Profits squeeze warning for big supermarkets

Mar 15 2008 by Iain Laing, The Journal

THE UK’s biggest supermarkets have been warned that profits could be hit by a consumer squeeze and soaring food costs. Supermarkets face falling sales and lower margins in a tougher “near stagflationary” environment which could lead to irrational competition for market share, according to investment bank Goldman Sachs.

“Food spend is less volatile but not immune to slowdowns, especially in the current environment of high inflation. Trading down will have negative implications for cash profits,” analyst Sreedhar Mahamkali said.

The verdict hit shares in the sector with Tesco, Morrisons and Sainsbury’s all among the FTSE 100 Index’s worst performers yesterday. Bradford-based Morrisons suffered most with a near 5% fall a day after posting a 66% rise in annual profits.

Goldman added that supermarkets were likely to feel the pressure as food producers pass on inflated raw material costs and volumes fall – lessening appetite for cost-cutting promotions among grocers as well.

“In this context, we believe rational food retail markets will give way to less rational competition and expect companies to battle for volume share.”

The latest figures from market research firm TNS World Panel show Tesco, the UK’s biggest supermarket, coming under pressure from a resurgent Morrisons, which claimed its best-ever share of the grocery market during February after a triumphant Christmas campaign.

The retail giant – which hit back earlier this week with £170m in price cuts – is also looking to clamp down on costs across the business which will involve some job losses, according to trade magazine Retail Week. Tesco, which added that the business would see a net increase in jobs this year, was unavailable for comment.

But Goldman Sachs believes that Tesco is set grow at its slowest rate since the early 1990s as rivals raise their game.

Mr Mahamkali said: “Tesco’s competitors in the UK food retail market are at their best after several years of being in disarray. Morrisons’ promotional push captured the deteriorating consumer at an opportune moment while Tesco lagged behind.”

But the stepping up of the battle between the supermarkets also comes at a time of surging cost inflation for food manufacturers following surging wheat and dairy prices.

Some costs for food producing firms have soared by as much as a third over the past year, putting pressure on output or “factory gate” prices, the Office for National Statistics said.