Safeway Shifts Tactics in Grocery Price War

By TIMOTHY W. MARTINThe Wall Street Journal OCTOBER 16, 2009

Safeway Inc. long banked on customers paying higher prices in return for top-notch fresh produce and upscale ambience in its Dominick's, Vons, Tom Thumb and other supermarkets. Now the third-largest U.S. grocery chain by revenue says it is cutting prices to stop shoppers from going elsewhere.

It may be too little too late. The Pleasanton, Calif., chain Thursday reported its third straight quarter of declining sales at stores open at least a year as earnings slid 35% compared with a year ago.

Some analysts think the company is half-heartedly cutting prices while continuing to build and remodel stores that are monuments to better days.

Even after its discounts, its prices are still higher. Safeway's prices are 10.7% higher than those of Kroger Co.'s, according to a September pricing study by J.P. Morgan, measuring identical baskets of 31 products.

Says Morgan Stanley retail analyst Mark Wiltamuth, "Safeway is on the wrong end of the trade-down occurring in grocery."

Over the past six years, Safeway invested more than $8 billion upgrading its stores and adding exotic fresh produce and a bevy of prepared foods. Then the economy tumbled. Stung by high unemployment and economic uncertainty, many Safeway customers trimmed food budgets and left for less expensive grocers or warehouse clubs including Costco Wholesale Corp. Safeway's embrace of olive bars and prepared foods were a turnoff to customers who took them as signs of extravagance.

Safeway Chief Executive Steve Burd declined an interview through a spokesman but told analysts last month that his strategy will be proven correct eventually. "When the business cycle returns to normal, we'll be handsomely rewarded," he said.

For now, Safeway's paying a steep price for moving slowly. The company on Thursday posted fiscal third-quarter earnings of $128.8 million, or 31 cents a share, down from $199.7 million, for its fiscal-third quarter ended Sept. 12. Sales at stores open at least a year declined 3%, while overall revenue fell 7%, to $9.5 billion for the quarter.

Last month, Mr. Burd conceded had the chain moved quicker to lower prices, it would be "doing a bit better than we are now."

Kroger, the nation's largest food retailer after Wal-Mart Stores Inc., has increased the frequency of its 10-items-for-$10 promotions and cut prices of about 400 health-and-beauty products to under $4 each. Supervalu Inc. reduced prices by 20% on staple items such as bread and breakfast cereal in several markets. Even ritzy Whole Foods Market Inc. has adopted the "value" message, showcasing recipes for meals that feed a family of four for $15.

Stater Bros. Markets, a regional chain with 167 stores in southern California, lowered prices this summer on more than 6,000 items while sending employees to rival stores in search of discounts to match.

"We are scraping the bottom of the tank right now on prices," Stater's CEO Jack Brown said in a recent interview. "I'm not going to let somebody steal my customer, because when this (recession) is all over, I don't want to go looking for my customer."

The discounting doesn't necessarily mean consumers are paying less for a basketful of groceries. Shoppers overall are paying on average 3.2% more an item for the 52 weeks ending Sept. 9, according to market researcher Nielsen Co. Some commodities like eggs and milk have shown double-digit declines but prices on most items have increased.

Nearly one-third of all items purchased by middle-income households have been discountedan increase of 11% from last year. Increased use of promotions "destroyed our gross margin," Supervalu CEO Craig Herkert said last month at a Goldman Sachs conference. "More items really cheap don't bring in more people."

Rachel Singer Gordon, a 39-year-old freelance writer in Lombard, Ill., buys groceries three or four times a week, rotating among a handful of supermarkets and drug stores, including Safeway's Dominick's chain. She snags online coupons, scans weekly fliers and stockpiles so many sales itemssuch as 20-cent boxes of pastathat she had to install more shelves in her basement. "I'm not loyal to one store," said Ms. Gordon.

That's hardly the sentiment Safeway hoped to build from its investments. In 2005, Mr. Burd told investors he wanted to brand his stores' shopping experience "just as a consumer packaged goods company can brand a product." The grocer invested in remodeling its 1,700-plus stores, installing softer lighting and painting ceilings and walls with earthy tones.

And during the economic boom it worked. Same-store sales grew steadilyfrom 1.5% to 4.5%, quarter-to-quarter--from 2005 through March 2008.

But, even as the economy began to sour, the chain fell behind rivals at lowering prices. By September 2008, same-store sales growth excluding fuel had slid to less than 1%; in the quarter ended June 20, same-store growth declined by 2.2% and September's worsened.

Today, it's trying to make up for lost time. In a Safeway-operated Dominick's in Chicago, banners now proclaim, "Thousands of New Everyday Low Prices." It promotes green bell peppers that have been marked down to 99 cents from $1.39. The price of a 10-pack of Capri Sun 100% grape juice was nearly halved, to $2.99 from its old price of $4.79.

On the front page of weekly ad circulars in Denver, Safeway stores tout "Dollar Deals!" like 79-cent brownie mix and 99-cent sausage links. Safeway's Tom Thumb stores offer a weekend discount including five boxes of macaroni & cheese for $2.

But its reputation is proving hard to shake. "When you scream to customers that your prices are lower, their first reaction is why weren't you at these prices last year?" said consultant John Rand of Management Ventures Inc.

Still, Mr. Burd is optimistic the boom days will return. He told analysts on Thursday the grocery giant is seeing signs of easing in the double-digit deflation in dairy and fresh produce. Shoppers are also showing signs of trading up, buying more lattes over coffee and purchasing more premium wines. "That suggests to me, we're at or near the bottom of this whole thing," Mr. Burd said.

The article "Safeway Shifts Tactics in Grocery Price War" reads:"Even after its discounts, its prices are still higher.Safeway's prices are 10.7% higher than those of Kroger Co.".Kroger is a major Safeway competitor that cut its prices more than Safeway.The article also includes the following statement:"Sales or revenue at Safeway stores open at least a year [generally referred to as "same store sales"] declined approximately 3% to $9.5 billion for the fiscal third quarter".If Safeway did not reduce its prices along with its competitors, then:

a.The demand curve for Safeway products shifted in or down or to the left.

b.The demand curve for Safeway products shifted out or up or the right.

c.Safeway operates in the "inelastic" range of the demand curve where the Price Elasticity of Demand is less than one.

d.Safeway must face a perfectly elastic Demand Curve.

e.Safeway must face a perfectly inelastic Demand Curve.

4.Safeway did not change its prices while its same store revenue declined from $9.785 billion in the second quarter to $9.5 billion in the third quarter.Assuming no new stores were opened or no stores were closed during the quarter, how much did Safeway's "volume" or "quantity" change in the quarter?Recall that Sales or Revenue equals Price x Quantity. Write the answer as a percent to 2 decimal points, for example 5.13% or -4.72%.