Fresh & Easy Neighborhood Market is continuing to evolve, anticipating that profitability and more aggressive expansion are just two years away.
One of the earliest advocates of smaller stores, the Tesco-owned chain plans to unveil a new, even smaller prototype this year that could enable it to move into more pricey urban locations.
It is also poised to enter Northern California next month with a handful of stores scattered around the San Francisco Bay area — its first market expansion since establishing its U.S. roots simultaneously in Southern California, Phoenix and Las Vegas in late 2007.
Company officials predict profitability is only one or two years off, and observers say the company is likely to sustain growth from its existing distribution center in Southern California at least until then before opening a second facility farther north.
Fresh & Easy is definitely on track to turn a profit, Neil Currie, an analyst with UBS, New York, told SN. “Tesco has historically talked about a six-year window in which to reach break-even in every country it's entered,” he said. “However, it tried to move faster when it entered the U.S. and said it would be profitable in three years. But that was before the recession hit.”
Annual sales at Fresh & Easy for the fiscal year ending Feb. 28 are expected to be around $800 million, while the company anticipates a loss of close to $250 million — about the same as last year's loss. However, Philip Clarke, Tesco's incoming chairman and chief executive officer, said he expects Fresh & Easy to turn red ink to black within the next two years.
The ongoing losses — combined with lower sales than the company publicly anticipated before any stores opened — have turned off some industry observers about the chain's long-term success, Currie said. “Many people in the industry and the financial community have written Fresh & Easy off to a certain extent because of the losses and the slowdown in store openings,” he explained.
“But in the last year, it's done extensive work on fine-tuning the format and adding SKUs, and as it moves into Northern California, the stores will reflect those changes and should be able to draw more volume more quickly.”
According to George Whalin, principal at Retail Management Consultants, Carlsbad, Calif., “Tesco is always tweaking its stores and fine-tuning them. They are very smart retailers, and they don't make many mistakes, but they're always willing to change what they do to meet the needs of their customers.”
Fresh & Easy entered the U.S. on the cusp of the recession, with big plans for growth and rapid success, but those aspirations took a hit when the economy slowed down in 2008. As a result, instead of opening 200 stores in its first year, with sales estimated to reach $2 billion, as it originally projected, the company is operating 159 U.S. stores, with five more scheduled to open in Southern California before Tesco's fiscal year ends.
The company said its goal now is to have more than 400 stores open by early 2013.
EVOLVING LAYOUTS
Currie said he expects Fresh & Easy to make significant changes in store layouts going forward. “Given the popularity of its fresh offerings, Fresh & Easy will continue to promote more cross-shopping between dry groceries and perishables.
“For example, instead of grouping perishables on one side of the store, as it does now, the new layouts will relocate them to each corner — creating a series of ‘hot spots’ in the store — which will remove barriers to exposing people to more non-perishable products and encourage them to shop the entire store more,” he explained. “So Fresh & Easy is still an evolving format.”
The biggest evolution will be the move to reduce the chain's 10,000-square-foot standard-sized footprint by at least half — to a 4,000-square-foot to 5,000-square-foot box — Currie noted.
According to Brendan Wonnacott, spokesman for Fresh & Easy, based in El Segundo, Calif., there is no timetable for opening the first of the smaller stores. “The size of the stores we open depends on what's available,” he explained. “The footprint is purely location-driven. We've already started to look for smaller sites, but it's too early to say when the first one will open.”
Industry sources said the smaller prototype will give Fresh & Easy the flexibility to move into urban locations with higher rents while keeping within the strictures of its capital program.
“Tesco's business model has restrictions on the amount of capital to purchase and lease store locations,” one observer said. “Being able to build or lease locations [of a smaller size] means Fresh & Easy can get into neighborhoods with high retail commercial real estate costs because the costs for stores half the size of existing markets generally fit into the business model.”
Mike Griswold, research vice president for Gartner Inc., Boston, told SN the smaller footprint will open up opportunities for more locations in more neighborhoods. “What this move to a smaller format tells me is, the company may be changing its philosophy about trying to be a location for full shopping trips — which I don't think is how consumers see it — to become more of a daily stop-in shop like you would see in downtown London.”
According to Whalin, the smaller prototype is a necessity, particularly in California. “California is a great marketplace for any good retailer, but getting good real estate in desirable locations is tough, particularly in urban areas. There aren't a lot of 10,000-square-foot spaces available in some of those areas, so it's a necessity to go smaller.”
Suzanne Long, retail practice leader for SSA & Co., New York, said the smaller footprint will provide a better format for neighborhoods that don't have easy access to a traditional grocery store, particularly population-dense urban locations in major California cities.
“Fresh & Easy has been less successful in places like Phoenix, where everything is very spread out, and Las Vegas, which is already pretty saturated with larger-format supermarkets, because if people can drive, they are more likely to go to a larger store with more variety.
“But in areas where people want to get in and out quickly and find something to take home for dinner, Fresh & Easy should do very well with a smaller store.”
Most standard-sized Fresh & Easy stores carry between 4,000 and 4,500 SKUs, and the new prototype is likely to carry almost as many, observers said.
By making the shelves less deep, stacking merchandise higher, narrowing the aisles and reducing the number of product facings, Fresh & Easy believes it can operate the smaller prototype with just 80 or so fewer SKUs than in its standard-sized units, with sales likely to be comparable, they pointed out.
The smaller stores are likely to focus more on perishables — “that's where the chain is getting the best feedback,” Currie indicated — with the SKU cutbacks coming in the grocery sections, the observers added.
“If the smaller stores carry a similar range of product and can be located in urban areas with higher foot traffic, then Fresh & Easy could achieve higher sales per square foot at the smaller stores,” he said.
Sales at Fresh & Easy range from $9 per square foot per week up to $30 at some locations, Currie noted, “which would put its best stores at $300,000 a week, or between $15 million and $16 million a year.”
However, Fresh & Easy's long-term success could depend solely on picking the right locations, Long noted. “It doesn't really matter if 60% to 70% of your stores are profitable because the 30% to 40% that are not will drag you down,” she said.
ROOM TO GROW
Currie said he doesn't anticipate Fresh & Easy will move much beyond the California-Arizona-Nevada nexus in the near future. “California is a big place, and once the company manages the transition into Northern California, there will be a lot of opportunities to backfill to get stores closer together and really leverage the distribution.
“Ideally, Tesco would like to see the U.S. stores located about three miles apart.”
Overall unit growth this year will be distributed across Fresh & Easy's entire operating area, with the concentration more likely throughout California, sources said. Currie said the company could open at least 50 stores in 2011. “It already has the leases for them,” he noted.
However, it is likely to delay opening a Northern California distribution center until its overall business is more stable, he pointed out.
Fresh & Easy already has selected a site in Stockton for its second distribution center. But Currie said he believes the company will rely solely on its 1.4 million-square-foot facility in Riverside for the foreseeable future.
“It will stretch the Riverside facility as much as possible as it moves into Northern California,” he said. “Once the company breaks even, that's when it's more likely to accelerate expansion and open a second distribution center.”
The Riverside facility handles both dry groceries and fresh products; the Stockton facility is likely to handle only dry groceries, Currie said.
Fresh & Easy's 108 stores in Southern California (with five more due to open there this month) tend to do better than the 29 locations in Phoenix or the 22 in Las Vegas, Currie said, “because there seems to be better acceptance there for these stores — plus the fact Phoenix is experiencing real economic difficulties and Las Vegas is seeing population shrinking.”
According to Whalin, “Most of the Southern California stores are in neighborhoods where it's able to serve customers who don't want to shop a 40,000- or 50,000-square-foot supermarket — households with one or two people that don't need to shop for big orders and who enjoy the packaged meals and fresh food offerings.
“Since Fresh & Easy does well in Southern California, there's no reason to think it won't do well in Northern California.”
Currie said he agreed that, given the predilection of Southern California consumers for Fresh & Easy, the chain should be able to catch on with Northern California shoppers as well. “There's less competition there than in Southern California, and that may give Fresh & Easy an opportunity to demonstrate its lower pricing to a greater extent.”
Fresh & Easy, which originally announced plans early in 2008 to open 18 stores in the Bay Area and 19 more in the Sacramento area in 2009 — plans that fell victim to the recession — will enter Northern California next month, with eight stores scheduled to open in March and April. The company has not released a schedule for store openings beyond April.
URBAN LOCATIONS
To Long, the move to Northern California is logical “because there are a lot of opportunities there for urban stores, which is where Fresh & Easy should do particularly well.”
How successful the chain will be in Northern California may depend on how well it communicates its positioning, David Bishop, managing partner with Balcor LLC, Barrington, Ill., told SN.
“With many consumers today seeking greater value, which most would define as price, that's what Fresh & Easy must offer to present itself to prospective shoppers — positioning itself as a sort of hybrid between a hard discounter like Aldi and a gourmet treasure-hunt operator like Trader Joe's.
“It has to expound on its price message to communicate its overall value equation.”
Because the name has no brand equity in Northern California, Fresh & Easy will be starting from scratch, as it did in Southern California, Phoenix and Las Vegas, Bishop pointed out. “The difference is, it has learned how to enter a U.S. market and how to articulate its position and gear its offerings to meet consumers' expectations,” he noted.
Asked about Fresh & Easy's impact on competition, Griswold said, “I think its performance has been solid, but talking with many California grocers, they indicate the stores have not had a significant impact on their business.”
Long said she believes Fresh & Easy has had more impact on restaurants during the economic downturn than on supermarkets.
For Currie, Fresh & Easy is like “a stealth bomber because it's taking something away from everybody, even if they don't notice it, because obviously it's getting sales from somewhere.”
