June 2015

UK Supermarket Wars Get Nasty

An FTI Consulting Survey and Report

Andrew DurantSenior Managing DirectorForensic & Litigation Consulting FTI Consulting

Dan HealyManaging Director Strategy Consulting & ResearchFTI Consulting

June 2015

2

T he UK is not alone in seeing traditional grocer margins and profits gobbled up by large

discount retailers. According to a May 2015 U.S. Department of Agriculture report, “Most of the growth in food sales is due to supercenters and warehouse club stores.”

And it’s not just supermarkets that are under the microscope. All parts of the food and drink supply chain have been affected. Accordingly, FTI Consulting surveyed organizations that supply UK retailers to the tune of almost £12 billion in annual sales. A close look at the survey suggests lessons for retailers and suppliers alike about the factors contributing to current market pressures. The survey shows how both groups might mitigate the reputational risk these circumstances are generating by re-establishing a measure of trust that now appears to have been damaged or lost

between these two critical nodes in the food and drink supply chain.

Retailers’ Reputation at RiskSome high-profile players have earned a reputation for being more demanding in negotiations than others. While 88 percent of suppliers surveyed say that retailer demands are unreasonable, 40 percent named Tesco as being particularly difficult. Highlighting Tesco’s position in the cross hairs of supplier discontent, the second most-cited retailer was named by only 12 percent of respondents. Suppliers, however, recognize that this situation is neither new (roughly half of suppliers say that pressure from retailers was becoming untenable as early as 2011), nor is it just Tesco that plays hardball. Indeed, 58 percent of those suppliers surveyed say

supermarkets and other food retailers have a reputation for being coercive, and 39 percent of respondents say they have direct knowledge or suspicion of significant demands being placed on suppliers in the food and drink category.

“You know it’s going on everywhere,” one supplier says. “[Tesco] just happened to have felt the pressure more and to have flexed the guidelines to the breaking point.”

The burden Tesco is feeling, and its high rating on the retailer-discontent scale, likely has been exacerbated by the company’s admission that it had overstated pretax profits for the first half of 2014 by more than £250 million. A recent article in Retail Week suggests that Tesco’s “bullying tactics towards seeking rebates from suppliers is at the heart of the accounting scandal.”

As the British media enthusiastically reports on the conflict, the ongoing supermarket war in the United Kingdom is taking its toll on small food and drink suppliers. With increasingly successful large discount grocers such as Aldi and Lidl – which both grew their share of the British shoppers’ pocketbook in 2014 to the tune of 27 percent and 18 percent respectively – nibbling away at the margins and profits of the traditional grocery chains, Tesco (which as the UK’s largest supermarket chain has attracted the lion’s share of media attention) and other large UK grocers have been accused of squeezing their suppliers in contractual negotiations, even to the point of breaching ethical and sometimes legal guidelines. As a result, a recent report in the UK asserted that “hundreds” of suppliers were at risk of going out of business, and the public airing of this situation has caused the reputations of some of the UK’s largest retailers to suffer.

June 2015

3

But it is not just supermarkets that have been caught in the fray. In December 2014, it was reported that a large British food manufacturer had asked its suppliers for payments in order to be eligible to continue doing business with the company, a practice known as “pay and stay.”

In response, the United Kingdom’s Financial Reporting Council told retailers that they will need to be more transparent regarding the payments received from suppliers and that this will be a key area of focus in 2015.

An Increasingly Cutthroat MarketMore than two-thirds of suppliers surveyed say retailers are exerting some degree of pressure to lower product cost, provide money for product promotions or offer discounts for sales volumes, as well as pitting suppliers against other suppliers. Almost a third say they are under severe or unreasonable scrutiny to comply with these demands, and over a quarter say that comparisons with other suppliers are severe and/or unreasonable. More than half (60 percent) report some degree of coercion to provide rebates to retailers, and 44 percent of suppliers say they are being pushed to pay for the favorable positioning of their products on shelves.

“Let’s say you agreed to terms and did business together the previous year, and you’ve made investments based on those transactions,” says one supplier. “Then all of a sudden, the retailer turns around and requires extra money for attaining historic sales.”

Also, over half of those surveyed say their retailer clients are asking to extend

payment terms. One self-described small-to-medium supplier says 90-day payment terms create a very challenging cash flow problem and make it nearly impossible to compete with large global suppliers that have the capability to defer receivables to meet those terms.

“Another major concern for us is the inability of the retailers to submit specific forecasts,” says the same supplier. “For example, a retailer says it needs 20,000 cases of product this month. The next month, the quantity could either quadruple or go down to zero.” This uncertainty makes it difficult for suppliers to budget for ingredients and manage their capital requirements.

According to the FTI Consulting survey, 82 percent of suppliers report they are experiencing pressure to lower product costs; 80 percent have been asked by retailers for money to promote products; and 60 percent have been asked to provide rebates for retailers performing certain tasks.

Many of these practices, while hardly new, have received intense media coverage in the United Kingdom in recent months and illuminate the growing cutthroat nature of the food and drink market.

What Suppliers KnowMore than half (58 percent) of suppliers in the FTI Consulting survey believe financial stress — specifically the need to

maintain profit margins — is the main factor driving retailers to apply these contractual demands. Increased online competition (28 percent) and greater competition overall (26 percent) are the next most-cited reasons for the pressure under which retailers now are operating.

These results suggest that suppliers are not unsympathetic to the mandates retailers are experiencing. Indeed, when asked whether these payments and rebates are deserved by retailers, 82 percent of suppliers agree that they are.

Suppliers also understand that consumer demand for lower prices, to some degree, is responsible for the duress retailers are placing on suppliers, with one respondent pointing to the recent UK horse meat scandal as a sad example of where that price pressure can lead.

“Ultimately, there is a base cost for the production of food,” one supplier says. “The horse meat debacle never should have happened, but I understand how it did. We’re only going to see more and more of this kind of activity until shoppers realize that the more one pays, the better the value.”

The Importance of Establishing TrustDespite supplier awareness of the difficult macroeconomic conditions facing food vendors, the retailers’ aggressive approach in contractual negotiations has left a bad taste. Asked their opinion on six different statements about the conflict between retailers and suppliers, an overwhelming majority of respondents — 80 percent — say they slightly or strongly agree that larger retail stores are protecting their profit margins

Despite supplier awareness of the difficult macroeconomic conditions facing food vendors, the retailers’ aggressive approach in contractual negotiations has left a bad taste.

June 2015

4

at the cost of suppliers. Three-quarters say smaller suppliers are struggling to get the same deals and agreements as do larger suppliers. And a smaller percentage (but still a majority at 60 percent) of respondents agree that the future viability of independent suppliers is threatened by larger retailers.

As one respondent representing a larger supplier explains, “We are a significant supplier in terms of our share of market, and we have strong brands. Therefore, we can defend our position better than some of the smaller suppliers.” Another larger supplier adds, “I know a lot of smaller suppliers that are having to get into distribution so they can at least survive.”

Two-thirds of the suppliers in the FTI Consulting survey say there should be

greater regulatory protection for suppliers in their negotiations with retailers. One supplier notes that the voluntary Groceries Supply Code of Practice now has the authority to levy fines against poor practices and that retailers must give suppliers an opportunity to respond if the retailer decides to remove a supplier’s product. While the supplier endorses these changes, more must be done to improve matters.

All retailers can learn from the recent contractual skirmishes within the food and drink market and from their suppliers’ increasingly negative perceptions of negotiations with some of the larger supermarket chains — damaging statements that have been echoed in the press. Clearly, retailers are caught between pressure from budget-minded consumers and growing

competition from discounters and other traditional rivals, and suppliers understand those demands. However, increasingly, they feel they are being asked to shoulder the lion’s share of the risk in a more competitive retail environment. Meanwhile, as the experience of Tesco illustrates, perceptions of hard bargaining undercut the basic sense of trust vital to maintaining the strong, productive relationship between retailers and suppliers upon which the industry and consumers depend.

“I think everyone is under pressure, but it needs to be a win-win situation for both retailers and suppliers,” one supplier says. “There always will be an element of negotiation. It’s how the industry is.”

For more information and an online version of this article, visit ftijournal.com.

Andrew DurantSenior Managing DirectorForensic & Litigation Consulting FTI Consultingandrew.durant@fticonsulting.com

Dan HealyManaging Director Strategy Consulting & ResearchFTI Consulting dan.healy@fticonsulting.com

The views expressed in this article are those of the authors and not necessarily those of FTI Consulting, Inc. or its other professionals.

© 2015 FTI Consulting, Inc. All rights reserved.