A shift in strategy by Britain’s major grocers, to focus on small local stores that offer higher returns than big supermarkets, is allowing them to cut expenditure plans – and dangle the prospect of tasty returns for shareholders.
Market research firm Mintel forecasts Britain’s convenience sector sales will grow five per cent to £43.3 billion in 2013 and jump to £54.1 billion by 2018. Since the economic downturn, careful consumers now prefer to buy little and often and do so in the shop around the corner rather than out of town superstores, to save on the rising cost of petrol.
Recognising that small local convenience stores, along with the internet, will be the main driver of future sales growth, British market leader Tesco, J Sainsbury – battling with Wal-Mart Stores’ Asda for second place – No. 4 player Wm Morrison and No. 6 Waitrose are all prioritising investment there.
Both convenience and online business require relatively little capital compared to developing large supermarket spaces. But crucially, while the profitability of online grocery is not yet proven, the returns from convenience stores can be.
“We typically get about one and a half times that of a supermarket,” Sainsbury’s chief financial officer John Rogers said, referring to ‘Sainsbury’s Local’ returns.
Taking account of the fact that the convenience stores are leased – generally as a small part of a larger site – that equals a 16-17 per cent return on capital employed (ROCE).
Tesco does not break out the ROCE for its UK convenience stores but has said it is its highest returning format.
Britain’s major listed grocers have underperformed the overall stock market by about 7 per cent so far this year. But because the stores they are now investing in cost so much less than supermarkets to develop and run, the likes of Tesco and Morrisons are tempting investors instead with the prospect of higher dividends, and possibly share buybacks too.
Tesco – and Sainsbury’s – currently offer a dividend yield of 4.4 per cent, while Morrisons offers 4.7 per cent. That already compares favourably to an average of 4 per cent across the FTSE 100 index, and it could rise.
“If they are spending less and have surplus capital it would be nice to see higher dividends or share buybacks,” said one institutional investor who holds shares in Tesco, Morrisons and Sainsbury’s.
Morrisons, a late entrant to the convenience market, has been opening up to six ‘M Local’ stores a week this year. Having started 2013 with 12 stores, it will have 100 by the end of the year and 200 by the end of 2014.
Conversely it has significantly reduced its commitment to new supermarket space, limiting its expansion to about 350,000 square feet annually from 2014-2015 – slightly less than half its average rate of growth over the last five years.
The impact of this on Morrisons’ capital expenditure plans is dramatic. Forecast spending will fall from around £1.2 billion in 2013-2014 to about £850 million in 2014-2015 and to £650 million annually thereafter.
Tesco’s capital expenditure is also coming down as spend on huge stores is reduced.
Sainsbury’s reports that convenience store sales are growing at over 20 per cent year-on-year. The grocer ended its first half of the current fiscal year with 571 convenience stores to its 589 supermarkets and is on track to have more of the former by the end of the year.
The trend is global, with even Wal-Mart, the world’s biggest retailer by sales, planning to expand smaller stores at a faster pace than its huge supercentres. (Reuters)