Significant uptick in food and grocery expenditure in direct response to the pandemic, saw the market grow by 8.4% in 2020, increasing total spend in the market by £13bn in just one year. Encouragingly, despite being up against such tough 2020 comparatives, the UK food grocery market still rose by 0.3% in 2021, achieving £167bn in overall food and grocery spend for the year.

The Christmas period was particularly positive with grocery sales totalling £11.7bn over December alone and reaching £31.7bn over the 12 weeks to 26 December 2021. Taking a look at the individual retailers, it is unsurprising that they each found it a challenge to secure year-on-year growth over the Christmas period following last year’s highs; however, every major grocer did increase sales compared to the final 12 weeks of 2019 (see chart below).

The same is true in the period immediately post-Christmas. Kantar highlights that supermarket sales in the UK fell by 3.7% over the 12 weeks to 20 February 2022. These year-on-year figures once again reflect tough comparisons against the high demand of the lockdowns at the start of 2021; however, spending remains elevated versus pre-pandemic, 8.4% higher than it was at the same time in 2019.

Nevertheless, it is important to remember that consumers are under increasing financial pressure as the costs of living continue to rise. The Office for National Statistics consumer prices index (CPI), which is the official mechanism used to measure inflation in the UK, highlights that average prices went up 5.5% in January, whilst the cost of food and non-alcoholic beverages had gone up 4.3% in the same time frame (see chart below).

As a result, retailers are being forced to pass some of the pressure onto the customer. In fact, Kantar suggests on average the recent increase in inflation has added an additional £15 to shoppers’ monthly grocery bill, as of the end of 2021. Meanwhile, Which?, the ‘not for profit’ UK consumer group, found the eight biggest UK supermarkets were charging up to 9% more for their ranges in December 2021 than they were in January 2021, with the average basket going up 3.4% over this period.

With the Bank of England suggesting inflation will hit 7% by April 2022, its highest level since 1991, there could well be more rises to come, with households needing to prepare for future falls in disposable income, including from April’s National Insurance and energy price cap rises. It is true that as this trend continues, food and groceries will demand a greater proportion of household budgets as spend in the sector is prioritised over non-essential retail sectors. However, as a result, consumers are likely to trade down, limit spend on premium goods and treats, and will be more mindful of waste, all of which will continue to impact volumes.

Retailers face similar challenges, with increases in transport and energy costs, global commodity prices and domestic wages. Supply chain issues will therefore continue to plague the grocers throughout 2022, as labour shortages, rising energy and production prices, and Brexit border controls continue to disrupt product supply and availability.

Despite the explosion in online food and grocery sales at the start of the pandemic, 2021 continued posting significant growth, boosted by the high demand seen in Q1 and the rise of Q-commerce in the drive toward consumer convenience

The online food & grocery market rose 76.3% in 2020 to over £20bn in spend for the year, according to GlobalData. Grocers were forced to rapidly accelerate their online expansion plans in response to the pandemic, in order to meet with the surge in demand. Strategies included increasing the number of their delivery slots, improving their capacity for in-store picking and click & collect as well as launching rapid delivery options.

Despite the high comparatives, online sales grew by a further fifth in 2021, boosted in particular by the high demand experienced in Q1 as the country remained firmly in a national lockdown. As a result, online penetration has almost doubled to 15% between 2019 and 2021, with online grocery sales reaching £25.1bn over the last twelve months (GlobalData).

Consumers have therefore evidently continued to use the online channel post-pandemic, with enhanced delivery availability continuing to support growth. Most recently, the continued drive toward convenience and the subsequent rise of Q-commerce is further driving consumer interest.

Q-commerce, which stands for ‘quick commerce’ – also known as on-demand or rapid delivery – is a new convenience-led market where shoppers buy basic groceries and everyday essentials on a smartphone app, which are then delivered to a consumer's home or place of work in under an hour, or as quickly as in ten minutes.

Investment in this sector has exploded in recent years despite tight margins and challenging economics. There are currently around 13 food and grocery delivery rivals currently battling it out in London alone, despite buy-outs of providers by some of the larger operators in the market. Getir bought UK rival Weezy at the end of 2021, whilst two other British firms, Fancy and Dija, were purchased by US giant GoPuff earlier in the year. Other big players include Germany’s Flink, which has reportedly attracted interest from Amazon; Gorillas, which has done a deal to deliver Tesco food; and London-based Zapp.

As a result, the major UK grocery operators have followed suit in order to remain competitive, launching their own services or partnering with existing foodservice delivery providers in order to avoid erosion in their market share. Ocado Zoom, Sainsbury’s Chop Chop and Whoosh by Tesco all service their offers from their network of stores and have begun to increase the number of stores and indeed cities their services are available from. Tesco’s trial partnership with Gorillas announced in October last year has allowed the last-mile delivery specialists to set up micro-fulfilment sites at five large Tesco stores, where they will pick, pack and deliver to customers in under an hour from a product range of around 2,000 goods (thus taking advantage of the grocer's excess warehouse space in these locations). If rolled out nationally this would prove to be a major step forward for the rapid delivery market. Meanwhile, Aldi, Waitrose, the Co-op and Tesco’s One Stop convenience brand, have partnered with Deliveroo, whilst Asda and Iceland have paired with Uber Eats.

Clearly, the major players in the UK grocery market have recognised Q-commerce as a means to further satisfy the consumers' desire for convenience, which should help maintain the current level of online penetration going forward, even in a post lockdown environment where consumers are less reliant on online delivery to meet their essential grocery needs.

That said, Q-commerce will only be successful if enough consumers sufficiently embrace it, regularly putting enough in their basket to comfortably absorb the picking, packing and delivery costs associated with this fulfilment method. This, of course, is by no means guaranteed; however, fortunately, the grocery sector is certainly at the forefront of innovation with regard to investing in its online purchasing consumer fulfilment. Many retailers have rapidly invested in and improved upon their omnichannel grocery fulfilment options in response to increased pandemic driven consumer demand, many of which align with the strategies designed to mitigate recent and ongoing supply chain issues.

The grocery sector leads the way in last-mile fulfilment and omnichannel retail provision

Grocery is undoubtedly the sector where the ‘last mile’ fulfilment has gained the most traction over the last 18 months. The Covid-19 pandemic dramatically changed the online grocery landscape by turbo-charging demand throughout the UK and propelling online sales to 15% of the market. Operators responded impressively in increasing home delivery capacity from 1.8 million deliveries per week to 3.7 million deliveries per week, driving five years of growth in online grocery in the first five months of the pandemic.

Meeting consumer demand with the significant rise in online grocery sales, however, was only actually achievable due to the network of stores already in place for those operators with an online purchasing and delivery platform. The extensive and widespread store networks of operators such as Tesco, Sainsbury’s, Morrisons, Asda and Waitrose is what puts them close to their customers and enables them to get their products, particularly those that need to be temperature-controlled, on our doorsteps quickly and easily. According to Atrato Capital, Tesco increased its online weekly delivery slot capacity by 150% from 600,000 orders pre-Covid to over 1.5m orders per week post-Covid. Asda (89%), Sainsbury’s (126%) and Waitrose (167%) also all more than doubled their respective capacity.

This increased online penetration has had the added bonus of transforming the profitability of omnichannel grocery fulfilment. Pre-Covid, online sales were considered to be costly and structurally less profitable than physical in-store sales; however, the near doubling in online grocery penetration has materially improved delivery densities which has, in turn, nearly halved delivery costs from omnichannel stores.

Given the dominant driver of grocery home delivery fulfilment costs are wrapped up in delivery, more so than picking and packing, this new-found efficiency gain has transformed online profitability to the point whereby online sales are close to profit margin parity with physical in-store transactions, achieving a seamless integration for the operator between online and offline channels.

This new normal underpins the importance of having the right stores in the right location to be successful and empowers the operator to be truly blind to channel. Future grocery strategy can therefore be focussed purely customer-focused, agnostic to where the sale takes place – in-store, online with delivery or click and collect. This has huge advantages for the retail warehouse sector in particular as they are best placed in all three fulfilment options.

As a result, interest has therefore begun to return to out-of-town supermarkets with the largest floor-plates, as operators look to combine a traditional customer-facing foodstore with a semi-automated picking centre. Located at the back of the brick-and-mortar store, they typically require a footprint of approximately 10,000 to 15,000 sq ft, allowing operators to enhance capacity and productivity. Furthermore, adding online fulfilment operations to a supermarket creates a much better in-store experience, for the customer it creates a virtuous circle with greater numbers of staff on the shop floor, increased product turnover, leading to a bigger and better range and fresher product on the shelves.

For the retailer converting a supermarket to also operate as a last-mile fulfilment centre, requires minimal capital expenditure, largely because they can be supplied by its pre-existing centralised distribution centres. Tesco has recently alluded to ‘owning the last mile’ in this way, as a means to scale up deliveries without heavy capital expenditure. They have pointed out that in-store micro-fulfilment centres can be installed in just a few months at a much lower capital cost, as opposed to up to two years for a large automated warehouse.

Sainsbury’s decision to close its ‘dark store’ in Bromley-by-Bow in London would suggest online fulfilment is better served from trading stores. By March this year, more than 20 stores in and around the capital are expected to expand their online packing capabilities, enabling Sainsbury’s to deliver thousands more orders each week. Asda has also announced plans to shut two of its online warehouses, switching from its dark stores in Dartford, Kent, and Heston, west London, to picking grocery orders from the shelves of local stores. To make this move alongside such a huge uptick in online grocery sales, when their supply lines will have been severely tested, highlights just how much better store fulfilment works for these major grocery operators.

New grocery store openings remain significantly above the decade average for 2021, dominated by the aggressive portfolio expansion of the discount operators

With food and groceries set to command a greater share of consumers' monthly spend, many will be forced to be more considered in their purchases, as well as cut back on non-essential items. One beneficiary therefore may well be the value-oriented operators that have seen significant portfolio growth in the grocery sector in recent years.

2021 once again saw the number of new store openings in the out-of-town grocery sector well exceed the decade average; there were 187 new stores last year, compared to an average of 152 new stores for each of the last eleven years (see chart, below). Significantly, 67% of those units opened were done so by value-orientated or discount brands (87% on a sq ft basis). A look at the most acquisitive grocery brands for 2021, draws attention to the continued aggressive strategy of portfolio expansion for each of the value grocers, even against a backdrop of rising inflation and waning consumer confidence.

Lidl and Aldi have remained the two most acquisitive brands across the whole of the retail warehouse sector in 2021 with 53 and 42 new stores respectively, a position they have occupied for each of the last three years. With both operators stating they are each looking for at least 50 stores each per annum for the next three years, the growth pattern of the discount grocers, in particular, looks set to continue.

The immediate post-GFC period showed the market that if consumers swing into belt-tightening mode, then it is the value end of the spectrum that typically benefits most. This suggests that in the current financial climate the strong growth in demand from the value retailers will very likely be sustained. Other mainstream grocers will need to invest in value for money and price to retain shopper loyalty and remain competitive against these discounters squeezing their profitability.

The buoyant acquisition activity we have witnessed in the out-of-town grocery sector, in particular, has clearly been influenced by the decline in retail rents we have witnessed amidst the structural change in recent years. As we continue to see rents retail rents decline across the retail sector, the value-orientated brands have been particularly opportunistic, looking to expand their operations or renegotiate existing leases and seize the opportunity to acquire space at a more favourable rent. That said, the chart below highlights how the decline in rental value growth for supermarkets has been much less severe than for other areas of the retail market, particularly over the last twelve months.

MSCI reported year-on-year rental value growth of -0.5% for supermarkets in January 2021. By contrast it stands at -5.1% for UK standard shops excluding London, -7.6% for UK standard shops in the South East and -3.8% for shopping centres, in the same month. The resilience the grocery sector has shown in regards to rental decline is undoubtedly linked to the amount of interest in acquiring stores in the market at present, coupled with the sector's ongoing positive performance and the strong relationship it has between physical stores and online sales penetration.

_{Read the articles within Spotlight: UK Grocery Report below.}