As someone who is deeply involved in the supermarket industry, specifically supermarket accounting, my inbox is often flooded with a barrage of “doom and gloom” emails and articles explaining how companies like Amazon are decimating the brick and mortar retail landscape, not to mention the general shift in consumer behavior from Generation X’ers to the Generation Z’s! (I will try and avoid talking about Millennials here and leave that for a future article regarding consumer shopping trends).
The majority of supermarkets in the northeast have enjoyed sustained growth, expansion, and prosperity for a long period of time. But things change, and now they are up against meal-kit delivery, discount stores, increased costs and shrinking margins, to say nothing of attracting consumers who have too many choices when it comes to food shopping. Despite all of this, business owners are finding ways to make educated decisions about inventory management, advertising and promotion, and controlling labor costs in order to remain successful. This foresight is not only keeping them profitable despite industry challenges, but it is propelling them forward and helping them remain competitive.
How are they making smart decisions?
Much of the decision-making for these business leaders is based on the fact that they are very knowledgeable regarding the ins-and-outs of the supermarket industry. Many of the leaders in the industry grew up in the business and subsequently have held every position, from working at the check-out counter, to pushing carts and stocking shelves, as well as rolling up their sleeves and gaining experience in the food areas, from dairy, to produce, to the meat department. They know their business and they know their customers. But they need reliable data that they can-use to review historical trends and at the same time help project future growth.
They are not always able to do this on their own, so at Sobel & Co. we believe it is our responsibility to offer our assistance and help them understand the financial side of their business. Providing insights into evolving trends is something we welcome and encourage.
Here are some of the more valuable financial trends and some financial Key Performance Indicators (KPI’s) that are driving the industry today.
Cash Flow
In working with our clients, cash flow is one of the most talked about discussion points for small to mid-sized supermarkets. How are owners managing daily and seasonal cash flow? Business owners should use internal forecasts and cash flow projections to supplement their income statement projections. Expected events such a store remodeling project or increasing labor costs resulting from changes in union agreements should be considered. Also, changes in sales due to the competitive landscape should be factored into the conversation. Tax deferrals seem to be the strategy for many supermarket owners, so taking advantage of opportunities such as accelerated depreciation should be included in cash flow projections. Having the cash flow now in order to invest in the business and fund operations should allow an owner to properly plan for when that deferral becomes a current liability. One question we pose is whether a 13-week cash flow being analyzed. This can provide a useful tool that is more timely and relevant to current operating conditions than looking at it yearly or only during budget planning.
Inventory
Inventory management is the crux of a grocery store’s entire business. With that in mind, there are critical questions to consider including how the stores are managing shrinkage and the ever increasing costs passed on from manufacturers and distributors. Owners should be looking at inventory shrink with the intent of decreasing it to as low a level as possible by looking at all the aspects they can control. They can do this by putting strict policies and procedures in place over monitoring and adjusting inventory levels.
Other key questions also need to be addresses that include looking at internal controls. For example, do purchases get matched to the receipt of the shipment when it arrives at the back door? Are department heads reviewing their purchases to verify that they received the proper quanity to keep the stocks shelved? Are sales being scanned out of inventory at the register at the correct quantity and price? While it is an investment of time and money, an internal controls study can provide valuable insights into these areas, among others. Shrink goals should also be put in place with the ultimate target to be less than 1% of sales. (Acceptable ranges between 1% and 2% of sales are seen at many of our clients. )
Inventory turnover is an also important KPI to monitor, as overall inventory levels at a store shouldn’t fluctuate much from year to year except under specific situations like economic inflation, the expansion of a store’s footprint or even a change in layout. (The average turnover in the industry for a mid-sized store is somewhere in the 8x to 14x range, however we see many grocery stores over 20x, which is significantly higher.)
Inventory is also impacted by initiatives that are influenced by regulations outside of the owners’ control. This includes challenges like the new “soda tax” which has had an affect on the sales of sugary drinks, but also have created a measureable decrease in store foot traffic which has resulted in a downward trend for overall grocery sales.
Gross Margin
The million dollar question on everyone’s mind is how grocery store owners can stay competitive in pricing and maintain gross margins as low as the 25% industry average with produce prices expected to rise between 1% and 2% in 2018, coupled with competition from German companies like Aldi and Lidl and the purchasing power behind the likes of Amazon. To address this, many aspects of the business come into play. From inventory management to marketing – business owners need to continue to invest in innovative ways to drive sales while walking the fine line of monitoring the costs needed to drive those sales. After all, the supermarket industry has been long touted as a “penny business” where net profits hover somewhere in the 1% to 2% range.
Capital Expenditures
If you have been in a newly remodeled grocery stores, you realize how effective a welcoming, bright environment can be for consumers. Shoppers are greeted by a large inviting area which looks like a mall food court. Everything from sushi to pizza, that would rival some of the best Italian restaurants in New Jersey contribute to this great first impression. Specialty foods are also becoming the name of the game for many grocery stores. Shoppers are looking for an enticing experience when they go food shopping – one in which goes beyond shopping to include enjoying a quality meal in-store, or bringing home a quality meal to their family when they don’t have time to cook. The trend of combining a grocery store with a quality restaurant alternative provides more fresh food options to customers. It’s actually a win-win for grocery store and customer since customers demand for these options is high, and gross margin on these products is also significantly higher than the 25% average. In fact, these specialty prepared foods generate upwards of 35-45% margins on average. It’s no wonder why owners are investing anywhere from $2 million to $10 million on department and store renovations to drive traffic to these areas of the store. On average, mid-sized stores are spending 1.2% of sales on capital expenditures each year. We have assisted many business owner in taking advantage of a cost segregation study or helped them utilize certain IRS revenue procedures that allow a business to deduct a large portion of the costs to remodel or refresh a qualified building. Both of these methods allow a business to assist in offsetting the initial cost of the projection by reducing or deferring a potential tax liability (think cash flow!).
In Conclusion
The research and data we see regularly at Sobel & Co. indicates that grocery and supermarket sales are expected to grow 3% annually through 2021. However, in the U.S., unless you represent one of the top 20 companies that generate 60% of industry revenue, it can be very difficult to remain competitive. Cooperatives such as Wakefern Food Corp. and Allegiance Retail Services provide purchasing power, among many other things, to family owned businesses which can greatly aid in gaining a competitive advantage against smaller chains. Additionally, having the ability to work with a co-op that provides accurate and timely data is invaluable when trying to make critical decisions such as where to take the business or how to navigate the ever changing retail landscape.
Comparative analysis can help business leaders benchmark their own company’s financial situation against the industry standard as well as against other stores in their business community. Having access to reliable and meaningful data is one of the most important tools for any CEO, CFO or mid-size business owner, most especially in the retail grocery sector where so much change is taking place at such a rapid pace.
