11 May 2016
UK Toy Industry Girds Itself for Shakeup After Argos Acquisition
The impending sale of Argos, the UK's largest toy retailer, to the Sainsbury's supermarket group has sent jitters through the industry, with many suppliers anticipating a subsequent dramatic drop in the overall number of outlets selling toys.
The UK toy market enjoyed something of a strong start to the year. Following hot on the heels of two successive years of growth, the market has now seen a staggering 8% increase in value since the beginning of 2016. The action figure and plush categories led the way, with increases of 16% and 21% respectively. With almost 54 million toys sold since the turn of the year, the UK is keeping a firm hold on its position as the largest toy market in Europe.
Despite this phenomenal start to 2016, there has been a number of significant developments in the UK retail market that will certainly have a major impact on its fortunes as the year progresses. The problem is, though, few can predict whether this impact will be positive or negative.
The single biggest development concerns Argos, a company that has long been the UK's biggest toy retailer. After a somewhat protracted bidding process, Sainsbury's – one of the leading UK grocery retailers – has emerged as the likely new owner of the high street merchandising chain.
With the deal expected to be completed in the third quarter of 2016, the UK toy community is already speculating as to just what effect this will have on their own businesses. There are those who maintain that it might not prove the most beneficial of tie-ups for the toy industry, believing it could materially reduce the total market size and performance through the inevitable reduction of the overall size of the combined retail footprint.
The acquisition will create a store portfolio of 2,144 outlets, collectively servicing some 25 million in-store customers per week in store. With prospective sales of £31 billion per annum, whichever way you look at it, the deal has created a retail colossus.
On the positive side, it could be said that no one in the UK is better at multi-channel retailing than Argos. In many ways, it has pioneered the digital stores of the future, an innovation that is already transforming the way people browse, buy and collect products. It is this competitive advantage that has seen Argos flourish online. If applied across the Sainsbury's business model, the implications could be huge. Almost overnight, the combined business could look to rival Amazon.
Conversely, there is a growing belief that the picture may not be quite as rosy as the one that Sainsbury's is trying to paint. To start with, the customer base is almost certainly not as mutually exclusive as has been claimed. In fact, at least a 30% cross-over in shared customer shopping can be anticipated, reducing the weekly customer footfall to around 18 million.
Additionally, despite the much-heralded strategic switch to digital, only 60 digital Argos stores actually exist – less than 10% of the company's current store estate. In order for Sainsbury's to successfully leverage these 'future-proofing' retail strategies, it will take a huge amount of time and money.
The initial focus, though, is likely to be on the core challenge of optimising the store estate footage, formats and locations in order to maximise sales and profits. A critical understanding here is the demographic differential between a typical out-of-town customer (private transport bias) and a high street customer (public transport bias). It is anticipated that Sainsbury's will favour out-of-town locations and close (but not necessarily divest) the Argos fascia high street stores in the event of any territory cross-over.
Just where these Argos high street store closures will fall and how many there will be is difficult to estimate. The potential closure or conversion to Sainsbury's local stores, though, could see up to 300 toy-selling sites simply disappear.
As with the mass Woolworths store closures of 2009, this could be a welcome boost for the toy independents and other high street retailers. Whichever way this plays out, though, it is unlikely to help the UK toy industry in the short term. There is a real danger that sales may simply be lost, as they were when Woolworths exited.
An interesting statistic here is Sainsbury's estimate that buying Argos will result in £160 million of additional profits in the third year following completion. It's a bold claim, arguably even bolder when you consider this projection has swollen by more than 30% since the initial forecast was presented to shareholders.
In truth, a turnaround of that magnitude requires either a massive leap in sales or major savings to be made across the organisation. Or, better still, both. The two, though, don't always make compatible bedfellows.
It could be that value may be found by combining the proprietary brand strategies of the two retailers. Own label ranges account for around 20% of the toys at Sainsbury's, while accounting for just 4% at Argos. In fairness, it should be stated that the 11,000 SKU-strong Argos range is significantly larger than the Sainsbury's toy offer. It is also 100% available to buy online.
Bringing Chad Valley – Argos' proprietary brand – into the combined toy range, though, will almost certainly put a large question mark over Sainsbury's current tie-up with ELC/Mothercare. As a result, suppliers of own-brand merchandise to ELC/Mothercare are understandably concerned about what may lie ahead.
There is also the question as to just which pricing strategy the combined group might adopt for its general merchandise. Historically, Argos has always been very competitive on price, Sainsbury's less so. Furthermore, the Argos offer is heavily geared to driving volume through promotions.
What makes this particularly interesting is that Sainsbury's is the first UK retailer to have confirmed it will discontinue in-store multi-buy deals. Instead, it will favour selling individual items at lower prices and will completely phase out multi-buy promotions by August 2016. This commitment was prompted by a report by the Competition and Markets Authority, the industry's watchdog, into misleading supermarket promotions.
Argos recently released its final set of pre-takeover annual results. The overall picture made for pretty grim reading. Like-for-like sales at Argos fell by 2.6% over the past year, while the operating profit of the Home Retail Group, its parent company, was down by a whopping 28%. The toy sector, however, was highlighted as one of its few growth categories.
Given its ongoing positive contribution to Argos' overall business model, many suppliers are now hoping that the toy category will be carefully nurtured by its new owners. At the same time, this change in ownership is making the market nervous. Other major toy retailers are keeping a close eye on proceedings, eager to take advantage if Sainsbury's drops the ball in any way. An intriguing year certainly lies ahead.
John Baulch is the Publisher of Toy World,
the leading trade title for the UK and European toy trade