“Arguably one of the most essential industries”

With queues of people two metres apart outside supermarkets and online delivery slots a coveted rarity, shopping for food is a very different experience since COVID-19. How have supermarkets responded to this surge in demand?

The Association of Investment Companies (AIC) has spoken to investment company managers about Ocado, Tesco, Sainsbury’s and Morrisons. Managers discuss whether COVID-19 has changed the public’s perception of the supermarket industry and what effect the experience of lockdown could have on the future of food.

The effect of COVID-19

Douglas Brodie, Manager of Edinburgh Worldwide which holds Ocado, said: “Recent COVID-19 related events have seen Google searches for online groceries increase more than six-fold compared to even one year ago. This is clear evidence of the previous inertia towards online grocery shopping falling away and consumers’ increasing willingness to try it. Short term these events conjure up understandable feelings of immediacy, shock and awe. Longer term, though, the online grocery market has probably achieved several years’ worth of progress in a couple of months.”

Steven Noble, Adviser to Supermarket Income REIT which owns properties leased to Tesco, Sainsbury’s and Morrisons, said: “In March, UK consumers spent an extra £1.9bn in UK supermarkets, leading to a like-for-like sales increase of 20.6%, the highest sales growth ever recorded. Whilst much of this was initial stockpiling, we expect quarterly like-for-like sales will continue to grow as consumers shift spending from pubs and restaurants and switch to staycations which will impact on sales of general merchandise and clothing. Although the cost of complying with social distancing measures has been high for supermarket operators, operational leverage in the business model makes sales growth very profitable with margins of 15-20% achievable on incremental grocery sales.”

James de Uphaugh, Fund Manager of Edinburgh Investment Trust which holds Morrisons, said: “Demand has certainly increased: out-of-home meals accounted for about 25% of total UK calorie consumption; this has switched back into the home, primarily bought from the major supermarkets. For Morrisons this meant an initial sales peak followed by a fall-off, but with sales still running above prior-year levels.

“The effect on profitability is more nuanced: to deliver the step-up in sales and make the shopping environment safe, Morrisons has put significant cost into remodelling its stores as well as rightly increasing colleague bonuses for this year. Combined with markedly lower petrol volumes, much of the benefit of extra grocery sales and the business rates relief will therefore be offset by increased operating costs and community contributions to food banks; the latter reflects Morrisons’ deep sense of responsible capitalism. Profitability will likely be flat year-on-year and dividends only marginally higher, given the societal sensitivity on dividend payments.”

Alasdair McKinnon, Manager of The Scottish Investment Trust which invests in Tesco, said: “The COVID-19 crisis caused customers to stockpile essential items and Tesco, along with the other supermarkets, saw a boost to sales volume. The lockdown restrictions have led to higher costs, particularly staffing costs, and the increased sales have tended to be concentrated in categories that attract a lower margin, as chilled and other short shelf life items have been less popular.”

Gervais Williams, who manages the Diverse Income Trust with Martin Turner, said: “For our investors, it is really important that we remain sure-footed on their behalf, minimising portfolio risk where appropriate, but also remaining alive to their need for ongoing income from their savings through this period. Sainsbury’s is a good example in our portfolio. We remain confident in Sainsbury’s ability to weather the current recession well, and importantly at this time, we are pleased they can also make a meaningful contribution to those on the front line of the caring community. In contrast to many others, Sainsbury’s is also expected to sustain its dividend, so that our ultimate clients, those that are in retirement or working at charitable foundations, won’t be forced to go hungry through this unsettled period.”

Public perception – “arguably one of the most essential industries”

James de Uphaugh, Fund Manager of Edinburgh Investment Trust, said: “This episode has led to a reassessment of the role the grocery industry plays in society. The public now realises that groceries are not elastic in supply and that this is arguably one of the most essential industries.

“A perusal of past Morrisons’ annual reports demonstrates that the company has long been a standard bearer of responsible capitalism, but events like COVID-19 really hit home that no company can make profits in a vacuum and that they need to work for all stakeholders. Morrisons got this long ago. The big change is that many more customers have now discovered online grocery shopping and many will keep shopping online when the crisis subsides. Online shopping is lower-margin for the industry and so this is a profit challenge that Morrisons and others will have to offset in their cost structures.”

Alasdair McKinnon, Manager of The Scottish Investment Trust, said: “Tesco has behaved in an exemplary manner during the past few weeks. It is everything you would want to see from a good corporate citizen. These extraordinary times have demonstrated the critical nature of the UK’s food distribution network. Tesco’s decision to increase their dividend reflects the operational turnaround they have achieved in recent years and really predates the outbreak of the pandemic.”

Steven Noble, Adviser to Supermarket Income REIT, said: “The current impact has highlighted the importance of supermarket stores. We believe that well located supermarket stores will continue to supply the majority of the UK’s £200bn grocery spend. In the longer term, if online groceries grow above their current 7% market share, we expect more of these supermarkets stores to be converted to omnichannel stores capable of fulfilling future growth in online grocery sales.”

Douglas Brodie, Manager of Edinburgh Worldwide, said: “Our overriding feeling is that everything happening just now will likely serve to accelerate the structural themes that were already playing out. At a high level the primary theme is that of long-term structural, digital-led growth and automation. Online shopping generally, and Ocado’s superior proposition specifically, should be clear beneficiaries of these trends.”

-Ends-

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Notes

1. The Association of Investment Companies (AIC) was founded in 1932 to represent the interests of the investment trust industry – the oldest form of collective investment. Today, the AIC represents a broad range of closed-ended investment companies, incorporating investment trusts and other closed-ended investment companies and VCTs. The AIC’s members believe that the industry is best served if it is united and speaks with one voice. The AIC’s mission statement is to help members add value for shareholders over the longer term. As at the end of March, the AIC had 363 members and the industry had total assets of approximately £184 billion.
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