Archived article
Please note that tax, investment, pension and ISA rules can change and the information and any views contained in this article may now be inaccurate.
If supermarkets are profiteering why are their margins so skinny?

One of the big reasons why inflation remains stubbornly high in the UK is the continued appreciation in food prices. This is having a damaging impact on lower-income households because the weekly shop accounts for a larger proportion of their overall budget and is, self-evidently, a non-discretionary spend.
While trading down can achieve some savings, the price of staples like pasta, tea and chips have seen some of the largest rises. Naturally in such a situation politicians will be looking to point fingers and the leader of the Liberal Democrats, Ed Davey, recently attributed blame to the supermarkets and ‘food multinationals’, calling for the Competition and Markets Authority to investigate.
Focusing on the supermarkets, how fair is this claim? Shore Capital analyst Clive Black has little doubt: ‘To suggest that UK supermarkets a) rip folks off and b) earn supernormal profits is not only incorrect it is insane.’
He adds: ‘Just pause for a moment: The British Government, the British people, are blessed to have one of the most advanced food systems in the world. That evolving system has helped to reduce the proportion of household income expended on food from more than a third to a tenth since the Second World War.
‘That is a massive benefit of innovation, investment, technological change, and entrepreneurship to society and an enhancement of living standards. More to the point, we have an amazing choice of safe product.’
This is a strong argument, and we should definitely not take for UK supermarkets for granted. Tesco (TSCO) did see a spike in earnings in the initial stages of the pandemic, helped by a surge in online orders which made that part of the business more economic and by the fact the supermarket sector was one of only a small segment of retail businesses allowed to operate during lockdowns.
However, there is little evidence that the surge in prices coming out of the pandemic has been of much lasting benefit as the chart indicates.
Tesco operates in a mature and highly competitive market with slim profit margins and has plenty of capital tied up in areas like stores, stock and logistics facilities. Though it benefits from its scale, being by some distance the market leader in the UK.
As Black observes, over the long-term supermarkets have achieved margins of between 0% and 4% and returns on capital employed, or the return on the money spent funding the business, in the single digits.
These are not charities. If supermarkets do not generate a sufficiently generous return to compensate investors for putting their money at risk in their shares, then funding these capital-intensive operations could become a problem.
Without a robust supermarket sector, the problems around the affordability of food are only likely to get worse.
But investors need to be wary. Politicians do not always make rational decisions and if the political wind has turned against the big grocery firms, then this could become a material risk to investing in the supermarket space.
Important information:
These articles are provided by Shares magazine which is published by AJ Bell Media, a part of AJ Bell. Shares is not written by AJ Bell.
Shares is provided for your general information and use and is not a personal recommendation to invest. It is not intended to be relied upon by you in making or not making any investment decisions. The investments referred to in these articles will not be suitable for all investors. If in doubt please seek appropriate independent financial advice.
Investors acting on the information in these articles do so at their own risk and AJ Bell Media and its staff do not accept liability for losses suffered by investors as a result of their investment decisions.
Issue contents
Feature
Great Ideas
News
- New Vodafone CEO takes no-nonsense approach but it will be enough to win over investors?
- Why bond and equity investors are pricing in very different futures
- End nears for Purplebricks’ life as a public company after Strike’s £1 bid
- Are private equity investors turning cold on UK companies?
- Richemont on the rise as China reopening boosts shares