The Big Consumer Squeeze is coming – what can retailers do?

Inflation is once more a hot consumer topic after several decades out in the cold. In the UK headline inflation is now running at a 30-year high of 5.4%, well over the government target of 2.0%, with senior economists at Goldman Sachs predicting it could climb to over 7% by the middle of this year. In the US that figure was already crossed last month.

Throughout 2021 soaring production, transport, raw material and labour costs coupled with ongoing supply chain challenges meant that for many input costs continued to climb and eat into operating margins. As an example, container prices surged by over 300% between the middle of 2020 and end of 2021, whilst UK road freight prices ballooned by over a third. 2022 looks to be more of the same, with the additional spectre of higher wage expectations meaning margins will be under continued assault.

The picture on the demand side is not much rosier. For UK consumers, heating and electricity costs are rocketing. According to the BBC, the typical gas and electricity customer is likely to see their bill go up by £139 to £1,277 in 2022. Transport has become dearer, pushed up by fuel and second hand car prices. In March this year rail fares are set to rise by 3.8%. Clothing and food are all undergoing big increases. In the last year alone, margarine has gone up by over 30%, roast beef by 29% and cauliflower by 20%. Whilst that might not be everyone’s idea of a tasty meal, the ONS has reported significant rises right across the basket of services and goods it regularly monitors. UK bellwether Next has already forecast price rises of 3.7% in the first half of 2022 and 6.0% in the second half of the year, and both Kantar and the British Retail Consortium have warned that consumers should expect to see store prices rise this year.

As a result consumer discretionary spend will continue to be squeezed in 2022. ThinkTank the Resolution Foundation predicts that average household expenditure, after adjusting for inflation, will be around 2% lower as we near the end of 2022, meaning the average UK household will be about £1000 worse off. Demand for larger discretionary purchases such as electronics and furniture is likely to be impacted, whilst consumers shift focus towards a more value-oriented outlook for everyday commodity items.

For many retailers this means that the outlook for 2022 will continue to be severely challenging. The pre-Christmas November spending surge enjoyed by some as shoppers rushed to beat price hikes and splurge ahead of the threat of further lockdowns, meant that December sales volumes were significantly down. Discount grocery was the one highlight. Both Lidl and Aldi reported stellar year on year sales growth in December. However, many other areas, particularly in non-food categories such as fashion and sportswear, suffered as fewer shoppers hit the high street.

As the cost of living increases throughout 2022 (a much talked about increase in the energy price cap is set for April) more pressure will be heaped on retailers to absorb both increases in their own input costs (labour, materials, energy, freight) and not pass on price increases to customers.

So what action can retailers take now? Below are six approaches to consider:

1. Focus on the core customer. As shared by EMEA Retail Lead Matt Clark in a recent conversation with the BRC, this starts with being very clear on your target customer, and what the value proposition is, given the economic context we’ve described. Once this is done, the brand position can be effectively communicated, and where there are distractions and non-core markets these can be cut back. Focus also extends to the product offer. Continually trim and refine ranges and assortments that may have become bloated. Now is the time to carefully curate by considering the needs and wants of the core customer base.
2. Retention versus acquisition. Much research has highlighted that attracting new customers is several times more expensive than retaining existing ones. Loyal customers are also more likely to spend more. Smart use of discounting and promotional offers needs to be considered. Rather than blanket approaches, target offers to drive traffic, support repeat purchases and encourage key segments to shop across stores and online.
3. Accelerate the omnichannel offer. Recent AlixPartners research found that fashion retailers who have now established a strong omnichannel offering could be set to benefit this year. Our data revealed that omni-shopping is now the most common channel preference in UK fashion, accounting for 73% of shoppers and 80% of overall market spend. Average total spend per omni-shopping consumer per year is also 84% higher than those who shop in stores only and 32% more than online-only shoppers.
4. Think carefully about where to raise prices. Inevitably higher prices will be a key consideration in order to protect margins. However, targeting specific categories with inelastic characteristics versus across the board price increases is key. Wharton marketing professor Stephen Hoch observes, “the smart way for the retailer to do it is to raise prices a little bit here, a little bit there over time so that the consumer doesn’t have one big sticker shock”. This requires a balanced approach that carefully considers where increases can be absorbed without dampening demand. Pricing skills and tools play a role here, with ongoing decision-making using real-time data a differentiator.
5. Look hard at the cost base. There is a spectrum of measures that could be deployed, from blunt enterprise wide percentage reductions, to targeting areas of discretionary spend, to more sophisticated approaches that examine the underlying drivers of cost, using approaches such as activity based costing. Whilst the latter approaches require more effort, they provide far greater insight for decision-making. Leaning out operations is a complementary approach through focusing on reducing non-productive labour and reducing waste.
6. Negotiate with care. Inevitably there will be tough choices as margins are compressed. Engaging with suppliers from a perspective of long term sustainability versus immediate profit and cash enhancement is key for ongoing stability. Look for mutually beneficial terms with a view to protecting relationships with key suppliers.

Across all these approaches retailers must also think about how to develop and deploy systematically and consistently. Brian Kalms, EMEA Retail Digital Lead summarises the challenge well: “Rather like planning for Christmas trading, you need to dedicate time and specialist resources to the effort, and treat inflation busting as a special project. This means adopting a ‘war room’ mentality, supported by real-time data and insights and clear mandates for taking action. You can’t do this as a side of desk project and leave it to vague communication and trickle down mandates."

It’s clear from the economic and spend data that consumers are going to be squeezed hard this year. Retailers will need to think carefully about whether and how to absorb the potential double hit they face from both the supply and demand sides. Starting early could be the difference between the winners and losers.