Why Kroger’s Store Closures And Hazard Pay Reaction Are So Unsettling

Kroger

KR
announced the closing of three more West coast stores on March 10. The Los Angeles closures follow on the heels of similar announcements in Seattle and Long Beach, totaling seven. The country’s largest full service grocery chain has thrown down the gauntlet for cities that have rolled out hazard pay mandates. Municipal governments are attempting to ensure fair compensation thresholds for frontline retail employees. Food workers are going above and beyond the normal duties covered by collective bargaining agreements, literally risking their lives at work during a pandemic that has killed hundreds of food system workers and sickened tens of thousands more.  

Like other large retailers, Kroger has done very well during the pandemic. They have earned record profits of $2.5 Billion, on sales of $132 Billion and comparative store sales of 8% in an industry where 1 or 2% is considered strong. Despite this windfall, the closures are putting hundreds of employees out of work and leaving community members looking for a new place to buy groceries. Kroger has also been very vocal in their opposition to the mandates, justifying the closures in “underperforming” stores where they couldn’t cover these incremental expenses, and inspiring further legal action via the California Grocers Association.

Like any business, grocers must balance their expenses, cost of goods and retail prices to hit a particular gross margin target, usually in the 35-40% range. Gross margin, or gross profit, for this purpose is calculated as ((retail price minus cost)/retail price). Gross margin is what keeps the lights on, keeps the paychecks coming and makes sure the supplier invoices are filled. It is a weighted blend of the individual unit gross margins across thousands of products multiplied by their unit turns in a given timeframe. 

Payroll is usually a big chunk of expenses in a given retailer, typically 12-15% of sales across the store for mid-size formats, although many mass market  and discount retailers are lower and specialty/natural shops are higher. Since most retailers scrape by with a 1 or 2% net profit in normal times, temporary hazard pay bumps incurring 2-4 points of additional labor expenses across the store will make stores unprofitable. So, while it may seem reasonable to have panic attacks about fulfilling these pay mandates, there are examples of how retailers can adapt expenses, price and margins to pursue a strategic objective.

A few years ago, New York City mandated a $15/hour minimum wage. Given the city’s astronomical cost of living, it seemed like a reasonable new wage floor. Retailers had to adjust their business models accordingly, especially if bound by collective bargaining agreements that created legal frameworks around their employee relationships; ie, they couldn’t just start laying folks off or adjusting schedules willy-nilly to save money. They had to look at store level expenses and supply chains, including promotional discounts and product costs, distribution mark-ups and logistics, and most importantly, pricing strategy.

Pricing is really the major do or die trigger for achieving gross margins, but it is very sensitive to consumer perception.  Price increases can tank product velocities if not managed well or if competitors are holding the line. With tens of thousands of items to balance their pricing and margin needs, and a marketplace with competitors all implementing the new wage, New York City retailers made the pay boost happen.

Another angle is when retailers’ expenses are stable but they decide to take on a new, more aggressive pricing strategy. This can happen in different ways, like when competition decides to move in across the street and tries to put you out of business, or when entering a new market to gain customer share and go after the incumbent stores. Either way, it’s price war time, and keeping in mind the formula for gross margin, this is always where things get dicey.  Retailers start looking at their assortment, promotional vehicles and retail prices and decide which items should be lowered. They huddle up to see how they can cover the markdown, either through additional supplier discounts, shifting margin targets by department or just by eating the loss and forecasting what your new gross margin will be in this new reality. This is not very sophisticated, as most retailer enterprise software can do this with a few keystrokes, or staff can compile the impacted items on a spreadsheet, plug in recent unit movement with old and new pricing, and calculate a new blended margin. And since most retail chains blend their gross margin dollars across many locations, either by metro area, region or enterprise level, these minor losses are usually offset by making adjustments in other geographical areas, or in less impacted departments across the chain.

It is not uncommon for department margins to get bumped up or down every year every year in order to pay for more competitive pricing in other departments. Or like in my old job, where the margins just kept going up and up in order to subsidize enterprise level pricing and assortment objectives. Your job as a merchant is find the money by negotiating supplier programs, managing assortments and adjusting planograms. You make it happen. Executing a strategic priority that impacts the bottom line is a regular occurrence in retail. 

That is what makes the hazard pay reaction by Kroger so unsettling. They are a very intelligent operation, probably the best in the business. They have one of the best private label store brands programs in the world. They are the de facto largest health food store chain in the country. They are investing heavily in smart grocery carts , Ecommerce fulfillment and direct to consumer, underwriting food justice initiatives, sponsoring SXSW food access panels, and their commitments to low prices and cultural diversity are now a meme.

Their efforts are undergirded by sophisticated data and business intelligence that understands what their customers want and how to set prices and assortment by store, by season, by metro area or geographical region, with an eye out for market share dominance and fending off brutal competitors like Wal-Mart or HEB. They are coming off of a year of eye-popping profits, that followed several years of tremendous shareholder buybacks totaling almost $7 Billion, including nearly $1 Billion since August 2020. And they are full speed ahead on employee vaccinations, PPE expenditures and safety precautions, even while they are using these as a rationale against hazard pay.

But in true winner takes all fashion, the bridge Kroger won’t cross is prioritizing additional compensation for the thousands of employees who carried their business and implemented all of these initiatives at store level, day in, day out before and throughout the pandemic. They would rather fight elected officials, spite their labor force, and turn their backs on communities instead of centering the business on the health and welfare of their dedicated employees. This is how food apartheid happens. It is a shameful, unnecessary episode for America’s largest grocery chain. Their communities and employees deserve so much better.