins and building up defences against the discounters, direct sales by brands and countering the pending threat from Amazon.

Yet, for retailers in the non-food sector we are told that stores need to provide more than a transactional experience – that can be met by shopping on line – instead they need to provide immersive experiences and a compelling reason for people to choose to spend time in them. Why should this be so different to the new imperatives for supermarkets? In the annual Which? poll none of the ‘big four’ featured among the nation’s 5 most popular supermarkets this year. If their business initiatives are correct, then why are we not seeing the results bearing fruit in feedback on the customer experience?

In my quest for an answer I went to visit the supermarkets in my local market town this week. I was met variously in three of the ‘big four’ with empty shelves, long queues at tills, inaccurate pricing, dim lighting, top shelves rammed full of replenishment goods and more pickers than service assistants. In contrast the premium supermarket delivered not just a pleasant and fulfilling experience, but the theatre of fresh sushi-making, the opportunity to partake in yoga in the community room and an invitation to book up for a lifestyle coaching and health check session.  To my mind, future success in the UK grocery sector is about putting the customer first, getting all the basics right, embracing new technologies to achieve this and creating more innovative and rewarding store experiences – that’s the way to ‘be in the money’.

 

Paul Martin, Head of Retail – KPMG

The UK Retail sector has been a tale of two halves for some time now – grocery has been performing well and non-food has been the contrary, especially when looking at retailers predominantly focused on physical stores.

The success of the grocery sector when assessed statistically could surprise, as over the last 30 years the share of wallet spent on food in the UK has dropped 2%, from 10% in 1978 to 8% today with expenditure on recreation and culture tripling over the same period to 10.5%.

What is becoming evident though is that the grocery landscape is changing and there is likely more to come in the future. There are 3 key developments that are worth looking at in more detail.

  1. Defensive consolidation
  2. The continued rise of the discounters
  3. New business models capturing share

Over the last 1-2 years we have witnessed an increase in the number of major developments within the sector such as the Tesco – Booker merger, the CooP acquiring Nisa, Palmer & Harvey going out of business and most recently the proposed Asda-Sainsbury’s merger. This is happening due to   increased competition within the sector alongside rising costs resulting in decreased margins. Therefore the perception is prevailing that scale and buying volume is one of the few means to survive and to demonstrate growth.

The value channel continues to represent the fastest growing channel in the UK.  With online growth slowing over recent months when analysing this on a 10 year CAGR, the value channel is growing at 13% vs online at 9%.   Even though the rate of growth is predicted to slow over the next couple of years (from 11.5% CAGR 15-17 to 7% CAGR 18-210) it will continue to outperform the overall grocery market. It is entirely feasible that by 2023 the discounters will hold a 20% share of the UK market. This would mean taking share from the multiples and it remains unclear if these have fully developed their defensive strategies apart from price reductions.

The Tesco – Carrefour buying alliance announced in early July could be the (re-) launch of a new business model for the sector. Even though the idea of buying groups is not new and a number of these entities such as Coopernic and AMS have existed for many years. These organisations have pre-dominantly been focussed on bulk buying for commodity categories instead of strategic alliances. The verdict is out to see if this partnership will be different. If strategic partnerships similar to the aviation industries networks like One World or Star Alliance could be replicated, this could represent a sizeable opportunity for the grocery sector. Although similar to much of the M&A we have seen, this would largely represent a cost saving and defensive act. If and when Amazon fully focusses on the grocery sector by, expanding its current relationship with Morrison’s or making an acquisition, then these defensive strategies are unlikely to be enough.

 

Martin Hayward, Founder – Hayward Strategy and Futures

As the big brand grocery market continues to search out new and bigger consolidations, there are some interesting implications and unintended consequences that will follow, creating new opportunities for smaller competitors and even a response from supplier brands.

  • The underlying driver of consolidation across the major grocers lies in their ‘success’ at making price such an overwhelmingly important driver of trade. In what could be viewed as a race to the bottom, consumers have been trained and rewarded for seeking out the lowest price at the expense of other brand discriminators such as quality, provenance, environmental impact and service. This position will be very hard to reverse. In such an environment the only strategy for growth lies in a quest for ever greater efficiency and economies of scale.
  • The ultimate state of efficiency is commoditisation – everyone gets the same products, from similar, faceless, efficient outlets at a bargain basement price.
  • As most markets demonstrate in a cyclical fashion, the greater the consolidation and efficiency that is forced upon it, the more exciting the opportunities for smaller and newer brands to offer something more meaningful to consumers. Think of the brewing or distilling industries that are currently rediscovering niche and innovative new brands at the expense of the big global efficient megabrands. Think of fashion retail where new faster fashion and online only offers have had a major impact on the bigger traditional retailers.
  • As the grocers consolidate buying power, the suppliers will also begin to look for ways to bypass their superior negotiating position. Although hard to achieve, there will be renewed interest in developing ‘direct to consumer’ services to cut out the retail middle man.
  • Smaller retailers would do well to consider their strategy in the face of the consolidation of the majors. They won’t be able to compete on price so will need to increase the volume of their message about why there is a different way – better service, provenance, innovation and novelty will all stand out more brightly against majors committed to efficiency at the expense of other factors.
  • Online as a proportion of food retail will also evolve quite dramatically over the next few years and not necessarily for the better. The current economics of home grocery delivery are poor if not loss making and government will inevitably take action to increase tax take from online sales, and regulate delivery vehicle volumes.

 

Maureen Hinton, GlobalData

The proposed merger between Sainsbury and Asda is openly admitted by management as being a defensive move in the light of increasing competition in the UK, and retail consolidation – the rationale being that if they do not consolidate then someone else will make a move that would leave both in a weaker position.  The resulting scale (giving them a leading 22% share of food & grocery spending) will deliver margin benefits allowing them to lower prices making them more competitive against the competition, and to improve operating margins, thus providing greater returns for stakeholders.

An alternative view is that it as a move by Walmart to rid itself of a struggling business in a challenging market, despite its access to Walmart’s considerable scale and expertise in global retail, and this is a way of offloading it over time.

Looking at the chart below you can see clearly the trends in the UK food & grocery market over the past decade. The winners taking share have been the expanding discounters, the convenience format, and the premium end of the market, and the losers have been the big four, Tesco, Sainsbury, Asda and Morrisons.  And of course there is now the looming threat of Amazon which is moving seriously into food retail having made such strong inroads into non-food.

Changing consumer attitudes and the expansion of the discounters have acted catalysts in the market. Our research at GlobalData shows that UK consumers in 2018 are looking primarily for value for money (92% cite this reason) in their food & grocery shopping, which the discounters provide in abundance whereas convenience, which was a leading motivator a decade ago, has dropped to seventh place in ranking, which is not surprising as we have so much easily accessible retail choice now.

While expenditure on food & grocery in 2018 will grow at around 3% this is mainly due to inflation, rather than volume growth (though the hot summer should give it a boost) and spend is being spread across more players. Not only have Aldi and Lidl taken share, and will take even more as they open more stores, the general merchandisers such as B&M and Poundland are diluting spend at the big players.  So from having 58% of all consumer spending in food & grocery in 2008, the Big Four grocers will have just under 52% in 2018.

Apart from losing share the constant focus on price competition, combined with increasing operating costs, have led to operating margins across the sector falling from a median of 3.1% to 1.8%, hence Sainsbury and Asda’s motivation to gain scale, (and Tesco and Carrefour entering into a buying partnership). But once Sainsbury and Asda have merged and inevitably transferred some stores to competitors, what can they do next to grow the two separate, and differently positioned, businesses?

Walmart’s strategy is to make strategic partnerships with operators in growing economies such as India and China where it has invested in JD.Com which, like Alibaba and its grocery arm Hema, is using its technological expertise in online shopping to understand how consumers shop in the physical world in order to design a fully integrated retail platform.  By using new technology such as AI they can develop a more efficient supply chain as well as a more personalised and frictionless shopping experience for consumers.

Therefore having greater access to these technological advances could give the combined Sainsbury and Asda business an edge on the competition in the UK and improve the efficiency of the supply chain.  However this is longer term and with Brexit still undecided, and the discounters opening hundreds more stores there are still many challenges to overcome in the sector that will place further pressure on all the players.

 

Martin Newman, CEO – Practicology

I’m sure many of you will have seen the triangular diagram that reminds us that it’s only possible to get two out of the three attributes of a cheap price, speed and quality when making a purchase.

This very much applies to the propositions of the different players in the UK grocery market, who in the face of consolidation, changing consumer habits and digital disruption, must decide which two of those three each will nail their mast to.

All parts of the grocery sector face difficulties and must prove that they provide value to their customers, whatever their price proposition.

At the top end of the market, Marks & Spencer, Waitrose and to some degree Ocado need product innovation and excellence, backed by service levels that demonstrate the value of their premium pricing. Speed (particularly for M&S given its low basket size and immediate consumption) and quality are key.

This most definitely extends to the online and multichannel services that they offer, as well as digital enablement in their stores.

In the mid-market there is a requirement to demonstrate value through pricing – less complicated offers and more everyday low prices. Consolidation will help with this.

At the same time, Tesco and Sainsbury’s particularly need an online offer and store experience that differentiates them from the middle-class wooing of Aldi and Lidl. Tesco now talks of frictionless shopping.

One of Tesco’s most interesting developments is same-day delivery in one hour. Thinking about where future competition for service and solutions-focused offerings come from – Amazon, but also Deliveroo and Uber Eats-style services – this is particularly relevant.

For the mid-market there is also the question of how non-food will complement the core grocery proposition. Tesco has recently announced the closure of Tesco Direct, while Sainsbury’s is trying to use the addition of Argos within stores as a differentiator.

Certainly, anyone who had ever tried to collect a Tesco Direct order in a smaller store without a dedicated desk may well have anecdotes as to why the service was not adding value for customers (or store staff).

The Argos experience in Sainsbury’s stores is quite different and, I’d argue, could be a footfall driver that has a halo effect on grocery sales.

Certainly, in consumer research conducted for Retail Week in June this year, a third of shoppers said they would be likely to shop in an Argos that was located in their local Asda should the Asda-Sainsbury’s merger go through. This figure rises to half for shoppers who already do their main shop in an Asda, suggesting it would be a welcome addition to the proposition for Asda’s existing customer base.

Even at the value end of the market there are pressures. Aldi and Lidl must continue to be ruthlessly focused on price, while offering good quality products, if they are not going to offer the convenience of online ordering and delivery. When the store experience can sometimes be hectic, and definitely not described as frictionless, then the consumer must derive value from prices and product quality.

Online developments are not always the answer for the incumbent main players, but with Amazon taking an increasing interest in becoming a platform to supply grocery products, then they should certainly be keeping a close eye on further signs of digital disruption.

 

Mike Watkins, Head of Retailer and Business Insight – Nielsen UK

There is a revolution underway in where, when and how we shop and the Grocery sector is not immune. Traditional business models under threat as four strategic winds of change sweep quickly across the Supermarket sector.

  • Discounters. As we exited the last recession in 2011, the Discount retailers (Aldi and Lidl) had 6% market share and by the end of 2018 this will have more than doubled to 14% (Nielsen Homescan). 20% market share no longer seems impossible which incidentally is still below the European average of 22%. Put another way, £15b sales per annum are being lost by Supermarkets each year which is equivalent to a retailer the size of Morrisons.
  • Consolidation. The need for scale to reduce costs and to leverage buying power is a long overdue reaction to the loss of sales to Discounters. The top3 retailers have a combined 58% market share (Nielsen Homescan) and a merger of Sainsbury and Asda would result in a top2 with similar share and a shopper reach of up to 88% of households. This would make the UK one of the most concentrated Grocery markets within developed economies. Further consolidation in the Convenience channel can be also expected, which is where a third of all Grocery sales are generated.
  • Diversification. The Grocery sector is in long term decline as shoppers spend less (as a proportion of disposable income) on food and spend more on food and drink outside of the home. Furthermore, diets are changing to include more fresh, chilled, and frozen; more snacking and beverages; more food and drink to go. How we prepare food is evolving and sales of food ordered-in are gaining momentum. This suggests that food service and food delivery are attractive and complimentary ways to capture the wallets of consumers for a Grocery sector under threat from Discounters and new entrants online. Nielsen expects more mergers and acquisitions in grocery, wholesale/food service, and the delivery and online channels.
  • Technology. How we shop is changing. Whilst advertising raises awareness and promotions encourage purchase, it`s the ease of the shopping experience that is fast becoming a key differentiator for Supermarkets – online aswell as instore. This also means that Grocery retailers need to interrupt and engage with shoppers when they use an App and before they go to a store. The future drivers of growth will include intelligent technology, personalisation and 121 connections as a digital path to purchase becomes the norm. As a result, store costs will be significantly reduced as small stores become fully automated and large stores evolve into retail emporiums for entertainment, refreshment and fulfilment aswell as Grocery shopping.

The times `they are a changin’ and we are seeing a once in a generation shift in the structure of Grocery retailing.

 

Nick Bubb, Retail Consultant

So far in 2018 the FT Actuaries Food Retail index has outperformed a flattish UK stockmarket by nearly 31%, as it is running an impressive 30% up in absolute terms (making it the third best performing sub-sector in the whole market). Share prices always tell you things, so what is this telling us about how the City views the outlook for the sector?

The incredible surge in Ocado (up 155% so far this year) has clearly been a major driving force, culminating in its recent elevation to the hallowed portals of the FTSE 100 index (reflecting a market cap which has reached as much as £6.8bn). This reflects the impressive success in licensing its Online grocery delivery software and systems to Overseas retailers desperate to keep pace with Amazon’s incursion into their space. To this extent Ocado has become a “tech” stock, where the share price is propelled ever upwards by a legion of US investor fans and has become distanced from the normal fundamentals of retailing and stockmarket valuation.

But even ex-Ocado the Food Retail sector has done well so far this year, with Morrisons up c16%, Tesco up by c24% and Sainsbury up by c35%, in terms of the “Big 3”.

In general terms, the sector outperformance reflects benign trading conditions, with remarkably good weather through May and June driving picnic, booze and barbecue sales volume on the back of events like the Royal Wedding and the World Cup. These helpful conditions won’t last for ever and the recent decline in grocery price inflation is a slight concern, but you know that the industry is not suffering from a price war when an expensive supermarket Waitrose can come out and say it’s confident of rebuilding its operating margin to 4%…And to the extent that Aldi and Lidl are not growing quite as quickly as they once were, there is a growing feeling in the industry that the discounters may not be as big a competitive threat as once was feared.

Morrisons have certainly been able to take the discounters in their stride and get on with their promising move into wholesaling, with the share price underpinned by the hope that mighty Amazon may eventually take them over, if and when it decides to get more involved in supermarket retailing.

And although Sainsbury has been feeling some market share pressure, the City has shrugged this off, given the success of the Argos acquisition and the likelihood that the CMA will eventually allow the lucrative Asda merger plan to go through without too many store disposals.

As for Tesco, the recent news about a Carrefour buying alliance has only been the icing on the cake of a strong first half performance as the Booker acquisition has gone so well so far, given the benefit they have gained from the demise of their rival Palmer & Harvey. But the City also appreciates that the core Tesco UK business has got back on track, with even the much maligned hypermarkets undergoing a sales revival.

It has not all been plain sailing in the sector this year, however. The share price of the convenience store chain McColl’s is down by c19% so far this year, reflecting some short-term supply disruption issues and declining hopes that the business will be an M&A target for one of the “Big 3”. And the Greggs share price is off by c30%, with the appeal of its burgeoning and more upmarket “food to go” range undermined by the relentless decline in High Street footfall. And the retrenchment at M&S Food, under new management, reflects the fact that the ubiquitous “Simply Food” business had over-expanded.

 

James Sawley, Head of Retail & Leisure, HSBC

The race to the bottom ended some time ago – pre Brexit, when price matching was in vogue and was seen as one of few limited strategies to compete with the discounters. The UK’s largest supermarket recently announced it’s abandoning price-matching completely, this follows the winding down of its ‘Direct’ (non-food online) business, which could easily be interpreted as an knee jerk reaction to the Sainsburys/Asda announcement, which in turn was a reaction to the Tesco/Booker acquisition. From a banking perspective it’s been an incredibly interesting 12-18 months where we’ve seen record levels of consolidation, partnerships and acquisitions. The Amazon effect means that transactions that the CMA wouldn’t have entertained 2 years or so ago are being approved, the Sainsburys/Asda merger is looking likely to go ahead (albeit with a number of unit closures) providing stimulus in the sector to adapt and evolve and where the fittest and leanest will thrive. I’m of the opinion most of the recent news is positive, ultimately driving efficiencies through combining infrastructures (physical & technological), supply chains and store estates, which should eventually benefit the consumer in the medium term. The Carrefour deal provides further evidence where the rhetoric is all about the customer. Interestingly the UK’s only online pure grocery player Ocado, also appears to have found its feet this year following numerous high profile international tie-ups, but I’m still not convinced online is the future of food-retail. Online grocery is still a minority channel in terms of sales, which I have no doubt will grow, but penetration I can’t foresee reaching the heights of Non-food retailers. The till-less supermarket however is a space I see excitement, with Amazon leading the way State side and Tesco currently testing smart phone technology in the UK (scan/pay as you go), this way of shopping will possibly be a game changer in taking the customers experience to a new level. And afterall, it’s the customer experience and repeat business which drives innovation and success. Separately discounters (which have limited online propositions) still have their place in the sector, especially when the economic climate remains uncertain and consumers consistently trade-down in the search for value – making their pennies and pounds stretch further. Providing the discounters continue in their pursuit of slick operational infrastructures/supply chains, their relevance will remain and growth will ensue.

 

Jonathan De Mello, Head of Retail Consultancy – Harper Dennis Hobbs

The grocery sector is going through profound change at present, with increased consolidation and strategic relationships punctuating what has been a tough year for retail generally. Tesco’s acquisition of Booker was seminal for the sector, and – although it is still early days – appears to have been a successful one, with 2.1% LFL growth in Tesco’s most recent results and Booker the standout performer within this, with a huge 14.3% LFL growth posted. In addition to M&A activity, some grocers are attempting to harness cutting edge tech in order to improve distribution (and therefore sales) such as in the case of Booths and Amazon, or the customer experience – as in the case of M&S and Microsoft. This mirrors tech deals struck elsewhere, such as the deal between Google and Carrefour in France. Tesco have also struck a deal with Carrefour – to form a ‘joint buying alliance.’ This deal is particularly interesting in light of our forthcoming Brexit; implying that both companies are betting on a favourable deal to be struck between the UK and EU – at least from a trade perspective.

What could shake the sector up the most though is a potential merger between Sainsburys and Asda as famously heralded by Sainsburys CEO Mike ‘Money’ Coupe a month ago. The merger between Sainsburys and Asda – despite assertions by the business that consolidation will not happen – will inevitably lead to store closures and consequent job losses. We have calculated that there are 951 Asda stores within 2 miles of a Sainsburys (see table below).

Given this, the CMA would be forced to act to prevent monopoly positions for the combined business in many of these towns – leading to a forced sale of stores. A lot of this vacated space would essentially become redundant and would have to be repurposed. The high street stores could potentially be turned to other uses such as residential, leisure (gyms etc..) but many of the standalone out of town stores where overlap exists would have to be knocked down if they closed, as competitors such as Tesco already have a considerable presence in these locations, and would be unlikely to take many of the stores as a result. Aldi and Lidl could take some stores too, but many of them are larger than their typical desired footprint. An average Asda or Sainsburys main line store employs c.200 people – job losses from store closures could therefore be substantial.

Consolidation always occurs when a significant merger or acquisition takes place – and this is especially relevant in today’s retail world, with Online an increasingly dominant force; leading to retailers seeking to reduce the extent of their physical store portfolios. Despite the good results posted by Tesco post-Booker, it is hard to envisage a situation where – over the medium term – some level of store closures do not take place. In the case of Asda and Sainsburys consolidation is inevitable – whether Asda and Sainsburys want it or not – given the overlap that exists and the fact that both chains offer product from relatively similarly sized stores. The CMA will have to step in – with all the ramifications to store closures and job losses that will bring.

 

 

 

Members of the RTT are:

  • Nick Bubb – Retail Consultant
  • Tim Denison – Ipsos Retail Performance
  • Jonathan De Mello – Harper Dennis Hobbs
  • Martin Hayward – Hayward Strategy and Futures
  • Maureen Hinton – GlobalData
  • James Knightley – ING
  • Paul Martin – KPMG
  • Martin Newman – Practicology
  • James Sawley – HSBC
  • Mike Watkins – Nielsen UK

The intellectual property within the RTT is jointly owned by KPMG (www.kpmg.co.uk) and Ipsos Retail Performance.

First mentions of the Retail Think Tank should be as follows: the KPMG/Ipsos Retail Think Tank. The abbreviations Retail Think Tank and RTT are acceptable thereafter.

The RTT was founded by KPMG and Ipsos Retail Performance (formerly Synovate) in February 2006. It now meets quarterly to provide authoritative ‘thought leadership’ on matters affecting the retail industry. All outputs are consensual and arrived at by simple majority vote and moderated discussion. Quotes are individually credited.  The Retail Think Tank has been created because it is widely accepted that there are so many mixed messages from different data sources that it is difficult to establish with any certainty the true health and status of the sector.  The aim of the RTT is to provide the authoritative, credible and most trusted window on what is really happening in retail and to develop thought leadership on the key areas influencing the future of retailing in the UK. Its executive members have been rigorously selected from non-aligned disciplines to highlight issues, propose solutions, learn from the past, signpost the road ahead and put retail into its rightful context within the British social/economic matrix.

  

For media enquiries please contact:

Simon Wilson, KPMG Corporate Communications
Tel: 0207 311 6651
Mobile: 07785373397
Email: simon.wilson@kpmg.co.uk

Max Bevis, Tank PR
Tel: +44 (0)1159 589 840
Email: max@tankpr.co.uk

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Just how bad is 2018 going to get for retailers?

A mere glance at news headlines will paint a rather gloomy and oppressive picture of the health of the UK retail sector currently. But just how bad is 2018 likely to get, and is there light at the end of the tunnel?

These were the principal questions the KPMG/Ipsos Retail Think Tank (RTT) set to tackle when they met in mid-April 2018.

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