From Boom to Gloom

The rule of thumb in international retailing is that you've got to be healthy in the home market to be successful abroad. If this retail wisdom holds true, Rewe is in trouble. After rapid domestic growth the German retailer expanded abroad to become Europe's fourth largest food retailer. But with a fierce price war in Germany - augmented by the arrival of Wal-Mart in 1997 - Rewe doesn't seem healthy enough to survive. So what does the future hold?
Elsevier Food International, Vol. 4, Number 2, May 2001
Pascal Kuipers

A year ago, Rewe chairman Hans Reischl couldn't resist the urge to refer to Wal-Mart during the presentation of its annual report in early 2000. "We don't plan any 'roll back' in our new business year, but we intend to move forward in all our businesses and switch on the turbo if needed," he said. A year later, on 28 February 2001, Reischl emphasised that," ... contrary to many of our competitors, we managed to earn money in the difficult last year in the German food retail market." Oversupply of selling space causing tough price competition plus extra loss of sales due to the BSE crisis aggravated the German business climate,a situation that is not going to change next year. Reischl is confident, however, that within just two to three years only the strongest will be left as survivors of the ongoing price battle. According to its chairman, Rewe will be one of them. "Food retailing will remain Rewe's core business, accounting for over 80 per cent of total company sales," says Reischl. Germany's share is still over 78 per cent of total food retail sales (and 65 per cent of total company sales), which shows just how important the difficult domestic market is to Rewe.

Doomsday scenario
Reischl continually stresses that food retailers in Germany must limit the number of stores they exploit and the total sq uare metres of selling space. Most retailers however, are reluctant to do so, afraid they will lose market share and hence purchasing power in Germany's extremely price-driven retail market. This is a doomsday scenario, according to Reischl, because retailers will never become profitable enough to survive in the long term. Those with the deepest financial reserves will survive in the end, but they will be the survivors of a price war that will structurally devastate the food retail sector. Privately owned companies like Tengelmann and Rewe - firms that don't feel the pressure of shareholders - are structurally able to fight the battle, but both have indicated they won't let things get that far. Both have already diversified into new fields - notably DIY and, in the case of Rewe, travel agencies - and both have limited their dependence on the domestic food market by venturing abroad. Tengelmann, for example, has dramatically reorganised its German food retail business and divested most of its service retail assets so as to be able to focus on its discount banner Plus. For its part, Rewe has stabilised its expansion of food retail stores over the last two years, - a slight decrease both in numbers and sales area - to focus on increasing profitability, profitability that is particularly coming from non food. The increase of Rewe's non food sales in the last few years is in fact remarkable. In 1997, M + M Eurodata estimated that non food made up 21.4 per cent of Rewe's total domestic sales. In 2000, it was estimated to be 33.5 per cent.
Despite the need to increase the profitability of its core business, Rewe has yet to restructure its domestic food retail set-up. The company still operates a myriad of store concepts (described by Rewe as its 'multi-channel strategy'): 34 Globus hypermarkets in Nordrhein Westfalen (a region in western Germany); large and small supermarkets, discount and specialty stores, and of course its Toom hypermarket concept, which aims at a selling space of some 7,000 square metres, with food accounting for 75 to 80 per cent of sales. To increase the profitability in food retailing, Rewe wants to lower the number of self-owned chain stores and increase the number of franchisees. According to experts in the German food retail sector, independent franchisees of the Rewe concept retained a return on sales of between 1.2 and 1.5 per cent, which, on average, is a good figure in the price-driven German market. Rewe's own stores on the other hand recorded a return on sales of less than one per cent. Noteworthy is the fact that in 1999 it was exactly the other way around. Rewe's policy of limiting the number of stores has so far been confined to independent store owners. In fact, last year the number of Rewe-owned chain stores increased, if only slightly.

Lacking transparency
A study by the German trade magazine Lebensmittelpraxis involving 1,000 Rewe franchisers indicated that 750 of them complained that Rewe's purchasing conditions are inadequate to maintain the fierce price battle the German retailer is waging on its home market. Moreover, many franchisers said that Rewe's retail services, such as in-store promotion and displays, are too expensive, while others noted that Rewe lacks a clear-cut marketing strategy. "We belong to Europe's top five retailers, but our clients don't know what kind of business power we represent," said one - hardly a statement that's likely to attract new franchisers. Rewe's franchisers do, however, laud the independence granted them as according to Rewe this optimises returns. Yet in a market where many independents are just struggling to meet bottom-line profitability, even this selling point is undermined.
What emerges from the Lebensmittelpraxis study is that Rewe, despite the autonomy of its store managers, lacks transparency. The figures gathered by M + M Eurotrade do not provide a clear picture of Rewe's business since these figures are a combination of wholesale and company-owned outlets (primarily superstores and discount stores). Even with the help of its retailers, who are refreshingly candid, the figures provide very little insight into the company. This prompts Lebensmittelpraxis to describe Rewe as a huge conglomerate comprising over 250 businesses, participation holdings and so on, whose lack of transparency arouses frustration on all sides. This is because " ... there is no parallel in payment streams and information," says an insider commenting in Lebensmittelpraxis - anonymously of course, as Mr Reischl is said to disapprove of any criticism, especially from inside. "We don't know where subsidies like publicity expenses obtained from manufacturers flow to," the insider continues. "Who's responsible for the money that's paid by suppliers?"

Powerful Otto
Rewe boss Reischl is said to be responding to the criticism by integrating buying and merchandising and adding a centrally designed marketing strategy to the boards' core competence. Apparently, he is doing it while he can, since Otto Kalmbach is retiring from Rewe's board. Kalmbach - called 'Powerful Otto' by the German publication Manager Magazin - has been Reischl's right hand man for many years. Responsible for Rewe's purchasing policy, Kalmbach is apparently unmatched in his skill in dealing with suppliers. Replacing such a man will undoubtedly be difficult, but at the same time it is an ideal moment to restructure the board. Rumour has it that the board will increase from two to four people, though how Reischl will achieve this is not a topic he's willing to discuss. The restructured board should, however, correspond more concisely with Rewe's immediate needs in marketing and buying/merchandising, as well as giving future fields like DIY and travel agencies due attention.

Centralisation
Reischl is said to be centralising buying/merchandising at board level in order to benefit from purchasing leverage. However, according to the 'experts' and 'insiders' quoted in Lebensmittelpraxis, Rewe's discount operation Penny (which accounted for 34 per cent of Rewe's 1999 domestic food retail business) failed to stay in line with market developments and has outdated stores and locations. The OEM 200 million (US$ 94.6 mn) Reischl wants to invest in modernising Penny's store base won't create the type of distinguishing concept that will result in structural sales gains. Some locations will have to be privatised and turned into independently owned supermarkets. Slowly people are doubting whether the Penny concept can succeed within the Rewe company, comments Lebensmittelpraxis. But the slump is not limited to discount only. Rewe's supermarket chains Minimal and HL have similar problems. And it seems that all Rewe's efforts to solve its problems have come either too late or proceed too slowly, says an insider:
"The problems that are now appearing make it clear that the board is missing an energetic salesman. Reischl is an excellent strategist, but he is clearly no salesman."
Rewe is still feeling the repercussions of its decision to purchase half of the multiple retailer Leibbrand in 1974, and the other half in 1989. Leibbrand added several chain store concepts like Penny, HL, Toom and Minimal to Rewe's wholesale business. It also added a lot of purchasing power, which 'Powerful Otto' could certainly utilise to the company's maximum advantage. Yet with so many plans and so much touted potential, Rewe has yet to restructure or modernise any of its concepts. The price Rewe will have to pay for its indecisiveness in this area could exceed all of the company's purchasing power gains.

Austria Rewe’s second largest market, and here it has three main concepts: Mondo for discount stores, Billa for supermarkets and Merkur for superstores (food and non food). From spring 2001 onwards, the bigger foodstores will be tested in Austria under the Big Billa banner. These are outlets of about 1,500 sq m that fill the large Kerkur stores (over 3,000 sq m). Billa is not represented in this 5,000 size. Its main Austrian competitor (Spar) works within the Eurospar and the even larger Interspar formats.

Business abroad
The question is whether or not all this will impact Rewe's position abroad. The answer, of course, is yes. Germany, which in 1999 accounted for approximately 80 per cent of Rewe's total business (1999), is not delivering the necessary capital to finance further expansion. As a private company mainly owned by co-operatives, the only way Rewe can finance expansion is through profit, loans and/or financial reserves, the latter of which are estimated to be DEM 2.3 billion (US$ 1.1 bn). Real estate can finance future growth as well, but Rewe doesn't appear to be in a position to convert real estate into money via a sale, only then to be forced to lease back the property it just got rid of. For starters, Rewe doesn't own that much real estate. After the unification of former West and East Germany, Rewe did build shopping centres in the former East Germany, but the DEM 145.6 million (US$ 79.4 million) Rewe names as the value of its fixed assets in its 1999 annual report is hardly enough to finance expansion abroad. Perhaps the company can find the resources within its co-operative structure or via the Billa organisation, but in general it appears that Rewe lacks the type of real estate portfolio to sustain its growth targets.
When Rewe acquired Austrian multiple retailer Billa back in 1996, Austria became the company's second largest market with a 13 per cent share (J 999). The remaining seven per cent of Rewe's foreign shares is spread across eight countries (excluding Bulgaria), led by Italy with 1.5 per cent. Last year, Rewe acquired the Italian retailer Standa via its Austrian subsidiary BHL (Billa). According to Rewe, Standa's 119 supermarkets and department stores in northern and central Italy are good for a turnover of OEM 1.6 billion (US$ 757 million). The supermarkets will be integrated into the Billa network. Together with its Penny discount stores - which added 54 stores in early 2000 in a remarkable swap with Tengelmann, which acquired Rewe's 40 Penny outlets in Spain - Rewe owns over 320 stores in Italy, with total turnover of OEM 2.8 billion (US$ 1.3 bn).
Rewe has been less successful in other European countries. Last year, it pulled out of Spain (with the aforementioned Tengelmann swap) as well as out of the UK, where, after failing to push the Penny discount format there, it sold its 28.1 per cent stake in the multiple Budgens. In France, where its 70 Penny stores gives it a marginal position, Rewe has to compete with Aldi and Lidl with their respective 407 and 818 stores and sales 6.5 and eight times greater than Penny's. Regions that still interest Rewe are Eastern/Central Europe and the Balkans. Rewe's independent Austrian subsidiary Billa is responsible for expansion in these regions; more specifically, the Billa subsidiary Eurobilla, the holding company responsible for strategy, controlling, planning and knowledge transfer for the company's cross border business. In other words, Billa runs its own Billa supermarket format while Rewe focuses on discount with Penny. In the Czech Republic, Rewe is number three in total sales behind Metro AG's cash & carry subsidiary Makro and Ahold, and is runner up in food sales after Ahold. In Poland, Rewe ranks fourth in total sales and third in food sales, and in Slovakia it is third in both rankings. In Hungary, the German retailer ranks just sixth in total sales and fifth in food. According to the Shopping Monitor Central Europe, whose figures were supplied by Incoma and the GfK Group, Rewe's Penny market is the favourite shopping destination for food among Hungarian consumers and second, among Czechs.
In Poland, where Penny has yet to fully penetrate, Rewe remains relatively unknown.
Similarly, Billa supermarkets rank second amongst Slovaks, but far behind local favourite Jednota. Rewe has also upped its attention on the Balkans, where in 1999 it opened two Billa supermarkets in Croatia. It aims to have a network of 50 stores by 2005. In February 1999, Rewe also opened two Billa supermarkets in Romania, but the company has set no growth target to date. Bulgaria is Billa's latest new market, where last year it opened four supermarkets. A network of between 20 and 25 stores is the goal in the coming years.

Reorganisation and reorientation
But when all is said and done, Rewe depends largely on its home market, a place where food retailing still dominates the business, but where margins have become so lean that reorganisation seems inevitable. Options include drastically limiting the number of store concepts in food retailing, updating the store base and/or cutting operational and procurement costs (via its WWRE membership, for example). Rewe also needs to re-orientate its new businesses to provide it with the profits it needs to survive. In 1998, Rewe acquired 54 DIY stores in Germany. It added another 138 DIY stores a year later. All have been converted to Rewe's DIY banner Toom.
Travel agencies are another one of Rewe's big businesses outside food retailing. By acquiring travel company LTV and a 40 per cent stake in the affiliated airline company LTV Lufttransport in early 20m, Rewe more than doubled its travel turnover to over DEM 14 billion (VS$ 6.6 bn). "Sales are huge in this sector, but I doubt if it is a profitable business," an analyst told Lebensmiltelpraxis. The travel business is cost intensive, implies high risks and, just like food retailing, its margins are under pressure due to fierce price competition. LTV is not profitable, which implies yet another round of restructuring for Rewe. Lebensmittelpraxis quotes Norbert Fiebig, a member of the management team of Rewe's travel business, who believes LTV will be profitable in two to three years, with the exception of the airline company which will require more time.
Can an international retailer with so many problems at home survive in the long run, or even for another two or three years? Obviously, the new management team has many challenges ahead. This makes Rewe's announcement that it plans to set up shop in China look more like a PR stunt than a viable and profitable business strategy.