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Management Ventures, Inc.Management Ventures, Inc.

Understanding the implications of an economic slowdown over the UK retail industry

•Presented by:•Vincent Verdier

•September 2008

1-2 Corp. Site: MVI-Worldwide.com, Licensed site: MVI-Insights.eu © 2008 MVI

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The printing of any copies for back up is also strictly prohibited.

DisclaimersThe analyses and conclusions presented in this seminar represent the opinions of Management Ventures, Inc. The views expressed do not necessarily reflect the views of the management of the retailer(s) under discussion.

This seminar is not endorsed or otherwise supported by the management of any of the companies covered during the course of the workshop or within the following slides.


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We are at the beginning of a multi-year We are at the beginning of a multi-year economic slowdowneconomic slowdown

“The nice decade is behind us.”

Mervyn KingGovernor of the Bank of England

May 2008

•


Across the political spectrum, the Media Across the political spectrum, the Media is feeding further consumer anxietyis feeding further consumer anxiety


Today’s AgendaToday’s Agenda

• Evolution of the economic landscape in the UK and its impact on retailers

• Understanding the discount channel and its increasing role in this environment

• Future outlook and conclusions


Evolution of the economic landscape in the Evolution of the economic landscape in the UK and its impact on retailersUK and its impact on retailers

• Pressure on UK financial sector and lower consumer confidence

• UK consumers are now more concerned by the “value” proposition

• Conclusions


The UK financial sector came under The UK financial sector came under pressure in July 2007pressure in July 2007

• Within the space of a few weeks, the multi-billion pound market for mortgage backed securities froze• This was due to the falling value of US property

values

• The reduction of credit available in this market rolled through to other debt markets across Europe• Available corporate credit evaporated within a

manner of weeks• Consumer credit began tightening within the next

few weeks


The UK economy is directly exposed to a The UK economy is directly exposed to a contraction in the financial sectorcontraction in the financial sector

• UK firms were responsible for half of all private equity investment in Europe

• About 50% of global derivatives trades went through the UK

• 8% of GDP is directly linked to financial services with related business services totalling nearly 30% of GDP


Credit market contraction has hit consumers Credit market contraction has hit consumers through the housing marketthrough the housing market

The housing market

correction is still in a phase

where both existing

homeowners and first time buyers are suffering.


The fall in the value of Sterling has put The fall in the value of Sterling has put additional pressure on UK inflationadditional pressure on UK inflation

The Bank of England is limited in its options because of the credit crisis. Normal measures to control the value of Sterling are restricted

by pressure to maintain liquidity.

Value of GBP expressed in EUR for the past 2 years

Source: Yahoo Finance


Food inflation is now well ahead of other Food inflation is now well ahead of other retail price inflationretail price inflation

Consumer prices for food are under pressure from the basket of commodity price increases—both energy costs and raw

foodstuffs costs. The last time we saw this kind of separation in inflation, shoppers flocked to the discounters.

Yea

r o

ver

Yea

r ch

ang

e in

%


UK consumer confidence is plunging, as UK consumer confidence is plunging, as people start to feel the pressurepeople start to feel the pressure

Co

nsu

mer

co

nfi

den

ce i

nd

ex

Source: British Retail Consortium and MVI Analysis


The number of unemployed people is The number of unemployed people is expected to rise furtherexpected to rise further

“The BCC expects unemployment to rise by 250,000 to 300,000 over the next two to

three years”

FT Article, August 2008

Cla

iman

ts in

‘000

s

Source: The British Chambers of Commerce; The Financial Times, 18th August 2008


UK consumers are cutting back on UK consumers are cutting back on discretionary expensesdiscretionary expenses

38%

37%

32%

29%

26%

26%

19%

18%

7%

6%

3%

37%

35%

31%

24%

21%

24%

14%

22%

6%

6%

2%

Putting into savings

Holidays / vacations

Paying off debts / credit cards / loans

New clothes

Out of home entertainment

Home improvements / decorating

New technology

I have no spare cash

Retirement fund

Investing in shares of stock / mutual funds

Don’t know/undecided

Oct-07

May-08

“Once you have covered your essential living expenses, which of the following statements best describes what you do with your spare cash...?”

Source: British Retail Consortium


Conclusions for the lagging side of the Conclusions for the lagging side of the economic crisiseconomic crisis

• Things will get worse before they get better• Job losses are just beginning to hit the market• Governments will have to reduce expenditure

• The economic engine of the UK is too exposed to the financial sector• Restructuring will take 18-24 months as banks need to sell

assets and change their focus

• The government is no longer in a position to export the wealth of the few to the rest of the country• The effect outside of London will worsen later as the

government will be slower to react




• Retailers adapting their messages to the “value” proposition

• Conclusions


Foodservice businesses which promote Foodservice businesses which promote convenience and value continue to growconvenience and value continue to grow

• McDonald’s like for like sales are up 10% and management is looking at selective pricing actions to continue projecting a value image despite cost pressures

• Burger King is also showing results slightly ahead of the grocery market


Grocery discounters are thriving while Grocery discounters are thriving while premium chains sufferpremium chains suffer

Source: Retailers and MVI estimates

3.0%

3.8%

4.6%

5.4%4.9%

3.9% 4.1%

6.0%

5.1%

6.4%6.4% 6.4% 6.4%

7.1% 7.1% 7.1% 7.1%

8.7%

6.1%

4.4%

3.1%

4.8%

2.5%

3.5%

1.0% 1.0%

-1.5%-2.0%

-1.0%

0.0%

1.0%

2.0%

3.0%

4.0%

5.0%

6.0%

7.0%

8.0%

9.0%

10.0%

Q1 2006 Q2 2006 Q3 2006 Q4 2006 Q1 2007 Q2 2007 Q3 2007 Q4 2007 Q1 2008

Lik

e-f

or-

Lik

e s

ale

s (

%)

Average Top 4 Grocers Discounters Premium

Notes: Discounters include: Farmfoods , Netto, Iceland, Aldi and LidlNotes: Premium retailers include: Marks and Spencer and Waitrose


Aldi is ready to capitalise on mass market Aldi is ready to capitalise on mass market concerns about pricesconcerns about prices

Source: Aldi.co.uk, MVI store visits


Lidl is using a variety of simple and clear Lidl is using a variety of simple and clear price messagesprice messages

Source: Aldi.co.uk, MVI store visits


And Lidl is now strengthening its And Lidl is now strengthening its convenience positioningconvenience positioning

Source: MVI Store visits


M&S has began a series of modestly M&S has began a series of modestly endorsed promotionsendorsed promotions



Sainsbury’s is aggressively trying to Sainsbury’s is aggressively trying to reposition itselfreposition itself

Source: The Store store visit


Pressure is building on Sainsbury’s for Pressure is building on Sainsbury’s for another big ideaanother big idea

• Results are flagging as consumers look for better value alternatives in this market

• Growth plans have been costly for Sainsbury’s bottom line prior to the current economic situation• Clearly things are getting worse

• Expect Sainsburys to be a candidate for M&A activity in the coming months


Waitrose is taking on other premium Waitrose is taking on other premium competitorscompetitors

Waitrose is also looking to roll-out a new convenience concept that will go head to head with Sainsburys Local and M&S

Simply Food.



Different strategies for the two extremes Different strategies for the two extremes of grocery retailingof grocery retailing

• Discounters• Clear positioning which is to lower the cost of

monthly grocery shopping through a combination of price points and price competitiveness

• Premium grocers• Taking the fight to foodservice with a hope of

capturing aspirations of a quality meal for the family


Looking across the mainstream grocers, Looking across the mainstream grocers, there is a race to the bottom...there is a race to the bottom...

Evo

luti

on

of

like

-fo

r-li

ke s

ales

(%

)


Morrisons has had great success with Morrisons has had great success with new promotional messagesnew promotional messages



ASDA continues to sharpen its price ASDA continues to sharpen its price positionposition



As the grocery market reference, Tesco is As the grocery market reference, Tesco is having to pull at all the stopshaving to pull at all the stops

Source: Tesco


Tesco is both reducing the basket and Tesco is both reducing the basket and trying to encourage frequencytrying to encourage frequency



Evolution of UK grocery sales by formatEvolution of UK grocery sales by formatCAGR 06-08E CAGR 08E-10E

Supermarket 3.0% 3.1%Convenience 6.1% 4.9%Hypermarket 11.6% 7.3%

Drug 4.1% 3.0%Cash & Carry 1.4% 1.2%Discounter 13.2% 13.1%

Online 23.2% 14.9%Total 4.8% 4.2%

Total £127.7

76.6 78.7 81.2 83.7 86.3

13.5 14.6 15.2 16.0 16.711.913.2

14.816.1

17.110.2

10.711.1

11.411.7

9.59.7

9.89.9

10.0

3.94.5

5.05.7

6.4

2.12.7

3.23.7

4.2

0

20

40

60

80

100

120

140

160

180

2006 2007 2008 2009 2010

Online

Discounter

Cash & Carry

Drug

Hypermarket

Convenience

Supermarket

Gro

cery

Sal

es (

£ b

illi

on

) Total £134.1Total £140.3

Total £146.5Total £152.4

Source: MVI database


Tesco, ASDA and Lidl will be the most Tesco, ASDA and Lidl will be the most successful retailers in the next two yearssuccessful retailers in the next two years

Note: Sales figures are expressed as GBP Billions


Note: Grocery sales are expressed as the sum of the total grocery formats operated by the retailer (includes online retailing)




• UK consumers are now more concerned by the “value” proposition

• Conclusions


ConclusionsConclusions

• Real incomes are being squeezed• The Bank of England is virtually powerless to stop

inflation in the current context

• Consumers are very nervous and looking for answers• The Discounters are getting favourable press

coverage and accelerating expansion as part of the solution

• The mainstream chains are trying to reposition their brands as helping consumers live better in a tough economy (a different type of aspiration than the past decade)


ConclusionsConclusions

• Retailers are running to convenience as an added-value during this crisis• The success of foodservice shows that time

pressure remains a key issue for UK consumers• New small format concepts in development from

Waitrose, Tesco and Morrisons• One-stop shopping from M&S

• The discounters will lead growth in the market• This will force more restructuring amongst

competitive chains

Corp. Site: MVI-Worldwide.com, Licensed site: MVI-Insights.eu © 2008 MVI

Management Ventures, Inc.Management Ventures, Inc.“The worse off people are, the better off we are.”Attributed to Anna Albrecht, mother of Aldi founders Karl and Theo

Source: Aldi Nord and Coriolis research report with original quote source unknown


Understanding the discount channel and its Understanding the discount channel and its increasing role in this environmentincreasing role in this environment

• Discounters business model and key principles

• Competing in the UK context

• Implications for branded manufacturers


There are three types of financial business There are three types of financial business models in modern retailingmodels in modern retailing

MARGIN FOCUS (%) MARGIN FOCUS (%)

GROSS PROFIT FOCUS (£)GROSS PROFIT FOCUS (£)

HYBRID MODELHYBRID MODEL

Waitrose, Whole Waitrose, Whole Foods, M&SFoods, M&S

Tesco, Asda, Tesco, Asda, Sainsbury’sSainsbury’s

Lidl, Aldi, NettoLidl, Aldi, Netto


Discounters run on a simple model based Discounters run on a simple model based on cash marginon cash margin

Possible units sold X Gross margin = Cash margin

Initial unit forecast made

by buyer.

Initial margin forecast made

by buyer

Cash margin is estimated at the time of

negotiation.

Source: MVI


Where do discounters save moneyWhere do discounters save money

Administration

Payment

Stock

Store Manger

Cashier

Sales Assistant

SalesAssistant

Store Manger

Full-range retailer DiscounterRESPONSIBILITIES

Low Productivity High Productivity

High Personnel Costs Small Personnel Costs

Store Staff’s Responsibilities; Full-range retailer vs. Discounter

Source: MVI research


Simplicity and consistency are at the Simplicity and consistency are at the heart of the modelheart of the model

Source: MVI Store visit

LIDL UK LIDL CZECH REPUBLIC


The Discounter channel in the UKThe Discounter channel in the UK

Need Want

Ave

rag

e N

um

ber

of

Sh

op

pi n

g T

rip

s P

e r Y

ear

5

40

Merchandise Assortment

Source: MVI research

Single Price Point

Hard Discounter

Soft Discounter

Convenience Discount

Discount Supermarkets

1-49 Corp. Site: MVI-Worldwide.com, Licensed site: MVI-Insights.eu © 2008 MVISource: MVI Analysis

The discounters face well established The discounters face well established local competition in the UKlocal competition in the UK

BulkImmediate

Premium

Discount

Tesco

ASDA

Lidl/Aldi/Netto


The key for discounters is to get The key for discounters is to get shoppers in the store shoppers in the store onceonce

Source: BrandZ Millward Brown

Over the last 7 years Aldi and Lidl have been able to convert

roughly 60% of people that would consider the brand to regular users of the brand


Discounters still struggle with awareness Discounters still struggle with awareness and loyaltyand loyalty

Source: MillwardBrown BrandZ


However, the discounters are making However, the discounters are making inroads in building their brandsinroads in building their brands

• A nationwide survey by the consumer magazine Which? revealed that British consumers already rated Lidl and Aldi more highly than Tesco, Asda, Morrisons and Sainsbury’s. On overall satisfaction the scores were:• Aldi - 66• Lidl - 64• Sainsbury’s - 61• Tesco/ASDA - 58• Morrisons - 56

Note: Score was based mostly on price satisfaction, not overall satisfaction Source:Which? Survey 2007


Discounters have clearly benefited from this changing economic climate

• Lidl UK saw May sales increase 14.9% over the prior year

• Aldi has stated that in the UK:• Sales are up 17%, while like-for-like sales are up 12% over

the previous year• In Q1 2008, traffic is up 25% with the number of ABC1

shopper up 17%

• Netto has stated that in the UK:• “Netto is the fastest growing supermarket in the UK with an

11.2% sales increase over the last 12 months.”

Source: The Guardian 17 May 2008 and the Financial Times 24 May 2008, Netto website, based off of AC Nielsen study


And are accelerating expansion plans to And are accelerating expansion plans to take full advantage of this trendtake full advantage of this trend


All Other Food Formats

Discounters

% o

f n

ew s

pac

e ad

ded

25.5% 30.6%

74.5% 69.4%

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

2003-2008 2008-2013


Brands are playing a more prominent role Brands are playing a more prominent role in the channel, with Lidl leading the shift in the channel, with Lidl leading the shift

Source: MVI store visit UK May 2008


Brands have a much clearer role in the discounter today

• Help improve retail brand quality perception• Provide much needed margin to fuel continued

growth • Promotional activity to drive traffic

• Lidl has adapted its strategy to incorporate brands and branded promotions.• Offset the cost of promotions through requiring

them to be on pallets• For non-palletised SKUs, created additional

promotional space in store


Discounters are gaining share: Discounters are gaining share: implicationsimplications

• Discounters’ positioning is made of simple, value related messages

• Branded manufacturers will see most of their growth coming from this channel• Understanding what types of SKUs discounters are interested in

• Branded manufacturers are facing challenges across all components of the marketing mix:• Price• Product• Place• Promotion


The UK economy is experiencing a major The UK economy is experiencing a major correction following 10 years of growthcorrection following 10 years of growth

• This is a crisis in a relative sense• Even as this gets worse, people will generally remain richer

than ever before• There is still a possibility that the private sector can

restructure itself in the coming 18-24 months

• People are trading down, yes... BUT• These discounts stores are much better than what they used

to be


For retailers, keeping shoppers in-store For retailers, keeping shoppers in-store is the number one concernis the number one concern

• Fragmentation of shopping trips is reaching new heights, impacting both frequency and average basket value

• Higher promotional activity is taking place within the Top 4 retailers

• Shift from more complex marketing messages to simple price cutting activities


Key growth categories will shift from Key growth categories will shift from what we saw over the last couple of yearswhat we saw over the last couple of years

• Product• The rise of premium products will slow down or even come to a halt. Organics

and other added-value products will make space for mainstream ranges (branded, private label)

• Frozen food sales are on the rise again

• Price• Mass-market retailers and discounters will further communicate on their price

competitiveness. Simple communication messages is key

• Place• More convenient shopping trips will further take shares out of the bigger stores

• Promotion• Strong promotional activity on KVIs, while premium products will only offer

tactical opportunities

Thank You!Thank You!

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Vincent VerdierAnalyst

EMEA Headquarters6 More London PlaceTooley StreetLondon SE1 2QY

[email protected]

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