Sainsbury's '3%' Net Margin going forward - the 'new' role for NAMs?

If Mike Coupe is acknowledging the end of 5% net margins in UK grocery margins, and implying a more likely 3% going forward, the issues for suppliers have to be:

- Can 3% Net Margins work?
- How can my brand help?

Essentially, as you know, the driver of share price increases is ROCE, and given that ROCE is a multiple of Return/Sales and Sales/Capital Employed i.e. Net Margin x Capital Rotation, then it matters little whether a business chooses to operate a high margin, low rotation, or a low margin, high rotation business model.

It is the combination that counts, and 15% ROCE provides an acceptable reward for risk...

Therefore, if 3% Net Margin is the retail 'norm' going forward, then the multiples need to focus on increasing their capital rotation - with the help of suppliers - in order to compensate for the lower margin in producing an 'acceptable' 15% ROCE.

Increasing Capital rotation i.e. Sales/Capital Employed i.e. increasing Sales and/or reducing Capital Employed

Given that the retailers are already doing everything possible to drive sales, we shall focus on ways of increasing capital rotation, a less costly option for NAMs:

As you know, Capital Employed = Fixed Assets + Current Assets - Current Liabilities

Fixed Asset optimisation:
Fixed Assets in retail means sales space, and helping the retailer to increase space productivity - i.e. sales/sq. ft. - has to be a way forward in making their Fixed Assets more productive, using £1,000/sq. ft. per annum as a benchmark.

This means increasing basket size, and trading up the shopper. This is where in-store theatre, and shopper marketing can play a role. It also means de-listing of any overlap and de-duplicating within the assortment in order to simplify the offering to increase its shopper-appeal.  This is what Dave Lewis doing via the 30% product cull...

Incidentally, all retailers will pursue this approach to a point where they begin to sell off unproductive outlets, or risk becoming uncompetitive. Hence the store culls in the pipeline...

Current Asset optimisation:
Currents Assets = Stock + Debtors + Cash
Here the emphasis has to be on Stock optimisation i.e. increasing stockturns, without compromising on-shelf availability. This means smaller, more frequent deliveries to produce annual retail stockturns of 20+ i.e. 18+ days stock. For a retailer, this results in less capital tied up in stock, less wastage/shrink, and faster throughput.

Current Liabilities optimisation:
Current Liabilities = Bank Overdraft + Creditors
As Current Liabilities are a negative, retailers should try to increase Bank Overdraft and take longer to pay suppliers, in order to increase their Current Liabilities. However, since the global financial crisis, retailers have been trying to pay down debt and reduce exposure, thereby closing off this option

Meanwhile, taking increasing amounts of free credit from suppliers has breached politically acceptable limits, and will probably be progressively reduced in the future, thus closing off another option for retailers.

Thus the NAM needs to focus on space and stock optimisation.

In other words, doing a little more of what you are already doing, but relating it more to the top-of-mind concerns of the buyer in the future, in terms of its direct impact on the retailer's ROCE and thus the share price...

...while others turn up the volume on their traditional selling points, as they await a return to normal...

Diageo U-turn on threat to extend supplier payment times - a step on the way to fair-play?

According to The Telegraph, Diageo has reversed its intention to extend the number of days it takes to make payments from 60 days to 90 days on all new contracts and tenders. In doing so, they have reduced the likelihood of being quoted by retailers as an excuse to extend their payment terms to a new 'norm' of 90 days...

However, this move again highlights the inadequacies of the Prompt Payment Code.

Whilst ‘Prompt payment’ and ‘On-time payment’ can focus attention on the pressures caused by extended credit, I believe that these conditions miss the point in commercial relationships. The issues are the length of time taken to pay, and that suppliers are having to contribute to the working capital of a customer by giving free credit in excess of the time taken for the customer to convert their output into cash i.e. Trade credit was originally intended to bridge the gap between supply of a product to a retailer and payment by a shopper.

In the case of supplier-retailer relationships, a retailer is usually more powerful than its suppliers and often has access to a number of different sources of supply for the same type of product. This means that the retailer is usually in a position to dictate terms of payment on a ‘take it or leave it’ basis, i.e. 30, 60, 90 or even 120 days, if they prefer.

Whilst the Prompt Payment Code has recently been strengthened by introducing a 60 day maximum payment term, and enshrining a 30 day payment term as a norm for all signatories as standard practice, the fact remains that payment period should reflect the time taken between delivery and resale in order to qualify as 'fair-play' trade credit.

In other words, different categories should have different payment times, e.g. Perishables should be paid for more quickly i.e. say 5-10 days, whilst goods that have a retail stockturn of 12 times per annum - 30 days stock - should be paid in 35 days.

With UK Multiples holding an average of 20 days stock, their average payment periods should not exceed 25 days...

Inconvenient convenience at Morrisons - an iceberg tip in retail property revaluation?

Morrisons latest results indicating the likely closure of 23 convenience outlets, coupled with the 25% write-down of its property portfolio is simply an overt acknowledgement that Bricks & Mortar UK retail is over-spaced.

Essentially, this means that given the emergence of the squeezed-middle issue, coupled with the development of online, physical retail space - and large stores in particular - are now not as valuable as before the global financial crisis. In addition, given that there are no alternative uses that can deliver sales of £1k per sq. ft. per annum, then the property values have to be written down to market value, in order to satisfy the auditors.

However, if all mults placed their redundant properties on the market simultaneously, market values would be driven down. Therefore actual property sell-offs will be gradual.

Incidentally, this means that in the short to medium term the mults will be in the market for innovative use of their redundant space via productive in-store theatre...

In addition, retail net margins are unlikely to rise in the flat-line price-cut future...

Meanwhile, as far as the stockmarket is concerned, the mults' fixed asset base is over-valued, meaning that the reduced net margin vs. excessive capital employed relationship is driving down the ROCE, and with it the share price...

Morrisons is simply grasping this property write-down nettle now, partly in readiness for the arrival of Mr Potts, whilst Mr Higginson is allegedly departing for the beach, hopefully leaving his mobile switched on...

Finally, given their Tesco heritage, the Morrisons' team will not have missed the fact of Dave Lewis' radical-cull moves to eliminate product/people/property overlaps in simplifying the Tesco onshelf offer.

The results are already coming through via increased growth for Tesco, and other retailers not implementing similar programmes, could find themselves left at the station, as the post-modern retail train gathers pace...  

The Tesco-Schweppes Pricing Spat - really about ownership of the Consumer?

In my early days in marketing, I was always surprised that my UK colleagues agonised for hours re every shelf-price increase of a few pence, whilst my continental colleagues focused on back margin and hardly touched on shelf prices. The answer came in a negotiation session with a major French retailer when a reference to shelf-price impact was slapped down with ‘when we buy your product, the selling price is our business. Now tell me about the back margin’…

In this era of post-modern retail – think game-changing 2007 financial crisis, a new world of multiplicity, diversity, contingency, fragmentation and rupture which accepts that we now live in a state of perpetual incompleteness and the permanently unresolved – an era where the 4x4 consumer has morphed into a basket-carrying shopper searching out daily bargains, and consumer-ownership has become the issue.

In other words, Tesco – and later the other mults – are simply clearing the decks, simplifying the offering and taking control of the shelf, especially pricing.

In terms of the consumer, if ‘ownership’ is defined by extent of knowledge, then retailers combining Clubcard and scanning data to produce a shopper-profile that includes name, address, age, sex, family structure, income-level, state-of-health, recreations and travel, dietary habits, insurance, debt-profile and bank-balance, have to have a greater claim to ownership of the consumer than a marketer knowing that the consumer is probably grey-haired and living alone on the outskirts of Oxford, two children having left home… This was a battle for ownership that was lost way before 2008.

In other words, we now have to accept that a retailer in the midst of a 30% product cull, and in the rifle-sights of the SFO and GCA, is not going to take any prisoners, much less tolerate any interference re how they market to ‘their’ consumer-shopper...

In reality, however, the consumer is now ‘ownerless’, savvy, willing and able to shop around, and is determined to accept nothing less than demonstrable value for money…

Welcome to the new world of post-modern retail…

120 days credit - when the customer makes you an early payment 'offer you can't refuse'....

Given the possibility that 120 days credit may become the ‘norm’, and the likelihood that retailers may offer ‘easy invoice’ arrangements for suppliers in need of cash, it may be useful to explore the financial options in advance…

In other words, when the choice amounts to 120 days net, or ‘early’ payment @ x% off invoice, what financing are we talking about?

Assumptions:
Annual invoiced sales to the customer/annum = £9.5m
Customer wants to pay in 120 days
Supplier wants to be paid in 5 days (after all, little point in going back to your current 40 days if you need money now)
i.e. a 115-day reduction in payment period

At 120 days, customer pays 3 times per year i.e. 365/120          

At 5 days, supplier wants to be paid 73 times per year i.e. 365/5                          

Amount customer owes when paying in 120 days
                                                = £9.5m/3          = £3.17m
               
Amount customer owes when paying in 5 days
                                                = £9.5m/73         = £0.13m
                                                   
i.e. Cashflow saving = £3.17m - £0.13m
                                                  = £3.04m

Say the cost of borrowing is 10% interest per year
Then the cost of borrowing £3.04m for a year
                                                  = £0.304m

Which is equivalent to 3.2% of supplier sales to customer
                                          i.e. £0.304m/£9.5m x 100%
                                                     
Then any extra discount above 3.2% is more beneficial to the customer than investing the money at 10%.

A 3.2% discount off invoice seems reasonable?
If the above supplier is making a Net Profit margin of 5%, then the £0.304m discount represents incremental sales of £6.08m, a mere 64% increase in sales to the customer, to recover the discount…

NB. Best check the above application to your latest annual results with Finance, before leaving the building…

Segment 7: The older savvy consumer – a need for understanding?

In our world of in-store theatre, with consumer-shoppers merely playing their parts during store visits, it might be useful to segregate them into seven ages for closer examination.

Given the increasing age-gap between older shoppers and those charged with meeting their needs, it might be useful to start with Segment 7, our older members of population.

By understanding the difference between their willingness and ability to buy, and taking into account the real factors determining their purchasing behaviour, it may be possible for suppliers and retailers to do more about optimising their store visits. 

The following extract from Nora Ephron’s ‘I Remember Nothing’ may provide new insights…

“In these days of physical fitness, hair dye, and plastic surgery, you can live much of your life without feeling or even looking old. But then one day, your knee goes, or your shoulder, or your back, or your hip. Your hot flashes come to an end; things droop. Spots appear. Your cleavage looks like a peach pit. If your elbows faced forward, you would kill yourself. You’re two inches shorter than you used to be. You’re ten pounds fatter and you cannot lose a pound of it to save your soul. 

Your hands don’t work as well as they once did and you can’t open bottles, jars, wrappers, and especially those gadgets that are encased tightly in what seems to be molded Mylar. If you were stranded on a desert island and your food were sealed in plastic packaging, you would starve to death. You take so many pills in the morning you don’t have room for breakfast.

You lose close friends and discover one of the worst truths of old age: they’re irreplaceable. People who run four miles a day and eat only nuts and berries drop dead. People who drink a quart of whiskey and smoke two packs of cigarettes a day drop dead. You are suddenly in a lottery, the ultimate game of chance, and someday your luck will run out. Everybody dies. There’s nothing you can do about it. Whether or not you eat six almonds a day. Whether or not you believe in God.” 

Nora Ephron: I Remember Nothing

120 days credit - a supplier own goal?

Yesterday’s Kamblog post re Lidl’s alleged request for 120 days credit raises some important issues for NAMs.
I believe that this first (?) move by a retailer in the UK is an unintended consequence of supplier attempts to reduce the cost of trade credit given to retailers by passing demands for extra days credit back up the pipeline to their suppliers...

In other words, the genie has been released from the 120 day credit-bottle, and we are now headed towards an era of universal 120 day credit.

Government intervention?
If governments are really serious about protecting small and medium sized enterprises, they will abandon the meaningless ‘on time payment’ condition and legislate to ensure that payment periods truly reflect order cycles and delivery frequencies, so that trade credit fulfills its original function - a bridge between buying and reselling..

Size of the problem - the calculations:
Say UK annual sales of Big 4 multiples   (2013/14)     =   £117bn ex VAT
Assuming average retail Gross Margins of 25%
Then Supplier sales to Big 4                                      =   £88bn ex VAT
Assuming average payment periods of 40+ days
Then retailers pay suppliers approximately 365/40 = 9 times/annum
Meaning the 4 retailers are holding a total of £9.8bn free credit from suppliers at any time i.e. £88/9
Assume cost of credit = 10%
Then it is costing the supplier base £980m p.a. to give interest-free credit to the Big 4
Which represents 1.1% of supplier sales i.e. 980/88,000 x 100

If the payment period moves out to 120 days, the same calculation shows that supplier cost of credit will move out to approximately £3bn, i.e. 3.4% of supplier sales…!

Action for NAMs

1. Why not calculate your current cost of credit for each of the four multiples?
2. Then calculate the cost to you of 120 days credit in each case, and the value to your customer in incremental sales….
3. Then ask yourself about the impact on your bottom line, and practice reverse-negotiating the difference...

It will still be tough, but at least you will be way ahead of the supplier-pack…

120 days, just a Lidl bit of extra credit?

According to The Sunday Times, Lidl UK are allegedly asking some suppliers to accept 120 days payment terms.

Apart from the usual cost/risk balancing act required in unprecedented times, suppliers have to ask themselves why the extending-credit option is now featuring so prominently in supplier-retailer relationships.

Given that a retailer's working capital is made up of bank overdraft and creditors (i.e. suppliers, mainly), minus stock, debtors (i.e. shoppers, mainly) and cash, when profits are under pressure, few squeeze-options remain.

With price-cuts obligatory, bank overdrafts expensive, stock rotating 20 times/annum, the retailer's only opportunity to supplement the bottom line is via extended trade credit - apart from selling off underutilised stores (!)

Obviously, some suppliers will try to pass the cost of additional credit back up the pipeline by taking longer to pay ingredients and services suppliers. But, given the difference in added value within supplier and retailer business models - ingredients cost a supplier say 10% of their trade prices, whilst retailers pay 75% of their Net retail sales for products - a supplier would have to take 10 times longer to pay, in order to neutralise the cost of trade credit given to retailers. So a supplier is only reducing some of the pain by extending their supplier payment periods to 120 days.

However, the real issue is the need for fair payment - based on order cycle time i.e. the gap between delivery and payment by shopper - rather than the current justifications such 'on time payment' in compliance with current legislation, and trading 'norms'.

With some major suppliers moving to 120 day payment of their suppliers (see Ad Age, KamBlog) there is a very real danger that a new 'norm' of 120 days (4 months!) is being established by suppliers(!)...and retailers would be unwise not to move to this new credit period 'norm'.

In fact, it could be said that Lidl UK are simply first out of the frame, again...