Sam’s Club, Costco, Walmart: Thirty years ago, high-volume retailers (HVRs) such as these would in no way be considered a threat to the c-store industry. By the very nature of their names, the two channels seemed to be opposites: one focused on bulk shopping at a value, with rings often north of $100; and the other centered on quick, convenient purchases. There was little to no overlap between the two channels—“was” being the key word.
As we entered the new millennium, a cavalry of HVR operators extended their interpretation of value and grabbed what they saw as an easy cash cow. It just happened to be the lifeline of the c-store industry: fuel.
The move made eminent sense. MostHVRs sit on ample lots, so logistics were not a concern. Their focus is on value—and with below-street prices, they could underscore their fuel value with well-lit posted prices certain to entice customers and, for clubs, new members.
“Hypermarkets in general are kind of in the game of understanding their customers and tapping into behavior patterns they can translate into in-store sales,” says Mike Lopez, marketing research coordinator for Denver-based Energy Analysts International (EAI). “Nowadays, you se an increased appetite for discounts, especially with the economy.”
As more clubs, mass merchants and supermarkets experimented with fuel, the threat level to c-stores elevated to outright warnings. Was the death of the convenience channel just a decade away? Several analysts predicted HVRs could account for as much as 25% of fuel sold in the United States by 2015.
More than a decade has passed since those gloomy forecasts, and the c-store channel has more than survived. It’s thriving amid an extended economic malaise and expanded virtual world that combined have injured many in the FDMx (food, drug, mass) sectors and plunged a knife into big-box formats. As a result, the best—such as Walmart—are investing in smaller formats and forcing other previously top-flight operators to question their future.
Yes, the battle for fuel is still being waged between c-stores and HVRs. But for every Sam’s Club or Safeway success, there is a Lowe’s or Home Depot who ultimately failed at the gas game or pulled the plug on the idea.
Why have some HVR operators prospered as others faltered? And, perhaps more important, how are c-stores staving off low-pricing, volume-hogging HVR fuel islands? To truly answer such questions, it’s important to look at the relationship between hypermarkets and fuel.
A Hyper History
As HVRs entered the market, they found the barrier of entry rather minuscule. Unlike convenience stores, they weren’t dependent on profit t margin sat the pump. Instead, they could use low gas prices as a marketing tool—a loss leader of sorts—to drive traffic and profit margins inside the stores.
“The HVR likes fuel because it is a product that customers buy frequently and it helps drive additional traffic to their sites,” says David Nelson, a 30-year petroleum industry veteran and president of Study Groups/Finance & Resource Management Consultants Inc. “Pricing for fuel is very transparent, so this is a way an HVR can communicate that they area great place to save money. By pricing at a relatively low margin and driving huge volumes through their sites, the economics can make good sense for them.”
This focus on volume over profit t has wreaked havoc on convenience stores and other traditional fuel operators.
“So many of us coming out of the petroleum market have had fairly comfortable margins over a long period of time,” says Bill Kent, president of Midland, Texas-based Kent Oil. “Then you have one of these HVRs that strictly use gasoline as a marketing tool or a traffic-stopping tool. Their economics are different.”
The tension between traditional fuel retailers and mass-market stores only grew as the recession hit. As consumers looked to pinch pennies, they became more willing to drive out of their way for a better deal.
“Right now, that idea of convenience is really going head to head with the idea of savings and discount,” says Lopez of EAI. “Value seems to be more and more in the front of people’s minds.”With so much opportunity for success and an economic climate on the side of value, it seems that HVRs should have easily reached that benchmark of a quarter of U.S. fuel sales. But they’re not even close: As of July 2012, NACS reported that the 4,893 HVRs selling fuel accounted for only 12.4% of U.S. fuel sales.
And by most interpretations, the percentage isn’t likely to grow substantially.
“The way trends go is that usually there are a small number of first adapters,” says Nelson. “Following their success is a huge wave of new entrants until market saturation is approached and the curve flattens out.”
While EAI has not yet released its most recent U.S. Transportation Fuels and Retail Outlook study, Lopez says the data seems to suggest that hypermarket fuel-site additions are slowing down from 50 to 70 per month in the high growth period to less than 10 per month now.
“We are seeing a tremendous slowdown in this,” Lopez says, citing that it’s been several years since a major hypermarket announced a new fuel venture. “I really have not seen any hint that any other companies are going to jump into this.”
This kind of slowdown could in part be a natural occurrence, following a surge of HVRs entering the market in the early to mid-2000s. Though many hypermarkets have space on existing sites to add a fuel island, c-stores still reign supreme when it comes to gas-friendly locations.
“The c-store channel has the greatest concentration of desirable real-estate locations in the U.S., beating out any other retail channel by a wide margin,” says Nelson.
A lagging economy, which initially offered HVRs a leg up on traditional competition, could also explain the trend. Even value-friendly mass-market stores are feeling pain at the pump.“Gasoline demand trends are just really low right now,” Lopez says. “Driving habits coupled with unemployment levels—all of that factors into it.”
While c-store operators are well versed in up-and-down gas patterns, hypermarkets are not reliant on fuel sales for success and are perhaps deciding it’s simply not worth the hassle. This is especially true when it comes to the E15 debate.
“There are so many questions about it,” Lopez says of E15. “The cost of adding another tank, the cost of adding a dispenser and more. I’d expect a lot of people to be sitting on the sidelines waiting to see how that shakes out.”
Even once the economy improves, driving up the demand for gas, and once the E15 issue is clarified, Lopez believes the 10% to 12% of hypermarket fuel sales will hold, saying, “I expect we’ve seen the peak of it.
“That’s not to say that the HVR threat has passed. Though representing about one-eighth of all domestic sales, HVR sites average a whopping 275,000 gallons per month, more than twice the volume of a traditional fuel retailer, according to NACS. And while new HVRs entering fuel may have slowed, Lopez believes the hypermarkets now selling fuel will continue to increase their volumes.
“I think hypermarket site growth will continue but at a relatively slow pace, as detailed in our study,” he says. “However, I think hypermarkets will continue to grow their fuel market share. I don’t think it’s going to be because of organic growth necessarily, but because some of the weaker players are going to fall by the wayside.”
Fuel Success and Failure
Some of those weaker players who either got out or scaled back their fuel business include Home Depot, Albertsons and a number of local supermarkets. For his part, Nelson believes the reason fuel works for some retailers but not others could simply be a matter of customer base.
“Walmart and Costco are large general-purpose retailers that drive huge customer volumes through their locations with frequent repeat same-customer visits,” he says. “A specialty retailer like Home Depot or Lowe’s has a much smaller core customer that shops there frequently (like contractors) and a larger population of folks that are occasional visitors for a specific home project. People in general do not form a habit of regular shopping at a home-improvement store.”
This may explain why gas programs didn’t work for the home-improvement channel, but what about the mixed record among grocery chains? While Kroger’s fuel program has been wildly successful, others—such as Albertsons—have dwindled. The answer may lie in a fundamental understanding of how to run a successful fuel program. After all, it’s about more than just adding in pumps and underpricing the competition.
“Some companies weren’t really ready to run a fuel program; I don’t think they understood fuel loyalty very well,” says Lopez. “Nowadays, if you’re going to have a hypermarket fuel program, that’s got to be a really serious part of it and it has to work really well.”
However, perhaps the biggest reason some fuel programs succeed is location.
“Unbranded gasoline tends to thrive where there’s room for it,” Lopez says.“In markets like Chicago or New York, there are lots of barriers, such as the cost and availability of land, in addition to already being very integrated with major oil companies.”
In markets such as Dallas, however, where land and regulations are less an obstacle, hypermarkets are another story. Texas, in fact, has been so good for fuelselling HVRs, Kent estimates that hypermarkets now account for 65% to 70% of the state’s unbranded-fuel sales.
“Maybe it’s the business environment in Texas. Zoning laws are pretty favorable for businesses,” Kent says. “It may be the access and availability of unbranded supply: Between the Gulf Coast and the pipelines, Texas has been a market that’s had a lot of fuel businesses start up. Whatever the reason, HVRs are here, and they’re here to stay.”So while retailers in major cities may not face much competition from HVRs, those in more expansive regions will have to continue to fight for fuel volume.
“[HVRs] are still coming in,” says Kent, who operates stores in Oklahoma and New Mexico in addition to Texas. “Atone point, we had HVRs directly affecting maybe two of our locations; it’s way bigger than that now. It probably affects half of our locations.”
Fighting Back
Despite the “flattening out” of hypermarket retailers entering into fuel, these high volume behemoths still pose a threat.
“HVR retailers suck a lot of volume out of the market, making the economics more challenging for traditional c-store operators and the dealers that they serve,” says Nelson, who conducts petroleum-industry study groups with executives from more than 250 companies. “Many study-group members are reporting year-over-year declines in their dealer business that exceed declines in fuel consumption nationally. That volume is going somewhere, and HVRs are picking up some of it.”
It’s an issue Kent is all too familiar with. When hypermarkets first entered his region, Kent allowed himself to be outpriced by a reasonable amount, figuring he could make up the volumes later by under pricing the HVRs himself. That didn’t happen.
“We found that [the HVRs] were never happy with a reasonable spread,” he says. “The bigger the spread got, the more volume they got. We decided we didn’t have any choice but to protect our customer base and volumes.”
Protecting Kent Oil’s volumes required a complete shift in the company’s business strategy. Like many retailers, Kent had to stop relying on fuel for profit margins and turn to in-store purchases to makeup the difference. This meant a focus on higher-margin items in the stores, building larger stores to accommodate more margin-friendly products and accepting that a bevy of strategies would have to be tested to remain competitive with fuel.
Although it was painful, Kent believe she didn’t have any choice. “I’ve seen too many people stay with the HVR prices when it’s comfortable, but then stop as soon as it gets uncomfortable,” he says.“They lose their volume and are surprised when they can’t get it back. You don’t have the ability to price under them for a little bit to get your volume back—these HVRs will never let you price under them.”
Meanwhile, c-store retailers who choose to go head to head on price, who adapt in order to thrive in a new competitive environment, often not only survive the onslaught of HVRs but also can benefit from it.
“In some cases c-store retailers in very close proximity to an HVR have actually seen a lift in volume,” Nelson says. “The HVR retailer tends to drive a lot of traffic by their sites and, if there is a lot of congestion, people who value their time over a lower price will stop at a nearby retailer.”
Indeed, in New Jersey, two independents dropped their prices by more than 10 cents a gallon when they saw cars lining up 10- and 15-deep at a Costco location about half a mile away. One of the operators reasoned he would be out of business if he did not price within 5 cents of Costco’s, calculating that customers would be willing to pay a few pennies more in lieu of a 20-minute wait at the hypermarket.
While time has proven that HVRs may never unseat convenience stores as the place to purchase fuel, in many markets from the Northeast to the Deep South, they will continue to pose a legitimate threat to many operators because of their ability to price well under market
“The advice I’ve given other retailers is to protect your customer base,” Kent says.“Price with them at any cost. After all was said and done, we ended up with lower margins—which were painful—but we did end up with increased volumes. Eventually, if you can keep that model going, you’re OK.”
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