Matt Ford, regional VP, EMEA at PrimeRevenue examines how increased competition in the UK grocery landscape is leading many operators to think beyond the shopping basket.
There has been a lot of buzz about the UK supermarket arms race since the Sainsbury’s-Asda announcement in April 2018. The combination of Sainsbury’s and Asda will overtake Tesco’s lead position to create a new number one in UK supermarkets.
But that’s only part of the story behind this and other recent mergers and acquisitions.
Part of the story is easy to see. Balance sheets and market share rise and fall. Stores open, close, or rebrand. But it’s the less apparent spectre of online grocery shopping that’s casting a lengthening shadow over the UK grocery market and causing grocery sellers to rethink their futures.
Online Grocery Growth
While retailers are still working out the kinks in how to make online grocery shopping profitable, a 2018 Forrester report predicts the market will grow at an annual compound rate of 17%, more than doubling from $150 billion in 2017 to $334 billion by 2022.
The Forrester report positions the UK as a maturing market because of its geographically compact nature and well-developed transportation infrastructure. Corporate reporting is bearing out the analysis.
According to the UK’s big four grocers, soon to be the big three, online grocery sales are steadily rising. Asda reported an 8.3% growth in online grocery sales during the first quarter of 2018. Sainsbury’s reported 7% growth for the year ending March 10, 2018. Tesco reported 5.1% growth in the year ending February 2018, and Morrisons reported 1.9% growth over the same time. Online-only grocer, Ocado, is also gradually gaining a toehold in market share, up from 0.8% in 2014 to 1.2% in May 2018.
And then, there’s Amazon. The online giant Amazon is nibbling away at US market share of food sales, pushing grocers everywhere to think outside their brick-and-mortar boxes. Amazon’s entry into grocery sales has been a little hit-and-miss so far, but don’t count on that to continue.
History has proven that Amazon learns and adapts quickly and its founder, Jeff Bezos, doesn’t mind losing a little money in the quest to get things right.
It’s easy to forget that Amazon lost money for six straight years after launching as an online bookstore in 1995. In 2001, the company turned a profit for the first time and has been doing quite well ever since—extending into new product verticals, supplier relationships, fulfilment systems, delivery mechanisms, loyalty programs, and product development.
The push to compete online—especially before Amazon enters the UK fray in earnest—fills in some of the backstory behind the recent and future UK mergers and acquisitions. Amazon already has a relationship with Morrisons, allowing UK shoppers single-stop access to a full array of products from both companies. And Morrisons, now in third place behind Sainsbury’s-Asda and Tesco, is also partnered with online-only grocer Ocado, positioning the company as the supermarket arms race extends further into cyberspace.
Competing To Win
But Sainsbury’s hasn’t been around since 1869 without learning a thing or two about competing to win. The company recognises that EMEA food retail is in an arms race—and that the race is about more than food. With the 2017 acquisition of Argos and the proposed acquisition of Asda, Sainsbury also secures one of the best distribution networks in the UK.
In a vacuum, the acquisition of nonfood retailer Argos may have seemed like a strange move. However, Argos has a mature e-commerce business with a distribution network that affords it better delivery performance than Amazon in many areas of the UK. Asda, a supermarket chain with excellent performance in nonfood sales, driven by its clothing and home goods brand George, has a less sophisticated e-commerce presence.
The alignment of all three entities with their different strengths will provide food for thought as Amazon approaches.
The other part of the backstory is the increasing competition from Aldi and Lidl. Neither German-owned grocery discounter offers online grocery shopping, but both have aggressive plans to open more stores in the coming years. Opening more stores is expected to fuel continued growth in market share, which has been steadily rising for both brands in the past few years. Aldi jumped from 4.8% in September 2014 to 7.3% in May 2018. Lidl rose from 3.6% to 5.4% during the same period.
The top-ranking supermarket chains face stiff competition on the ground and in cyberspace, but it would be foolish to bet against superpowers in an arms race.
When the merger is complete, Sainsbury-Asda will hold about 31% of the UK grocery market. Tesco currently holds about 28%. Holding 60% of a market is no accident. All three grocers have been around for many decades. They clearly understand the UK market and how to change with the times.
Also, all three expanded into verticals outside the grocery market long before the internet and Amazon were born. Today, each offers a product variety on a par with Amazon and provides excellent online shopping and delivery options, putting them in enviable positions to compete in the digital space.
Proving Adeptness
Ten years from now, which grocery retailer comes out on top will likely depend on which brands are most adept at:
• Maintaining a strong brick-and-mortar presence
• Coming up with the winning strategy to create a viable, profitable online business model
• Nurturing good relationships with customers, employees, vendors, and suppliers
• Having enough cash to execute simultaneously on the ground and online while maintaining good relationships with all stakeholders
The list order is, of course, upside down. It’s going to take a great deal of cash to fund the first three points. So how will supermarket brands come up with the cash they need?
They can take the actions most companies do when they need cash—raise prices, make deep cost cuts, borrow money, issue additional equity, extend accounts payable terms, or sell off assets. These approaches work, but they come at high costs—both direct and indirect:
• Raising prices drives away shoppers. Period.
• Deep cost cuts reduce customer service and damage employee morale, which can result in a company becoming less competitive over time.
• Selling off assets trims back a grocery chain’s competitive reach. The reason Walmart sold Asda was that the company needed cash to compete against Amazon in the U.S. market. Though it retains a share in the Sainsbury’s-Asda combination, Walmart is essentially exiting the UK market.
• Borrowing money costs money, and lenders often impose restrictions that limit a company’s flexibility.
• Adding days to the accounts payable cycle upsets suppliers and vendors
• Neither internal nor external shareholders appreciate equity dilutions.
Another way supermarkets increase cash flow is by improving working capital, freeing up cash to fund strategic initiatives. Rather than adopting the traditional tactic of adding days to the accounts payable cycle, companies are finding new ways to achieve the same outcome.
Approaches include early payment programs, such as dynamic discounting, where companies negotiate with suppliers and vendors to reduce the invoice amount by paying earlier. Buyers pay less for goods and services, but they have to make early payments. Suppliers and vendors can better predict cash flow, but they get paid less for the goods and services they provide.
Supply Chain Finance
Supply chain finance (SCF), or reverse factoring, is another option adopted across many industry sectors. Here, the grocery retailer works with a third party to add time to the accounts payable cycle while offering suppliers the choice to get paid early in exchange for a nominal fee.
The retailer effectively sells the invoice to the third-party funder, which removes the invoice from the buyer’s books. Suppliers can opt to pay the fee and get paid earlier, and they pay nothing if they decide against the early payment option. SCF is popular with buyers and suppliers.
It doesn’t require the supplier to discount invoices and fees are surprisingly modest. Buyers retain cash by extending payments in a way that doesn’t negatively affect their balance sheets. The net result is that SCF improves buyers’ cash flow while keeping suppliers and vendors happy.
As the UK supermarket wars heat up, contenders are going to need cash to fund their initiatives. Supply chain finance is one cash-management strategy that’s adopted by companies in multiple industries around the world. And it’s one that could help UK grocers pay for this fight.
