By Paul Ziobro
Of DOW JONES NEWSWIRES
NEW YORK -(Dow Jones)- Lower prices may not be all bad for grocery stores.
Prices at grocery stores are falling most dramatically in staples such as dairy, eggs and produce, areas that resonate more with consumers and where lower prices don't cut into profits as much as other promotions do, says BB&T Capital Markets analyst Andrew Wolff.
While deflation fears weigh on supermarket company shares, price declines in these categories could make shoppers more apt to notice the lower prices since these items are purchased more often.
Price cuts in staples could help traditional grocery stores like Safeway Inc. (SWY) and Supervalu Inc. (SVU) win back customers for other types of products from supercenters like Wal-Mart Stores Inc. (WMT), club stores like Costco Wholesale Corp. (COST) or discount food stores like Aldi Inc.
"It gives (the grocery stores) a chance to let the deflation fund a better price image," Wolff says.
Other analysts are skeptical that dropping prices in these areas will be enough to shift consumer attitudes. Consumers are still shell-shocked about the shaky economy and feel uneasy about the possibility of job losses, making them more willing to pocket the savings from a lower grocery bill than spend it elsewhere in the store.
"It will be an easing pressure but it's not going to show up in channel shifting or trading up in other places," said Ann Gilpin, consumer analyst at Morningstar Inc.
Competing retail outlets will also be able to lower their prices on the same items, said Edward Jones analyst Matt Arnold. But this will do nothing to address the price gap that caused shoppers to abandon higher-price grocery stores in the first place.
Perishables make up roughly half of total supermarket sales, according to the Food Marketing Institute, with produce and dairy, two areas with the largest price declines, among the largest categories.
Lower prices could help shoppers load their baskets with other items in the supermarket instead of spending those dollars elsewhere. For an industry where profits are tied to unit sales, lower prices can help move more products, Wolff said.
The trade-off from lower prices is that top-line sales suffer, making investors wary about the supermarket sector because the dollars brought in may not cover fixed costs for labor, leases and other items. For the year, supermarket shares have lagged the broader markets, with Kroger Co. (KR) shares down 15.4%, Safeway shares off 14.1% and Supervalu shares down 9.4%. The Dow Jones Industrial Average, meanwhile, is down 2.6% for the year and the Standard & Poor's 500 index is up 2.9%.
Supermarkets are cutting prices on packaged goods and other items throughout the store, and suppliers are stepping up their promotions. Those sorts of cuts can cause some pain. Supervalu, for instance, is cutting prices to change its image as a pricier retailer, but the grocery chain warned recently that first-quarter earnings would fall below analyst expectations.
Falling prices in perishables such as dairy and produce are a relatively pain-free way to offer consumers lower prices, Wolff said. Perishable items can't languish on shelves, tying the retail price closer to what the grocery store pays at wholesale.
-By Paul Ziobro, Dow Jones Newswires; 212-416-2194; paul.ziobro@dowjones.com