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The £12 billion merger of Sainsbury’s and ASDA and its effects on the grocery ecosystem

Asda Sainsburys merger

Background:

With the uncertainty associated with Brexit and little growth in the supermarket sector, chains have been seeking new sources of revenue. In April 2018, an announcement detailing the potential merger between Sainsbury’s and Asda was released, creating hype on what could be the biggest shake-up in grocery retail in the UK market since Morrison’s acquisition of Safeway in 2004.

The pressing question: how would this duopoly impact the grocery ecosystem?

In the proposed Sainsbury’s and Asda merger corporate document, the chains detail what the merger would deliver for both the industry and its customers. The new deal would develop a ‘dynamic business’ to compete with the likes of Amazon, Aldi and Lidl, all while retaining the iconic branding of each entity. Branding would remain for both chains due to the long-established brand loyalty. The merger has been pitched by the grocery retail giants as pro-competitive for the UK industry, stating that it would stimulate greater competition from rivals and lead to a dynamic strengthening of competition which would ultimately, benefit customers.

Asda and Sainbury's merger

The proposed merger is a reaction to the ‘competitive market’. With the increasing popularity of Lidl and Aldi products, Sainsbury’s and Asda want to fight back. But while Lidl and Aldi look to feed market demand and align products with customer purchasing behaviour, Mike Coupe, Sainsbury’s CEO stated the merger would focus more on improving quality, service and range while keeping prices low.

“We are committed to reducing prices on everyday items by around 10%” – Sainsbury’s report

The deal would put greater investment in technology with aims to offer better service, delivery and in-store customer experience implemented at a much faster pace to compete with the likes of Amazon, who are launching cashier-less ‘Amazon Go’ stores. The merger was also expected to result in more favourable buying terms across suppliers for both entities, who currently pay large suppliers differing prices for the same products. The envisioned harmonised purchasing power leads directly to lower costs for both companies, which would be passed onto the customer. The claims that were made in the proposal were strong and not without criticism from those within the industry.

The Competition and Markets Authority (CMA) launched an investigation to determine the impact of the merger on the industry and its customers. It concluded that the deal could – in contrast to the companies’ claims – lead to higher prices and reduced quality in-store and online. This was not the first time the CMA has stopped a supermarket merger. In 2003, the potential takeover of Safeway by either Asda or Sainsbury’s was blocked due to the potential impact on national market share. It was later permitted for Morrisons, who held a lower market share.

What’s next for the retail grocery giants?

The CMA decision came as a blow to Walmart. The new deal would have given the US parent of Asda a way to exit the UK market, one of the weakest performers in its global portfolio despite glowing financial figures in recent quarters. Patrick O’Brien, UK retail research director at GlobalData, does not believe Walmart will want to keep Asda but believes it would be unlikely that other major players in the UK would consider acquiring it, given the strictness the CMA has displayed in its decision.

So what lies on the horizon for Asda stores in the UK? It opens up the possibility of private equity or floating the business, or a foreign retailer entering the market. Market chatter has speculated whether Amazon could take on Asda, however O’Brien does not believe that taking on a major physical food presence in the UK fits with Amazon’s strategy, even in light of the 2017 Whole Foods deal. Judith McKenna, CEO of Walmart International, has suggested it will simply keep and support Asda. “Our focus now is continuing to position Asda as a strong UK retailer delivering for customers. Walmart will ensure Asda has the resources it needs to achieve that,” she said. Her statement suggests that any proposal would require a full price to tempt Walmart into a sale.

Sainsbury’s immediate priority is to tackle its underperformance versus its main rivals – Tesco, Asda and No.4 player Morrisons. Monthly market share data from researcher Kantar has placed Sainsbury’s as the big-four laggard for over a year. It’s difficult to imagine how management at Sainsbury’s could show investors that it can take action against declines in profit, especially given Tesco’s growing momentum in the UK market. Alas, Sainsbury’s CEO, Mike Coupe, quit less than a year after the CMA blocked plans to merge the supermarket with Asda and shares in the grocer plunged to a 30-year low amid investor concerns that it is struggling to compete against big four rivals, as well as German discounters Aldi and Lidl. Clive Black, head of research at investment group Shore Capital, said: the fall proved that Sainsbury’s desperately needed to come up with a plan to revive its fortunes. A plan that, some 12 months later, has failed to materialise.

The CMA decision: block on Sainsbury’s-Asda merger signals tougher approach

By blocking the proposed merger, the CMA fired a warning shot across the bows of big business. This decision is good for consumers and one that is welcome as it signals a tougher stance on mergers. Ian Giles, a Competition Partner at Norton Rose Fulbright said: “this is a controversial decision in competition law circles as it suggests a higher bar than has been the case in previous retail mergers”. While investigating the proposed deal, the CMA applied tighter criteria than in the past for assessing potential “substantial lessening of competition” sending ripples beyond the grocery sector. It used a threshold of 2.75 per cent for the gross upward pricing pressure index in local markets – a measure of potential post-merger price increases – compared with the typical 5 or 10 per cent. Independent analyses have suggested the tighter threshold could result in even smaller retail mergers being vetoed in the future.

The Financial Times regards this change as “valuable and overdue”. The regulator was too indulgent towards past mergers, such as Tesco with Booker and BT with EE. Popular suspicion of big business is growing, with justification. Brexit will both increase the CMA’s workload by transferring responsibility for vetting some bigger deals back from Brussels, and allow a rethink of UK competition law. Protecting consumers is paramount but this must be balanced with the equally vital need to ensure post-Brexit Britain remains an attractive place for business and investment.

By Amani-Cane Elouazani

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