Supermarkets fight for Survival at SuperValu

The retail apocalypse has hit the supermarket industry and at least grocer has succumbed. Marsh which operates 63 supermarkets in Indiana has been liquidated by a bankruptcy court.

Around 16 Marsh stores might be on closure list and 2,788 employees were being laid off on May 8, RTV 6 in Indianapolis reported. Marsh filed for Chapter 11 bankruptcy after closing 19 stores on May 11, The Indianapolis Star reported. Investment bank Peter J. Solomon has been hired to sell off Marsh’s assets.

Those assets include grocers A.L. Ross and & Sons, and LoBill Foods. At the time of the bankruptcy Marsh had less than $50,000 in the bank and liabilities of $50 to $100 million, The Star reported. In its heyday Marsh operated more than 100 stores but it was unable to compete with deep discounters such as Kroger, Walmart and the privately-held Meijer.

Kroger (NYSE: KR) and another grocer Fresh Encounter Inc. will divide the remaining 44 Marsh stars, The Indianapolis Star reported on June 13, 2017. Kroger; already the largest grocer in Indianapolis, will enter some new markets in Indiana such as Zionsville. The Star did not say whether the Marsh name would disappear or not.

Kroger spent $16 million to acquire seven Marsh stores in Indianapolis; and locations in Bloomington and Muncie, The Cincinnati Business Courier reported. Analysts blamed Kroger for Mash’s collapse because it spent $465 million to upgrade its markets in the Indianapolis area.

Marsh’s demise might be felt far beyond Indiana because it took out an unsecured loan for $61 million with the Central States Southeast and Southwest Pension Fund. It also owes $709,000 to Coca-Cola bottlers and nearly $1 million in back taxes to two counties in Indiana.

Is Marsh’s Fate Supervalu’s Future?

Marsh’s demise might show us the future of another Midwestern grocer, SUPERVALU (NYSE: SVU). Like Marsh, Supervalu has very limited resources and a lot of liabilities.

Supervalu’s total liabilities came to $3.204 billion on February 28, 2017, according to Ycharts. On the same day Supervalu reported $332 million in cash and short-term investments and $361 million in cash from operations. To make matters worse there was a free cash flow of just $81 million and a net income of $650 million.

What’s truly scary at Supervalu is that its liabilities are more than three times larger than its market capitalization. Supervalu had a market cap of $1.081 billion on June 12, 2017. The liabilities were also more than $1 billion larger than the enterprise value of $2.006 billion on the same day.

Another problem at Supervalu is that the company generated more cash from investments ($1.021 billion) than from operations ($361 million) during the last quarter. Despite that there is one good sign at Supervalu its revenues which were reported $14.97 billion on February 28, 2017. The revenues might be enough to sustain the company’s operations even though they are falling. Supervalu reported $15.4 billion in revenues in February 2016.

Why are Supermarkets in Trouble?

The obvious question for investors here is what destroyed Marsh and can it happen to other supermarkets like Supervalu?

The answer to the second question is yes two other large supermarket operators: Roundy’s and the Fresh Market collapsed in recent years. Both avoided bankruptcy by selling themselves; Roundy’s to Kroger (NYSE: KR), and Fresh to a private equity fund.

Traditional supermarkets like Supervalu are struggling because of greatly increased competition and a collapse in food and consumer goods prices. These forces might make the historic supermarket business model unsustainable.

The Supermarket Business Model Might be Unsustainable

 The historic supermarket business model depends on the belief that most people will shop for food at the grocer in their neighborhood. This model has been completely undermined by paradigm shifts in the retail industry over the past 40 years.

The first and perhaps greatest change in the industry was the rise of national mass discounters such as Walmart (NYSE: WMT), Target (NYSE: TGT), Costco Wholesale (NASDAQ: COST) and in recent years Kroger. These big box giants combine groceries with a full selection of dry goods and other amenities such as gas stations that smaller supermarket operators cannot match.

The mass discounters have vast buying power which they can use to force suppliers to give them extremely low prices which are passed onto customers. Smaller grocers cannot compete or have to cut prices so low they can longer cover expenses; which seems to be what happened at Marsh.

A related problem is food deflation which drove prices to record lows in 2016. That makes it harder for grocers to make a profit and easier for mass discounters to force down prices. It also makes it worth customers while to drive out to Walmart or Costco to take advantage of the low prices.

Things are About to Get Worse for Supervalu because of Aldi

The situation is about to get worse for Supervalu because two more mass discounters are growing fast. The first is Aldi; the privately-held German owned discount grocer that has a major presence in the Midwest, and the second is Amazon (NASDAQ: AMZN).

Aldi plans to spend $5 billion to open 900 new stores in the United Stores by 2022, Fox News reported. Aldi has already done major damage to regional grocers like Marsh, and it’s a major threat to Supervalu’s network of 2,000 owned, independent and franchised markets. It also threatens Supervalu’s wholesale food business.

Aldi is a problem because of its small, simplified no-frills store model and super-low prices which appeal to younger; or Millennial, shoppers. Since Millennials (people aged 20 to 37) are now in prime childbearing years they will be doing most of the grocery shopping.

Aldi also uses a stealth strategy focusing on word of mouth to attract low income and stealth shoppers rather than the traditional advertising and marketing gimmicks US grocers have historically relied on. This and intensive use of private label brands allow Aldi (and Kroger) to offer high quality at extremely low prices.

The Amazon Menace

Amazon is a problem because it and other online retailers; like Walmart.com, are now competing directly with grocers in areas like cleaning supplies and prepackaged foods. Walmart.com now sells items like olive oil at lower prices than its stores, and it offers free two-day shipping to anybody that orders more than $35 worth of stuff.

This is a real problem because name brands of products like laundry detergent are among grocers’ highest profit items. Amazon and its’ imitators are slowly stealing that business and leaving grocers with the most expensive and labor intensive areas of the business such as meats, deli items, hot entrees, frozen foods and produce.

Traditional supermarkets might not be a sustainable business in today’s retail environment. Expect to see many more grocers like Supervalu collapse as Marsh did, and the business consolidates around a few giant operators such as Kroger and Safeway. Smaller grocers will either have to sell out or convert themselves into discounters like Aldi.