Will Sainsburys acquiring Home Retail Group give them what they want?

This time last week many retail experts were scratching their heads, looking for the logic behind Sainsburys bid for Home Retail Group. One week on and we can now see the logic,but we can also see the pitfalls.

Home Retail Group’s trading update today shines a light on Homebase, under talks to be sold to Australian retailers Wesfarmers, where like for like sales for the quarter were up 5%. A raft of store closures and cost reductions place Homebase as an attractive proposition for the Australians who have a reputation for turning around businesses like Coles. The UK DIY market is overdue a shake up, uninspiring stores, high prices and ridiculous range architecture in some instances (just look at the light bulb range as an example).

With Homebase out of the picture, Sainsburys potentially now have a clear run at Argos. What does Sainsburys need strategically and what will they get in acquiring Argos?

Argos concession Sainsburys

Sainsburys lack an offer to fill its biggest stores.

Sainsburys confess that they have 6% excess space, where its ranges simply are not strong enough to fill productively. While they have opened gyms in 3 stores, that is not going to be a scalable solution. They also have Argos digital concessions in some stores which has clearly proven to be a footfall driver. This is an attractive use of the excess space that can be extended to many more stores.

The customer profiles of the retailers seem to correlate, although there is plenty of anecdotal evidence to suggest that although they may be the same age and demographic they are not one and the same. It is our view that if Sainsburys can attract footfall to its stores for an Argos concession, then there is scope to add transactions at the till.

Argos reported a significant decline in walk-in sales to its stores over Christmas which was not compensated for by online sales. No big surprise really, the existing store format is outdated and the catalogue a desperately slow route to purchase. Digital stores faired better bringing an extra 3% growth to the table but the reality is Argos are strong in online sales and that is where the emphasis is. Expect store closures under Sainsburys ownership.

Sainsburys margins in food needs shoring up by general merchandise.

The margin pressure on food from price cutting to compete with discounters leave a gap that Sainsburys will be looking to offset with higher margin general merchandise sales. A walk down the electrical aisles in Sainsburys suggest that it has a good record in delivering limited ranges and offers but to extend it takes time.

Buying Argos, and its general merchandise brands like Chad Valley, Cookworks and Habitat, gives Sainsburys access to ranges that are already proven and performing. Whether the ranges are exactly right for the Sainsburys customer or will need reviewing at a later date, is a much lesser concern than having the range in store in the first place.

Sainsburys want Argos’ distribution and fulfilment expertise

To us this is secondary. The Argos system is not convertible to being able to fulfil online grocery orders so Sainsburys will continue to run its existing distribution operation as well as the Argos one. The case for it being a significant advantage to Sainsburys is weak. Complexity is something generally to be avoided but if the immediate benefit outweighs the cost then so be it.  In time, and with investment, a necessary distraction could be to build an online distribution system that serves both general merchandise and grocery.

Sainsburys are looking for good margin shelf fillers, footfall and distribution expertise. They will get that if the deal goes through but they will also get an out-dated shop format, complexity and cost. The Sainsburys shareholders will decide.

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