Predicting the last brand standing in the supermarket price wars

On January 26, 2011, grocery retailer Coles fired the first salvo in what would soon be dubbed the “supermarket price wars” by reducing the price of its own-brand milk to A$1 per litre. Woolworths immediately responded.

In the three years since, grocery prices have been tumbling, with 85 cent bread being the latest “sacrificial lamb”. This period of intense competition has brought about not just lower grocery prices, but a senate enquiry, and increasing media and analyst interest.

Price wars represent one of the most severe forms of competitive interplay in the market place, often leading to great losses. Retailers suffer losses in terms of margins, consumer loyalty and an inability to pull out of the downward cycle. This downward pressure on prices drives other competitors to follow the initial move, as Woolworths did with its home brand milk on the same day Coles cut prices; and Coles has done more recently with bread.

UK parallels - a perfect storm

The ultimate cost of price wars on retailers is currently being played out in the UK, a retail market which shares many commonalities with Australia’s.

Britain’s largest supermarket, Tesco, has been the worst performer of all British grocers this year, dropping to 28.8% market share in September, from 30.2% in 2013. A 20-year run of uninterrupted earnings growth began to unravel as Tesco started losing market share to German discounters Aldi and Lidl, as well as upmarket rivals Waitrose and Marks & Spencer. This should concern both Woolworths and Coles.

In Australia, the entry of Aldi in 2001 fundamentally shifted the playing field for supermarkets. Aldi has significantly changed consumers’ perceptions toward private label grocery products. The Aldi effect is present in Australia. In response, both Coles and Woolworths have moved to replicate an Asda/Tesco product ranging strategy - reducing range, improving supply chain efficiencies, while improving the quality and quantity of private label products. This has however encouraged shoppers to trial and become loyal to non-branded products.

Although food prices are going down, many Australian families are still struggling to make ends meet. Price increases in fuel, utilities, insurance premiums, rates and vehicle registrations are clearly having an impact on overall consumer confidence and retail growth.

Australian retail turnover rose only 0.1% in August 2014 following a rise of 0.4% in July 2014. Similar declining consumer confidence is mirrored in the UK. As such, shoppers are becoming more aware of saving on weekly food expenditures. But this continued focus on price will embed unrealistic consumer “reference pricing” (memory of price) for brands and products. As a result, consumers are likely become unwilling to pay higher prices later.

A splintering market

Our growing acceptance of private labels has led to a grocery market “splintering” into “low price discounters” and “differentiated quality” offerings.

In Britain, Aldi and Lidl have clearly positioned themselves as low cost operators, capturing increasing market share at the expense of traditional supermarkets. Lidl has also given a nod to the Australian market.

In contrast to these low cost food retailers, we have seen the substantial growth in farmers markets in Australia. Shoppers are now seeking more than just low prices and are actively seeking out range, quality, local food and provenance, leaving potentially our two big supermarkets in the middle exposed.

The likely losers

So, what might this mean for local Coles and Woolworths competitors, such as Metcash’s IGA supermarkets?

A Dutch study examined the market impact when the leading Dutch grocery chain Albert Heijn slashed its prices in response to Aldi and Lidl, finding that there was an 8.2% reduction in food prices. This cost Dutch supermarkets €900 million in one year alone and more than 30,000 employees lost their jobs.

In Australia, small independently owned grocers will struggle to survive under intense and protracted price discounting. Dutch grocer Edah closed after two and a half years of sustained price wars.

Australian medium and high service grocers will lose long term market share. We are seeing this to some extent with Metcash (IGA) and this is requiring it to review the structure of its business.

In nearly all western markets, grocery discounters have captured market share away from traditional supermarket retailers. Global food retailers like Aldi, Lidl, Walmart and Costco are changing the face of supermarket retailing. If a price war is inevitable, it helps to be the first to strike to gain the first-mover advantage. But high service, convenience grocers should be cautious about using price as competitive weapon and concentrate on other appeals of consumer value, convenience, local foods and community.

Gary Mortimer does not work for, consult to, own shares in or receive funding from any company or organisation that would benefit from this article, and has no relevant affiliations.

This article was originally published on The Conversation. Read the original article.