Conquering Food Inflation
By all indications, rising food prices are, for the most part, being passed on to consumers. But grocers claim to still be finding ways to provide the value customers are increasingly demanding.
On Kroger’s second-quarter conference call with analysts on Friday, Rodney McMullen, Kroger’s president and chief operating officer, said that, since the first quarter, customers had become "even more value conscious when they shop," buying smaller baskets and selecting some lower cost items, including its private label items.
Added David Dillon, chairman and CEO, "Customers tell us their expectation for the economy are more pessimistic now than at any time this year. And for the first time, customers list instability of the financial markets as one of the top economic concerns. These examples illustrate how consumer sentiment changed during the quarter and are important because most discretionary spending is based on what people feel or perceive about the economy."
At the same time, product cost inflation, excluding fuel, was approximately 5.2 percent for the quarter. Along with higher fuel prices, that caused Kroger’s gross margins to fall for the fifth straight quarter.
Kroger indicated it continues to pass along product cost increases from suppliers and the overall competitive retail environment is rational. Said Mr. Dillon, "Our price checks show that most competitors are passing higher costs on to consumers, particularly in the center of the store."
Exceptions for Kroger included produce, where prices did not rise at the same pace as costs because of shortages due to a late growing season. Perishables are also more price sensitive than dry goods with consumers shifting "what they buy in a nanosecond." Mr. Dillon elaborated, "If bananas happen to be high this week, you start switching and say, ‘I think I’ll buy apples this week.’"
Regardless, with same-store sales ahead 5.3 percent in the quarter, Mr. Dillon said Kroger’s market share continued to grow due to efforts to lower prices. Kroger estimates that it has lowered its customers’ shopping bills by $2.1 billion per year, partly through its store brands.
At Goldman Sachs’ retail conference last week, several grocery retail executives agreed on the importance of retaining a value perception, according to coverage from Dow Jones Newswire.
Safeway’s Chief Executive Steven Burd said that it is critical to keep up with competitors’ discounts "because if people try in the short-term to take market share, and you don’t react, they will continue to pick away at you."
Whole Foods is pushing back more at vendors on the reasons behind price increases while at the same time being more creative with promotional dollars. Its CEO, Walter Robb, said, "It’s not about how many items you have on sale, it’s about which items and how compelling is the discount on the promotion."
Supervalu CFO Sherry Smith said the company is becoming "much better at how we’re driving our ads and driving our mark-down spend, doing it much more efficiently and effectively, and that helps us to invest in price."
Discussion Questions
Discussion Questions: How good a job are grocery retailers at communicating value to consumers in the current inflationary environment? Do you agree with the assessment that failing to respond to a competitor’s bid for market share in the short-term will lead to greater problems over the long haul?
Failing to answer anything your competitor does in the short term will have negative effects in the long term. Pricing and value are the most important aspects of grocery retail and not addressing it will kill your business. Have grocery retailers done a good job? Some have and some haven’t. A store like Whole Foods works more from a product and service angle so pricing is not as important. Customers know they are overpriced but they are getting products that they can’t get anywhere else. Is the value proposition working for groceries? Just watch an episode of Extreme Couponing and you tell me!
Why do we insist on making “lower prices” and “value” synonyms when they are usually antonyms? Is it “value” to get the cheapest vegetables trucked in from lord knows where sprayed with lord knows what? Take this to the far end of the continuum and we’re getting to a point where a tobacco company will claim that cheaper cigarettes give customers greater ‘value’!
In an entitlement society like ours, lowest prices become part of that entitlement; they’re expected, not valued. Maybe it’s time to bring the actual quality of the food into the equation as well. Maybe it’s time we got exhilarated about the joys of local organic produce. Maybe it’s time we just all woke up.
Grocers are doing a poor job when it comes to communicating value to consumers. The consumers do not believe we are coming back from the economic depression. It does not show in the paycheck. Nor does it show at the gas pump or the grocery shelf.
What is happening is similar to what happened during our conversation at dinner last night. People are using social media right down to the core, actually speaking to one another, about where the better values are on sale.
When you go to the store and prices of several items you use go up 2% to 10% since your last visit you sink into a mental state between being frustrated and P-O-ed. Customers understand that that isn’t “value” environment but rather either inflation or gouging. All of the promotional offerings are partially offsetting, and they are necessary, but there is a suspicion that value is slipping when prices rise rapidly.
As to competition, when you are in the grocery business you have to respond to a competitor’s bid for part of your market share. Shoppers are mobile and transferable so you must work hard to keep them.
As to Kroger’s same-store sales being up 5.3% in the previous quarter, excluding fuel, and with cost inflation up 5.2%, does that indicate that real sales were up only 0.1%? Additionally, Mr. Dillon’s claim that Kroger lowered customers’ bill $2.1 billion per year, partly due to private label, resonates a bit like today’s political speeches. It’s a little like what the late Senator Hubert Humphrey once confided in me about getting elected (paraphrased, saving market share), “You gotta do what you got to do.”
My mother says that grocery shopping is like visiting the Smithsonian. You can visit, but you can’t take anything home. That was certainly my reaction the other day to the $4.39 gallon of milk, which is advertised in the store as an EDLP item. It’s tough for retailers to “communicate value” in that kind of environment.
While consumers and the press focus on gas prices and other service rising costs, the issue of rising food costs is not receiving increased attention nor has it stimulated the appearance of consumer groups asking for lower prices. If we don’t think of this issue as an isolated item in the country’s economic woes, we have to recognize the grocery retailers have done a good job in communicating concern for economic difficult times and costs of goods. Most retail advertising addresses the economy and offers the prices to “meet your needs” and the consumer seems to respond to it. In cases like Whole foods, the issue is very different since the consumer base is unlike mainstream grocers and the main message has never been about value, so they do have a challenge in retaining consumers.
On the second question; failure to secure or increase market share will lead to greater problems long term. Consumers expect difficult times to be cyclical in nature, and once they adopt a preferred grocer they will not easily abandon it. It will be easier for grocers to retain customers than to gain new ones.
The challenge here is in any major market, there are at least two or three grocers with frequent-shopper programs (notice I avoided the word, “Loyalty”). There are few long-term problems that will be created because of pricing, unless the strategy is obviously out of line with the local market. All companies have hi-lo strategies, and the EDLP ones continue to reap the constant revenues that balance over the long-term with the hi-lo’s.
The value is being communicated well to the shoppers by most stores. As long as raw materials prices can be mitigated by manufacturers and/or retailers, there will still be room for shoppers to spend wisely with promotional offers.
The grocery industry does a very good job at communicating value to their customers, however, it is far from perfect, or even accurate at managing the sensitivity to these needs. They could take some tips from the very sensitive electronics industry on how to better manage customer expectations and deliver value-based products in price sensitive times.