Is Bigger Better?

Discussion
Nov 02, 2006

By Faye Brookman, special to GMDC
(www.gmdc.org)


There’s no stopping the big from getting bigger. Indeed, merger and acquisition activity is more than maintaining its pace this year and the number of transactions itself is robust, to say the least. According to a recently released report from The Food Institute, there were 173 merger and acquisition transactions in the food industry alone in the first half of 2006, with another 46 pending. This level of activity could mean over 400 food industry mergers and acquisitions completed during 2006, well above the 323 that were completed in 2005.

And the newest acquisition development is CVS’s announcement this week that it is now picking up Caremark Rx, a pharmacy benefits management company, making the Rhode Island-based chain a major player in that market.

But is the compression of the industry a good thing? Some say yes; others a resounding no. In just the past year, there have been mammoth deals including those of industry manufacturing companies such as Johnson & Johnson’s purchase of Pfizer and Procter & Gamble’s deal with Gillette. Most recently, the retail world was shaken up by Rite Aid’s announcement it plans to buy Brooks-Eckerd.

On both sides of the retail equation, the urge to merge is motivated by the need to yield the most power. The most vivid example is Rite Aid and Brooks-Eckerd. When Rite Aid realized it needed more stores to effectively compete with industry movers and shakers Walgreens and CVS, the chain decided it was time to hit the acquisition trail. The addition of the 1,858 stores elevates Rite Aid to about 5,000 doors and $27 billion in sales, putting the chain closer to CVS and Walgreens — not to also mention Wal-Mart, which every retailer in American must face.

Indeed, economies of scale drove the deal, according to Mary Sammons, president, chief executive officer and now chairman of Rite Aid. “Adding these stores to our company gives Rite Aid scale comparable to our major drugstore competitors, and we believe this enables us to compete more effectively in a highly competitive business,” she said.

Even small regional players have been just about all snapped up. Just this year, Walgreens nabbed Happy Harry’s and Medic while CVS took on the Albertsons’ drugstore operations.

Manufacturers, increasingly working with larger retail entities, may find their bargaining position not as strong as before. Smaller vendors may find it harder than ever to get a shot at the big chains. And, with fewer retailers to call upon, manufacturers may require smaller sales forces. This change in market dynamics has been underway for some time and will likely continue.

The manufacturing mergers — sometimes fueled by the larger and more powerful retailers — put new pressures on retailers. Bigger suppliers can demand more shelf space. Some retailers wonder if larger vendors stymie new product development while squeezing out opportunities for small or regional chains. Many buyers believe healthy competition among many suppliers keeps categories fresh.

Discussion Questions: Will mergers and acquisitions
ultimately hurt or promote the industry? Will regional and local businesses
find their prospects of survivability reduced even further? What will they have
to do to survive and prosper? Will the consumer benefit?

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18 Comments on "Is Bigger Better?"


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George Andrews
Guest
George Andrews
15 years 6 months ago
Will the consumer benefit? Does the consumer have more or fewer choices? In the late 70s and early 80s and even through the 90s, as Wal-Mart was gobbling up or replacing TG&Y, Big K, WT Grant, Roses’, Venture, Ben Franklin, Prange Way, and more; I heard the cry of fewer chains will result in higher costs and less choice. Choice: The argument failed to consider new brick and mortar formats and of course we now have the internet. Bottom line is we have more choice in format and product, not less. I can buy groceries at not just grocery stores but at mass, clubs, online and at great specialty retailers like Trader Joe’s and Whole Foods. Grocery stores have grown to a bigger footprint offering more categories and products. Remember when water at the store was one jug of distilled water for the steam iron? Now stores have up to 30 linear feet to water, mineral water and flavored water. In the 80s, Wal-Mart’s big concern was not as much Kmart as it was the… Read more »
Carol Spieckerman
Guest
Carol Spieckerman
15 years 6 months ago
While I agree with previous posts regarding the need to look at each deal on a case-by-case basis, in general, I have more faith in the “A” piece of M&A. Looking at a dramatic non-retail example, folks have taken to calling Google’s $1.65 billion acquisition of YouTube Inc. the “deal that paid for itself” since Google’s market value spiked $5 billion just from the pre-deal buzz. Less spectacular deals are happening all over the place in retail – Deals that promise renewed relevance, access to consumer niches and big profits to brand owners in particular. Liz Claiborne is grabbing up lifestyle brands right and left and investing heavily in their success (check out the explosion of all things Juicy Couture), Vanity Fair is on the hunt for more brands…and we’re closely watching brand brokers such as Iconix that are following in Cherokee’s low overhead/high profit footsteps by brokering brands directly to retailers. With mergers, the big get bigger (not necessarily better)…acquisitions can offer less obvious and more nimble benefits that play out over the long… Read more »
Herb Sorensen, Ph.D.
Guest
15 years 6 months ago

Race’s comments seem absolutely right on! It’s the old 80/20 principle. And who cares about the 80% mediocrity. It’s the 20% success that drives us forward. So I’m very happy that “only” 17% make it. Wonderful! Where do I sign up? :>)

John Rand
Guest
John Rand
15 years 6 months ago
It is statistically provable (and we have maintained this for some time) that scale has absolutely no correlation with growth. Harder to measure but probably equally true is that scale has no correlation with consumer satisfaction. Who is a better retailer, Winn-Dixie or Wegmans? Clearly scale per se is not all that powerful. Drugstores are a slightly special case because of the value of scale in negotiating prescription drug reimbursements and in becoming a favored outlet for important medical insurance plans. Department stores are a classic example of confusing the outcome with the process – they embarked on the quest for scale thinking that was their competitive need – and shot themselves in the collective feet because they lost the true competitive edge, which was fashion relevance; they homogenized themselves into near irrelevance. As far as food companies, leaving aside those mergers and combinations driven by internal ownership and finances (recovery from mismanagement, family cash-outs, cash flow problems, etc.)few if any mergers have delivered either growth for shareholders or consumer satisfaction. It’s pretty easy to… Read more »
Race Cowgill
Guest
Race Cowgill
15 years 6 months ago

Our stats show 83% of mergers and acquisitions fail. 83%. We have tracked a number of causes of this: poor cultural fit, poor process merging, poor executive merging, multi-facet poor integration. Despite how logical or “natural” an acquisition or merge might seem (and there is always a logic for it, or the boards would not allow it), few of them really work. Is an industry hurt by 83% of its mergers failing?

David Livingston
Guest
15 years 6 months ago

On paper it sounds good. One plus one is suppose to be two, but it usually turns out to be 1.85 in the grocery business. But hopefully the economies of scale make it worthwhile.

Mergers can mean a boom to the competition. Ask companies like Wegmans how they have benefited from Ahold’s influence on Tops and Giant. Ask H-E-B how happy they are that Safeway bought Randall’s. Ask Roundy’s and Kroger how they benefited when A&P bought Kohl’s and Farmer Jack. While one side benefits from the economies of scale the competition benefits from the loss in sales that usually follows.

Mergers lead to increased sales and perhaps profits, but rarely does the acquired company improve. This leads to new opportunities for competitors and which means more choices for the consumer.

Dick Seesel
Guest
15 years 6 months ago

I agree with the other contributors that you need to judge the merits of consolidation on a case-by-case basis. Does a merger or consolidation add value as far as the consumer is concerned? Does it compel the two companies to lower operating costs and gain market share, adding value to shareholders?

The retail industry is no different from the consumer products industry, the apparel industry, the airline industry, etc. Two weak merger partners tend to fail over the long run because there was not a good case for either one to exist on its own. When mergers result from one side’s position of strength (e.g. Macy’s), consolidation may lead to a homogenous retail landscape. Eventually the consumer will demand something innovative and different.

Len Lewis
Guest
Len Lewis
15 years 6 months ago

This is a pretty broad question, so I’ll give you a pretty broad answer. For some companies, mergers are a path to efficient and profitable diversification. For others, it’s just a numbers game.

Bigger is not necessarily better if you are simply going to follow the same mediocre strategies you’ve had for a decade. Increasingly, it’s not about acquisition but execution. Whether you operate one store or 1,000 if you do things right at the store level you’re going to stay in business. I don’t just mean having the same old items at competitive prices–that’s a given. By execution, I mean taking chances on things that will excite consumers and make your operation really stand out from the pack.

George Anderson
Guest
George Anderson
15 years 6 months ago

Very few business mergers create something better and stronger than what was there before. Consumers certainly haven’t realized the promised benefits usually touted when mergers and acquisitions take place.

Joseph Peter
Guest
Joseph Peter
15 years 6 months ago
In my opinion, it is good for a large RX chain to be coast to coast and have multiple locations. People want the security blanket of having their favorite pharmacy when they travel to another town, so that they can easily pick up their prescription in an emergency. Acquiring needs to be done carefully and thoughtfully with local consumers concerns. As far as fashion/speciality HBC retailing (cosmetics, perfumes, colognes), a good example is the Marshall Field’s/Macy’s debacle in Chicago. I find that homogenization in department store sector is causing a slow death to the department stores. Of course stores like Kohl’s, Sears and Penney’s can be national, but when you no longer have one regional name at a mall, it turns consumers away. It’s funny what consumers tolerate. The people in Chicago are outraged at losing Marshall Field’s, and according to Terry Lundgren, their sales are lagging at the former May stores including Field’s. Contrary to that in Chicago, no one is calling “foul play” with CVS buying out freestanding Oscos, no one is upset… Read more »
Ryan Mathews
Guest
15 years 6 months ago

It all depends on the merger. P&G and Gillette — without a doubt a great marriage. CVS and Caremark — too early to tell. By the same token, the implications for smaller operators aren’t always as clear. Combining two dinosaurs may open all kinds of new opportunities for smaller firms. Putting together two giants may eliminate opportunity altogether. You have to look at each of these examples on a case by case basis.

Charlie Moro
Guest
Charlie Moro
15 years 6 months ago

There are really two issues that, while they may seem in conflict, over time are the natural result of the business cycle. The consolidation of sectors should hopefully begin to take out the inefficiencies that drive up costs for all aspects of the distribution path. I think we can all look at Wal-Mart, from at least a cost reduction model perspective, as somewhat the benchmark.

At the same time the homogenization of offers, leads for upstarts, niche players and unique shopping experiences…the cycle, over time, covers both.

Herb Sorensen, Ph.D.
Guest
15 years 6 months ago
So it all depends…. In addition to efficiencies and economies of scale, there are other internal and external issues that are important. Externally, consumers are ordinarily benefited by competition. However, that doesn’t automatically translate into a bunch of small businesses competing inefficiently among themselves. Wal-Mart has clearly benefited the consumer by competing with, and putting out of business, a lot of small businesses that had no right to survive, in the interests of the consumer – the person voting with their dollars at the counter. This would really be a bad thing if, however, Wal-Mart became a dominating monolith in the marketplace. But it hasn’t. Other retailers have stood up and competed effectively, and some are even quite small. This is good, because the only safety for any of us is pluralism. That is, multiple competing interests, each striving to serve us better and thereby earn our custom, whether in the economic, political, social or other arenas. Internally, division-of-labor issues and efficiency drive size. However, we have all seen blundering incompetent commercial behemoths. There is… Read more »
Bobby Martyna
Guest
Bobby Martyna
15 years 6 months ago

True economies of scale are extremely difficult to realize through M&A; they always look great on paper, but the results are almost always below expectations.

Compare the organic growth of Wal-Mart and their ability to achieve economies of scale against a former M&A juggernaut — the old Albertsons. The apparent short cut to improved scale and profitability is very tempting — but when it fails, it fails in a spectacular way.

For smaller chains and independents, competing against organic economies of scale is very tough, while competing against merged and often force-fit roll ups — not nearly so.

Camille P. Schuster, Ph.D.
Guest
15 years 6 months ago
Mergers are certainly an advantage in terms of economies of scale. However, they also make it more difficult to manage the paradox of cutting costs while continuing to provide consumer value. Fragmentation of consumer groups means that not all consumers or groups of consumers want the same product. Gen X and Y demand customization and personalization. If the companies guiding the mergers and acquisitions focus on the economies of scale and create stores with similar products in all locations, they leave the door open for small, local or regional stores to create very profitable niches for themselves providing products that appeal to the local market and provide an opportunity for personalization. Trying to compete against local stores or web outlets that provide what the consumers want in each location is a challenge. Modifying stores to provide a different group of products in each location or region makes it difficult to take advantage of the economies of scale. The mergers and acquisitions don’t automatically mean future success. It depends upon how the paradox is managed.
Bernie Slome
Guest
Bernie Slome
15 years 6 months ago

Bigger is not necessarily better. The are many different factors that impact whether or not a merger is successful. Are the philosophies the same, are the cultures the same, is the integration smooth, who stays, who goes? I could go on and on. What I do foresee happening will be a number of stores closing. I foresee fewer choices for consumers. I see smaller companies beginning or expanding as they see opportunities left by the giant who is no longer able to change quickly or adapt to different market conditions. Just when one thought the food industry had matured, we find that it is undergoing a rapid change and further maturation.

Mark Lilien
Guest
15 years 6 months ago

When interest rates are low, corporate acquisitions are easier to finance. Mergers are usually acquisitions, not combinations of equals. Mergers and acquisitions aren’t customer-driven, they’re financially driven. That doesn’t mean customers suffer though. Sometimes the acquired locations are run better. When Barnes & Noble bought Bookstar, they stabilized the finances, allowing the locations to stay open and well-stocked. And sometimes the acquirer changes very little, other than the name above the door. When Macy’s bought May, the merchandise assortments and services hardly changed, since they were so similar to begin with. When P&G bought Gillette, did the Gillette products change? The same quality, advertising, and distribution continued.

William Passodelis
Guest
15 years 6 months ago
I feel that the cost savings of consolidation are great and are a benefit for operations, logistics, and the shareholders. However, I agree that things need to be considered on a case by case basis. I also do not see a problem with Rx consolidation, but as Omnisuperstore pointed out, some consolidations really require careful thought and consideration. Witness the Macy’s/Marshall Field’s debacle in Chicago. Perhaps this will work in the future — Macy’s may find new shoppers in Chicagoland — Marshall Field’s however, if you know Chicago, is woven INTO that city –in its history, institutions and the psyche of its residents. Macy’s will not be able to equal this sentiment, if they ever can, for several generations. The same probably goes for Filene’s. Many Bostonians I know are NOT happy with the loss of their final Boston local nameplate. I have even heard complaints from people in St. Louis and Pittsburgh. Macy’s will need to make itself more compelling, and may suffer from customer anger for a while, especially in the Chicago market.
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