How Lower Gasoline Prices Could Affect Big Retail

Energy isn’t the only industry that would be disrupted by falling oil and gas prices. The effect of cheaper gasoline on big retail could be just as profound and wide ranging.

Obviously, the first and most profound effect is on consumer incomes; people will simply have more to spend. The Washington Post calculated that U.S. consumers were spending $630 million less a day on gasoline on Dec. 1, 2014, than they were in June. The biggest boost will be to lower income families that live on tight budgets.

That’s good news for big box retailers such as Wal-Mart Stores Inc. (NYSE: WMT), Kroger Co. (NYSE: KR), Costco Wholesale (NASDAQ: COST), and Target (NYSE: TGT). I included Kroger in the big box category because it is evolving from a grocer into a big box as anybody that has visited a large Kroger’s store in recent years knows.

It could also boost department store operators like Macy’s (NSYE: M) and home centers such as Lowe’s (NYSE: LOW) and Home Depot (NYSE: HD). Some of the biggest spending will be in areas such as appliances and luxury goods like TV sets and video games. Many families have put off major purchases because of high gas prices.

Those hurt could be the so-called small box retailers or dollar stores such as Dollar General (NYSE: DG), Dollar Tree Stores (NASDAQ: DLTR), and Family Dollar Stores (NYSE: FDO). These stores rely on a convenient neighborhood location and short shopping trips as part of their marketing strategy. They become less appealing when it does not cost much more to drive Costco.

Also hit might be drugstores such as Walgreen (NYSE: WAG), which also operate neighborhood locations and depend heavily on convenience. Walgreen essentially operates small box stores with a pharmacy attached.

What about Gasoline Revenue?

Cheap gas could have some interesting effects on some retailers, though, because Kroger, Costco, and Wal-Mart are all major players in the filling station business. Kroger is now the nation’s third largest operator of filling stations. The grocer owns 2,000 filling stations, including 1,275 supermarket fuel centers and 725 convenience stores. Kroger is also America’s best liked filling station operator according to Market Force, 79% of people surveyed liked to fill up at Kroger and its subsidiaries.

 

Lower gas prices could hit these retailers in two ways, first by simply by cutting the revenue from gasoline and second by giving people less incentive to shop there. Kroger in particular uses gasoline as a loss leader; it gives holders of its discount card a 10¢ a gallon discount for every $100 worth of groceries they buy. The program has proven highly successfully; Kroger was proclaimed America’s most popular gasoline retailer in a Market Force survey over the summer. That has obviously been an important generator of store traffic and revenues. Kroger’s revenue rose from $98.51 billion in July 2013 to $103.88 billion in July 2014—an increase of more than $5 billion in just a year.

Low gas prices present a problem because to keep its competitive edge, a retailer like Kroger will have to offer even cheaper gas. Some media outlets are already predicting $2 gasoline by Christmas. If gas sells at $2, Kroger would have to sell it at $1.90 or even $1.80 to be an effective loss leader.

That could lead to one of two scenarios, either lower gasoline sales because customers have less incentive to buy at Kroger or higher sales because of even lower prices. One interesting result could be more consolidation in the gasoline business as big players like Kroger are able to effectively drive smaller competitors and traditional filling stations out of business with low prices.

If really cheap oil and gas becomes a reality, companies like Kroger, Walmart, and Costco could try to secure their grip on the fuel market by offering extremely low prices. Exxon-Mobil (NYSE:XOM) CEO Rex Tillerson recently admitted to CNBC’s Squawk Box that his company considers $40-a-barrel oil a real possibility.

Forty-dollar-a-barrel oil would be 43% cheaper than the current U.S. price for Brent Crude of around $70 a barrel. If that price were passed on to the consumer, the average price for a gallon of gasoline in the U.S. would fall to $1.58 a gallon, and the average price for a gallon of diesel fuel would fall to $2.05 a gallon. On Dec. 1, 2014, the U.S. Energy Information Agency reported that the average price of a gallon of gasoline was $2.79 and the average price of a gallon of diesel fuel was $3.60.

Such really low prices would naturally favor discounters, which is what Kroger, Walmart, and Costco are. They attract customers and drive sales by offering really low prices. One interesting scenario could be that additional fuel sales driven by lower prices could make up for the lost revenue of lower prices. Fuel sales could increase because people drive more when gas is cheaper.

One metric to watch will be store visits. Store visits at many retailers, including Wal-Mart, Sears, Office Depot, and Staples, fell over the last year. It’ll be interesting to see if they rise because of lower gas prices.

Another will be online retail sales because Americans may take the additional income from lower gas prices and spend it online at Amazon.com (NASDAQ: AMZN) or Walmart.com. Lower diesel fuel prices could also mean lower delivery costs and lower prices at online outlets. One thing is certain, folks: lower gasoline prices will disrupt all retailers.