Safeway Sees Market-Share Opportunities

ELLIOT ZWIEBACH

PLEASANTON, Calif. — Safeway is well positioned to grow market share, Robert L. Edwards, executive vice president and chief financial officer, told the chain's annual analysts conference here.

Given the fragmented nature of the industry, Safeway sees a significant opportunity to achieve profitable market-share gains “because we think the economic downturn will mean continued store closings and accelerated market rationalization over the next few years,” Edwards said.

About 36% of the market share in Safeway's operating areas is controlled by private companies, he said, “and we think the smaller chains are more vulnerable to losing share.

“We also think a number of retailers could exit the market, especially those with limited access to capital — but even for those who can get capital, it's at higher interest rates. And we think those who have declining sales and a low EBITDA margin will see further losses, and many don't have the financial wherewithal to invest in their older store base,” Edwards explained. “With the financial stresses in the marketplace, some of the small competitors are reducing inventory so they're often out of stock; and some have reduced operating hours to lower their labor costs to preserve what EBITDA they have; and among some there have been quite a few management changes, which indicates instability at a number of these companies.

“Some have let store standards deteriorate, which will make it easier for us to gain share, and some are doing less promotions and less advertising, so we think we're very well positioned to possibly gain share. And I think the improving value proposition we have now and the differentiated brands we're offering will play an even greater role as we move forward. And the quality of our real estate assets gives us a competitive advantage, compared with the Grade B or Grade C locations of a number of competitors.”

Safeway also expects competitive openings to decline this year, Edwards said — from a peak of 441 in 2008, when there was easy access to credit, and square footage growth was outpacing population growth; to about 250 in 2009, when companies followed through on prior commitments, “which made the number of openings higher than they should have been,” he noted.

In 2010, Safeway anticipates a 60% decrease from 2008, with openings in 2011 at about the same level, he noted. At least 25% of the openings this year will be small-format stores rather than conventional operations, Edwards added.

Between 2007 and 2009, an average of 115 closures have occurred annually among conventional competitors and niche operators in Safeway markets — a number that increased to 125 last year, Edwards pointed out. “And I think going forward there will be more closures than we have seen.

“If there are 130 closures and we pick up an average of $200,000 a week, that would improve earnings by 12 cents a share,” he pointed out.

Safeway also believes that its lifestyle remodelings over the past five years mean it has the best assets in the industry “by a substantial margin,” Edwards said. “And because of the success we've had in reducing our costs over the last couple of years, particularly in 2009, we think we have materially improved our competitive position.”

Safeway also believes the materials it's using in store remodels and the way it's maintaining the stores will extend the life of those remodels beyond 10 years, compared with the industry norm, which he said is seven to 10 years, “so we think we can be much more prudent with our capital spending while still maintaining a very healthy competitive position on the condition of our assets,” Edwards explained.

In 2008, Safeway's capital expenditures were about $1.5 billion and in 2009, they were a little over $850 million. The chain expects to spend $900 million to $1 billion this year; $1 billion a year in both 2011 and 2012; and then $1.1 billion a year in 2013 and 2014 — roughly $5.3 billion, or 2.3% of sales, over the next five years.

“We've outspent our competitors to date, and to catch up we think they are going to need to spend more money,” Edwards said.

According to Safeway's calculations, one competitor would need to increase spending to about 3.4% of sales and spend about $14.5 billion to bring its store base up to Safeway's level, while another competitor would need to spend about 3.9% of sales, or $8 billion, to catch up.

Safeway also believes its points of differentiation will play an even larger role going forward, Edwards said, including what he termed “the highest buying specifications in the industry,” which enable the chain to offer superior perishables, plus superior customer service and a strong portfolio of consumer brands.

Among those brands, he noted, are O Organics, launched in the first quarter of 2006, and Eating Right, launched in the second quarter of 2007, whose combined sales are exceeding $650 million. The chain's new line of Waterfront Bistro products, launched in January 2009, achieved sales of about $90 million in its first year, he added.

On an SKU basis, sales of Waterfront Bistro are exceeding those of O Organics and Eating Right in their first years, “so we're very excited about the prospects for this consumer brand,” Edwards said.