A penny, a dime, a nickel—that’s how the average shopper experiences higher food prices. It’s like a nibble, steadily eating away at their checking account over days, weeks and months.
This worries guys like Clem Nilan. As the general manager of City Market/Onion River Co-op in Burlington, Vt., Nilan’s job is to ensure the shelves stay stocked with all the natural, organic, locally grown and other foods his shoppers expect—all while keeping prices at a level customers are willing, and able, to pay.
As other natural products retailers know, accomplishing this goal is becoming increasingly difficult. But not only is Nilan dealing with the spike in global food prices that began hitting early last year, he is also still feeling the effects of Hurricane Irene, which last August devastated many of the New England farms that supply City Market. As a result, Nilan has been forced to contend with double-digit cost increases on some items, including recently turkey and milk.
“Sometimes it’s just price creep,” Nilan says. “Then all of a sudden you look and say, ‘You know I had this on sale at Thanksgiving last year and now this is what I’m paying for it wholesale.’”
Sage Horner of the growing natural products retail chain Sunflower Farmers Market says that sudden cost increases in produce posed a challenge for the supermarket chain in 2011. Although the government expects some food price increases to abate in 2012, the cost of beef, chicken and pork continue to stay high.
“It seems to me that we’ve been at almost historic highs in cost in the protein markets,” says Horner, who is vice president of merchandising and supply chain at Phoenix-based Sunflower. “It’s the feedstocks, the grain, the fuel, the transportation, the cold-storage expenses. All of those things have come along and exacerbated some of the cost dynamic.”
Economy elevates food price issue
Higher costs are never welcome news for retailers, but the current economic climate makes the situation even more problematic. Historic levels of joblessness and stagnant wage growth means the typical American household is bringing in about $2,700 less than they did before the recession, according to the Economic Policy Institute. As a result, people are spending an average of 3.1 percent less on consumer items than they did in 2007.
Initially, major grocery chains were reluctant to pass these higher prices on to consumers, choosing instead to absorb the cost, particularly on natural and organic items. Meanwhile, retail prices at natural foods stores were up by as much as 1.7 percent, according to SPINS LLC, which tracks the average “basket price” of products within the natural and organic category.
“Over the last year, prices have been fairly flat in the conventional grocery channel, whereas in natural they’re up about a buck for a basket versus a year ago right now,” says SPINS analyst Mike Addona. But as the hopes of a near-term economic recovery grew increasingly unlikely last year, the supermarket industry as a whole began setting prices this past fall that more accurately reflected wholesale costs.
Overall in 2011, the price of food at checkout went up by between 3.5 percent and 4.5 percent, the biggest jump since 2008. The U.S. government is forecasting a slightly smaller food inflation rate of 2.5 percent to 3.5 percent in 2012. That’s good news, unless you’re a consumer who’s already struggling under the current high prices, says Corinne Alexander, an agricultural economist at Purdue University. “You jump up a price level and you jump up a [another] smaller price level,” she says. “But you look at the combined increase over those years, and it’s substantial.”
According to an opinion poll released by Oxfam International, 31 percent of Americans say they have changed their diet because of rising food prices. Meanwhile, four out of five consumers surveyed by business consultancy Accenture reported feeling concerned about rising food prices. Seventy percent of respondents said they would change shopping behaviors if food costs continue to rise.
How retailers are coping with rising food costs
So how are grocers—and natural products retailers, in particular—dealing with higher food costs? The answer, of course, depends upon their size, customer base and the products they sell.
City Market/Onion River Co-op
As a mid-sized co-op, City Market isn’t big enough to bury sudden cost increases in massive volume purchases or special deals with distributors. And because 25 percent of the store’s products are sourced locally, anything that negatively impacts the store’s regional producers also affects City Market.
“The most significant increases we saw were in the cost of turkeys from our local producers, along with the pine nut and peanut price increases,” says Lynn Ellen Schimoler, the grocery and wellness manager at City Market. “Organic eggs have gone way up,” adds Nilan, noting that the company producing City Market’s eggs is “scrambling with the cost of feed” so much that the price of its eggs just went up another 15 percent.
For City Market, shielding customers from the most dramatic jumps in food costs often just comes down to good old-fashioned “category management.” So in the case of a key item such as eggs, he looks for ways to give shoppers less expensive alternatives if they need to scale down. “You can stay local with eggs and have the local commodity egg. Then pastured eggs. And then organic pastured eggs,” Nilan explains. “If you have a category with multiple items, try to keep some relatively affordable line in there for people looking for value.”
The fact that City Market, the main grocery store for downtown Burlington, also carries conventional products has given Nilan more choices when it comes to offering a variety of price points. For natural and organic food items, belonging to the National Co-op Grocers Association’s group-purchasing program has helped the store get deals usually reserved for the big chains. Nilan says the co-op will promote those products by placing them in high visibility areas. “We just pound the national sales that we get from [NCGA],” Nilan says.
Native Roots Market
Unlike City Market, Native Roots Market refuses to sell any products that can be found in conventional grocery stores—and this, say its owners, has been the key to competing in a price-sensitive market.
“I kicked out Kettle Chips completely, except for the party-size salted chips, because if you can find them everywhere, they’re not going to bring someone here,” says co-owner Matt Runkle. “And worse, customers will go to Target, see it for a $1.50 less, and be like, ‘Wow, Native Roots is expensive!’”
When the store opened in Norman, Oklahoma, four years ago, it was one of the only games in town. Since then, chains such as Sunflower Farmers Market and Natural Grocers by Vitamin Cottage started opening in the area, and Runkle has seen sales decline ➪
by $20,000 a month. “It’s because there was not an advanced grocery game out in this area,” he says. “There really wasn’t that much competition.”
Yet rather than trying to compete by going bigger and cheaper, Runkle and his partners are moving the store in the opposite route by being smaller and even more specialty. In March, Native Roots is opening a 2,500 square-foot shop in downtown Oklahoma City that will give nearby workers and students access to natural food and local products in a convenience-store setting. “[It will be] proper bodega style, where you can come in, snag a quart of milk and carton of local free-range eggs, and be out,” he says.
Sunflower Farmers Market
Live by the price, die by the price. That’s often the advice given to natural foods retailers when it comes to discounting. Cheap food is cheap because it’s cheap. So why try to compete on price when what you’re selling is a premium?
Ten years ago, Sunflower Farmers Market set out to test this theory. Now, with 35 stores in eight states, the company is an example of a natural food grocer that is just as aggressive on prices as the 24-hour supermarket down the street.
This has a lot to do with the fact that Sunflower looks and behaves more like a conventional supermarket chain than the mom-and-pop shops that pioneered the health food industry. This makes sense considering that Sunflower isn’t marketing to people who already shop at natural groceries.
“We’re trying to convert as many conventional shoppers as we possibly can,” says Sage Horner of Sunflower. To accomplish this, the company literally tore a page from the conventional supermarket playbook by distributing weekly circulars in neighborhoods around its stores to promote the latest deals.
So how is Sunflower able to stay true to its motto—“Serious Food … Silly Prices”—in an era of volatile food costs in everything from bell peppers to beef? Much of the company’s strategy relies on finding savings in sourcing, distribution and store overhead costs. “When we see price increases from manufacturers, we just sharpen our pencils and increase our efficiencies so that we don’t have to pass all of that on to our customers,” says JoAnn Baker, Sunflower’s director of natural living. For example, Sunflower maintains a distribution center in Phoenix that allows the retailer to consolidate purchases from certain vendors. “If this saves costs for a particular vendor, they can sometimes pass that on to us,” Baker says. “And then we just distribute to our stores via our own trucks.”
Certainly, economies of scale have granted Sunflower an amount of leverage with suppliers not often seen in the natural foods industry. But Horner is sensitive to any suggestion that Sunflower extracts savings from suppliers by “rolling back” costs. Rather than squeezing the supply chain, Horner says it’s all about selling distributors, manufacturers and wholesalers on the company’s growth plan and ability to sell products to a demographic group that is hungry for healthy food—as long as its affordably priced.
Whole Foods Market
In the first year of the recession, Whole Foods suffered an image problem that can be summed up in two words: “Whole Paycheck.” The nickname reflected consumer perception of the Austin, Texas–based grocer as a purveyor of overpriced, gourmet foods. The company’s sales fell flat in 2009 as consumers directed their carts elsewhere. “Even people with more money don’t like to feel like they’re throwing it down the drain,” says Seth Jason, a senior analyst with Motley Fool. “And a few years ago, there was nothing in that store that looked cheap to anybody.”
But fast forward to today, and even though the economy hasn’t improved much, Whole Foods is currently the top performer among publicly traded grocers, with profits up 31 percent in the fourth quarter of 2011 and sales that continue to beat analyst expectations.
So why the turnaround? Whole Foods co-CEO Walter Robb attributes part of the company’s success to a revamped pricing strategy that de-emphasized gourmet and put cheaper tags on popular items. Really, it’s a strategy employed by all grocery retailers: Take thinner margins on certain key goods such as milk, bread and paper goods to keep shoppers coming in the door. In the case of Whole Foods, the perceived value on core items allows customers to feel like they are staying sensible on price—and maybe, while they’re there, splurge on expensive cheese, upscale shampoo or other discretionary items.
Another factor: Whole Foods’ main customer base—the upper middle class and wealthy—haven’t been impacted by the bad economy nearly as much as the working class and poor. Because of its strong brand as a seller of high-quality natural and organic products, Whole Foods has been able to increase its product prices in recent months without alienating its shoppers. Meanwhile, notes the Motley Fool’s Jason, legacy grocers such as Supervalu or Safeway “have had a tougher time passing along some of those price increases because their shoppers are far more motivated by price points they see in weekend circulars.”
But there is a point where prices get too high, even for Whole Foods’ customers. Many analysts fear that a continued weak economy and further rising food costs could put a dent in Whole Foods’ sales. “We’ve realized that we’ve had to be really careful,” Whole Foods President and Chief Operating Officer A.C. Gallo told investors in November. “We don’t feel like we really want to push those [prices] very much farther.”
Conventional grocers traditionally operate on low margins, and now those margins are getting squeezed even more as middle-income and low-income shoppers are increasingly going to big-box stores such as Walmart, Target and Costco.
But even Walmart, with its notorious purchasing power as the world’s largest retailer, was not immune to food price inflation in 2011. Still, despite a 4 percent increase in its food costs, the company has chosen not to raise prices on certain key grocery categories, such as produce, dairy and meat.
During a conference call with investors in November, Bill Simon, who heads Walmart’s U.S. division, described the strategy as “price investment.” The chain’s decision to hold the line on food prices was made in an effort to boost overall sales but is also an acknowledgement that Walmart’s core customer continues to suffer financially because of “high unemployment and continued uncertainty over the economy,” Simon says.
It appears the discount route may be giving the mega-retailer a slight boost over the competition. For the third quarter of 2011, the chain reported a 1.3 percent bump in U.S. store sales, the first increase in more than two years. Still, choosing not to pass on those costs means the company’s third quarter profits took a hit, falling 2.9 percent from a year ago, below analysts’ expectations.
Regardless, Walmart has reiterated its commitment to make healthier food more affordable as part of First Lady Michelle Obama’s Let’s Move campaign. A five-year plan unveiled by the company in early 2011 involves slashing produce prices. Although the results of these efforts have not yet been quantified in terms of dollars and cents, Walmart Asia CEO Scott Price told analysts in November that the mega-chain believes it will save customers “approximately $1 billion per year on fresh fruits and vegetables.”