News out today that Coles – owned by Wesfarmers Ltd (ASX: WES) has been told to repay more than $12 million to suppliers again raises the issue of our supermarkets potentially bullying smaller suppliers.
Former Victorian premier Jeff Kennett was appointed as an independent arbiter in 2014 to resolved issues between Coles and suppliers after the Australian Consumer and Competition Commission (ACCC) took Coles to court over unconscionable conduct. The Federal Court agreed and fined Coles $10 million. Just 2 months earlier, Coles was fined $2.5 million for passing off par-baked bread as freshly baked in stores.
Coles admitted it had crossed the line last December, after initially rejecting the claims, and offered to compensate suppliers. The compensation is for suppliers who were pressured to join Coles' Active Retail Collaboration supply chain program, while Coles will also have to pay an additional $324,000 to suppliers who were forced to pay fines or had payments withheld over issues such as late deliveries and wastage in stores.
Between Coles and Woolworths Limited (ASX: WOW), the two supermarket retailers have close to 1,700 supermarkets in Australia, and have a combined market share of more than 70% according to Roy Morgan back in December 2013.
Produce and grocery suppliers like Patties Foods Limited (ASX: PFL), Goodman Fielder Ltd (now delisted), Tassal Group Limited (ASX: TGR) and even Coke distributor Coca-Cola Amatil Ltd (ASX: CCL), have all suffered as the two giant supermarkets continually demanded lower prices in order to grow their own margins and profits. It's easy enough to see the effect on the suppliers' financial results.
Coles hasn't been alone in placing undue pressure on suppliers, with Woolworths accused of bullying suppliers into paying millions to fund a discount price war. Fairfax media reports that it obtained emails showing Woolworths requesting extra payments from suppliers by the end of December 2014. Many suppliers caved in – what else can they do?
The problem for suppliers is that due to the two supermarkets' dominance, losing a contract with either Coles or Woolworths can have a devastating impact on the supplier. Think how you'd feel if suddenly half your revenue went up in smoke while you are still geared up to produce 100% of your product.
Gourmet Food Holdings, which produced Rosella tomato sauce went into administration in 2012, no doubt affected by rising sales of the supermarkets' private label brands. Freedom Foods Group Ltd (ASX: FNP) saw its products suddenly pulled from 500 Woolworths stores back in March 2013, and said it was never told the reason.
Are things getting better?
The rise of Aldi and the attempted revitalisation of Metcash Limited's (ASX: MTS) IGA franchise stores, the slow and steady expansion of US retailer Costco may slowly be swinging the pendulum back in favour of the suppliers.
Australian consumers also seem to be wising up. A recent Choice survey found Woolworths to be the most expensive for a basket of goods, and consumers seem to be switching to cheaper alternatives, particularly Aldi. That is finally starting to impact on Woolworths, and the retailer has been forced to cut prices.
Then you have the rise of local and organic markets, where local farmers and suppliers can sell their produce direct to the public. Prices might be more expensive for many items, but a fair few Australian consumers see supporting their local producers as worthwhile.
The rise of other alternative options, including the new owners of department store David Jones considering a high-end food business offering an alternative to the discounters, and the potential for further fragmentation in the sector could also see the two giant retailers lose more of their market share.
In January, reports broke that Marks and Spencer was going to enter the Australian market, potentially bringing its high-quality gourmet food offering with it. All in all, it seems Coles and Woolworths will need to work even harder to maintain their market share and current margins.
Foolish takeaway
The news should be good for Australian consumers, but don't expect changes to happen overnight. Coles and Woolies still exert an enormous amount of influence over the supermarket and food retailing sector. They won't take things lying down and are consistently trialling new ideas in stores. What we will most likely see is more variety, better prices and more competition, which should be healthy for everyone.
