Sainsbury’s heralded its annual results yesterday (11 May) with claims that it “outperformed the market”. In some quarters of the City, however, concerns remain that the UK’s third-largest retailer, facing fierce competition and a weak consumer, is feeling pressure on its margins.
Ahead of its results announcement, the retailer faced criticism that its margins are under pressure and lagging behind its competitors.
And, even after the numbers were announced, which included 9.4% increase in net profit, many industry watchers remained concerned about its prospects.
MF Global analyst Andy Smith said yesterday that Sainsbury’s “trading margins remain under pressure from rising costs on flat densities” and that its underlying costs are rising faster than its sales.
While Smith conceded that there are opportunities for the retailer to develop sales and margin through convenience stores and new non-food ranges, he said “the costs of new space in a negative like-for-like volume market are going to be a real challenge in 2011”.
Smith went as far to speculate that the departure of development director Darren Shapland, which was announced on Monday, was connected to the restrictions in funding and scope of any international expansion as the UK grocery market experiences negative like-for-like sales volumes.
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By GlobalDataMeanwhile, Arden Partners analyst Nick Bubb suggested that Sainsbury’s profit growth remains “mediocre” when compared with rival Morrisons.
However, Sainsbury’s CFO John Rogers made some attempt to quell these concerns, emphasising that its accelerated investment is in the company’s long-term best interests.
He said that Sainsbury’s has had a GBP15m (US$24.4m) increase in start-up costs over the past year, or GBP40m over the past two years.
Rogers said that the costs include its step-up in space growth, developing its non-food business, opening a sourcing office in Bangladesh, investing in its systems, setting up its online general merchandise offer and in setting up a “small team of people in China”.
“We’ve chosen to incur these costs because we believe they’re important for the business,” Rogers emphasised.
Despite concerns over the weakening margins, the retailer remains committed to its growth plans, revealing that it will increase its core capital expenditure in 2011/12 to GBP1.2bn, against GBP880m in the 2010/11 financial year.
While the retailer looks to long-term growth through its ‘Making Sainsburys’ Great Again’ programme, it is set to face a tough 2011.
Bernstein Research analyst Christopher Hogbin said that Sainsbury’s confirmed that its cost savings will only cover off around 75% of cost inflation, which it expects to come in at the high end of 2-3%.
Despite chief executive Justin King’s assertions that consumers do not shop on price alone, these input cost increases are likely to make the retailer’s life tougher as Tesco and Asda continue to duke it out on price and as consumer confidence, and spending, continues to decline.
King said that consumers’ view of the future is bad and “reasonably so”, with consumers changing their shopping behaviour through “actively managing their basket spend” by reducing volumes through de-stocking and wasting less, which has meant the retailer has recorded its “first declines in volume”.
The Sainsbury’s boss said it is approaching the intense promotional landscape differently to its competitors, through playing into these volume decreases with schemes like ‘Feed your family for £50 a week’ and through more targeted promotions through offering discount coupons using consumers’ Nectar card data at the till.
In terms of Sainsbury’s other great rivalry, over the race for second place against Wal-Mart Stores’ Asda, King conceded that Asda’s acquisition of Netto would put it ahead. However, he added that its organic expansion planned for the year would be larger than Netto’s entire store estate.
Rogers was quick to highlight the more cost-effective nature of organic growth. “Organic growth is cheaper than acquisition growth, so we think an organic approach more effective,” he said.
With consumer sentiment continuing to decline, and its sales momentum starting to slow, the retailer’s executive team will need to to gird its loins against criticism from industry watchers seeking shorter-term returns.