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Supermarkets Face Supersize Rivals

By Joseph Agnese U.S. consumers appear to believe that bigger is better when it comes to where they do their grocery shopping. Supercenters -- those huge retail outlets (more than 150,000 square feet, on average) that house a mass merchandiser and combination food and drugstore in a single unit and devote as much as 40% of their shelf space to grocery items -- continue to enjoy strong sales growth. But that doesn't mean investors should write off the operators of traditional supermarkets just yet.

To be sure, the supercenters have made impressive inroads into the grocery business. Sales of supermarket items at supercenters totaled $85.3 billion in 2004. These behemoths now hold a 13% market share of the grocery industry. Although their profit margins on grocery items are not high, supercenters generate heavy store traffic by virtue of their size, resulting in greater sales of higher-margin general merchandise.

800-POUND GORILLA. Wal-Mart Stores (WMT

; S&P investment rank 5 STARS, strong buy; recent price, $50) is the major player in this arena, accounting for a majority of supercenter industry sales, followed by Target (TGT

; 3 STARS, hold; $58) and the Kmart unit of Sears Holdings (SHLD

; 3 STARS; $158).

Bentonville (Ark.)-based Wal-Mart has spread its dominance to food aisles as well. With grocery sales estimated at about $80 billion from its Wal-Mart Supercenter and Wal-Mart Neighborhood Market formats in 2004, it's the largest seller of supermarket goods in the U.S. Trailing Wal-Mart in this category: traditional supermarket operators Kroger (KR

; $19), with $56.4 billion in sales; Albertson's (ABS

; $21), with $39.9 billion; and Safeway (SWY

; $24), with $35.8 billion.

Clearly, Wal-Mart constitutes the biggest threat to the traditional chain food- and drug-retailers. In 2005, supermarket merchandise is expected to generate about 60% of Wal-Mart supercenter sales. And the 800-pound gorilla is getting larger: Wal-Mart operated 1,808 supercenters and 89 neighborhood markets in the U.S. as of May 31, 2005, and plans to add 240 to 250 supercenters (including about 160 relocations or expansions of existing discount stores), as well as 25 to 30 neighborhood markets by January, 2006. Wal-Mart also operated 554 Sam's Club warehouse stores in the U.S. and plans to open 30 to 40 more by January, 2006.

HOLDING THEIR OWN. In total, Wal-Mart intends to add approximately 55 million square feet of new retail space in its fiscal year ending January, 2006, which would represent a more than 8% increase in square footage for the company.

How are the old-line supermarket operators bearing up in the face of the supercenter onslaught? Despite the intensifying competition, the retail-food environment looks to be stabilizing. Industry operators' first reaction to increased competition from low-priced supercenters was to cut costs while aggressively lowering prices.

But these efforts -- which included renegotiating union contracts, implementing cost-saving initiatives, and investing heavily in promotions and advertising -- are only a first step. These retailers have come to realize that in order to succeed, they will need to put more effort into diversifying offerings to better meet their customers' needs. So they're expanding their selections of perishable offerings,ethnic foods,and gourmet foods.

RIGHT MOVES. They're also adding "dollar-store" items.And tomake theshopping experience more enjoyable and tofurther differentiate themselves from supercenters, traditional food retailersare alsoimproving lighting and product displays, widening aisles, and adding express checkout lanes.

While it's too early to tell who will succeed in this fray, we believe food retailers are taking a step in the right direction in avoiding head-to-head confrontation with low-priced supercenters. Our top picks among the traditional supermarket operators are Safeway and Kroger, each of which is ranked 4 STARS (buy). Albertson's is ranked 3 STARS (hold).


S&P STARS: Since January 1, 1987, Standard & Poor's Equity Research Services has ranked a universe of common stocks based on a given stock's potential for future performance. Under proprietary STARS (STock Appreciation Ranking System), S&P equity analysts rank stocks according to their individual forecast of a stock's future capital appreciation potential versus the expected performance of a relevant benchmark (e.g., a regional index (S&P Asia 50 Index, S&P Europe 350 Index or S&P 500 Index), based on a 12-month time horizon. STARS was designed to meet the needs of investors looking to put their investment decisions in perspective.

S&P Earnings & Dividend Rank (also known as S&P Quality Rank): Growth and stability of earnings and dividends are deemed key elements in establishing S&P's earnings and dividend rankings for common stocks, which are designed to capsulize the nature of this record in a single symbol. It should be noted, however, that the process also takes into consideration certain adjustments and modifications deemed desirable in establishing such rankings. The final score for each stock is measured against a scoring matrix determined by analysis of the scores of a large and representative sample of stocks. The range of scores in the array of this sample has been aligned with the following ladder of rankings:










Above Average


In Reorganization




Not Ranked


Below Average

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S&P 12 Month Target Price: The S&P equity analyst's projection of the market price a given security will command 12 months hence, based on a combination of intrinsic, relative, and private market valuation metrics.

Standard & Poor's Equity Research Services: Standard & Poor's Equity Research Services U.S. includes Standard & Poor's Investment Advisory Services LLC; Standard & Poor's Equity Research Services Europe includes Standard & Poor's LLC- London and Standard & Poor's AB (Sweden); Standard & Poor's Equity Research Services Asia includes Standard & Poor's LLC's offices in Hong Kong, Singapore and Tokyo.

Required Disclosures

In the U.S.

As of March 31, 2005, research analysts at Standard & Poor's Equity Research Services U.S. have recommended 30.8% of issuers with buy recommendations, 56.7% with hold recommendations, and 12.5% with sell recommendations.

In Europe

As of March 31, 2005, research analysts at Standard & Poor's Equity Research Services Europe have recommended 29.2% of issuers with buy recommendations, 50.5% with hold recommendations, and 20.3% with sell recommendations.

In Asia

As of March 31, 2005, research analysts at Standard & Poor's Equity Research Services Asia have recommended 34.3% of issuers with buy recommendations, 48.0% with hold recommendations, and 17.7% with sell recommendations.


As of March 31, 2005, research analysts at Standard & Poor's Equity Research Services globally have recommended 31.0% of issuers with buy recommendations, 55.2% with hold recommendations, and 13.8% with sell recommendations.

5-STARS (Strong Buy): Total return is expected to outperform the total return of a relevant benchmark, by a wide margin over the coming 12 months, with shares rising in price on an absolute basis.

4-STARS (Buy): Total return is expected to outperform the total return of a relevant benchmark over the coming 12 months, with shares rising in price on an absolute basis.

3-STARS (Hold): Total return is expected to closely approximate the total return of a relevant benchmark over the coming 12 months, with shares generally rising in price on an absolute basis.

2-STARS (Sell): Total return is expected to underperform the total return of a relevant benchmark over the coming 12 months, and the share price is not anticipated to show a gain.

1-STARS (Strong Sell): Total return is expected to underperform the total return of a relevant benchmark by a wide margin over the coming 12 months, with shares falling in price on an absolute basis.

Relevant benchmarks: in the U.S. the relevant benchmark is the S&P 500 Index, in Europe the S&P Europe 350 Index and in Asia the S&P Asia 50 Index.

For All Regions:

All of the views expressed in this research report accurately reflect the research analyst's personal views regarding any and all of the subject securities or issuers. No part of analyst compensation was, is, or will be, directly or indirectly, related to the specific recommendations or views expressed in this research report.

Additional information is available upon request to Standard & Poor's, 55 Water Street, NY, NY.

Other Disclosures

This report has been prepared and issued by Standard & Poor's and/or one of its affiliates. In the United States, research reports are prepared by Standard & Poor's Investment Advisory Services LLC ("SPIAS"). In the United States, research reports are issued by Standard & Poor's ("S&P"), in the United Kingdom by Standard & Poor's LLC ("S&P LLC"), which is authorized and regulated by the Financial Services Authority; in Hong Kong by Standard & Poor's LLC which is regulated by the Hong Kong Securities Futures Commission, in Singapore by Standard & Poor's LLC, which is regulated by the Monetary Authority of Singapore; in Japan by Standard & Poor's LLC, which is regulated by the Kanto Financial Bureau; and in Sweden by Standard & Poor's AB ("S&P AB").

The research and analytical services performed by SPIAS, S&P LLC and S&P AB are each conducted separately from any other analytical activity of Standard & Poor's.


This material is based upon information that Standard & Poor's considers to be reliable, but neither S&P nor its affiliates warrant its completeness, accuracy or adequacy and it should not be relied upon as such. With respect to reports issued by S&P LLC-Japan and in the case of inconsistencies between the English and Japanese version of a report, the English version prevails. Neither S&P LLC nor S&P guarantees the accuracy of the translation. Assumptions, opinions and estimates constitute Standard & Poor's judgment as of the date of this material and are subject to change without notice. Neither S&P nor its affiliates are responsible for any errors or omissions or for results obtained from the use of this information. Past performance is not necessarily indicative of future results.

This material is not intended as an offer or solicitation for the purchase or sale of any security or other financial instrument. Securities, financial instruments or strategies mentioned herein may not be suitable for all investors. Any opinions expressed herein are given in good faith, are subject to change without notice, and are only correct as of the stated date of their issue. Prices, values, or income from any securities or investments mentioned in this report may fall against the interests of the investor and the investor may get back less than the amount invested. Where an investment is described as being likely to yield income, please note that the amount of income that the investor will receive from such an investment may fluctuate. Where an investment or security is denominated in a different currency to the investor's currency of reference, changes in rates of exchange may have an adverse effect on the value, price or income of or from that investment to the investor. The information contained in this report does not constitute advice on the tax consequences of making any particular investment decision. This material does not take into account your particular investment objectives, financial situations or needs and is not intended as a recommendation of particular securities, financial instruments or strategies to you. Before acting on any recommendation in this material, you should consider whether it is suitable for your particular circumstances and, if necessary, seek professional advice.

For residents of the U.K.: This report is only directed at and should only be relied on by persons outside of the United Kingdom or persons who are inside the United Kingdom and who have professional experience in matters relating to investments or who are high net worth persons, as defined in Article 19(5) or Article 49(2) (a) to (d) of the Financial Services and Markets Act 2000 (Financial Promotion) Order 2001, respectively.

Readers should note that opinions derived from technical analysis might differ from those of Standard & Poor's fundamental recommendations. Analyst Agnese follows the stocks of food retailers for Standard & Poor's Equity Research Services

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