A new Rabobank "Food Retail" report finds consumer preferences are driven to 'extremes.' However, increased food prices could increase consumers' price sensitivity.



"In spite of the economic decline, many consumers continue to be driven by factors beyond price, which has created a 'barbelling' trend," said Rabobank Food & Agribusiness Research and Advisory Vice President Stephen Rannekleiv. "This means consumers are gravitating toward one extreme or the other - whether it's a healthy lifestyle, convenience, price or something else."

For example, two food retailers have been successful with opposing strategies. Whole Foods, which caters to less price-sensitive consumers seeking unique gourmet and organic products, has had some of the highest gross margins of its competitors. Conversely, Kroger has cut prices and continues to outpace its main competitors in same-store sales growth.

Much of this growth for food retailers has come from consumers, who have increased their food-at-home budget. Most major food retailers continued to show same-store sales growth in the first quarter of 2008 despite a lower inflation rate for food away from home, which was 4.1 percent (from January to May 2008), compared to 5.5 percent for food at home. However, the average cost of a meal at a restaurant is estimated to cost nearly two to three times of a meal prepared at home.

To date, consumers have been protected from some of the effects of rising commodity prices by the multi-year commodity hedging contracts that many food processors have in place, which locked in commodity prices before they began their rapid assent. However, as those contracts draw to a close and new ones are written, processors will no longer have the lower commodity prices locked in, and will have to accept higher costs.

"These costs will eventually have to be passed on to retailers, and this may continue to drive food inflation into 2009 and beyond, even if commodity prices have stabilized," said Rannekleiv.

This is likely to mean higher food costs - even though costs have already set records. According the report, food-at-home prices rose by an annual rate of 5.5 percent from January to May 2008; making it the largest increase in 19 years. However, prices for key staples such as bread, milk and eggs rose by greater amounts - 14.1 percent, 13.5 percent and 30.5 percent respectively.

Moving forward, this trend of rising food prices may also increase consumers' price sensitivity, which will force food retailers to further evaluate how they compete. "Some traditional strategies may not be as effective as they once were, while others are likely to gather momentum in light of inflation and the soft economy," said Rannekleiv.