Tesco, Asda price cuts pressure producers

Related tags Private label Marketing

A fresh round of price cuts from the two biggest UK food retailers
increases the pressure on suppliers' margins and intensifies
competition between own-label and branded producers, forcing them
to find new ways to adapt, writes Chris Mercer.

British number one Tesco has announced it will launch a new round of price cuts worth £67 million, affecting a range of its private label products from corn flakes, crisps and coffee to ice cream and liquorice allsorts.

The move was followed by Asda, owned by US group Wal-Mart and now the UK's number two food retailer, which promised to make a further £100 million worth of price cuts across its stores, meaning the firm will have made £231 million worth of cuts in the first half of 2005.

The reverberations of this latest price battle will be felt right through the supply chain across both private label and branded portfolios, making cost-saving strategies more important than ever for producers over the next year.

Private label supplier of fresh foods, Geest, said in its 2004 results that retailers had "focused on price to an unprecedented degree,"​ in 2004, forcing the company to speed up cost-saving initiatives launched to protect margins at the end of 2003.

Geest saved £24 million from a three-pronged efficiency drive covering its supply chain, production and consumer selling business areas, including merging compatible businesses that meant job losses for one in ten of its management staff.

The firm said these measures helped it to maintain UK profit margins at 2003 levels (5.6 per cent) despite cutting average prices by two per cent and suffering from rising market prices for raw materials. It plans to save a similar amount this year.

Many producers have mentioned soaring raw material prices over the last year, hitting their margins at the other end. Prices for soybeans, wheat and corn, all commonly used in a variety of food formulations, rose 20 per cent, 16 per cent and nine per cent in February.

Another big private label supplier in the UK, Greencore, has tried to insulate itself against the margin squeeze by using its size to build a rapidly adaptable product base.

"We have different products on the market every year. This kind of thing is something we are having to work very hard at,"​ said Greencore spokesperson Jonathan Grant-Nicholas, adding that recent retailer price cuts were "a challenge but not a turn of the screw"​.

Greencore said in a results statement last autumn that the need for greater flexibility within the UK convenience food sector was why bigger companies like itself were likely to improve, whilst smaller companies with less production and distribution capability would lose out in the UK convenience food sector.

Even so, the firm's convenience food profits fell by £3.3 million (to £53.7 million) between 2003 and 2004 because of a three to four month lag in passing on higher raw material prices to customers.

Capital marketing director Frank Gaynor said Greencore wanted to decrease its reliance on multiple retailers by increasing the share of income it gets from other arenas, such as fast-food and forecourt, from 29 per cent to 35-6 per cent.

The latest round of private label price cuts from the multiples could also pile extra pressure on producers with branded products.

Major firms such as Kellogg and Walkers face direct competition from Tesco's proposal to slash the price of its private label cornflakes (500g) from 84p to 75p, and ready salted crisps ( 6 pack) from 79p to 55p.

Both Tesco and Asda were selling 500g boxes of Kellogg's cornflakes for around £1.28 as of 11 April, while a six-pack of Walkers Crisps stood at around 98p.

The large gap in price presents a serious marketing problem for the brands, despite recent deflationary policies.

One way out may be to emphasise higher quality or give branded products a value-added edge, something that Kellogg has already used to head-off the private label challenge in the US.

Accordingly, both firms have publicised their work to make their products healthier in recent months. Kellogg has revitalised its whole packaging format to emphasise nutritional content and quality, while Walkers claims to have reduced saturated fat in its crisps by 30 per cent since 2003.

The question of how to give consumers extra value for their money is likely to become even more pertinent for branded producers in the near future, as the new moves by Tesco and Asda could force their rivals, Sainsbury's and Morrisons, to follow suit.

"We expect high levels of retail price competition to continue and the food retail trading environment is likely to remain very challenging,"​ said Geest in a statement last month.

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