TRADE RELATIONS DESTINED TO WORSEN BEFORE THEY IMPROVE

David Merrefield

Trade-relations issues have landed back on the food-distribution industry's plate with a big thud, and at the center of the plate is Fleming Cos.

The imbroglio centered on Fleming has been the substance of the leading news article in the past two issues of SN, as well as a front-page article in the Wall Street Journal on Sept. 5. At the heart of the matter are accusations that Fleming has been ultra-aggressive in turning to off-invoice deductions as a revenue source, causing strained relations between Fleming and its vendors. Not incidentally, Fleming is the chief consumables supplier to Kmart Corp. Indeed, that now-bankrupt and downsizing retailer is Fleming's single largest account, suggesting that a vigorous quest for revenue wouldn't be amiss for Fleming. More, Fleming has acknowledged that its corporately owned retailing isn't living up to expectation and has also conceded reluctantly that a few topside executives have left the company. For the latest on that, see Page 6 of this week's SN.

The net result? Fleming's equity values have taken punishing blows lately, dropping to as low as $5 and change per share as compared to its 52-week high of $29.60.

This is a situation rife with imponderables. One of the biggest is whether Fleming's tactics of shifting funds from vendors to itself stray much from common industry practices. Short of being able to make thousands of vendors confess their private thoughts, there's little way to know. It's worth noting, though, that the reputation for being tough on vendors seems to shift across time. For many years, Food Lion was considered to be the one most likely to beat up on vendors.

Be that as it may, let's widen our outlook to find out what trade-relations matters fronted by the spotlight on Fleming mean for the entire industry. The fact of the matter is that activities such as off-invoice deductions, slotting, diverting, forward buying, street money and so on add huge costs to the food-distribution system. And there has been widespread agreement that such is the case for many years.

Why do these practices persist, then? Why doesn't the industry go to the means used by Wal-Mart Stores, Costco Wholesale Co. and a few others, namely to take all possible funds right off the top and negotiate the lowest net price the traffic will bear?

The reason is this: Potential advantage. Every distribution company knows that everyone would be far better off if all negotiated the best net price. So the solution is the problem: Lowered net prices would migrate to all players. But look at the current system: Prices are artificially high, but susceptible to lowering through the shrewd application of buy-side strategies.

Every distributor sees the potential to outflank competitors by wresting funds from vendors -- more funds than their competitors might be able to land -- thereby winning more profit and a useful price advantage.

Vendors, meanwhile, don't protest current methods too much since sometimes higher prices stick.

All these factors conspire to mean the current system will most likely remain in place, growing increasingly cumbersome until it breaks and demands fixing.