Dean Best

Talking shop: Why uncertainty surrounds Supervalu, Fresh & Easy

By Dean Best | 15 June 2012

Analysts have concerns over performance of Supervalu and Fresh & Easy

Analysts have concerns over performance of Supervalu and Fresh & Easy

US retailers Supervalu Inc and Fresh & Easy this week made major announcements on own label, a sector that continues to grow in the US. However, as Dean Best writes, the jury is out on the future of both businesses, which remain under pressure and battling fierce competition.

Own label continues to eat into branded sales in the US and, this week, two retailers under scrutiny announced major plans to boost their private-label offering.

Supervalu Inc revealed it would more than double the size of its own label Essential Everyday range, products it launched last year as part of broader plans to revitalise its sales.

Meanwhile, Fresh & Easy, the US unit of Tesco, the UK's largest retailer, launched a chilled food range called Kitchen To Go.

Supervalu developed Essential Everyday last year as part of plans to streamline its private-label offer across its various chains. The retailer has a network of over 4,300 stores across the US with banners including Albertsons, Shaw's and Save-a-Lot. It said Essential Everyday would lead to "significant savings" through packaging and taking a more national approach to advertising and promotions.

Reducing costs has proved vital to Supervalu, which has seen gross profit, revenue and identical-stores sales fall for three years in a row. In its last financial year, the 12 months to 25 February, Supervalu ran up a loss of US$1.04bn on the back of goodwill and impairment charges. Underlying earnings slid by more than 10%.

When Supervalu published its annual results, CEO and president Craig Herkert said he was "thrilled" with the feedback from customers on Essential Everyday and he signalled more SKUs would be rolled out this year.

And indeed they have. Supervalu said this week Essential Everyday was a "trusted brand" and said the products "exceeded" customers' expectations "in the areas of affordable value".

However, for all the apparent early success of Essential Everyday, Wall Street's expectations of Supervalu's prospects are less certain. The retailer is part-way through a transformation programme it hopes will turn the business around after a difficult for years. As well as investing in areas like private label, Supervalu is also looking at its costs. Last week, it said up to 2,500 jobs could be under threat as a result of planned cuts at its Albertsons stores in California and Nevada.

In a note this week, Barclays Capital Meredith Adler said Supervalu was "taking the necessary steps to improve its operations" but insisted it was uncertain if and when the actions would pay off.

"These actions will take time to manifest in either better sales or profitability as customers will not recognize and respond to its improved value proposition right away. In addition to timing, the ultimate level of improvement in results is also uncertain," Adler said.

In a separate note, Adler discussed whether Supervalu could be a takeover target for private-equity firms, a subject of speculation for months. She said Supervalu's "low valuation and small market capitalisation" make it "a more interesting candidate" than rivals Kroger and Safeway Inc but said the retailer's debt levels and its uncertain prospects could cause suitors to pause.

"The stock market has been frustrated not only by the lack of visible improvement in Supervalu's results, but also with the company's actions," Adler said. "Many investors believe that Supervalu should move faster to lower its prices, but the company's challenge is to do that at a pace and in a manner that convinces customers the reductions will be long-lasting but before they permanently shift their buying habits. Some are also concerned that the company's cost-cutting initiatives will harm its ability to meet customer needs in the future, though there is no way to confirm that."

There is, for all the investment in private label and cuts in California, uncertainty around Supervalu. Progress will remain slow and, amid fierce competition, there is no guarantee its plans will work.

Staying on the West Coast, Fresh & Easy once again found itself in the spotlight this week. Aside from its product launch, analysts were surprised at the sales slowdown at Fresh & Easy in the first quarter of Tesco's financial year.

Sales grew but not at the rate Fresh & Easy had enjoyed in the past. Speaking to reporters in the UK on Monday, Tesco CEO Philip Clarke said: "Fresh & Easy had a soft March but improved nicely in April and May. We need a bit more from Fresh & Easy. That's why it's getting so much focus."

However, he added: "Three years of like-for-like growth in a market that isn't growing at all is pretty damn good. What we want to do is get more stores across the line to shop door profitability. This is a challenger brand that's having to adjust itself to having to appeal to more and more customers and it still remains very exciting for us. It would have been nice to have had double-digit like-for-like growth and we didn't have it."

Fresh & Easy has attracted criticism almost since Tesco opened the first store in 2008. Even US billionaire investor Warren Buffett once described the venture as "foolhardy". The business has yet to make a profit but, in Tesco's last financial year, which ran until 25 February, losses from its US division fell 17.7% to GBP153m. A notable figure but, on the face of it, improving.

Tesco has faced calls among some in the City to pull out of the US but, in a note to investors this week, Shore Capital analyst Clive Black said the retailer was "right not to abandon ship" and take part in "corporate vandalism".

However, news of the slowdown in sales and the acknowledgement at Tesco's annual financial results that it would take longer than it envisages for Fresh & Easy to break even meant Black's "resolve has been and is being tested more than we would like". He added: "We may yet have to eat our words. If there is more slippage in Fresh & Easy's profit performance this financial year then the calls for an exit will understandably gain even stronger support."

Nevertheless, Black noted the signs of improved trading in April and May and said he welcomed Clarke's decision to "ration the capital" invested in Fresh & Easy.

That said, Fresh & Easy faces the prospect of more competition on the West Coast. Aldi reportedly plans to set up a distribution centre and stores in the region, a fact Black noted.

"Aldi can be considered as fresh but far from easy competition for Fresh & Easy in future years, and represents a serious new entrant, much more so than Wal-Mart Stores' advances in the smaller store arena to our minds," he said.

Analysts will, then, continue to watch the performance of both Supervalu and Fresh & Easy carefully.

Sectors: Financials, Mergers & acquisitions, Private label, Retail

Companies: Fresh & Easy, Tesco, Supervalu Inc, Kroger, Safeway Inc, Aldi, Wal-Mart Stores

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