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LONE STAR SHOWDOWN

As the cliche goes, everything is bigger in Texas. That certainly applies to food retailing in the Dallas-Fort Worth market.Wal-Mart Stores' evolution into a force in food retail looms bigger there than virtually any metro area in the country. Since the Bentonville, Ark.-based mass merchant selected the Dallas-Fort Worth area to experiment with placement of both its supercenter and Neighborhood Market

As the cliche goes, everything is bigger in Texas. That certainly applies to food retailing in the Dallas-Fort Worth market.

Wal-Mart Stores' evolution into a force in food retail looms bigger there than virtually any metro area in the country. Since the Bentonville, Ark.-based mass merchant selected the Dallas-Fort Worth area to experiment with placement of both its supercenter and Neighborhood Market concepts, it has grown to the point where it has not only caught the leaders in market share -- it is pulling away as well.

That's meant bigger threats to national supermarket operators, which are challenged in DFW not only by the pressure to keep prices and costs near Wal-Mart's, but also by the need to differentiate from it. Along the way, big mistakes in previous strategies have been exposed, and big risks in format evolution and operations are being undertaken. There's also a big danger that Texas juggernaut H. E. Butt Grocery will expand its presence in Dallas after success in other Texas markets against the very same competitors.

"Dallas is a market where Wal-Mart's supercenters rule," Perry Caicco, a supermarket analyst for CIBC World Markets, Toronto, told SN. "Their amazing growth has left the local competition in shock."

Specifically, Wal-Mart's gains have accompanied retreating market share for many operators, including Albertsons, Boise, Idaho, which at one time enjoyed a comfortable lead, especially in Fort Worth. Yet today it is left converting some stores to the discount SuperSaver format, and attempting to control costs through labor cuts and technology initiatives.

"I think Dallas-Fort Worth is by anybody's definition the toughest retail market in America," Larry Johnston, president and chief executive officer of Albertsons, said in a conference call last week. "Yes, we're learning a lot there. Quite frankly, it is an interesting laboratory to understand how to compete in a new competitive paradigm where you have a tremendous amount of low price-impact formats in the marketplace. We're learning every day how to become more efficient there."

Pleasanton, Calif.-based Safeway, which re-entered the Dallas market through its purchase of the Tom Thumb chain, stumbled badly when local shoppers rejected changes it made to the one-time local favorite and is now trying to win back shoppers by upgrading stores through "lifestyle" renovations. Rumors of asset sales and market exits trail both Albertsons and Safeway, observers said.

Kroger, Cincinnati, has benefited some from its conventional rivals' struggles, but observers have expressed concern about its ability to truly differentiate.

"One reason why Wal-Mart has done so well in Dallas is because the competition has been particularly weak," David J. Livingston, a Pewaukee, Wis.-based consultant, told SN.

Perfect Storm for Wal-Mart

Wal-Mart's rise to the top of the Dallas-Fort Worth market took around 15 years and, observers said, a set of circumstances uniquely suited to its strengths. These include a growing population with a large percentage of Hispanic shoppers; sprawling real estate with an extensive highway network, creating a development climate favorable for cheap accumulation of large parcels of land; and, relative to other metro markets, a lack of opposition in the form of concerned residents, labor unions or a particularly strong local supermarket competitor.

"Dallas offered the perfect marketing conditions for Wal-Mart to come in and do what they did," Neil Stern, partner in the retail consulting firm McMillan Doolittle, Chicago, told SN.

Wal-Mart today operates 51 food-and-general-merchandise supercenters, 19 Neighborhood Market grocery stores and 19 Sam's Club stores in the Dallas-Fort Worth metropolitan statistical area, combining for overall grocery volume of 22%, according to the 2005 edition of the Grocery Distribution Analysis and Guide from Metro Market Studies, Tucson, Ariz. (The Dallas-Fort Worth MSA includes 11 counties and 5.7 million residents.) The concentration of Neighborhood Market stores has helped fill gaps between wide-drawing supercenters and allowed Wal-Mart to chip away at the advantage of convenient locations that typically belongs exclusively to traditional supermarkets.

"Wal-Mart has continued to add significant square footage to what was already a pretty large footprint," a Dallas-area food broker who asked not to be identified told SN. "Where I live, there's four Wal-Mart units within a four-mile radius of my house -- two Neighborhood Markets and two supercenters.

"They've done a good job keeping them clean and making them just nice enough to meet minimums of shopper acceptability," the broker added. "That's helped them attract a whole new set of consumers. Years ago, I would never have imagined someone from [upscale neighborhoods such as] Highland Park or Southlake going into a Wal-Mart store."

The price-conscious consumer remains Wal-Mart's biggest target, and in DFW, that group includes a fast-growing Hispanic population, Mark Husson, managing director, HSBC Securities, New York, told SN. That complicates efforts of traditional retailers to skew too upscale in their attempt to differentiate from Wal-Mart, Husson explained.

The growing population in Dallas has contributed to sprawling geographic growth, observers added. This suits Wal-Mart because its expansion is tied to the availability of large tracts for new stores. Building those stores tends to generate less opposition in Texas than in other states that might have large union workforces, tight real estate, or both. "Texas has always been a live-and-let-live state," Livingston said. "There are not a lot of hand-wringers worried about Wal-Mart."

While Wal-Mart calls Arkansas its home base, that's closer than the home offices of many of its competitors. Independents in DFW command only small fractions of the market, Caicco noted. "This means that much of the original speculation about supercenters' impact was true: The smaller local players are affected first," Caicco said in a research note. Minyard's, based in nearby Coppell, Texas, is the largest local, controlling around 9.3% of the market, according to Metro Market Studies. However, that chain was sold late last year to an investment firm when its former family owners cited, among other reasons, the difficulty of competing in the market. Ron Johnson, who now runs the chain, told SN in November he felt Minyard's could regain momentum through refurbished stores and consumer research but declined to comment on progress since then.

Faced with these conditions, traditional supermarket operators in DFW today are left attempting to carve out a niche, but the pressure to do so while staying within arm's length of Wal-Mart's prices is tricky and costly. "The opportunity for supermarkets in Dallas is to provide what Wal-Mart is not providing, and that means straightforward branding and brand segmentation," said Husson. "The problem is they have to nod to the Hispanic shopper and the other demographics there, there's so much price pressure you can't be too far away on price, and you've got to be Texan, meaning you have to merchandise right in the store. The barbecue sauce in North Dallas is different than the barbecue sauce in southern Dallas. You have to do all that, and then be special on top of it."

New store development for traditional grocery stores has practically dried up, Bob Ginsburg, vice president of real estate services firm CB Richard Ellis in Dallas, told SN. "The immediate impact of Wal-Mart from the real-estate standpoint is there's been a slowdown in grocery-anchored site development," Ginsburg said. "Albertsons did no new stores last year, Safeway did one new and one relocation, and Kroger did just two new stores in the entire market. We're not seeing anywhere near the expansion we did in the 1990s."

Albertsons' Multitiered Strategy

Despite a presence of 102 stores and market share of around 17% in Dallas-Fort Worth, Albertsons faces significant challenges there, observers said. The chain suffers from poor brand development and has taken a hard hit from discount competition, observers said. "No local grocer is in as precarious a situation as Albertsons in our view," Caicco said in a recent research note.

The company is fighting back on multiple fronts ranging from new format introductions to technology upgrades to aggressive price promotions and massive cost cuts -- efforts Caicco described as designed to "shock treat" life back into the franchise.

Nine of Albertsons' lower-volume stores have been converted in recent months to the SuperSaver extreme discount format, with other conversions rumored. (A spokeswoman for Extreme, the Albertsons division that operates the stores, declined to provide a precise number.)

SuperSaver stores are a "good direction" for Albertsons, Caicco said, because they require only a fifth of the capital investment of a traditional store and have significantly lower costs in areas such as labor. However, he added that the converted Albertsons boxes -- some of which are around 70,000 square feet -- are probably too large than ideal for the vehicle.

"So far, it's just a handful of SuperSavers but the rumor is there's going to be a lot more," a local food broker told SN. "They've started to do a little advertising, which is interesting because initially they weren't. It remains to be seen whether the consumer will associate that brand with good prices and a good shopping experience. It will take time."

Stern said Albertsons' two-pronged retail store strategy is "very intelligent if executed properly, but leaves the question of what to do with the other [conventional] Albertsons stores. They need to upgrade the quality of those."

Albertsons is drawing foot traffic to its conventional stores in Dallas behind an aggressive "check the price" program, which lowered prices on around 150 products to levels that approach Wal-Mart. However, the abundance of area Wal-Mart stores to match in price has made the margin investment a costly one. "Unlike Chicago, where Albertsons only lowers prices in stores that are close to discount competitors, in Dallas it has to be done in every store because it's so easy to travel to a Wal-Mart," Caicco said.

Albertsons has also made modest investments in renovations to certain conventional stores but at the same time has slashed costs for labor. In DFW, according to Caicco, some store managers are managing two stores at once and district managers cover as many as 30 stores. Livingston said spreading store managers thin "is usually a sign that stores will close."

Further cost cutting and a deliberate move to achieve Wal-Mart-like efficiencies could come through the introduction of radio frequency identification tags, which Albertsons is rolling out first in Dallas. The chain also uses technology as an aid in the store experience through the use of shop-and-scan wands, which the company also introduced in Dallas.

Local Hero Wanted

Safeway's plan to introduce cost efficiency, quality and profitable growth to the Tom Thumb chain -- an admirable goal for Safeway when it acquired the chain along with Randalls Markets stores in Houston in 1998 -- went awry when psychological costs of those changes arose unexpectedly. Safeway, which operates 70 Tom Thumb stores in DFW and controls around 13.8% of volume, underestimated the power of local tastes, sources said, and is still trying to recover.

According to local observers, Safeway's introduction of private-label brands in place of traditional Tom Thumb selections -- in particular, dropping Boar's Head deli meats -- was a costly mistake demonstrating Tom Thumb's new owners didn't understand the local market. Kroger summarily scooped up Boar's Head -- a brand that was well-regarded locally -- and a fair amount of Tom Thumb's disappointed shoppers.

"I don't think Safeway did anything that made it worse: The Safeway private brand is actually very good quality and a very good value," Husson said. "But the fact is, it's not Texan, and the retailer really didn't understand the reaction would be as intense as it was."

"Tom Thumb was the local upscale store and when Safeway got involved it went to what I'd consider a more traditional format," added a local food broker. "It was the kind of thing that will push an upscale shopper away from your venue."

Rumors have circulated that Safeway is searching for a buyer for Tom Thumb and Randalls, but the company has not commented. One observer told SN recently that Safeway "has put a price on it and is just waiting for someone to match it." Some speculate that Tom Thumb could provide an entry into Dallas for H-E-B, which has a long record of success in other Texas markets and could provide the "local hero" shoppers here evidently miss.

Kroger has used Safeway's troubles as an invitation to move upmarket in Dallas, but like its conventional competitors, the costs of staying near Wal-Mart in price continue to be a significant challenge. Kroger operates 77 stores in DFW and has 14% market share, Metro Market Studies said.

Kroger operates several "signature" stores in Dallas -- 80,000-square-foot boxes featuring amenities like in-store cafes that aim toward a void of upscale shopping in the metroplex but remain strongly committed to price. Caicco noted, however, that Kroger's stores there tend to be "strong in price programs [and] weak in innovative merchandising," adding that the natural and fresh departments at Kroger stores "give an impression it is not truly committed" to differentiating the shopping experience, and risk losing out on margin-building opportunities they might otherwise provide.

What's Next

The struggles of traditional grocery stores in Dallas point to needs for more consumer research and better commitment to execution, David S. Rogers, president of DSR Marketing Systems, Deerfield, Ill., told SN. "The major chains can't beat Wal-Mart by talking about service and perishables and then not delivering it," Rogers told SN. "In Dallas-Fort Worth, not only do you have to be close to Wal-Mart on price but you really have to execute better. And I mean, really."

In rural Victoria, Texas, such an example was set by H-E-B, which, according to a recent study released by DSR, increased its market share in the 10 years since Wal-Mart arrived in 1994. Nine competitors of H-E-B and Wal-Mart, including Albertsons, closed over that 10-year period, the study noted.

"H-E-B has reacted to Wal-Mart very strongly," Rogers said. "They have a fighting spirit and are focused on the consumer rather than the supplier. Traditional chains could learn an awful lot from them. One day it's inevitable that H-E-B rolls into Dallas with conventional stores and they'll use the 'we're from Texas' pitch."

Though a powerhouse in other Texas cities, San Antonio-based H-E-B has but a small presence in Dallas, operating six Central Market stores and two conventional H-E-B Food Stores in the metroplex, accounting for 2.7% market share. While Dallas appears to be a logical next step for H-E-B, one local observer told SN he doubted such a move was imminent because the chain's first priority is an ongoing battle with Wal-Mart and Kroger in Houston.

The natural/organic niche is still underdeveloped in Dallas, sources said. Aside from Central Market's six stores, Whole Foods Market, Austin, Texas, operates just five locations. Market Street, stores emphasizing fresh foods and service operated by United Supermarkets, Lubbock, Texas, are well-regarded locally, sources said, but just two locations currently exist.

Analysts said the situation in Dallas can provide lessons for other metro areas in Wal-Mart's path, including the importance of devoting resources toward local market knowledge and brand development while keeping a sharp eye on costs and prices. "It's important to do research and make changes in a pre-emptive fashion, before Wal-Mart dominates," Nick McCoy, senior consultant of Retail Forward, Columbus, Ohio, told SN. "What [supermarkets] have to realize in other cities is that whether Wal-Mart is strong where they are or not, it probably will be eventually."

The Dallas market will likely see more changes ahead. "Dallas is a classic situation where somebody's going to end up leaving," Stern contended. "There's too many players and too much competition for it to be a viable market for everybody who's there now."

Dallas-Fort Worth Grocery Market Share

Company: % of Volume

Store Banners (stores in area)

Wal-Mart Stores, Bentonville, Ark.: 21.9%

Wal-Mart Supercenter (51)

Wal-Mart Neighborhood Market (19)

Sam's Club (19)

Albertsons, Boise, Idaho: 17.0%

Albertsons (93)

SuperSaver (9)

Kroger, Cincinnati: 14.0%

Kroger (77)

Safeway, Pleasanton, Calif.: 13.8%

Tom Thumb (67)

Simon David (3)

Minyard's, Coppell, Texas: 9.3%

Minyard's Food Stores(27)

Carnival (24)

Sack n' Save (18)

Costco, Issaquah, Wash.: 3.3%

Costco Wholesale (6)

Brookshire Grocery, Tyler, Texas: 3.3%

Brookshire's Food Stores (24)

Ole Foods (1)

Super 1 (2)

Fiesta Mart, Houston: 3.0%

Fiesta Mart (14)

Target, Minneapolis: 2.9%

SuperTarget (16)

H.E. Butt Grocery, San Antonio: 2.7%

Central Market (6)

H-E-B Food Store (2)

7-Eleven, Dallas: 1.6%

7-Eleven (219)

Supervalu, Minneapolis: 1.1%

Save-A-Lot (19)

Whole Foods, Austin, Texas: 1.1%

Whole Foods Market (5)

Notes: Dallas-Fort Worth Metropolitan Statistical Area includes Collin, Dallas, Delta, Denton, Ellis, Hunt, Kaufman, Parker, Rockwall, Tarrant and Wise counties.

Source: 2005 Grocery Distribution Analysis & Guide, Metro Market Studies, Tucson, Ariz.

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