SN FINANCIAL ANALYSTS' ROUNDTABLE -- PART TWO

NEW YORK -- Wholesale distributors are in the midst of carving out a new niche for themselves in the industry, a panel of Wall Street executives said here at SN's annual Financial Analysts' Roundtable.

nd they have to be particularly good at whatever they're doing. And as part of the effort of individual wholesalers to identify a niche in which they can compete and make money, they'll have a good deal of effect on the retail business -- either by buying stores, selling stores, partnering with different chains and the like -- and they're going to be very interesting to watch."

The future of wholesaling was one of several topics discussed during the roundtable. Other topics included on-line retailing, business-to-business exchanges and meal preparation. SN ran the first part of the roundtable discussion in last week's issue.

According to Mark Husson, first vice president, Merrill Lynch here, wholesalers who develop a variety of services become "a food marketing company, which is what the big retailers are becoming, and not a food distributor, and (they'll) let somebody else hold the assets in distribution and own the trucks and own the warehouse employees."

Jonathan Ziegler, San Francisco-based managing director for Deutsche Banc Alex. Brown here, said he agreed that offering outsourcing services is the future of wholesaling. As the number of wholesalers and independents erodes, wholesalers "will have to form virtual chains of those independents. They'll have to invest in the same technology, the same Internet capability, the same World Wide Web exchange as the chains and be able to keep (their customers) state-of-the-art, develop private-label programs, develop frequent shopper card programs -- all to keep those independents healthy."

Debra Levin, principal, Morgan Stanley Dean Witter here, said wholesalers could also play a significant role in the development of on-line retailing. "If on-line companies really take off, they will need the wholesalers," she said.

Roundtable participants said they believe on-line grocery retailing has a promising future.

"It's easy to dismiss a new business model you don't understand," Ed Comeau, vice president, equities research, Donaldson Lufkin & Jenrette here, said. "But it's a new business model, and these guys can max out with 2% of the market, or maybe 3% or even 4% in a small market -- they don't have to capture a 15% market share in order to make a return."

Ahold USA, Chantilly, Va., got involved in on-line retailing earlier this year by acquiring Peapod, Gary Giblen, director of research at C L King Associates here, pointed out; and Safeway, Pleasanton, Calif., has formed a partnership with an on-line grocer after virtually dismissing the need to get involved only a few months earlier, Comeau said, and it would be a mistake for other retailers not to get involved.

According to Ziegler, "Safeway and Albertson's are looking at (on-line) strategically, but I don't think the cost of the [potential] losses is going to affect their earnings. I've got to be optimistic that if the customer likes it, you've got to run with it."

Kroger, which is not aligned with an on-line retailer, is on the verge of falling behind, Comeau said. "They'll put their toe in the water, but so far they're very skeptical. But that will change."

Pure on-line players would also benefit from partnering with supermarkets, Bernstein said. "You have to have those kinds of synergies to make it work. The idea of somebody calling up or logging in on the Internet and ordering groceries from someone who isn't already in the retail business is a tough proposition," he said.

In other roundtable highlights, analysts made these comments:

On B2B exchanges: Husson said Ahold has indicated it can save 100 basis points on the cost of purchases by participating in one of the exchanges, although he said the company declined to indicate how much of the savings is process-driven and how much is purchase-driven.

According to Comeau, smaller companies that invest in technology and join one of the exchanges have the potential to "leapfrog from being nowhere to being able to get a lot of advantages that Kroger and Albertson's and others are going to enjoy from building the exchange."

On in-store meal solutions: Supermarkets must still find a way to make the economics feasible, Meredith Adler, senior vice president, Lehman Brothers here, said. "You'd like to think there's still an opportunity to take share back from the restaurant industry, and it's very enticing to food retailers, but I think the economics has not proven this is something you do easily."

Lisa Cartwright, vice president, Salomon Smith Barney here, said supermarkets might find profits easier to come by if they follow the Whole Foods model in their prepared foods sections. "At Whole Foods it isn't like going into a supermarket," she explained. "You walk into the store and there's the deli counter up front. Everything you need is right there, the menus change often, the food is great, there's a separate checkout and you get in and out in five seconds."

On merchandising trends: The addition of organic and natural foods sections to traditional supermarkets has prompted specialty chains like Whole Foods and Wild Oats to become more mainstream while enabling supermarkets to pick up more traditional shoppers, Giblen pointed out.

Husson noted that private label is still a growing category in the U.S., though some overseas operators have backed off the category somewhat.

Following is a transcript of the second part of SN's roundtable:

WHOLESALERS FOLLOW NEW PATHS

Wholesalers must adopt a variety of approaches to doing business if they hope to survive, the analysts said.

SN: Many observers believe that independents in this country are increasingly relying on wholesalers more and more. What are the longterm implications of traditional wholesalers becoming more retail-oriented?

TED BERNSTEIN: I actually think wholesalers are going to be the catalyst for a lot of activity that goes on in supermarket retailing because they must have a reason to exist. They have to have a niche. They have to be particularly good at whatever they're doing. So I think that you'll see a pure-play wholesaler like C&S being particularly good on the wholesale front and particularly good at partnering with retailers, as they've done with Pathmark and with Safeway in the mid-Atlantic states. Other activity in the wholesale sector is going to come from a company like Fleming that's decided conventional retail probably isn't what it wants to focus on. They want to be a value-oriented retailer, but first and foremost they want to be a wholesaler.

So what I'm saying is that as part of the effort of these individual wholesalers to identify a niche in which they can compete and make money, you're going to see them having a good deal of effect on the retail business, either by buying stores, selling stores, partnering with different chains and the like, and I think they're going to be very interesting to watch because they're going to be doing a lot.

DEBRA LEVIN: If the on-line companies really take off, they will need the wholesalers. I don't know that it will necessarily be perceived as a saving grace, because everyone expects traditional retailers to participate on-line in a fairly big way over time, but certainly a company like Webvan is dependent on wholesalers going forward.

SN: So there would be different models for wholesalers -- the traditional model C&S is following, Supervalu going into retail, Fleming into price-orientation and all of them serving the e-commerce companies?

BERNSTEIN: Yes, to the extent that dotcoms make it.

MARK HUSSON: I think we need to point out that, certainly for investors, "wholesaler" is a dirty word. A wholesaler is a middle-man. But I think what Supervalu has done, and what Fleming is increasingly doing, is to stop being a middle-man, stop being a wholesaler and start being an outsourcing company, where people can actually outsource bits of logistics. What's important is to have a menu of different things-- not different structures and companies -- but a menu of different services, so that somebody like Safeway can buy just trucks and case movement, and a smaller retailer can buy a promotional program, advertising, private brands or a whole host of things that they can't do themselves. But everything has to be priced appropriately because the large food retailers certainly aren't going to subsidize the smaller retailers by accepting some kind of big bundled price. They want to pay only for what they're getting because they know very clearly how much it costs for themselves. So in that sense, you can be a food-marketing company, which is what the big retailers are becoming, and not a food distributor, and let somebody else hold the assets in distribution and own the trucks and own the warehouse employees, in which case outsourcing is increasingly viable as a business model.

JONATHAN ZIEGLER: And it really makes sense, because your additional investment -- your return -- is really huge. You can price on the margin. And I think what's going to happen is the independents will gradually erode until you get down to about four strong wholesalers who will remain, and what those wholesalers will have to do is form virtual chains of those independents. They'll have to invest in the same technology, the same Internet capability, be in the same World Wide Web exchange as the chains and be able to keep those guys state-of-the-art, develop private-label programs, develop frequent-shopper card programs -- all to keep those independents healthy. And they'll also need to go into retail, as Supervalu is doing with some fairly exciting concepts, and be able to leverage their buying power and get bigger themselves.

SN: Where does C&S fit in?

BERNSTEIN: C&S is exactly what Mark is talking about -- it's a logistics company. They are selling logistics expertise and doing it very effectively. But going back to your question about whether wholesalers will be the saviors of the small independents -- I think that, increasingly, the answer is no. Fleming is an excellent case in point, an excellent case study. The margins in this business are so low in just pure wholesale distribution that to go out and make investments to prop up customers is a no-win proposition. The current management at Fleming, much to its credit, has recognized that the company made investments in the past in some chains -- either bought them outright or gave them credit support -- that really weren't viable, and the reason they weren't viable is because they weren't good chains and there wasn't a reason for them to exist, and I think the industry has recognized that isn't a viable strategy. So the short answer to your question is no, wholesalers aren't going to be the saviors of the independents.

GARY GIBLEN: C&S, I would say, is the very specialized business model that exists in the Northeast, and their largest value-added offering, maybe even more than just logistics, is non-union operation and low cost of operation. I guess they've taken on some union operations in the course of adding some new customers, but overall, they just have some unusual advantages in the area of cost of goods that have not exactly been replicable. You don't see them going outside to new market areas, so it's kind of a special situation.

Then you have the outsourcing firms, like Tibbett & Brittain, which operates under different names. That actually is a savior to the chains. It's a way that the chains can get competitive in distribution without necessarily giving business to Fleming or Supervalu -- they can just outsource their existing operations to a third party, which segregates that operation from the rest of their operation and offers some logistics and labor advantages.

SN: So you see more large retailers doing less distribution themselves and going more to third parties?

LISA CARTWRIGHT: Not doing less self-distribution but simply outsourcing some of the functions.

GIBLEN: They'll still buy for their own account ...

CARTWRIGHT: ... while the outsourcers might handle the systems or truck management.

GIBLEN: The outsourcers hire the people and run the trucks and all the areas where you can run into difficulties with local operations, including possible work stoppages in one region that a third party can segregate.

LEVIN: Another point to consider is this: the more pressure there is on the independents and the fewer of them there are, the more important retail is for wholesalers. Even though Fleming is exiting its conventional retail, they're still going to focus on the value retail. Supervalu is still focusing heavily on retail, and I expect them to grow that as well. Retail is going to be an important element for all the major wholesalers out there. And we still could see some more consolidation among wholesalers because there are still some smaller wholesalers out there.

SN: So where are the independents going to go, or how are they going to survive?

GIBLEN: That gets to the retail format. Supervalu has perfected Save-a-Lot, and that's a great vehicle for independents, as well as corporate stores where they want to do it that way, like Cub.

SN: So in 10 years or so, there won't be a Bob's Market or a Tim's Market and other small groups of stores?

GIBLEN: Well, there might be stores called Bob's or Tim's, but they will really be a Save-a-Lot, cookie-cutter type of thing

ON-LINE PLAYERS FINE-TUNE HOME-SHOPPING STRATEGIES

On-line shopping will eventually be profitable, though the industry is still trying to come up with the right business models, analysts said.

SN: Let's discuss the on-line grocery sector and its prospects for the next 12 to 18 months.

LEVIN: You know, the interesting thing is that a lot of companies think the demand is there, and it depends how you define it, but the issue is, how do you get a strong return on your investment? And nobody has proven they can do it profitably yet, even though there's been quite a lot of growth in the business -- although I believe ultimately on-line will prove to be a profitable business.

ZIEGLER: Well, Tesco [in the U.K.] says it is profitable.

MEREDITH ADLER: They also charge a delivery fee, which in the U.S. has not proven to be very well accepted by customers.

LEVIN: Yes, the companies are pretty unanimous that they can't charge a delivery fee.

ADLER: Right. Yet for some reason, it works in the U.K.

ZIEGLER: The word-of-mouth you get in the Bay Area, and I understand in Atlanta as well, is that Webvan is just dynamite. And buying Homegrocer was probably a very wise idea [for Webvan] because I think it gives them another model to hit their markets with at a lower cost structure, and if they can get the market share, they can shift over to the Webvan formula.

BERNSTEIN: So the demand is there, but people's willingness to pay for it isn't?

LEVIN: To be successful, you need the population densities.

BERNSTEIN: Absolutely. Supermarket retailing is a pretty low-margin business, and to tack on this added value for nothing just doesn't work.

ED COMEAU: Have you done an analysis on that?

BERNSTEIN: No.

COMEAU: So you don't know that.

BERNSTEIN: I know that in terms of actually getting product to the consumer, until they can ship it through the telephone wire to your computer and have it pop out of your printer or something, I think it's a pretty tough proposition.

COMEAU: You've got to build a distribution center. You've got to pay rent. A new store in a new market loses money for two or three years. I think what people forget is that this is a brand new business model. We don't know what the capacity is. We don't know what the productivity inhibitors are. I think one thing that will get tested in the next 12 to 18 months will be the entry of probably three or four companies into 15 new markets. Regarding Jonathan's point, surveys were done pretty extensively in both San Francisco and Atlanta, which found that everybody loves this service, so I don't think demand is an issue. In terms of the economics of the model, based on the work I've done, I think the returns on invested capital, which are very high in the grocery industry, are good in the on-line sector, and I think demand will be there. It's a big new channel that's opened up. Someone could have come into this room 20 years ago and said, "I've got an interesting business model for you -- a 100,000-square-foot store, 2% EBIT margin, 4,000 SKUs, and you've got to pay $35 to shop there," and you'd have said, "That's the craziest load of crap I've ever heard in my life," and today it's a $100 billion warehouse club business. So it's easy to dismiss a new business model that you don't understand, but most people are doing the concept a disservice if they think only that these companies went public at the right time from their standpoint, but at the wrong time from the public's standpoint. But it's a new business model and let's see what happens. Ahold is not sleeping on this and neither is Safeway.

BERNSTEIN: The point is, there has to be a partnering, like a Peapod and an Ahold, to make it work. You have to have those kinds of synergies to make it work. The idea of somebody calling up or logging in on the Internet and ordering groceries from someone who isn't already in the retail business, and having that company expect to make money by providing that service, is a tough proposition.

LEVIN: But if you think about Webvan saying they're adding all different types of SKUs, just the way the traditional grocers evolved, then there are even more opportunities for them to serve individual businesses. I mean, where on-line grocery is today vs. where it is five years from now could be dramatic.

BERNSTEIN: Plus the Web sites are going to be a lot better and easier to use.

ADLER: And access is going to be easier. We are talking about a technology in terms of access for the consumer. The only thing I would say about timing is that you haven't even really seen what broadband can do.

COMEAU: These guys can max out with 2% of the market, or maybe 3% or maybe even 4% in a small market, before they've got to develop a second market. So Webvan or GroceryWorks doesn't have to go in and capture a 15% market share in order to make a return, but just a relatively small share. From that standpoint, I think you could make the case that even if Internet use remains small, which it's not now, or its growth is retarded, which it won't be, you can still make a case there's a very, very large market for on-line retailers to serve, both in terms of the active Internet users and enabled households, as well as the size and number of markets that are out there.

LEVIN: I was just saying there's more for us to learn as more things happen.

COMEAU: I agree. The way things are done in three or four years will be a lot different than the way they're done now. But as I said, I think it's a mistake to dismiss the business model or proposition. I think it's correct that we don't know who the winners are going to be, but it's wrong to say this is a channel that will never work.

WILL BRICKS BECOME CLICKS?

Traditional retailers -- even those not yet involved in on-line retailing -- will need to get into the business and partner with on-line companies to get it right, the analysts told SN.

GIBLEN: Do you think Steve Burd [Safeway chairman, president and CEO] is looking at this sector a little narrowly, saying that nobody can compete with an existing chain like Safeway that already has an infrastructure and buying power? He's really making a pretty strong statement that Webvan won't be competitive.

COMEAU: It's very much in his interest to cut the knees out of it from a capital-market standpoint because these on-line companies need financing. Steve did describe on-line retailing less than a year ago as "a small niche market, somebody else's customer, not really anything to worry about," yet within one quarter, he's changed 180 degrees.

SN: Albertson's hasn't partnered with anyone on this. What do you think about their approach, to this point?

COMEAU: It represents the limitations of a brick-and-mortar retailer to aggressively go after on-line retailing, and it's a mistake for them not to partner with somebody because they've got to keep it on balance sheets and make earnings.

SN: Is Kroger making a mistake by not getting involved?

LEVIN: I think Kroger ultimately will get involved, if not because of Webvan in the Atlanta market, then because Publix is going to do it. And looking at major competitors like Safeway and Albertson's, there's motivation there, and Kroger is increasingly taking it more seriously, but they're just not ready to say what they're thinking about doing yet.

HUSSON: I think in the greater time scale of all this, Kroger would say, "We're just getting to understand what the business model is and how it all works." They're taking some time, trying to experiment with business models and to get inside the numbers. We've all done back-of-the-envelope stuff to try and work out how the business model works, and you've got people at Kroger on that fulltime. They've done home delivery in the Denver market during the last 10 years and never made a penny down there, and they've had relationships with Peapod, so it's not like they've been doing nothing.

CARTWRIGHT: Well, they're a little bit behind, though.

HUSSON: In the greater scheme of things, you're talking about something that has a market share of 0.0001% now. A bit behind now? Now is a good time to be behind. When it's got a 6% share, that's a bad time to be behind. Kroger is behind right now, but it doesn't matter. Four months ago, Safeway didn't have a strategy.

GIBLEN: Ahold has spent a lot of money in past years on this, and yet they still thought it was worthwhile to buy Peapod and experiment some more.

CARTWRIGHT: But Safeway clearly leapfrogged Kroger by getting in sooner.

HUSSON: It's just so early. The proper judgment will be in three years' time, when we have one of these roundtables and say, "Did Kroger get there or not?"

CARTWRIGHT: Yes, but it came on pretty strong and pretty quickly, and Kroger now has no option in terms of buying an existing player.

ZIEGLER: Yes they do. There are a number of others out there.

CARTWRIGHT: But not of the right size. By missing GroceryWorks and missing Homegrocer, they have a few small, East Coast, one- and two-market operators available to buy.

COMEAU: They'd have to find a start-up company. There are strategies they could employ to get in the game.

CARTWRIGHT: That's what they're going to have to do.

COMEAU: I think they're on the verge of falling behind. As to Mark's point, Rodney McMullen [Kroger CFO] is spending all his time on this, and I think they'll have something to announce soon. They'll put their toe in the water, but the read so far is that they're very skeptical. And I think Joe [Pichler, Kroger chairman and CEO] in his heart doesn't think it's a real business. But that will change. He'll get on board.

CARTWRIGHT: I agree with that, and I think that's why, to a certain extent, they're a little bit behind Safeway in terms of their mind-set.

COMEAU: When Kroger pencils out the numbers on an on-line grocery business and what it's going to do to their operating returns, they can't get there unless they take baby steps like Albertson's is doing. So that's the conundrum they have, and that's why they're probably well-suited to make an investment in one of the small guys or a start-up company.

ADLER: It isn't clear that the market, at this point, will reward companies that experiment, particularly those who have just done a major merger.

CARTWRIGHT: It's a double-edged sword.

COMEAU: That's the other conundrum -- what happens to their stock? There's no good answer in the near term for what any of these brick-and-mortar guys do, because if they get into it, it's a problem, and if they don't get into it, it's a problem.

ZIEGLER: Ed's point is well-taken. Hannaford was punished for having Home Runs [home-delivery service] and the losses that occurred, even though it was one of the greatest names I ever heard of. Give them kudos for that. But then Whole Foods looked at on-line and said, "We're going to start up WholePeople.com," which turned out not to be a workable Web site, but it came up with a creative capital structure for it to keep the losses off the balance sheet and got punished severely for it and then had to buy their way out of it. So Wall Street isn't really condoning or rewarding companies for experimenting right now.

LEVIN: Wall Street is not rewarding anyone for its efforts right now, and the bigger picture is basically under pressure.

ZIEGLER: I think some managements look at Wall Street a little too much and probably need to invest more strategically. I think that's what Safeway and Albertson's are doing, looking at it strategically. I don't think the cost of the losses is going to be so major that it's going to affect their earnings. The word of mouth on the Webvan story is that the Homegrocer acquisition made a lot of sense for them. So I've got to be optimistic that if the customer likes it that much, you've got to run with it.

COMEAU: At the end of the day, it's a $450 billion business, and people hate grocery-shopping, there's just no two ways about it.

BUILDING THE B2B NETWORK

The exchange of better information on a global basis will enable retailers to lower their costs, if B2B exchanges prove to be as successful as their members expect them to be, analysts pointed out.

SN: What about the other side of the electronic commerce coin? We've seen a lot of B2B exchanges pop up within the last half-year or so -- what impact are they going to have on the industry, and how quickly is it going to happen?

ADLER: There's a pretty long list of things I think these companies want to see accomplished out of B2B, some of which will be easy to do, some of which are going to be much more challenging. In my view, the big dollars will come from improving communication with vendor partners. But you don't just snap your fingers and have great communications on all the issues, some of which are very difficult. Some of the stuff, like reverse auctions for shelving or plastic wrap, is going to be pretty quickly realized because it's not difficult. And if they get standards in place in terms of what transactions should look like, you will probably see some benefits of moving away from EDI [electronic data interchange] toward using the Internet as a basic way of doing these transactions, and that should save some money, too.

SN: The companies involved in B2B exchanges talk about "a total transformation of supply-chain transactions and a complete reworking of the terms of the industry." Now you're talking about "some benefits here, some benefits there."

LEVIN: Not one company has been willing to quantify the savings, even though they've all been very enthusiastic and optimistic. There are quite a number of areas of savings you could look for, whether it's savings in transaction costs for procurement or savings for procurement of supplies that are not for resale or better work with vendors to reduce inventory. But it seems to me that to really get the maximum benefits, it's going to happen over years, and it's going to be small. It's going to help the companies, it can be additive to earnings, it can improve efficiencies, but it's not as if you're going to take the earnings growth rates of these companies and see them jump up.

GIBLEN: It's like ECR [Efficient Consumer Response] for the new century.

LEVIN: With a better chance of success.

GIBLEN: But nobody quantifies it. When you ask for anecdotal examples, it's always, "Well, we save a penny on garbage or plastic bags" -- always the same trivial example.

HUSSON: I'm surprised that Cees van der Hoeven actually put a number on it -- he said it's 100 basis points off the cost of purchases.

ADLER: Is that everything?

HUSSON: Some is buying-driven, some is process-driven, but he declined to comment on the split. I suspect that most of it's going to be buying-driven in the near term and process-driven in the long term. I think for management there's credibility being invested here, and some of the very top guys are involved in trying to mold this thing so that it suits the companies that are the first movers. So the likes of Kroger, Carrefour and Safeway are involved in trying to make this thing as user-friendly as possible at this very young stage.

ZIEGLER: Possibly all these Web exchanges -- and I don't know how many there are but there are dozens of them -- are going to have to merge someday, and we'll probably have something like the Betamax-vs.-VHS situation, and it's not going to be as productive as it will if they can get onto a common system and everybody can talk to each other. COMEAU: Actually they don't have to be merged -- they actually can all be made compatible so that if you're Procter & Gamble, it doesn't matter which exchange you're on.

HUSSON: The growth of exchanges is bringing in other exchanges as well, so eventually you're going to have fish.com and produce.com, and they'll all feed into one big stream.

ZIEGLER: But it's all premised on communication, and therefore you've got to be able to communicate in a common language.

COMEAU: It's actually an interesting debate whether or not this widens the gap competitively between, say, Kroger and some little regional chain or whether it actually narrows the gap. It's hard to know. Intuitively, you'd say it widens the gap of the big vs. the small. But these are open exchanges, so if you're a 20-store chain, you could put a little investment in technology that you didn't have and you could actually leapfrog -- not leapfrog Kroger, but leapfrog from being nowhere to being able to get a lot of advantages that Kroger and Albertson's and others are going to enjoy from building the exchange.

SN: Is there an advantage for the first movers in this enterprise?

HUSSON: I think so. I used to think this was going to be a rich man's club, but I don't think that anymore. It's a come-one-come-all -- all you have to do is show up.

LEVIN: But if you don't show up, then you're at a disadvantage.

ZIEGLER: Wal-Mart's not showing up.

LEVIN: Well, Wal-Mart has the size and scale and the technology investment.

CARTWRIGHT: They have Retail Link, which is one of their proprietary systems.

ZIEGLER: But what it's showing, I think, is that this industry is becoming as information-based as any industry out there. As much as moving products, they have to move information, and I think that's going to be given much heavier weight and make the industry much more streamlined in how it does business. So you can visualize all kinds of opportunities from these exchanges, once they get them up and running.

HUSSON: I think one of the reasons why people are loath to quote a number, particularly on the purchasing benefits here, is so they don't have the FTC sniffing around this whole thing. They've emphasized process efficiencies and so on, and right now they've got armies of lawyers working on whether or not these reverse auctions are actually legal.

MEALS-TO-GO STILL WORK IN PROGRESS

If supermarkets hope to succeed with meals-to-go, they must provide attractive departments with a variety of offerings in convenient locations and with a dedicated checkout counter, analysts said.

SN: What are some of the other trends that we may see?

LEVIN: I think there's an emphasis on perishables, certainly. Especially as the alternative formats proliferate, one of the traditional supermarket's real core competencies has to be perishables. And "home-meal replacement" has sort of become a bad word, but what's really important is serving the perishables market with timeliness and convenience, whether it's fresh food, or making sure you've got frozen food on endcaps and being really there for the customers.

SN: Why has HMR become a bad word?

BERNSTEIN: It's not the acronym du jour at this point.

LEVIN: I think there's been an issue about how profitable these programs have been and how effective they are. They still have to be fine-tuned. You have to get the right amount of product and the right product mix.

ZIEGLER: Meal solutions -- that's the buzz word. HMR is something that makes a lot of sense, but they've got to work out the economics of it, and it's still early in the process.

ADLER: There isn't any doubt that if you look at the restaurant industry, you'd like to think there's still an opportunity to take share back. I think that's very enticing to food retailers, but I think the economics have not proven this is something you do easily.

CARTWRIGHT: Well, they haven't figured it out, though obviously some people are making money at it.

HUSSON: Store-based preparation has got to be wrong -- not just because the backrooms are so small but also because the risk in terms of health and safety is so high. But it's not impossible to do -- just look at Loblaw in Canada. Loblaw is a highly profitable company with more extensive home-meal replacement than anybody in the U.S. It's just that the Canadians have used it for longer, and Loblaw is used to actually making the meals, using commissaries and outside resources with the right specifications the entire time, and they've got more of a private-brand culture. So they identify their brand much more closely with the product they're selling on a day-in/day-out basis and wouldn't tolerate anything that's sub-par. And once you've got that whole thought process working and when the customer gets used to it, then I think it can be highly profitable.

CARTWRIGHT: It's still a negative thing when you walk into a supermarket and see no separate checkouts for prepared foods, and it's difficult to get to it in the back of the store, and they don't change the menus often enough. A retailer has to be really committed to it and has to do it right, or they're not going to make any money at it. I grew up with Whole Foods, and I ate lunch there three times a week. You walk into the store and there's the deli counter up front. Everything you need is right there, the menus change often, the food is great, there is a separate checkout and you get in and out in five seconds. It isn't like going into a supermarket.

ADLER: But looking at the success of Whole Foods and similar companies, they have played the perishables card. Whether it's produce or home-meal replacement, they get it, and I'm not exactly sure how it is that they get it and nobody else can get it, but it sure seems like that's the case.

LEVIN: They're catering to a very upscale market.

ADLER: Maybe that's the issue, that home-meal replacement is upscale.

ZIEGLER: I think one reason Ahold made the food-service acquisitions it has made is because they see this as potentially a great way to take share of stomach. We haven't quite figured it out internally -- there's institutional-quality food, there's restaurant-quality food and there's supermarket-quality food. And the trouble is the supermarket-quality food isn't what people want to consume regularly.

ADLER: Restaurant quality also covers a very broad spectrum.

ZIEGLER: But I think that's what Ahold wants to do -- to gain the expertise to really serve the food-service business. And I don't think they're just buying into the business -- I think they really want to do better food service in their U.S. stores.

SN: So there's still hope for HMR in supermarkets?

BERNSTEIN: Oh, sure.

ZIEGLER: And Lisa's right -- supermarkets don't position it right in the store. They don't make it easy to get in and get out.

RETAILERS FINE-TUNE MERCHANDISING MIXES

Increased assortments of organic foods and private-label lines, plus installation of fuel centers, are among the categories supermarkets are exploring, roundtable participants told SN.

SN: What do you see as some of the new merchandising trends or new categories that supermarkets need to embrace in the next year or two?

GIBLEN: They're definitely doing more with organic and natural foods, and, in turn, that's prompting Whole Foods and Wild Oats to become more mainstream. Whole Foods saw the light on that a couple of years ago, and Wild Oats is catching up. And both organics and natural foods are bringing more shoppers to traditional supermarkets -- consumers who used to be purists, who'd only go to a Whole Foods or a Wild Oats, who now can go to a regular supermarket, or people who just trade up from regular chicken to organic chicken just because they've become more aware of it. And that trade-up comes with a favorable margin.

Another trend is private label. Every chain is continuing growth in private label. It's one of the unalloyed positives in the industry, with implications for shifting the balance of power, more and more, in favor of the food retailer vs. their supply partners.

SN: What is the average percentage of private label the industry is doing now?

HUSSON: 16% for the whole industry, 20% for the big players.

SN: What's the percentage in Europe?

HUSSON: About 45% in the U.K., 39% in The Netherlands and about 26% in France.

SN: Is the U.S. headed in that direction?

HUSSON: Well, there is too much private brand overseas, and some retailers there are backing off private label and introducing more brands in most sections.

LEVIN: One of the consequences of consolidation is using best practices to improve private-label programs. Every single company, as it grows -- especially if it acquires smaller companies that haven't had much of a private-label program -- puts it in those stores that didn't have it before, so you still have this opportunity to keep it growing.

HUSSON: Kroger and Safeway both have north of 25%, and they're still growing.

ZIEGLER: But Albertson's, even with Albertson's and Lucky's private label, is still a lot lower than that.

Another merchandising trend is the addition of fuel centers. That's a new interesting category, and it seems like it's been a real win-win for the folks that have done it.

SN: Has anybody found that it's not a great category?

ZIEGLER: Not yet. There are some downsides to it -- in fact, it's like pharmacy, with big sales numbers and low gross margin percentages, but you have to manage it right. Albertson's has been really thrilled with fuel centers because they're managing it right.

HUSSON: In the U.K., the big supermarkets have 25% of the gasoline market, and it's still growing, with stand-alone gas stations as well as gas stations attached to stores.