DISTRIBUTION:Plan-A-Lot

11/1/2001
'You've got to push the envelope. The more you push, the more opportunities you'll find," says Jeff Noddle, president, CEO and COO of Supervalu. These days, Noddle, who took over the helm in June from long-time CEO Mike Wright, is pushing pretty hard, looking at opportunities outside Supervalu's traditional customer base —such as alternative formats, significant reductions in inventory, organic growth vs. acquisition, B2B initiatives, and a laundry list of other strategic issues.

Mix these elements with a healthy measure of long-term fiscal prudence, and it all boils down to one simple thing—rethinking the distribution business. "My vision is to be the best-of-class international supply chain and logistics company and a significant worldwide retailer," Noddle says.

Recent setbacks, including the com-pany's exit of the Kmart business, led to a 32% decline in operating earnings in Supervalu's food distribution segment in the second quarter. However, the second quarter also reflects significant progress for the retail side of the business, particularly in comp-store sales, which put the company one quarter ahead of previous projections.

"We're going to strive for a little different financial model than in the past," Noddle notes. "We want to focus on return on invested capital, which is just over 13%. Near-term we want to get that to 15%, and later on, beyond that. We don't want to expand gross margins. We want to expand operating margins through cost reduction and turning assets much quicker. Basically, we want higher quality assets and a more fluid financial model."

This involves identifying opportunities not only in the company's hard-asset base but also in inventory. "On any given day, we have $1 billion in inventory. In each of the last two years, we took one day's supply out of inventory," which represents about $50 million a day, Noddle says. "Going forward, we expect to take one or two days' supply out of inventory every year. And I'm looking at a 5- to 10-year time frame," he says.

"When I started at J.M. Jones in 1976, we were a local company. We weren't in retail at all; we had 30 divisions, each with their own president. We had size, but not leverage. Today, we're a different company, but we've tried to preserve a balance between size and being local when it comes to marketing," he says.

Part of the job has been accomplished, but the company is only about halfway through a transition that will completely reshape its distribution business. "Not everything has to come out of a single box in each location. We can move products to market in different ways, along different paths," Noddle says.

"We are thinking of the business in terms of logistics, with the help of a proprietary database of information that tells us what it costs to move goods through the system, why it costs more to serve one store than another, and ways to handle and price goods that are more closely aligned with true costs," he says. "We can build on that platform and use avenues of growth that we hadn't thought of two years ago."

Noddle's strategic vision for Supervalu is clearly an outgrowth of the Advantage Program—a massive project begun in the mid-1990s after the company's acquisition of St. Louis-based Wetterau Inc., a move that boosted Supervalu's geographic reach and added key retail businesses to the company's roster, including Shop 'n Save and Save-A-Lot.

"Back in 1994 and 1995, we started taking a strategic look at the future and had to ask ourselves how business would be done. For example, whole- saling depended a lot on buying inventory in times of inflation and allowing it to grow in value. We derived a lot of income from that, but we knew that environment wasn't going to continue, and the way we were doing business had little to do with what the future was going to be like. It created a lot of change and discomfort. But we knew the basic economics of the business had to change. We just didn't know how quickly it would happen," Noddle says.

Five years into Supervalu's latest evolution, the term "Advantage" is rarely used. "It's just how we operate—the normal course of business," he says. "We're probably three-quarters of the way down the path on changes to our own infrastructure. The right processes have been created, and all the elements of activity-based costing—fast- and slow-move facilities, upstream and downstream logistics, cross-docking—are in place. We have to draw them together in a new platform that will take significant costs out and complete the supply chain from the manufacturer to the consumer."

This new platform includes ration-alizing Supervalu's distribution network around several factors. One of these is the departure of Kmart, which represented a significant amount of business. "We needed to rationalize our network without that volume. Almost every distribution center we operate should either be a fast-move or slow-move facility. We've already closed five distribution centers, and we're aggregating fast and slow movers. By sometime next year, we will have completed that design, with nearly all our facilities segregated or segregating products within them," he says.



'Additionally, we've been food marketers, and that's an important competency. But we haven't thought of ourselves as a supply chain business," Noddle emphasizes. As he and his management team looked deeper into the company over the past nine months, they saw the need to break down Supervalu into finer components. "We have working groups that are identifying efficiency and cost reduction opportunities on nearly every line of the P&L, and we're coming up with a plan this year and next on how we're going to reduce structural costs."

One of the groups is simply called fourwall. "These people look at every function within the existing four walls, including cross-docking, technology, equipment and order patterns. Other groups are looking at transportation and marketing services," he says.

Creating this stronger, lower-cost supply chain will also enable the company to think about moving outside its traditional customer base. "The traditional wholesale business is $110 billion. We have a pretty good share of that and can continue to grow in the existing base. But we're experts in moving highly consumable goods to retail businesses. Over time, we'll develop a strategy to market what we do to other types of retail businesses," Noddle says, also noting the potential to expand by serving existing chains as a third-party logistics manager. "We do some of that today by operating Kroger facilities in Detroit and Phoenix," he notes.

"If we can become best of class, there are a lot of supermarket chains that might consider outsourcing all or a portion of their distribution if we can do it in a cost-effective way and have the information base they need to run their businesses. Retailers are interested in being retailers and putting their capital against that side of the business. They look at the distribution infrastructure as a line on their P&L; to us it's a science," Noddle says.

In an effort to widen Supervalu's client base, virtually every path is being explored, including drugstores, c-stores, pet stores, and even opportunities in foodservice distribution, despite the rapid-fire consolidation that's taken place. "We moved 15 billion cases of product and traveled 100 million miles last year. We understand logistics and retail and can apply that to a broader base of businesses. Basically, we're looking at a more fluid logistics model. By that I mean we don't have to be married to our bricks and mortar," he says.

Asked if this means further consolidation of distribution centers, Noddle replies: "It could. This is an evolution, and we'll continue to consolidate distribution centers as long as there are efficiencies to be gained," he says, noting that the company is constantly looking at the network for vulnerability, as well as opportunity.

Part of the transition taking place at Supervalu includes retail restructuring. So far this has involved getting Cub Foods out of the Indianapolis market and Laneco out of the Lehigh Valley area. "We've sold and closed other retail locations as well, and we're about halfway into our hard-asset restructuring," Noddle says.

Another key element in the transition strategy is accelerating the growth of Save-A-Lot. "We think it's a true national concept. I think it's the one format that can operate coast-to-coast and border-to-border," he says. The St. Louis-based franchise operation opened about 100 stores last year, and Noddle believes that the chain, which recently opened store number 1,000, can increase at a rate of 150 or more a year.

Demographics are in Save-A-Lot's favor, he says, noting that the concept appeals to households with annual incomes of $35,000 and below, representing 45% of the households in the United States. "We think we could have 3,000 more stores, and we're going for it," he says, adding that they will be both corporate and licensed. At present about 80% of Save-A-Lots are licensed operations.

Is Save-A-Lot the answer to Wal-Mart's pervasive expansion program? "Any time anyone thinks they have the answer in retailing—they're doomed. Where it operates, Save-A-Lot is the lowest-priced food store, including supercenters. But they're not intended to compete against a Wal-Mart Supercenter in broad variety," Noddle says.

Save-A-Lot is only one consideration for growth, he says, noting that many retailers who invest in them operate other formats as well. Meantime, corporate retail is part of an important strategic transition. "We've studied every market in terms of customer perception, market share and competition. We decided not to be in every single market and to concentrate capital and resources on those that have the highest potential," he says.

Whether Supervalu will exit other markets remains to be seen. "In some, we need to improve our performance. If we don't, I suppose we'll consider whether we go on long term. So far this year, we're making good progress in every market," he says. Last year's shortfall in retail can be traced primarily to Cub operations in Illinois, Indiana and Ohio. "We had an inordinate number of supercenters open in these areas. Additionally, we had begun to reformat Cub a bit and moved away from our everyday low price roots. We also began to have some like-store sales performance problems, and a lot of square footage was introduced. So a number of factors led to a very poor performance in last year's second half," Noddle says.

"By the end of this year, we've committed to be at flat comp-store sales or better. But I'd be disappointed if we don't do better than that," he says. "The key to this year is recovering retail earnings to make up for the loss of Kmart. As of the first quarter, we're on track."

Adding stores in individual markets is certainly part of the plan. But Noddle emphasizes that in the near term organic growth is more important than acquisition. Long-range strategic plans call for acquisitions in the retail and distribution businesses, "but not until the restructuring has settled in a bit," Noddle says. "We haven't yet committed to growth. Wall Street wants those answers too. What we've said is that by the second quarter of this year, we'll begin to give guidance on our long-term growth, including earnings and return on capital."

While nothing is imminent, new retail formats are part of Supervalu's evolution. "We're always looking for ways to tweak the current offerings and see what's next. Even in Save-A-Lot, we're looking at what we'll need in the future for that customer base," he says.

"We have 150 pharmacies, and it's a growing business for us. But we don't want to be the next CVS or Walgreen's," Noddle says, waving off the possibility of creating a standalone pharmacy business. "Our expertise is offering pharmacy services within a supermarket. I think we can build on that because the supermarket of the future is going to be a place to get things done—a center of convenience for American life, not just food."

Furthermore, Noddle believes consumers increasingly will shop a store brand in different ways. "Take Cub for example. This week you may want to go to the store. Next week you may order online and pick it up or have it delivered. Shoppers will be able to move fluidly between these different ways of doing business," he says.

"We chose not to invest in online retailing because the model that's been pursued wasn't going to work economically. Ultimately, there will be a store brand that offers an online option. This is better economics than a standalone business that needs its own infrastructure and all the variable costs," he notes.

However, Supervalu is plugged in in other ways. The company is the only traditional food wholesaler that's a member of the WorldWide Retail Exchange (WWRE), providing the company with an enormous amount of global information.

"We're also a charter and founding member of UCCnet, which is establishing the standards all exchanges will use. So we're in the loops of information," Noddle says.

Additionally, the company is developing Supervalu Harbor, a system that will enable it to become an Internet service provider for its retailers. "In effect, we are moving our functionality to the Internet. Supervalu Harbor is the front end of all this information. We have yet to strategize all the potential B2B opportunities, but I think it's enormous.

"Look at the produce industry, for example. It's a very fragmented business on the grower side. There are lots of produce Internet companies, but there's really no national produce distributor. Is there room for someone in the national produce business, or a national meat distributor? Even WWRE is going to need some kind of logistics infrastructure, and we're in a position to provide it," Noddle says.

As to development of international business, Supervalu has trod very lightly in this area over the years, the only outright investment being a 20% ownership several years ago in Independent Holdings, an Adelaide, Australia-based co-op.

Noddle expects the company to continue looking at opportunities. But, aside from potential overseas investments in Save-A-Lot, he doesn't see any near-term investments in hard assets overseas.

"We have a small export business, Supervalu International, based in Tacoma, Wash. We export to the Pacific Rim and other places, and I could see us expanding. What we're doing in distribution is exportable. But there's a lot of opportunity in the United States to solidify our position in supply chain logistics," Noddle says.

"At some point, we might take the package abroad. But I wouldn't do anything now that would turn our head away from our priorities," he says.

'It's been fun and I've had a great run. But after 80 quarters of worrying whether we were going to miss our earnings estimate by a penny, I've been looking forward to having the ability not to worry about it."

After more than 20 years at the helm, there haven't been too many misses for Mike Wright, who stepped down as CEO in June, passing the torch to Jeff Noddle, a 25-year veteran of Supervalu and its operating companies.

"We've been working on the transition for three years and it's worked out well. We've got the right guy, and he's in the CEO office where he belongs," says Wright, who will retain the chairman's title for the next year or so.

Wright has presided over Supervalu for the past two decades, a period of unprecedented growth, change and challenges for the Minneapolis-based company. It was during this time that the company was transformed from a pure wholesaler into a national distribution powerhouse, as well as the 10th largest supermarket chain in the country.

"Supervalu was a leader in the wholesale industry 20 years ago. Today, we're a leader in wholesaling and retailing. I think we met the changing dynamics of the market and maintained our position when many companies slipped back, were acquired or just went out of business."

One of the major issues to confront is that wholesaling is an entirely different business in 2001 than it was in 1980. "In the 1970s and early 1980s, wholesaling was a fairly easy way to make money. Inflation was high, and you could get 10% more sales without moving one case more than you did the preceding year. Manufacturers were going with high list prices and deep discounts, and there was a whole world of forward buying that gave everyone tremendous returns on investment.

"So you were subsidizing your business with forward buying. The trap was that when inflation went away, manufacturers took enormous restructuring charges because their margins were eroding. Then they turned to promotional allowances and took away what ability we had to make 'inventory profit.' That's when we made the decision and the investment to go to activity-based selling."

As both an outside lawyer for Supervalu and as CEO, Wright has shepherded numerous mergers and acquisitions.

"This year is more like 1980. Our last acquisition of any significance was Richfood, and that was three years ago. We haven't been active with the FTC since then. But they appear to be much tougher," says Wright.

If there was one move that might be a watershed in Supervalu's development, it was the 1981 acquisition of Cub Foods. "We didn't go to them, they came to us; and it turned out to be a wonderful transaction for everyone involved."

Cub firmly planted Supervalu on a 20-year path of retail development. "Retailing was not a long-term strategy at that point. Cub had five stores and one under construction at the time. Our first inclination was to bring it to other retailers as a franchise vehicle. Corporate retailing evolved because it became harder to find retailers who could afford the $8 million-plus to build and operate a Cub. We weren't anxious to get into the retail business. But then all the major wholesalers started talking about a retail component and it became more of a necessity. We officially started talking about retail growth in the late 1980s and early 1990s," he says, noting that the Wetterau acquisition in 1992 immeasurably strengthened Supervalu in St. Louis and brought in the Shop 'n Save and Save-A-Lot stores, along with Hazelwood Farms bakery, which really took Supervalu outside the realm of pure wholesaling.

"We needed [retailing] to protect markets where we had investments in large distribution centers, like Minneapolis, Fort Wayne and Fargo. We took some heat early on with corporate Cub stores, particularly in this [Minneapolis] market. Mentally, it was hard for some retailers to understand why we made the shift from a pure wholesaler. But in general, I think it worked out well in most markets, and we did it quite honorably," he says.

Asked whether he ever felt the company made the wrong decision at retail by not focusing on franchising, he replies: "Everybody's got 20/20 hindsight. But we got in a lot more trouble franchising Cub stores than opening corporate ones. The complexity of operating a Cub worked well for some retailers, but didn't for many more, and we ended up taking them back. If I had to do it over again, I might not franchise—or not as much."

However, Wright concedes that his comments are more hindsight than regret. He is generally satisfied with the company's strategic direction over the past two decades, but as he puts it: "There are a lot of things I would have done differently. But there's not a CEO that wouldn't say that.



'This is a tough industry. It's changed a lot over 20 years, and we've changed with it. We're a company that's been toughened. We've increased profit before taxes in 18 of the past 20 years, and sales have gone from $4 billion to $23 billion. I'm proud of that record."

Wright is reluctant to talk about the future of Supervalu, saying, "It's Jeff's ballgame now." However, much of Supervalu's recent successes and those yet to come have been due to a continuing supply chain evolution. "We made some big changes in the 1990s with the Advantage program. It was a huge undertaking and we're going through some more by taking more costs out, closing distribution centers and consolidating the volume. I don't think anyone does a better job of serving independents. But we'll get better and find better ways of handling product through reconfiguration of distribution centers."

Much of what Supervalu has done in recent years and in its long-term strategy will focus on looking at logistics as a broader business, Wright says. "We don't necessarily have to be a distributor of general merchandise, for example, but operate a warehouse for general merchandise operators—a third-party warehouse operator. I think we can leverage our expertise, and I expect we'll do more of that," he says.

Another key area is e-commerce. "We've been slow and cautious. But I'm satisfied with the progress. We've made considerable progress in other areas, helping many of our retailers get into e-commerce, being active in the WorldWide Retail Exchange, and by developing Supervalu Harbor to provide state-of-the-art e-commerce communication with our customer base. We're doing a lot of things, but they've been measured, prudent steps," Wright says.

As in recent years, Wright expects that moving forward, a major focus of Supervalu will be to continue taking costs out of the system. "ECR was a part of the whole process, and there are still things to be done. Jeff and his team are doing just that, and consolidating warehouses is a good step forward."

Efficiencies gained through warehouse consolidation and leveraging expertise in distribution and transportation will continue to help Supervalu address another problem—the growth of independents. "For us, it's a definitional thing. We see independents not as 11 stores or less, but as non-self-distributing, family-owned businesses. Certainly, the market is shrinking due to consolidation. But innovations came from independents like Don Byerly, Norman Mayne and Don Haagan—concepts that are unique to their individual personalities. I would hate to see that go away," Wright says.
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