Pondering Private Label

The feature on private label in the deli department, addressed in this issue by longtime Deli Business contributor Lisa White, begins on page 22 and is an important issue indeed. Without a doubt, top supermarket executives are pushing private label and there is no question today’s private label programs are not your father’s private label programs. The days when a private label was synonymous with low quality or even cheap – are long gone.

If you go to the grocery section of a retailer that is a top practitioner of private label marketing like Wegmans, you will see a product such as Ronzoni Spaghetti is surrounded with private label options. Wegmans will offer bargain options, upscale options, healthier options, etc.

Retailers look to pursue private label for one of two reasons. Some retailers, such as Trader Joe’s, place great emphasis on not a just private label, but on the proprietary product which is then private labeled. In this case, the private label functions to attract and retain customers based not just on price but on the unique flavors and attributes of the product which is available exclusively at a particular retailer.

In most cases, retailers pursue private label in order to raise margins while also providing consumers with less expensive options. Private label is often tiered so that these options can be provided at several quality and price points.

The first question is how can a retailer offer private label products at such affordable prices while also increasing the retailer’s margin? It is not just cutting out the net profit made by the branded manufacturer, as that is usually too small to make much of a difference. Instead, the idea is to buy or produce a product not only without the branded firm’s profits but also without its expenditures for brand marketing and new product development.

Branded manufacturers have to bear a good chunk of the blame in the evolution of such a robust private label market. Many feel compelled to go for the quick buck and, in effect, create their own competition. The manufacturer has a factory operating at 80 percent capacity and a retailer offers to buy up the last 20 percent — at marginal cost plus a profit. The marginal cost is much lower than the actual cost as there are a lot of sunk costs such as building the factory, etc. In any case, the manufacturer grabs the money and the retailer is now a powerful competitor to the retailers selling the branded product. So branded sales go down, the private label goes up and the manufacturer finds more and more of its product sold at low margins. This is a recipe for disaster over time.

Yet for the industry — and the consumer — the problem with private label exists even if the retailer owns the manufacturing plants or is buying from suppliers who only do private label. When pricing their own products branded manufacturers include marketing campaign costs as well as funds for research and development to create the next generation of products.

Moving forward who will invest in advertising and marketing to build demand? Where will the money come from to develop new products to keep the category fresh and growing?

It is almost like eating your seed corn, in the short term this is profitable but, long-term, there is nothing to eat. So with private label, in the short term there is margin to take and price discounts to offer consumers — but, long-term, the category is being denied resources necessary to grow and create innovative products to delight consumers.

And here is a dirty little secret: Retailers who embrace private label also lose the ability to persuade consumers they offer superior value. No less a savvy businessman than Sam Walton loved brands — why? — Because he knew if a retailer is cheapest on Coke or Tide, consumers would really know they are getting a good deal. If you are cheapest on your own private label that product may not be comparable in taste and quality with a national brand or another retailer’s private label — so the consumer is left wondering.

Retailers who develop proprietary flavors and products are in effect investing to build their own national brands. This columnist’s children won’t eat any meatballs but Trader Joe’s meatballs. Similarly, the chief executive of a tuna fish company once told me the top line of Costco’s Kirkland brand tuna is better than anything sold by his company.

We can easily imagine retailers looking to secure exclusive rights to proprietary genetics – whether GMO or conventionally bred – on produce and meat as the genetic revolution advances. These are products with a difference and combined with culinary technique and desirable packaging — this kind of private label will please consumers and grow the business.

Conversely, simply sucking the margin out of the category won’t help manufacturers, consumers or retailers themselves.