The report below provides an insight into UK grocery retail industry with emphasis on its external environment analysis and the structure of the industry analysis. Specifically, it analysis the external environment of this sector by using PEST model and considers the regulatory issues which have helped form this retail environment. In addition, Porter's structural framework is appealed to present competitive environment of the UK grocery market, especially on larger grocery chains.
2.1 Size and structure of UK grocery sector
The UK's grocery sector is enormous and influential. There are around 91,509 grocery stores in the UK and around 3 million people working in this sector. Also, Grocery purchases represent a sizeable proportion of consumers' total expenditure. According to food and grocery distribution analysts IGD, the total sales of grocery sector in the UK is currently worth £150 billion a year, but is expected to increase to £170 billion by 2013 (see figure 1). The amount of customer expenditure in food and grocery accounts for 53p in every £1 of retail spending, while 21p in every £1 spent in food and grocery is spent in convenience stores (IGD, 2010).
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Figure 1 below shows the market performance and the value in UK grocery sector.
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The grocery retail sector in the UK has become more concentrated in recent years. Accordingly, only four large retail supermarkets which include Tesco, Asda, Sainsbury's and Morrisons, hold around 75% of market share and 70% of total grocery sales in UK market (see figure 2). This high level of concentration has presented that the UK households are more likely to purchase in supermarkets rather than traditional or convince stores. It also reflects the problems to grocery suppliers which they only have limited potential customers, and thus they have few power in negotiations.
Additionally, the UK market is an open economy, and there are numbers of foreign grocery retailers in the market but only consistent limited market share. Meanwhile, UK large retailers are expanding their businesses outside the domestic market (the total value of sales foreign markets is around £62 billion). According to Nielsen's research, in 2008 UK grocery retailers had hold about 55% of market share in world.
Figure 2: The UK grocery market share in 2010
Date Source: The institute of grocery distribution
2.2. Grocery retail market trend in the future
There is an array of factors that may influence the UK retailers to plan the future strategy of development, such as globalization, consumer behavior, social environment, etc. The 'credit crunch recession' of 2008 has affected each sectors the in the UK retail market more or less. Consumers are willing to eat home rather than going to the restaurant, which stimulates the sales of food and restrains the people's interests in the entertainment products; while the decline in the GDP and the Household disposable income make consumers more sensitive to the price factor. The development of the high technology makes it possible for the consumers to compare price ahead and shop online. Meanwhile, more foreign retailers enter the domestic retail market because of the integrating of the global retail market. Hence, the competition of the retail market is becoming increasingly difficult and intense.
Hristov and Reynolds (2007) indicated in their report that both the external and internal pressures drive the supermarkets to pay more attention to the retail innovation, which is always inadequately measured.
Under the recession, the consumers might get benefits from the price competition; but as to the retailers, retail innovation is the necessity to survive in the furious competition. The retail innovation could improve the purchasing ways, enrich the choice and diversify the products and services to meet the constantly variable demand and shopping habits of consumers; thus, retain the current customers and get more market shares. On the other hand, the UK government has also been aware of the importance of the innovative activities in the retail sector, making policy to support and stimulate the innovation. (Hristov and Reynolds, 2007)
Macro-Environment Analysis - PEST
3.1 Political environment
3.1.1 Legislation on grocery sector
In the UK, retail sector constitutes an important role of the economy. In order to ensure retail industry operates sustainably and illegally, the UK legislation system order a number of laws to monitor the grocery retail industry. For instance, there are legislations regarding the licensing of tobacco and alcohol, the registration of food premises, consumer and employment legislation.
Always on Time
Marked to Standard
Specifically, in terms of selling fresh food, the food and retailers in Britain are required to comply with hygiene regulations and food safety. The Food Hygiene Regulations 2006 includes such as food hygiene, registration of premises, cleanliness, provision of equipment and facilities, and temperature control. These food legislations are to ensure that all food retailers maintain the highest standards of safety and food hygiene (Food Hygiene Regulations, 2006). Moreover, since 1990 the legislation of food safety had been ordered to inform all food businesses must be taken to protect the public from the health risks associated with food consumption. It covers food storage, presentation, advertising and quality in UK (Food Safety Act, 1990).
Additionally, there are also a number of legislations about selling tobacco or alcohol products in grocery retailing sector. For example, The Licensing Act 2003 regulates the licensing of premises used to sell alcohol in United Kingdom (The Licensing Act, 2003), and The Tobacco Products Regulations 2002 claims the requirements for packaging and labeling of tobacco products such as requiring all packaging must include a picture for warning smokers the potential health risks of smoking (The Tobacco Products Regulations, 2002).
3.1.2 Government initials and regulations
On the one hand, UK government pursues a free market economy and has loosened regulations of retailing business since 1990s. For instance most restrictions on opening time were abolished in 1994 and the regulations on mediation licensing were modified in 2004. On the other hand, they fear the growing power of large retailers and set up adverse regulations to restrict the power growth. Thus, the government regulations differ in timescale.
3.1.3 Town centers first policy
Store location in Britain is managed through zoning procedures in general land use planning policy i.e. it is the land use itself that receives the permission and not the user per se. From the mid 1990s, the land-use planning was set up with a clear purpose of protecting and reviving town centers, rather than allowing further expansion on the periphery. However, the policy framework differs in timescale and it now has attempted to maintain a strong retail presence in the urban core of most major towns and cities (BCSC 2006, Guy 2007).
3.1.4 Packaging strategy and plastic bags use
The packaging strategy ordered by UK government is to minimize the effects of packaging on the environment. This initial may encourages grocery retailers to take more responsibility for environment protection through changing their traditional packing process. In addition, a potential tax on plastic carrier bags have been aroused in UK following the implementation of such a tax in the Republic of Ireland in 2002.1 Grocery retailers have to take reactions to those taxes.
3.2 Economic Environment
The consumer behavior is influenced by the whole economic environment. Hence, economic factors are of importance for the grocery retailing market.
3.2.1 Tendency towards the foreign market
Globalization incurs the tendency of the supermarkets towards investing the foreign market. The president of TESCO, David Reid, officially announced in 2010 that the company would invest two billion pounds in China in the next five years, which is expected to contribute greater proportion of the total profits. Although, the supermarkets seem to have increasingly interests in the international expansion, the core of the business is still in the domestic market. Thus, the supermarkets will be greatly influenced by the domestic economic condition.
On the other hand, since more foreign retailers enter the domestic markets meanwhile, the intense international competition requires business innovations to retain the current consumers from their rivals. (Hristov and Reynolds, 2007)
3.2.2 A reduction in Household disposable income
In 2008, it is declared that the UK economy was under recession. As a result, there is a drastic fall in households' disposable income and the GDP. In 2008, the UK disposable income is at its lowest level for 11 years. What's worse, as shown in the following graph, the growth of the disposable household income (GDHI) in UK was slow across UK in 2009 and decreased obviously compared with 2008. (UK National Statistics, 2011)
This is a chart showing GDHI per head growth on previous year, 2008 and 2009
GDHI per head growth on previous year, 2008 and 2009
Data Source: Office for National Statistics
However, due to the government's supportive policies during the recession, the unemployment rate remained relatively low. (Gregg and Wadsworth, 2010) The low unemployment, to a great extent, gives consumers great confidences about the financial situation so that the spending power of consumers is guaranteed on a steady rise. Nevertheless, people prefer eating at home to going to the restaurant due to the uncertain economic condition. Thus, the total amount of sales in the foods and underlying products increases steadily. On the other hand, as the decline of the growth of the disposable household income people become reluctant to purchase some premium and entertainment products, such as video games.
3.2.2 Increasing in VAT
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The UK government announced officially in 2010 that since 4th January 2011, the standard rate of VAT would rise from 17.5% to 20%. Consequently, it might affect the supermarkets' sales on goods and services that are subject to the VAT rate. (HM Revenue and Customs, 2011) While VAT is exempt on most food products and children's stuffs, it is payable on many grocery items, like cleaning products and drinks and snacks as well. The change on the VAT will stimulate the sales of the products where the VAT is exempt. That is, consumers might spend more money on some substitutes of free VAT, rather than those products where VAT is payable.
3.3 Social Environment
Social changes can also shape the evolution of retail industry. Those social factors include lifestyles, attitudes, personal valueï¼Œhousehold structure and demographic changes, etc. Changes in these aspects can also create threats and opportunities for retailers.
3.3.1 Demographic changes
Demographic changes in UK have profound economic impacts on the grocery retail sector since people of different ages have various consumer behaviours, purchasing power and preferences. As Börsch-Supan (2003) pointed out, the types of goods that consumers demand for are influenced by the changes of the age structure. Thus, the changes of the demographic characteristics could influence the types of products and services offered by the grocery retailers.
Population by age, UK, 1984, 2009 and 2034
Population by age, UK, 1984, 2009 and 2034
Data Source: Office for National Statistics
As shown in the above figure, the aged people capture the relatively large proportion of the total population in the UK and increase steadily since 1980s. Due to the change, the national retailers might increase the supply of added-value products and healthier foods to meet the aged people's needs.
The National Statistics (2010) also indicated that there is a slight decrease in the Total Fertility Rate (TFR) in the UK in 2009, the fertility remains high compared with past. Similarly, Young (2002) pointed out that the baby boom is another main change in the UK population. Such trend in the people structure drives the grocery retailers to add the educational stuffs and children's items.
3.3.2 Changes in purchasing behavior
The type of products and services demanded by the consumers will also affected by the changes in the lifestyles, attitudes and personal value. As to the changes in the consumer's trends, the large supermarkets pay more attention on their retail innovations, such as one-stop shopping, EDLP and multi-channel retailing. (Hristov and Reynolds, 2007)
With the growth of the living standard, people are pursuing the life of high quality. They are becoming more and more aware of their health, while unaltered and simple product types could no longer meet their needs. As a result, the retailers tend to offering various substitutes for one product and some high-quality products. For instance, Tesco provides "organic" foods to meet the increasing demand for healthy foods; also, the consumers could find some substitutes of various classes for a single type of product, ranging from normal class to "Tesco finest" ones. Besides, according to price comparison website uSwithch.com, nowadays 31 million customers prefer to buy supermarket own-brand labels, and this number had tripled from 25% in August 2008 to 73% in August 2009.
In addition, the way of consumption has changed due to the development of financial systems and technology. Supermarkets could accept paying by cashes, credit/debit cards and cheques. Meanwhile, more and more supermarkets offer online shop service. The data from uSwithch.com, also points that 20% of shoppers now compare prices online before shopping in-store, while 15% prefer to shop online rather than visit the supermarket.
3.4 Technological Environment
3.4.1The Internet Phenomenon
Technology is one of the key macro-environmental variables that directly affect UK grocery industry in terms of operations and supply chain and the processes of retailers. The Internet development is a biggest issue happened in technological environment. The Internet phenomenon tends to be prevalent in worldwide. In the UK, the subscriptions to the Internet have increased dramatically over the last 5 years and it also has been estimated that 70% of the population use internet in 2010 (Office for National Statistics, 2010). The Internet seems to change the way of retailing and its advantages have been realize by many retailing leaders in the UK. The supermarkets like Tesco and Sainsbury have successful set up online retail business to enable company to gain market share and profits as well. There is a figure to show that in 2009 the value of online grocery retailing is 2.9 billion GBP, and the number is toward in growing (The Telegraph, 2009). Moreover, the Internet also impact the way of businesses doing advertising which is reported that Internet accounts for 8% of global advertisement (The Economist, 2007). Thus, it forces the UK grocery retailers to spend more attention and expenditure on website building and online promoting.
3.4.2 Loyalty cards
The issues about customer loyalty are always highly considered by most companies. The loyalty programs are being appealed through information technology which enhance customer relationship and prevent them switching to their competitors (Sun, 2009). In grocery industry, supermarkets' loyalty cards seem to increasingly important in a more promotional environment, due to retailers have to adapt new situation of lower food inflation (The times, 2010). For example, Tesco use membership card to enhanced services for members, while Sainsbury join Nectar card to offer great discounts for their customers.
3.4.3 Radio Frequency Identification Device
Radio Frequency Identification (RFID), although not yet popular, is another technology that introduced in recent years with tagging in loyalty cards. It can record customers' purchasing history in order to help retailers to monitor the data for market use.
3.4.4 Queuing system
The long-time waiting will probably result in customer complains. Self check machines are introduced in UK many grocery stores and the benefits which bring have been proved in practice. In supermarkets such as Tesco and Asda, self check machines help to reduce customers waiting time by a great extent, particularly for those customers who have only few items. Additionally, they enable retailers to operating for 24 hours which might help boost sales.
3.4.5 Anti-fraud chip and pin technology
The development of advanced technology is promoting a more safe and efficient way of shopping environment. Anti-fraud chip and pin technology has been introduced to protect retailers and customers' interest. (Euromonitor, 2004)
Industry Analysis --- Porter's Five Forces
A critical analysis of the structure of the industry is necessary for any companies in searching effective sources of competitive advantages (Porter, 1985). The porter's five forces model introduced by numerous studies and managers to better understand the industry context in which the firms operate. In below section, five forces model will be used to analysis UK grocery sector. However, this sector is dominated by few large retailers which account for 80% of market share. Thus, industry analysis in this paper will mainly focus on analyzing the environment around those large retailers.
Threat of New Entrants
In the UK, the four-leading retailers, Tesco, Asda, Sainsbury's and Morrisons , are dominating the grocery sector, accounting around 75% market shares and contributing 80% of total grocery sales (Mintel, 2010). As Ritz (2005) states, over the last 30 years the UK grocery market seems switch to the supermarket-dominated structure. Nowadays, the grocery sector in the UK is at an advanced stage in which majority of large chains have already built their power due to one-stop shopping and operating efficiency. Thus, for new entrants, it is extremely difficult to enter this highly developed market. For example, it requires huge capital investments to ensure the frequency of business processes due to the large fixed costs and the expenditure in building new brand name and effective supply chains. The necessary investments in terms of technology also demand a lot of capital such as advanced operation system in stock management and checkout process.
The corporation with local government is another essential barrier should be considered by new entrants. It often takes a considerable resources amount of time and resource to gain planning authorization from government. Furthermore, the local knowledge is extremely crucial for new firms to understand target market, something that is difficult for foreign businesses to replicate. This is the season, until now there are few foreign grocery store operated in the UK market. To sum up, the threat of entry of new competitors is low in the UK supermarket sector.
4.2 Bargaining Power of Suppliers
The bargaining power of suppliers in UK grocery market is fairly low and it can be impacted by most retail chains. It should be regarded that the suppliers are inclined towards the major grocery supermarkets due to the fear of losing their businesses to large retailers. Therefore, the position of big chains like Tesco and Asda is much strengthened and these retailers can probably match the lowest price from supplier through positive negotiation that small chains are unable to get (Ritz, 2005). In fact, there is a big argument about the profits balance between supermarkets and suppliers in the UK. As some reports point, it is an extremely unbalanced trade relationship and is a big squeeze. Larger retailers in order to meet latest customer demands, they enforce produces to change order at very last minutes. It probably makes huge profits for retailers, but passes the potential risk to producers, farmer families and factory workers. For instant, the annual profits reported by Tesco was over £2.5 billion in April 2007, while very little money can be found in those who actually produce food and this situation was getting worsen due to the way of Tesco operated (Traidcraft, 2007).
In addition, weakening in suppliers' power due to large retailers have more ability now to purchase products from abroad at cheaper deals. This force will enable the competition especially at price among suppliers which reduce their profit margins and keep the bargaining power at low level.
4.3 Bargaining Power of Customers
Standardization and unification in most items result in lower switch cost for customers, and thus more power incline toward buyers (Porter, 1980). The products in grocery sector have a slight differentiation and items in food and drink are nearly the same. Therefore, buyers are in positive position in purchasing process and can easily transfer to another brand with low switch cost. In addition, as UK grocery market influenced by global depressive economy, customers are likely to be put into core position of strategy when businesses are desired to maintain market shares. It considerably increases buyers' power. For example, in economic recession, customers are attracted towards the low price, while retailers like Tesco and Sainsbury's, constantly offer promoting price and discount in order to enhance customer loyalty. In a word, the bargaining power of customers in UK grocery sector is fairly high.
Consequently, grocery retailers adapt the situation of the high level of buyer power in a number of ways. Tesco, the biggest supermarket in UK, has promoted its famous loyalty cards since 1995 (CC, 2000) which significantly increase its profitability and hold the largest market share. Supermarkets like Asda and Sainsbury's focus on the non-food items in order to differentiate competitors.
4.4 Threat of Substitutes
The national retailers are facing a strong threat of substitution. The consumers are free to choose the retail outlets as they like, since there are a wide range of retailers that can satisfy their particular need. For instance, one consumer could go to the nearer convenience store or traditional market to buy the products, rather than driving a long way to the Tesco or Asda.
As we can seen from the above chart, while the hypermarkets, supermarkets and superstores take up almost 70% of the UK grocery retail amount, the store number of the convenience retailers or the traditional retailer is far more than these large shopping outlets. Merely the number of convenience retailers is six times more than the supermarkets. To some extent, such high density might attract a certain number of consumers for the fast and convenience.
However, the threat of substitution for food items is still very low for the supermarkets, since the supermarkets are always offering numbers of high quality products at a relatively low price compared the small chains of convenience stores. This advantage is more obvious in the recession when customers pay more attention to the price (Hout, Porter and Rudden, 2000). Moreover, consumers could enjoy the "one-stop" shopping in the supermarket owing to its larger scale, providing a wide range of products and services. Besides, some big supermarket companies like Tesco and Sainsbury's have set up a number of similar substitutes to retain their customers and market shares. A case in that is the Tesco Express.
As to the traditional market, the threat of substitutes is comparatively low for the supermarkets owing to its limited scale and quality of products and services. Nevertheless, the traditional market, as an important heritage, still plays a valuable social and economic role in UK. The market can attract the consumers who desire fresh food at a lower price. Besides, such traditional market environment is attractive for the aged people who are much more familiar with it than to the modern supermarkets.
4.5 Bargaining Power of Competitors
Since the grocery retail sector is the largest industry in the UK, containing a great number of profits, the competition is extremely intense. There exist a wide array of large supermarkets inside UK, such as Tesco and Sainsbury's.
These large supermarket chains usually struggle with each other to gain a higher market share than the rivals since it is very difficult to attract new customers from their usual shopping places. Meanwhile, as Hristov and Reynolds (2007) reported, with the development and popularization of the Internet, it makes it easier to compare prices online before shopping in-store. Namely, there appears increasingly sensitivity with respect to the price of the products and services. Hence, the price becomes a crucial factor for the retailers to retain their current customers and attract new ones as well, which might lead to an unavoidable furious price competition.
Besides the price factor, the scale and density are another two essential factors that may impact the consumer's decision. Generally, the consumers prefer to going to the nearer supermarkets for convenience and lower transport fee. Although the large supermarket seems more likely to have a larger scale, offering high quality products at a relatively low price, in some rural area those large supermarkets might be distant away from the community. On the other hand, the convince stores are usually distributed at a high density with a small scale. Hence, some relatively small supermarkets which locate inside the community, like Somerfield and Co-op, might attract some primary consumers.
In the UK, grocery sector constitutes a crucial part of economist. Economically, it still contributes the total value about 150 billion pounds annually despite of global economy downturn and also promotes the employment rate. Politically, UK government published a number of laws and regulations to monitor this important sector. Technologically, as high technology have been introduced into grocery market, the profitability of businesses and efficiency of operations are highly related to advanced system such as online retailing and new queuing system. In addition, there are also some big changes in social behaviour such as purchasing online and one-stop shopping, which influence grocery market by a big extent.
Blandly speaking, the grocery sector in the UK is a riper industry. Already highly developed supply chains and the requirement of huge capital provide considerable barriers for new entrance. In terms of suppliers, the power of which seem extremely low in this sector, and the unfair trade relationship has been proved between larger retailers and suppliers by many evidences. Adversely, buyer power is fairly high because of competitive environment among large supermarkets and standardization of major products. Regard to the threat of substitutes, it is very low for large retailers, since the supermarkets frequently offer high quality products at a relatively low price compared the small chains of convenience stores. The force among large retailer is greater, because they are always struggling with each other for profit.
To sum up, UK grocery market is enormous with a huge net profit. The value of total sales is growing steadily over last twenty years. In fact, only few supermarkets dominate this sector and they capture most profits but leave little to small chains. It is a biggest downside of supermarkets, and more regulations are suggested by public to restrict the supermarket power. Despite that UK grocery sector already entries a advanced stage, there are limited effective documents to monitor the fair trade between supermarket and suppliers, customers and retailers. Therefore, more government intervention should be taken is necessarily for development of grocery industry.
Appendices: A Critical evaluation of PEST analysis and Five Forces analysis
PEST analysis is a useful strategic tool that analysis the macro environment in which firms operated. Namely, it covers the aspects of politic, economy, society and technology, and its results can be used to take advantage of opportunities or make plans for aware threats by businesses (Byars, 1991). However, it has own limitation. Normally, PEST only can be used for one specific country or continent. Because the macro environment may differs per region
Porter's Five Forces framework is another economic analysis tool, but it differs from PEST model by also presenting competitive environment analysis. As porter states, a critical analysis of the structure of the industry is necessary for any companies in searching effective sources of competitive advantages (Porter, 1985). The porter's five forces model introduced by numerous studies and managers to better understand the industry context in which the firms operate. However, this model is based on the economic situation in 1980s which has changed significantly today. For example, globalization and deregulation have become more powerful forces over last years, but which have rarely been taken into consideration in Porter's models. As well as technological influence, it highly impacts today's markets. Therefore, businesses have to handle this model carefully rather than analysis an industry solely on the basis of Porters models.