By Andrea Felsted and Elizabeth Rigby
Published: April 29 2009 03:00 | Last updated: April 29 2009 03:00
It was last year when a food buyer at Asda's headquarters in Leeds, northern England, hatched a plan to offer customers a £1 ($1.46) frozen pizza. With prices typically about £1.49, the price cut was a drastic one, but it did find a supplier who thought it was possible.
Northern Foods, the food producer, struck a deal with the British arm of retail giant Wal-Mart to slash the price of one of its pizzas lines in return for two things: first, the promise of a spike in sales volumes to help offset the cut in prices and second, an agreement from the retailer to keep the product simple.
By offering just two types of pizza at £1 - a cheese and tomato option and a pepperoni one - the manufacturer made the numbers stack up by dedicating nearly an entire factory in Ireland to producing what is effectively one product.
Delivering big volumes at low cost, the pizzas flew off the shelves at Asda, leaving both the pizza maker and supermarket with some profit.
But win-win situations in supply agreements between retailers and suppliers are few and far between.
Relations between the two are typically combative rather than convivial. In the highly-competitive British retail market, supermarkets are constantly trying to drive better deals from their suppliers.
That imperative has become more acute in the downturn. "There is pressure to push the costs back down the supply chain," says one manufacturer.
"You have to think of it as the converters (companies that take ingredients and then produce ready meals, sandwiches, cakes), the ingredient suppliers and the farmers themselves. A converter will buy from the two below them and the pain is felt right down the supply chain when the retailer tries to cut its costs."
In recent months, retailers have been hammering away at suppliers' contracts as they look to make savings or pass on cheaper prices to customers. Tesco, the UK's biggest retailer changed the terms for hundreds of non-food suppliers, making them wait up to 60 days to be paid for goods instead of 30. Their efforts paid off. Last week it announced that it had made savings of £540m in the past financial year, helping it to deliver best-in-class margins of 6.2 per cent
Judith McKenna, finance director at Asda, says retailers have an arsenal of weapons they can draw upon to try to cut prices.
These can be found in every part of the supply chain, from making sure that lorries leaving depots after deliveries are never empty but are instead filled with goods that can be sent to stores to reducing packaging on ready meals.
When it comes to suppliers the three main levers are to extend payment days, cut the amount of inventory being held by the retailer to improve its working capital and driving down the amount paid for goods.
Asda has recently brought back e-auctions on some contracts, having phased out this practice four years ago. Under this system, suppliers must submit their best bid for a contract online in a blind auction. While the lowest bid might now win, it may be used as a starting point for the negotiations.
Asda says it has only used this in certain commodity products, such as buying in bulk cheese, with just 50 contracts agreed this way out of the thousands across the business. But some suppliers are disgruntled.
"They are using these technologies to get lower prices," complains one food manufacturer. "You have to submit a bid on an auction, you don't know who else is there and you have to submit a price blind. It is psychological, it concentrates all the information [about what suppliers can offer] on one side.
"And, quite honestly, people like us have to pick up this technology and transmit it down the line, unless you have demonstrably something unique to sell, you get into a very bad place."
The primary producers that support the chain know this only too well. Theirs is a market of supply and demand. If resource is scarce, their prices will rise, but in commodity markets where there is plenty of similar product, they have little room to manoeuvre.
The UK's National Farmers Union says that the farming community has seen an increase in retrospective changes to contract terms in recent months, whereby a retailer, having agreed to pay, for example, 20p for a pound of product, might cut that price to 18p.
While the big suppliers have the scale to force through commodity price rises, many in the industry think that the smaller manufacturers and ingredient suppliers will have to consolidate in order to strengthen their hand against the retailers they supply.
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