Working with suppliers - the grocery battle

The relative bargaining power of retailers and suppliers is sure to be tested during the recession, particularly in the highly competitive grocery supermarket sector wher consumers have demonstrated their preference for better value for money.

The FT reports speech given by Sir Terry Leahy, CEO of Tesco, which explains how Tesco will be looking for more competitive prices and terms from its key suppliers.

The competitive position in this market is fascinating. 2008 was generally a year of rising commodity prices which fed throught to higher production costs for supermarket suppliers. In the early part of 2008, supermarkets were happy to pass on price increases to customers (retailers love a bit of inflation), but they negotiated hard with suppliers which meant that supplier profit margins were eroded.

How things change. Now, commodity price inflation has lessened (which should improve supplier margins). However, in the grip of the recession, consumers have “made a flight to value”. The market shares of discount retailers such as Aldi and Morrisons have increased at the expense of the likes of Tesco. To remain competitive, Tesco needs to reduce prices on core products. It faces a choice - either:

- Reduce the margin it makes on such products
- Bargain harder with suppliers to reduce the purchase price

My guess is that Tesco has the greater bargaining power wih most suppliers (suppliers of branded products like Proctor & Gamble, Heinz etc might have a stronger hand). 2009 will probably see margin erosion for the suppliers in a weaker position - they need the sales that Tesco’s provides.