The era of “go big or go home” in U.S. grocery retailing is coming to an end as top chains leverage new strategies to cope with change, said Joe McKeska, President of Elkhorn Real Estate Partners, during a presentation earlier this month at the 2018 International Council of Shopping Centers (ICSC) OAC Summit in Dana Point, Calif.
“For years, the prevailing strategy for chains to drive growth was through some combination of opening new stores and finding good brick-and-mortar operators to acquire in order to increase economies of scale,” McKeska told the audience during the presentation at the Ritz Carlton Laguna Niguel. “But today, we’re seeing less and less focus on new store growth and horizontal integration. Now the direction is vertical — grocers are intently focused on cultivating the capabilities they need to survive in a disrupted marketplace.”
A 25-year veteran of the grocery business who previously headed real estate operations for Southeastern Grocers, LLC and Supervalu, Inc., McKeska formed Elkhorn Real Estate Partners in 2017 along with Melville, N.Y.-based real estate firm A&G Realty Partners. The venture focuses on helping retailers and investors maximize their real estate portfolio performance in alignment with their broader business strategies. During his presentation at ICSC’s OAC Summit, which focuses on the open-air segment of retail real estate, McKeska noted that U.S. discounters and grocers have shown an extraordinary willingness to alter their business models in a strategic response to disruptive forces—e-grocers, specialty formats, Amazon Alexa, meal kit delivery and everything in between.
The changes are starkly visible in the capital expenditure investments planned by leading chains, he told the audience. Kroger, for example, plans a 68 percent reduction in new store capital from 2018 to 2020 compared to the prior three-year period. “Meanwhile, Walmart plans 25 new stores in 2018, the lowest number in 30 years,” he noted. “Bear in mind that as recently as 2015, Walmart opened 230 new stores for the year.”
Instead of rolling out large numbers of new stores or growing horizontally by acquiring significant portfolios operated by their rivals, grocers are looking inward toward their own operations, McKeska said. “The capital focus continues to shift to remodeling existing stores under the banner of enhancing the shopping experience,” he explained. “Heavy investments related to digital and e-commerce capabilities — in particular, those for click-and-collect, home delivery and offering personalization — are now the order of the day.”
In addition, grocers are investing to improve their supply chains and operational efficiencies. “They understand the imperative to continually reduce prices,” McKeska said. “You’re competing not only with Amazon and other e-commerce channels, but with dollar stores and a growing deep-discount grocery segment.”
None of this is to suggest that grocers and discounters are averse to making acquisitions, McKeska noted. Examples include Target Corp. buying third-party delivery company Shipt for $550 million and Albertsons acquiring meal-kit delivery service Plated, reportedly for up to $200 million. “You’re also seeing some limited strategic acquisitions that do result in increasing store counts, but much of this is going to happen as a result of distressed circumstances,” McKeska said.
Grocers can grow their market share, McKeska continued, by acquiring and converting second-generation space. “The costs and performance risks are much lower than those associated with building new, ground-up stores,” he said. “While these types of acquisitions are increasing, what we’re seeing very little of are the massive combinations and scale-ups that were quite fundamental to the grocery business stretching back over the last few decades.”
Naturally, these trends are affecting the market for grocery-anchored centers. During the presentation, McKeska cited analysis Elkhorn completed regarding recent grocery-anchored real estate investment trends leveraging information from data provider Real Capital Analytics. The number of grocery-anchored shopping centers sold decreased from 709 in 2016 to 656 in 2017, he noted. And yet the total dollar volume of transactions last year actually increased by 12.2 percent.
“What we’re seeing is a flight to quality,” McKeska said. “There’s a supply-demand imbalance for high-quality, grocery-anchored centers where the risk of store closure in the future is very low. When it comes to those with more questionable anchors, we’re seeing a decrease in pricing. Frankly, I expect that trend to continue given the increasing uncertainties in today’s marketplace.”