Why Walmart or Kroger could buy Hostess

The latest M&A rumor mill reports that both Walmart and Kroger are among a dozen or so potential bidders for the now bankrupt Hostess brands, which include classic American iconic brands such as Wonder Bread and Twinkie.

On the surface a grocery retailer buying a national packaged food manufacturer seems like an odd fit, because if either tore won the bidding process and ultimately integrated the business they'd most probably either pull the brands' distribution from competitors shelves or eventually get kicked out.  The resulting lose of distribution would almost surely mean that the brand sales would shrink resulting in a smaller business.

However, retailer times are a changing.  With the emergence of Whole Foods, Trader Joe's, Costco, Dollar Stores, and even Big Lots into the grocery space, traditional supermarkets like Kroger are facing more pressure than ever, while Walmart (the largest seller of groceries in the US) is also getting squeezed.  This means traditional grocery stores have had to differentiate themselves and give consumers new reasons to visit - developing winning private label businesses has been a major component if these efforts.

While supermarkets have seen success with private label and many retailers have even added multiple different private label brands, up until this point adding in exclusive national brands has not been a major strategy of in the traditional grocery industry.  The only notable exception that comes to mind is Walmart exclusive brand 'White Cloud' toilet paper, which was actually recently named Consumer Reports top toilet paper in the nation.  White Cloud was original created by Procter & Gamble and at one point was a leading 2-ply toilet paper in the U.S., but P&G decided to kill it and invest all their resources behind Charmin.  P&G then made the fatal mistake of allowing their trademark rights on White Cloud to expire and the right were quickly snatched up by Paper Partners, which later agreed to give Walmart exclusive U.S. selling rights.

On the other hand, departments stores have been proving that building a compelling exclusive brand strategy has worked to rebuilding store traffic and driving growth.  For example, Macy's, which has a stable of exclusive brands, reportedly generates over 40 percent of its revenue from private, exclusive and limited-distribution brands (including: Ellen Tracy, Threads & Heirs, mstylelab, Kouture by Kimora and Kenneth Cole REACTION men’s, American Rag, Charter Club, INC International Concepts, Martha Stewart Collection and Hotel Collection). JC Penney has been following a similar strategy by being the exclusive department store retailer for brands such as Liz Claiborne, MNG by Mango and Call it Spring by The Aldo Group.

Thus, it's not surprising that the concept will eventually make it's way into the supermarket space.  Supermarkets executives have become increasingly more savvy in acting like CPG manufacturers and now their private label development capabilities would allow them to easily expand the strong brand names to new products cheaply and efficiently because they could guarantee themselves shelf space and promotion support.  And there is no better platform to start building your exclusive brand portfolio tan on the back of iconic American heritage brands.

Walgreens meet Boots

Walgreens announced it is buying a 45% ownership stake in European pharmacy giant Alliance Boots GmbH for $6.7 billion, with an option to buy the entire company before 2016. Together the two chains will operate more than 11,000 drugstores in the U.S., Europe and Asia, under the Walgreens and Boots banners.  While investors appear concerned with the deal as Walgreens stock slide 6%, here's why I like the deal:

• Allows Walgreens to bring Alliance Boots' strong private label stable of products to the U.S., including No7, which is the United Kingdom's leading skin-care brand. Its interesting that while the US drug store industry average private label penetration rate is only about ~14% (30% in healthcare), industry sources suggest Boots PL penetration rate is > 40%. Now some of this delta is due to differences in consumer psychology, but nonetheless, Boots' products and expertise should be an infusion for Walgreens. Walgreens has executed this strategy, albeit on a much smaller scale, following its acquisition of Duane Reade, a New York City based drugstore, which brought them "Delish", a premium private label food brand. So this move allows Walgreens continues to build its stable of exclusive brands that both have good consumer pull and high margins, while enhancing its value equation as according to SymphonyIRI’s recent Brand and Retailer Loyalty survey, >80% of consumers feel that store brand products are equal to or better than national brands when it comes to quality and packaging, while 95% feel that store brands provide a better value than national brands.
• Makes Walgreens the largest single purchaser of prescription drugs in the world, creating significant buying power to increase margins on the the most profitable part of the store already
• Creates the largest global pharmaceutical wholesale and distribution network with more than 370 distribution centers delivering to more than 170,000 pharmacies, doctors, health centers and hospitals across 21 countries
• Boots also gives Walgreens access to emerging markets like China.

Now it's tough to say from an outsiders perspective if Walgreens paid too much for the deal, but the merger at least opens up a realm of both top and bottom line possibilities.