Can This Small Supermarket Operator Survive Against Bigger Competitors?

Size isn't everything. This small grocer boasts superior operating margins relative to its larger competitors--but how did Roundy's manage this feat?

May 23, 2014 at 9:46AM

Source: Roundy's

As Wal-Mart (NYSE:WMT) opened more supercenters nationwide, small supermarket operators like Roundy's (NYSE:RNDY) have been unavoidably affected. Roundy's only managed a three-year revenue CAGR of 1.6%, as Wal-Mart gained market share in its key markets--Wisconsin and Minnesota.

However, Roundy's management expects "the growth of competitors' market share in core areas to slow in 2014, as the market becomes more fully penetrated." Notwithstanding this positive development, Roundy's isn't necessarily disadvantaged vis-à-vis its competitors because of its smaller absolute size. Let's compare Roundy's with peers such as Kroger (NYSE:KR) and Wal-Mart, to draw further insights into the competitive grocery landscape.

Relative scale versus absolute scale
In the supermarket industry, profitability is very much correlated with local market share. According to its internal estimates, Roundy's local market share in its primary area of operations, Wisconsin, is approximately 35%, much higher than market shares of 26% and 24% for Kroger and Wal-Mart respectively. As a further illustration, Roundy's 42% market share in its largest market, Milwaukee, is three times that of Wal-Mart. The results speak for themselves--although Roundy's revenues are a mere 4% of Kroger's top line, its trailing twelve months EBITDAR margins of 7.1% beat Kroger's 6.6%.

Having dominated the local markets it operates in, Roundy's derives significant economies of scale and resulting cost savings in areas such as advertising & promotion and distribution. A single television or newspaper advertisement reaches out to the same number of potential customers in a local region, so Roundy's has a cost advantage over its peers. For the same dollar of advertising spent, Roundy's can reach out to a wider spectrum of its larger customer base.

With respect to logistics, Roundy's derives significant distribution efficiencies given its high density of stores in its key markets. Roundy's primary Oconomowoc Distribution Center, a 1.1 million square foot facility, serves all of its stores in Southeastern Wisconsin, including Milwaukee, Madison and Chicago.

There are some instances where absolute size matters, and one is purchasing power. Kroger obviously has stronger bargaining power with its suppliers than Roundy's, as it generates 25 times the sales of Roundy's. Kroger also has a sufficiently large revenue base to support its back office operations and data analytics efforts for its loyalty card program.The success of drawing insights from a loyalty membership program depends heavily on the law of large numbers--data analysis only works well if you have a sufficiently large sample size. Kroger has an edge over its other competitors here, with its loyalty cards used in over 90% of transactions and carried by about 50% of U.S. households.

Leveraging on the insights from its loyalty card membership program, Kroger has tailored its product assortment to the needs of its customers. One example was its natural and organic food brand Simple Truth, introduced in 2012, which uses clear and visible labelling in response to customer feedback. Kroger's customers have responded positively, with it achieving positive same-store sales growth for 41 straight quarters running.

Relative scale is more important than absolute scale in most cases when it comes to retail, as seen in the performance metrics of Roundy's.

Source: Roundy's

Tweaking store format strategies
Besides relying on its core banners 'Pick 'n Save', 'Copps Food Center' and Metro Market' in the Wisconsin and Milwaukee markets, Roundy's is also expanding its presence in Chicago with its specialty food retail banner, Mariano's.

Unlike its core retail banners, Mariano's is uniquely positioned as a differentiated food shopping destination, with an expanded variety of premium perishable and prepared, organic & natural food offerings. Examples include dedicated sandwich stations and other unique offerings such as wood stone fired pizzas and premium fine cut meats,

The numbers validate the business model of Mariano's. Mariano's store-level Return on Invested Capital (ROIC) of between 35% and 40% are on par with that of other organic food retailers, despite its initial investment outlay per store of $5.3-$5.4 million being lower than the $6.9 million average capital outlay for five other organic food retailers studied.

Going forward, Roundy's has plans in place to more than double its Mariano's store count from 22 to 45-50 in the future. With the former second largest player, Dominick's exiting the Chicago market, there remains opportunities for Mariano's to grab more market share in U.S.' third-largest metropolitan market.

Roundy's isn't the only one exploring different store formats and concepts to grow in a challenging retail environment. The world's largest retailer, Wal-Mart, has drawn inspiration from the recent success of dollar stores, which is why it announced in February that it will be opening 270-300 small stores in the new year.

As more consumers choose to shop at the most convenient locations available, Wal-Mart has decided to expand its small store footprint to capture the share of customers doing quick fill-ins. Initial results have been positive, with Wal-Mart's Neighborhood Market stores increasing their fiscal 2014 comparable sales by 4%.

While Roundy's and Wal-Mart have made their tweaks to their store format roll-out strategy, the underlying principle of meeting customer needs is uncannily similar.

Foolish final thoughts
Bigger doesn't necessarily mean better. Roundy's is large in the markets it operates in and has capitalized on its relative scale in its dominant markets to generate higher margins than its larger peers. In addition, Roundy's is expanding its specialty food retail banner, Mariano's to capitalize on the increased consumer emphasis on premium and healthy food choices, particularly in Chicago.

Will this stock be your next multi-bagger?
Small stocks have better chances of being multi-baggers because of the base effect. One example is Roundy's, a Mid-West supermarket operator with the largest market share in its core markets. Give me five minutes and I'll show how you could own the best stock for 2014. Every year, The Motley Fool's chief investment officer hand-picks 1 stock with outstanding potential. But it's not just any run-of-the-mill company. It's a stock perfectly positioned to cash in on one of the upcoming year's most lucrative trends. Last year his pick skyrocketed 134%. And previous top picks have gained upwards of 908%, 1,252% and 1,303% over the subsequent years! Believe me, you don't want to miss what could be his biggest winner yet! Just click here to download your free copy of "The Motley Fool's Top Stock for 2014" today.

Mark Lin has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

4 in 5 Americans Are Ignoring Buffett's Warning

Don't be one of them.

Jun 12, 2015 at 5:01PM

Admitting fear is difficult.

So you can imagine how shocked I was to find out Warren Buffett recently told a select number of investors about the cutting-edge technology that's keeping him awake at night.

This past May, The Motley Fool sent 8 of its best stock analysts to Omaha, Nebraska to attend the Berkshire Hathaway annual shareholder meeting. CEO Warren Buffett and Vice Chairman Charlie Munger fielded questions for nearly 6 hours.
The catch was: Attendees weren't allowed to record any of it. No audio. No video. 

Our team of analysts wrote down every single word Buffett and Munger uttered. Over 16,000 words. But only two words stood out to me as I read the detailed transcript of the event: "Real threat."

That's how Buffett responded when asked about this emerging market that is already expected to be worth more than $2 trillion in the U.S. alone. Google has already put some of its best engineers behind the technology powering this trend. 

The amazing thing is, while Buffett may be nervous, the rest of us can invest in this new industry BEFORE the old money realizes what hit them.

KPMG advises we're "on the cusp of revolutionary change" coming much "sooner than you think."

Even one legendary MIT professor had to recant his position that the technology was "beyond the capability of computer science." (He recently confessed to The Wall Street Journal that he's now a believer and amazed "how quickly this technology caught on.")

Yet according to one J.D. Power and Associates survey, only 1 in 5 Americans are even interested in this technology, much less ready to invest in it. Needless to say, you haven't missed your window of opportunity. 

Think about how many amazing technologies you've watched soar to new heights while you kick yourself thinking, "I knew about that technology before everyone was talking about it, but I just sat on my hands." 

Don't let that happen again. This time, it should be your family telling you, "I can't believe you knew about and invested in that technology so early on."

That's why I hope you take just a few minutes to access the exclusive research our team of analysts has put together on this industry and the one stock positioned to capitalize on this major shift.

Click here to learn about this incredible technology before Buffett stops being scared and starts buying!

David Hanson owns shares of Berkshire Hathaway and American Express. The Motley Fool recommends and owns shares of Berkshire Hathaway, Google, and Coca-Cola.We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

©1995-2014 The Motley Fool. All rights reserved. | Privacy/Legal Information