A $3 billion profit transfer from Australian food and grocery suppliers to the major supermarket chains may finally be coming to an end.
While competition builds in the $90 billion food and grocery market, for the first time in years it is retailers rather than suppliers who will bear the brunt of the margin squeeze, according to a new report by UBS and the Australian Food and Grocery Council (AFGC).
"Retailer and supplier performance is expected to converge as the retailer profit pool is now maxed out [and] suppliers are giving less to the retailers as they have less to give," said UBS analyst Ben Gilbert.
Suppliers believed the major retailers had been "overearning", largely by taking margin from suppliers, according to a survey of 66 food and grocery suppliers that represent 40 per cent of the industry.
Over the last five years, suppliers had transferred 250 basis points of profit margin to retailers through higher trade spend, including discounts, rebates and promotions. In 2010-2012, the retailer share of the profit "pie" rose 1300 basis points, to 46 per cent from 33 per cent, before easing to 44 per cent last year.
According to a KPMG report commissioned by the AFGC last year, major suppliers had seen little return on their investment in trade spend. While supermarket sales have risen about 3.3 per cent a year the last five years, food and grocery supplier sales have fallen 1.2 per cent a year since 2010 and total volumes have only edged up 0.1 per cent, while average supplier margins have fallen.
Average supermarket margins in Australia are now well above the global average at 5.7 per cent – led by Woolworths at 8 per cent – compared with 4.3 per cent in the US, 3.3 per cent in the European Union and 2.7 per cent in the UK.
However, UBS says the pace of the profit transfer is starting to slow because suppliers, struggling to raise prices to cover costs and losing share to private label, have less capacity to sacrifice margins. At the same time, retailers are facing increased scrutiny and regulation, including the imminent introduction of a grocery code of conduct.
Suppliers are planning to reduce trade spending in the next 12 months, adding to the pressure on retailer margins as Coles and Woolworths cut prices and invest in service to win back share lost to German-owned discounter Aldi. Supplier trade spend is expected to ease to 20.4 per cent of sales in financial year 2016 from a record 20.8 per cent in 2014 and compared with 17.9 per cent in 2010.
Mr Gilbert says the total profit pool is expected to fall for the first time in 10 years. "Suppliers have taken the burden but now the retailers will be hit," he said.