STAYING AHEAD

SN STAFF

After a year when supermarket operators took some big strides in creating differentiated formats, they hope to stay ahead of their nontraditional competitors in 2005 by focusing on the quality of the products in their perimeter departments and through increased levels of service.

"The critical question facing all food retailers in 2005 is how to strategically differentiate their shopping experience in a highly competitive food industry that is increasingly price sensitive," said David Shapira, chairman and chief executive officer, Giant Eagle, Pittsburgh.

In a survey of CEOs and other top-level executives from food retailers and wholesalers around the country, SN found that the industry is optimistic that the economy will continue to improve in 2005, although they see some regions of the country lagging. Some retailers expressed concern over the ongoing war in Iraq, however, which they see affecting consumer confidence. Retailers also continue to face uncertainty in terms of oil prices, which spiked in 2004 and not only affected food prices but also impacted consumers' wallets in the form of higher gasoline prices.

Inflation, which hit 3.4% in 2004 in part because of the increase in oil prices, was projected to cool down to an even 2% in 2005, according to an early economic forecast issued by the White House last month. The report also projected gross domestic product growth of 3.5% in 2005. Employment was projected to improve, with the unemployment rate coming down to 5.3% from 5.5% in 2004.

"I'm encouraged that people are feeling good after the election about what's going on and the very positive environment," said Ron Johnson, managing partner, Minyard Group, Coppell, Texas.

Indeed, last week The Conference Board release consumer confidence numbers for December that exceeded projections, as the Consumer Confidence Index hit 102.3, up from 92.6 in November.

"The continuing economic expansion, combined with job growth, has consumers ending the year on a high note," says Lynn Franco, director of The Conference Board's Consumer Research Center. "The most significant contributor to the rebound in confidence has been the overall improvement in current conditions over the past 12 months. And consumers' outlook suggests that the economy will continue to expand in the first half of the new year."

The employment picture also improved in December. Consumers saying jobs are "plentiful" increased to 19.4% from 17.1%, while those who said jobs are "hard to get" declined to 26.4% from 28%. Consumers expecting fewer jobs to become available in the coming months declined to 15.5% from 19.3%. However, those anticipating more jobs to become available fell to 16.2% from 17.6%. The proportion of consumers expecting their incomes to improve in the months ahead rose to 20.7% from 19.2% in November.

Topping the list of industry concerns for the year ahead are rising health care costs. Employer-sponsored premiums for workers' health insurance coverage have risen in double digits in each of the last four years, including an 11.2% rise from the spring of 2003 to the spring of 2004, according to a survey by the Kaiser Family Foundation. Costs are projected to rise in double-digits again in 2005.

That same survey found that slightly more than half, or 52%, of large employers said it was "very likely" that they would raise the amount that employees contribute to their health insurance coverage, while only 15% of small firms said it was very likely that they would do so.

Supermarket operators took some steps to control their escalating health care costs in 2004 through the negotiation of new union contracts, but for many operators it is an ongoing battle. Some are seeking to reduce health care costs by offering their workers incentives to reduce their need for health care.

"We're putting in programs that give more discretion to our people to improve the quality of their lives by giving incentives for a tobacco-free life or obesity control, to encourage some of them to change their style of living for financial rewards," said Rich Parkinson, president and CEO, Associated Food Stores, Salt Lake City.

David Shapira, chairman and CEO, Giant Eagle, Pittsburgh

The critical question facing all food retailers in 2005 is how to strategically differentiate their shopping experience in a highly competitive food industry that is increasingly price sensitive. At Giant Eagle, we are committed to offering customers a competitive overall value, including our recent chainwide price reductions.

In addition to our value focus, we will continue to differentiate our operations based on our ability to provide customers a world-class food shopping experience that showcases the region's freshest, highest-quality food. To that end, we have adopted a corporate strategy that focuses on four major principles:

Establish clear points of difference at Giant Eagle that are centered around a companywide passion for food.

Continuously improve the quality of our people.

Continue to identify opportunities to remove costs from all aspects of our daily operations.

Continue to introduce innovative promotions and loyalty rewards programs to an increasing array of food and nonfood businesses alike.

Al Plamann, president and CEO, Unified Western Grocers, Los Angeles

How the economy will perform is anybody's guess. But I'm more of an optimist, and based on the structure of the economy right now, I think it will improve. I think oil prices will have a negative impact at some point, but it seems the economy is pretty strong right now.

The biggest issue the industry faces is ongoing regulation, including country-of-origin labeling and other regulatory activities. There's no question that recordkeeping and data maintenance at the wholesale and retail levels is becoming an increasing administrative burden. There's also the administrative burden of Sarbanes-Oxley, which is pretty onerous in terms of the costs necessary to comply. The fact foreign companies and private companies are exempt gives them a competitive edge, and while that may not have as big an impact as some other regulatory requirements, it is one more burden on American business.

Without the strike impact, we had growth of about 3% to 4% in 2004, and we anticipate the same kind of growth in 2005, coming primarily from existing retailers opening new stores and continued expansion of our efforts in areas we have entered in the last few years, including Arizona, Nevada and the Pacific Northwest.

Among other growth goals, we're very conscious of our cost structure as a supplier of the independent retail channel, and with the growth of super-discounters like Wal-Mart and Winco, all retailers in our channel have to be cognizant of their cost structures, so we plan to expend a lot of effort in 2005 to try to reduce wholesale costs and pass those savings on to retailers while continuing to emphasize our Fresh Obsessed perishables initiative. We'll try to reduce costs by continuing to make productivity improvements in our warehouses using engineered standards, and we'll also broaden our use of technology to save money. We've already installed that technology at grocery and frozen/perishables warehouses, and we hope to expand it to our meat and deli facilities in 2005 to be more productive in product handling.

Jack Brown, chairman, president and CEO, Stater Bros. Markets, Colton, Calif.

The economy will improve over what it was in 2004 because business feels comfortable with Bush as president and because of the confidence Wall Street brings to restoring that confidence. I also think businesses will be willing to make new investments because we've been led to believe there will be tax incentives for business to expand.

The only negative factor I see affecting the economy is the war in Iraq, where I think we need to do more to return control to the Iraqis at a faster pace than we have been because Iraq is becoming such a divisive issue and it's bringing back memories of Vietnam on the home front.

The estate tax continues to be a major concern to the industry. More than half the membership of Food Marketing Institute is made up of operators of one to three stores, and a significant part of their wealth is tied up in their businesses, and to be taxed at the current rate almost prohibits a second generation from taking over a business because of the amount of cash it would need to pay the inheritance tax. For a company like Stater, it's not so much about protecting my family, but I don't want the company to be sold if something happens to me because we have 17,000 people working here, and it puts them at risk. We've done too much and gone too far not to protect their futures.

Another issue of concern in California is the rising cost of medical care. The average medical cost for seniors will rise to $3,000 a year from $2,000 just three years ago, and that's a tremendous increase in the funds necessary to support Medicare-type programs.

Also of concern is the loss of management personnel to new operators who come in and try to pirate people you've paid to train. Supermarket operators need to do a more concrete job with department managers to let them know how important they are, because if we don't, some will be sucked in to join new ventures.

Given the jump on comparable-store sales Stater enjoyed in 2004 [with gains of up to 50%] because of the Southern California strike-lockout, we don't expect to do as well in 2005 as we did in 2004. But we will have a new distribution center under construction that will open in 2006, and we will be dealing with that. [The new distribution center, which will also include new headquarters offices, will be located six miles northeast of Colton in San Bernardino on a 200-acre parcel on the site of the former Norton Air Force base.] The biggest challenge Stater will face in 2005 will be to integrate the new distribution system, which will combine 10 existing warehouses into one location.

Stater also plans to open five new stores in 2005, compared with two in 2004, all within our core operating area in the Inland Empire. One of those stores is a carryover from 2004, but five is the pace we would like to maintain annually, particularly once the new distribution center opens.

Neil Golub, president and CEO, Price Chopper Supermarkets, Schenectady, N.Y.

Even though there's competition that kind of drains off certain parts of your business, you've got to recognize that. I think we've adapted well to the competition from different channels. It's a different world we live in today than 10 years ago. You have to recognize that the pie is shaped differently than it used to be.

We've developed what I consider to be a premium offer that's very attractive to our customers, and we keep trying to grow it every day.

The value that we provide our customers is among a number of things. We distinguish ourselves in the perishables department, and it's a matter of looking at what other people do and staying a little bit ahead of the crowd.

We've just gone through an excellent process of redefining where we're going and how we're going to get there, and we're pretty optimistic about that. There are still a lot of opportunities for sites, and that's very encouraging to us. Our business continues to grow. We've got a full host of stores scheduled, with four more this fiscal year, eight to 10 next year, and another eight to 10 the following year, so we've got quite a strenuous and physical growth plan in front of us.

We're also doing a lot of internal growth, improving our offer by doing things within the four walls that we haven't done before. We're going to stay very focused on what we do and try to do what we do best. Starbucks has gone in, and has been very good for us, and we're experimenting with Dunkin' Donuts.

We're also doing a little more research ourselves to find out where we stand in the market, because we don't get sales information from Wal-Mart any more.

Rich Parkinson, president and CEO, Associated Food Stores, Salt Lake City

The economy may grow at a slower pace than we would like, but I think it will improve more than it did in 2004 because of a settling down of the political environment. People are sensitive to the direction the country will be going, and with the election over, that direction is clear, and that has a settling effect on people and means they can concern themselves with other things.

The issue of major industry concern is the same as it's been for a while -- health care. That continues to be a huge challenge, and any solution has to start at the top with tort reform and work its way back through the system because of what physicians and hospitals are faced with in terms of liability insurance in caring for patients. So tort reform must filter through the system.

In addition, we as a company must be more sensitive to better utilization of health care. At Associated we're putting in programs that give more discretion to our people to improve the quality of their lives by giving incentives for a tobacco-free life or obesity control, to encourage some of them to change their style of living for financial rewards.

We expect 1% to 2% sales growth in 2005, compared with 2% to 3% in 2004, while we were still catching up with the assimilation of the Fleming business. So we still see good growth on the horizon.

We plan to invest more in developing retail strategies to improve store-level execution and to continue our market segmentation program, in which we've defined 140 geographical areas we service in seven Intermountain states. By conducting demographic and competitive analyses, the program tries to identify seams of opportunity to help us determine how we can reinvent stores to take advantage of those seams. We started this process more than a year ago and we've piloted programs with two retailers where we've devised a marketing and operating plan, with positive results. Going forward, we will look for opportunities on more of a cluster approach.

Ron Johnson, managing partner, Minyard Group, Coppell, Texas

I believe the economy will continue to improve in 2005, just from the fact that interest rates have bumped up and with another bump expected sometime early in the new year. I'm also encouraged that people are feeling good after the election about what's going on and the very positive environment.

For operators in Texas, I think 2005 will be a good year because people here are positive about the economy and jobs, which are looking good in this part of the country.

As for major industry concerns, it may sound like a cliche but I would say the biggest concern is the price of oil and its effect on pricing of consumer goods packaging. That's a big unknown at this point, but it will affect the industry and the price of doing business and the cost to consumers.

For Minyard, the primary challenges have to do with getting the stores positioned to compete in the marketplace. We're deep into demographic studies and customer surveys to establish what we need to do with new stores and remodels in terms of physical changes and remerchandising.

J.H. "Jay" Campbell, president and CEO, Associated Grocers of Louisiana, Baton Rouge, La.

I think the economy is improving. We're experiencing that at the retail level. There are pockets of uncertainty, particularly in manufacturing, because of the price of natural gas. That has affected the chemical industry in Louisiana. So even though we're experiencing an improving economy, there are pockets that are in pretty difficult condition, mostly manufacturing that relies on natural gas to power their facilities. I think you're seeing much of America moving away from a manufacturing economy and more toward a service and knowledge economy. Our country is in the transition phase of that.

As far as the major concerns for the industry, I don't think we'll see many different concerns than what we've seen in the recent past. There's high energy costs to operate facilities, and health care costs and insurance are still a great concern. President Bush is doing what he can about legal reform to control the high awards that are creating an incentive to be litigious. If that were in any way controlled, liabilities would be lessened and you could see a considerable reduction in the cost of health care and insurance overall. I think that's a positive. I don't see new income taxes coming, only a shift that could come from simplifying the tax code.

As a retailer-owned company, our goal is to be sure our retailers are successful because that will make us a successful company. So we'll work to provide the products and service they need. Their success is in being relevant to the consumer. If we can help them experience same-store sales growth, we're going to grow as well. Our major competitor has become Wal-Mart and their formats and we think our independent retail grocers have competed very effectively with Wal-Mart.

Nicholas D'Agostino Jr., chairman and CEO, D'Agostino's Supermarkets, Larchmont, N.Y.

As far as the economy, I think it's just more of the same.

Health care costs are rising, but we're basically a union shop, so we have to go along with whatever the union calls for. In New York, we've gotten an increase in the minimum wage, and that's impacting us quite heavily. That could impact our whole union contract.

I think that's one of the things that companies like ourselves are struggling with. We have the challenge of competing against nonunion companies that don't give the same benefits and don't have the same restrictions that we have as a union company, whether it's a Whole Foods or some of the other independents that are opening up around the city, like Garden of Eden. They are independent companies that don't live under the same rules we live under, and it's very difficult.

Norman Mayne, CEO and general manager, Dorothy Lane Markets, Dayton, Ohio

As far as the economy goes, I hope interest rates stay down, and I hope the housing boom continues.

I'd like to see the dollar get a little stronger because of the impact it's been having on the imported goods we sell. That definitely can hurt our imported food sales.

The industry needs to continue watching health care costs. It's a huge issue. It seems as if more companies are addressing the issue on a local level, along with the health care providers. They have to muddle through and get a handle on it.

Our goal is to continue trying to make our customers happy by providing honestly better food and service, every time. We have to create faster than the competition can steal.