Tuesday, 6 January 2015

UK retailing suffers Chinese curse

Few things can be eternally certain in UK retailing but what cannot be in doubt is that the industry is about to suffer the ancient Chinese curse of "May you live through interesting times." But what does it mean for the logistics industry, and ultimately the large property companies and pension funds so reliant on their retail property investments? At least three strands of shopping habits are convulsing the industry and a fourth could emerge to see the disintermediation of bricks and mortar retailers in favour of consumer goods producers selling directly to their customers, with or without the use of vast, shared-user order picking stores. This fourth horseman of the apocalypse could wrest back control of the industry from retailers to producers who have for many years suffered bullying by virtue of the big four* retailers' domination of the UK grocery market. Such retailers use up to 60 different odious ploys to squeeze their suppliers, which in turn has forced some of the bigger suppliers to adopt similar tactics with their smaller suppliers.

The catalyst for this development has its roots back in 2007 when casino economics had the banking industry in its thrall. The inevitable banking crisis in 2008 which this writer warned about in the January 2007 issue of Warehouse & Logistics News midwifed a long period of declining real incomes which forced consumers to seek value for money. Today price is king, which hopefully heralds an end to the big four's odious price-changing tricks and their suspicious, cozy cartel behaviour which have never acted fully in the shoppers' best interests. Now the shoppers' and food producers have the power to bring the big four to heel.

The sea change in shoppers' habits involve a shift away from the big, out-of-town retail stores to smaller, retail convenience shops, the remorseless rise of online shopping and, in particular, a move towards the foreign-owned retail discounters of Aldi and Lidl who are taking market share from the big four. The last of these was not surprising to this writer who 25 years ago visited the Danish discount retailer, Netto, who arrived in northern England shortly after and long before Aldi and Lidl came to Britain. Netto's business model was impressively slick.It realized the importance of moving as much inventory as possible for fast turnover, for which it had to harness IT and high speed sortation conveyors at its only NDC (national distribution centre) serving all 120 of its shops nationwide. To achieve this, Netto restricted its SKUs to 600 popular, fast-moving items, and when fast movers became slow they were quickly dropped in favour of new, expected popular items. The result was that all EPOS-connected 120 shops downloaded their daily sales by close of day to the NDC which served as the picking instructions for order replenishment overnight for delivery before shop openings the next morning. Consequently, 90% of all goods stored passed through the NDC every 24 hours, so vast sums of money were not tied up in slow-moving stocks. Depending on the value of inventories held, the cost of holding stocks can dwarf all other warehouse costs combined. This is a key reason why the discounters can undercut the big four by up to 30% across a broad range of products without having to compromise on product quality. Another big help to them was their no-frills shop displays which made store start up costs much cheaper.

The big four tried to be all things to all shoppers by stocking everything under the sun, much of which were slow movers. At that time 25 years ago I commented in Materials Handling News that "If this business model ever crossed the North Sea to Britain it would give the big grocery retailers nightmares." Belatedly, the big four realize this and so are now converting their larger stores into smaller supermarkets, allocating the freed up space to catering, creches, gyms and other smaller tenants, a practice adopted in France by Carrefour and Casino. Some of the large supermarket space freed up could also be used as dark stores -- supermarkets without customers which are used to pack online grocery orders. Sainsbury has diversified in a different way by teaming up with Netto of Denmark to open small convenience stores with a limited stock range to compete with the rapidly growing Aldi and Lidl. Even so, some executives and analysts believe that Tesco, Sainsbury and Morrisons will need to close one in five stores to protect their profits.
Declining market shares and profits for the big four mean that supermarkets face billions of pounds in property writedowns, which will have a knock-on effect on property companies because many retailers have sold their freehold sites to landlords for lease back. While that would pose no immediate problems where leases are long, as time passes there will be an income problem for landlords because if underlying rental values fall with leases getting shorter then valuation yields need to reflect that. Some landlords and big grocers could convert their land into housing but that seems only likely to work in London, rather than the provinces where stores are most under pressure to shut. To make matters worse, the big store chains value the land on their balance sheets at around twice what it would fetch if sold off for housing and Tesco, in particular, is highly geared.

                                                 Property bust?

These significant retail property holdings (Tesco's alone are valued at £11.5 billion) could pose sleepless nights for pension funds who have so much invested in retail properties, and by extension fears for pensioners' incomes because the revolution new technology has wrought in the retail world affects far more than the big four retailers. For some years now e-commerce has shaken up retailing, with online shopping sales for 2014 expected to hit £100 billion in 2014, and while this appears to have contributed to some high street shop closures could it be made much worse by upheavals within the e-commerce world, both actual and potential. Among the actual is the advent of Alibaba, a Chinese-based e-commerce giant that recently raised US$20 billion on the New York stock market. The value of goods sold through its portals in 2013 hit $248 billion, twice what Amazon achieved and three times as much as Ebay, but unlike them it offers a truly global online marketplace to enable border-hopping commerce that bypasses middlemen. Shoppers will be able to compare prices of the same product in different countries as well as source generic products at the cheapest price. Buyers will have a world of sellers from which to buy anything and the increased competition is likely to standardise and depress prices globally.

An example of a potential e-commerce threat is the ability of major food and household consumer producers to band together to finance huge, shared order picking centres for direct home delivery to shoppers so as to disintermediate the current retail set-up which involves unnecessary retailer costs and profit margins. If this and the Alibaba effect succeeded then the sparks would fly upwards for landlords and pension funds.

To some extent, the disruptive e-commerce events have already forced changes in the logistics industry. These include making loading bays more flexible to accommodate a wider range of delivery vehicles from 40-ft double-deck trailers to medium and small vans for home deliveries. Dedicated e-commerce fulfillment centres are also being built. But it seems the good times are over for the logistics equipment providers used to a decade of the big four's huge expansion spree. According to one consultancy, large supermarket openings will roughly halve in the 2015-16 financial year to 1.5 million ft2 compared with the preceding year. On the other hand, demand for delivery vans should continue strong.
*Tesco, Sainsbury, Asda, Morrisons 

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