The Crete That Crete Made

Continuing my near perfect track record of being out of the country/office when Walmart does anything remotely exciting, Asda announced last week plans to acquire the 193-strong Netto discount chain in the UK from Dansk Supermarked. The transaction will enable Asda to convert the 8,000 square foot stores into Asda branded supermarkets offering approximately 10,000 SKUs. The stores, which generated revenues of GBP746 million (USD1.12 billion) in 2009, are expected to be rebranded by summer of next year, pending regulatory approval.

 

 

Asda’s President and Chief Executive Andy Clarke commented: “We very much look forward to welcoming Netto’s colleagues into our business and joining our team. Customers will benefit from low prices on a significantly broader range of quality products, complemented by the wide range of services we offer in all our smaller stores. The creation of new in store jobs in a tough economy will also be a welcome boost in scores of communities across the UK.”

 

Managing Director of Netto, Claus Juel-Jensen, added: “Netto has been profitable and was appointed ‘Discounter of the Year’ in 2009. As a major league player, Asda is the ideal purchaser of our UK business. We have substantial opportunities for growth in Scandinavia and Northern Europe and believe that the time has come to focus our efforts on the development of our business in these countries.”

 

The surprise announcement reinforces Asda’s intentions of becoming a strong multi-channel grocery retailer, despite being relatively late to the small-store game. Last month, Asda laid out its ambitious growth plans to become the market leader in general merchandise and clear number two for food. The Netto announcement, provided it gets past the Office of Fair Trading, should tick off the latter goal as it will cement Asda’s status as the UK’s second largest food retailer, leaving Sainsbury’s firmly in the number three position.

 

 

 

The news now explains the apparent recent lack of internal concern over Asda’s first quarter results, which saw comparable store sales decline 0.3%, the first decline for the retailer in four years. Despite the underperformance and recent uncertainty over a new Chief Executive, Asda has proven that it is back pursuing growth in no uncertain terms.

 

Asda will convert the Netto outlets from discount stores to supermarkets, which is consistent with the retailer’s strategy of operating grocery-led formats less than 25,000 square feet. This will damp down ongoing speculation that Asda would launch a discount or convenience format. In fact, the retailer stated last month that it plans to open 100 supermarkets within the next five years; clearly the Netto acquisition has allowed Asda to smash that goal. Last year, the retailer acquired a handful of stores from the Co-operative Group and currently trades through 22 of these smaller stores averaging 17,000 square feet. The Netto sites however will be the smallest in Asda’s estate, averaging approximately 8,000 square feet and putting it on par with the average Tesco Metro.

 

 

The smaller size means that these stores will have a limited assortment of 10,000 SKUs, which is about one-fourth the amount offered in a traditional Asda store. The smaller range means that there will likely be a strong emphasis on 1) private label to keep the stores profitable and 2) brand leaders to attract shoppers. Given that Asda has recently completed a range rationalisation process which saw 30% of SKUs disappear from some categories in existing stores, it is without a doubt that ranging will focus on only the most profitable and important brands.

 

The smaller size also means that fresh products will be high on the list, which of course will require more frequent replenishment. Pricing will almost certainly be identical to those found in Asda’s larger stores in order to maintain a strong value proposition. At the same time, Asda will need to push its organic and premium ranges in order to prove its credentials as a pure food retailer to new shoppers. There is still a big question mark over whether Asda can be successful without its core non-food offering. Currently, around 60% of Asda’s sales come from grocery purchases; however, many shoppers are attracted to Asda because of its ability to offer everything under one roof – including the wildly successful George apparel brand. Will those shoppers be able to see Asda as a food specialist, especially when there is plenty of existing competition with arguably stronger food offerings? Furthermore, Asda’s major play for supermarkets now means that every major grocery retailer is currently trading in this market. Brands, more specifically brands at low prices, will therefore need to play a key role in the offering in order to differentiate from the array of quality-led, private label heavy supermarkets already in existence.

 

 

 

Asda’s click-and-collect option – which links Asda’s burgeoning non-food e-commerce offer with its stores – will also differentiate this concept from existing supermarkets. Shoppers will be able to order from Asda’s website and have their items delivered instore for collection. Of course this will help to drive footfall in stores and ultimately reinforce cross-channel shopping among Asda customers. It also enables Asda to offer a full shop in a small-box environment, while putting additional pressure on non-food specialists such as Argos.

 

Despite the news coming as a shock to many analysts (including, if I’m being totally honest, me), the Asda and Netto deal makes sense for two main reasons. Firstly, Netto is already a profitable business despite relatively low buying power in the UK and merchandising style that can be charitably described as less than flawless. In fact, Netto has been the scene of some of the worst merchandising and housekeeping I’ve encountered in my career. Some of the non-food lines in particular – which can range from chainsaws to low quality guitars – have appeared on some of my visits as though they were replenished by a battalion of disoriented manatees.  

 

 

Secondly, the acquisition enables Asda to gain a foothold in the supermarket sector virtually overnight. However, there are still some major question marks about the acquisition, the most obvious of which is, will it get past the regulatory authorities? Also, the stores predominantly target lower-income groups and therefore are often located in poor locations. Given that 45% of Asda shoppers are now from ABC1 customer demographic (and growing more than 50% over the past two years), the chances of reaching Asda’s most profitable customer group are somewhat limited. Furthermore, there may be a degree of cannibalisation due to an overlap in locations, which could ultimately result in Asda selling off some of the sites.

 

Nonetheless, Asda’s successful operations in locations such as Bodmin, Walthamstow and Pontefract indicate that stores of this smaller size can be assimilated into Asda’s broader logistical network and trade profitably.

 

Despite being profitable, Netto’s revenues grew at just 0.3% last year, clearly not a good sign for a discounter in a recession. Since 2007, the chain has only added 16 new stores to the UK portfolio, despite a pre-crisis aim of 25 new stores in each of the Netto operating markets. Although posting profit in both 2007 and 2008, Netto did not find the winning formula in the UK market and announced earlier this year that they will change the range to include more non-food clearance lines, or one-offs. Obviously, the retailer did not see the impact of this new initiative and decided to exit the UK market.

 

Does this mean Britain is falling out of love with discount shops? Or perhaps it’s the case that there is only room in the market for Aldi, Lidl and the grocers. In fact, even the best discounters have seen sales decline quite significantly (going from 20-30% like-for-like sales growth at the start of the recession to mid-high single digits). This more restrained growth can primarily be explained by the grocers’ aggressive price-cutting tactics and the heavy emphasis on value lines from grocers ranging from Tesco to Waitrose.

 

 

 

With the sale of Netto in UK, Dansk Supermarked says it will now focus its growth on Scandinavia and Northern Europe. We can assume that the retailer will particularly focus on its discount banner Netto in its home market, which accounts for a quarter of its total sales worldwide and where it is the largest discount retailer. With currently some 400 Netto discount stores in Denmark, Dansk Supermarked will be able to put more emphasis on its Netto 600 expansion scheme. Netto 600 not only foresees the opening of a total of 600 stores in the long term in Dansk Supermarked’s home market, but also the extension of existing Netto stores, including the DøgnNetto city centre outlets in the greater Copenhagen area, which are still much smaller than 600 square metres.

 

As for Asda, it can enjoy having cemented its status as Britain’s second largest food retailer. However, there will be no resting on its laurels as its next goal will be to open 150 non-food focused Asda Living stores. Do we smell another acquisition in the future?