Slowly but surely, the future is looking brighter for Winn-Dixie Stores.
Since emerging from Chapter 11 bankruptcy two years ago this month, the company many observers once wrote off as irreversibly down and out is gradually climbing back up.
The chain is moving forward with an aggressive remodeling program, and financial results are improving. But the challenges posed by the weakened economy may make Winn-Dixie's climb a bit tougher and cause a delay in any ultimate turnaround, they noted.
Peter Lynch, chairman, president and chief executive officer of the Jacksonville, Fla.-based chain, remains typically upbeat.
“People counted us out,” he told SN, “but by providing our customers with a shopping experience that is fresh and local, we believe we've got retail swinging in the right direction.
“We got ourselves out of Chapter 11 in fairly short order, and since then we have met and exceeded expectations and been a real success story, and today we are a much stronger company than we were a year ago because of what we're doing in terms of remodeling and merchandising.”
Winn-Dixie has completed 96 remodels in the past two years, with 74 more stores due for upgrades by the end of the chain's fiscal year next June. Sales at those units are driving management's optimism.
Remodeled locations are seeing sales lifts of about $1.6 million per store — a gain of 11.6% per store on a weighted average — during the first full year of operation after reopening, with transactions up 3.3% and basket size up 8% through mid-September, compared with a chainwide decline in traffic of 2.5% and a basket size increase of 5.7%.
According to Karen Short, a New York-based analyst with FBR Capital Markets, Arlington, Va., the turnaround at Winn-Dixie will become clearer “once we're able to see the lift to operating cash flow margins from the remodels.
“At this point it's not clear that the company is getting enough market share to lift those margins, and competition in Florida isn't getting any easier,” she said.
With inflation running in the 5%-6% range, overall unit volume appears flat, Short added.
Lynch acknowledged as much: “The weather last summer [which included two hurricanes and a tropical storm] was a detriment to traffic but a positive to basket size. When stores close for a number of days, you don't recoup those footsteps, but when customers come back after the storm, rather than coming in twice, they come in once and buy more products. But net-net, our traffic is probably about the same as where it's been in prior quarters.”
He said Winn-Dixie doesn't yet have “a big enough pool of year-two remodels from which to draw any meaningful conclusions.”
However, the company expects to begin breaking out identical-store sales for remodels beginning in early 2009, when it reports second-quarter financial results, Lynch said.
Despite improvements in sales and operating cash flow — and with profitability in sight — Winn-Dixie still has some tough challenges to overcome, observers noted.
“Winn-Dixie is facing stiff headwinds from intensified competition across the Southeast,” Gary Giblen, executive vice president at Goldsmith & Harris, New York, told SN. “In addition, it's coping with the housing crisis in Florida and the possible loss of population that could result — plus the general economy, which puts its traditional blue-collar workers under more pressure than ever before, making it more difficult to boost volume.
“On the plus side, the bankruptcy allowed Winn-Dixie to sell off its worst-performing stores and reduce the costs on some leases, so it has a pretty clean slate, and it's been moving along very well and making strides getting sales and gross margins moving — particularly in the first quarter, which showed handsomely how well it's been able to balance sales and gross margin growth.”
Short said she believes the chain is on the right track.
“While the competitive and economic landscapes in Florida continue to be challenging, the bark has been worse than the bite, [though] a turnaround will be entirely predicated on permanent share gains, so only time will tell,” she pointed out.
However, with many locations, especially those in Florida, still in suboptimal condition, Short said, forward progress could be impacted, “[because] Winn-Dixie has not kept up with the changing landscape with store replacements, so locations, although solid, are not all ‘A’ sites.
“Further, Winn-Dixie's target demographic — the middle- to upper-income consumer — is already a loyal Publix customer, and winning back that customer with weaker, dated locations will not be easy,” Short said.
According to Chuck Cerankosky, an analyst with FTN Midwest Securities, Cleveland, “Winn-Dixie is a company that's still learning to do things that previous managements fell asleep on, such as making sure the brand equates with a quality shopping experience, more competitive prices and perishables comparable to what the other chains offer.
“And even after it's able to rebuild its image, Winn-Dixie still has to get consumers to try its stores to acquaint them with all the improvements.”
Bill Bishop, chairman of Willard Bishop, Barrington, Ill., said he believes Winn-Dixie is on the right course for a turnaround because it has a clear operating strategy.
“The key to success at Kroger was the clear strategy it established, and at this stage Winn-Dixie appears to have its own very clear strategy that it's sticking to — in terms of remodeling stores and crafting them to the needs of each neighborhood — and that's a very significant, positive sign,” Bishop told SN.
Citing studies indicating that Kroger is making gains against Lakeland, Fla.-based Publix Super Markets, Bishop said, “That tells me Publix could be vulnerable to a reinvigorated Winn-Dixie if Winn-Dixie pursues a very disciplined approach, which I think it is doing.”
Winn-Dixie's goal must involve drawing customers away from operators at both ends of the price spectrum, Bishop said — winning over Wal-Mart customers with a strong price proposition and wooing customers from Publix, which does not have a loyalty card, by leveraging its Customer Reward Card program, he explained.
“Both are possible,” Bishop said.
Moving From the Middle
Historically, Winn-Dixie has been a mid-priced conventional operator focused on blue-collar workers as its primary customer base, Lynch acknowledged. But that is changing.
“We don't want to be in the middle, because we don't think we can move forward from there. So the choice is to go up or down — up to where Publix is on service, quality and variety, or down to where Wal-Mart is on price.
“Our choice is to go up, with better service, freshness, selection, quality and cleanliness, and in the past couple of years we've attempted to broaden our base to encompass a wider mix of customers that we haven't gone after in the past.”
As it works on improving its image, Winn-Dixie is keeping its eye on Publix, Lynch said, especially as Publix makes a run at becoming more price-oriented by featuring a series of basic items at hot prices in its weekly circulars.
“It's clearly an effort by Publix to try to develop a better price image, but the rest of the circular features the same type of pricing it's had for years. It has been kind of on-again, off-again, but we're watching them,” Lynch said.
Price is a key element in Winn-Dixie's turnaround effort, with 10-for-$10 sales and buy-one, get-one-free offers as part of its ongoing program. Late last month the chain extended through Jan. 7 the “Good 'Til” program it introduced during the summer, which offers reduced pricing on over 1,000 products to Customer Reward Card holders.
“Loyalty cards are very important to us as we continue to drive the business,” Lynch explained, “because they enable us to drive more information about our customers and make sure we're giving them the right offerings.”
However, he said he isn't ready yet to talk about how the chain will utilize the information it collects. “It's a little too early to get into any detail about the things we're doing with the cards, other than to say the card is a key initiative that we want to develop more fully,” Lynch said.
Winn-Dixie is working on a pilot program to make better use of the cards, he said, “and as we get those result and have a little bit more time under our belts, then it will be appropriate to talk about it. But right now it's in a pilot phase.”
Private-label merchandising is another major element of the new Winn-Dixie.
The company has expanded its selection and redesigned the packaging and labeling on 1,900 SKUs, with a goal of increasing its offering to 3,000 items by 2010.
As trading down has increased, private-label penetration at Winn-Dixie has risen to 22% of sales, up from 20.6% at mid-year, Lynch said.
The chain operates a three-tier program — Winn & Lovett as its premium line; Winn-Dixie as its mid-priced line; and Thrifty Maid as its bargain-priced line.
Since August, Winn-Dixie has been using Topco Associates, Skokie, Ill., to help source private-label products.
“We thought membership in Topco would allow us to develop our private-label product lines even further and drive better penetration and better margins,” Lynch said, “and Topco has proven to be an enabler for us to move faster and more profitably on our private-label initiatives.”
Service is another key to Winn-Dixie's turnaround. According to Lynch, the chain boosted labor expense by $6.6 million in the first quarter to provide sufficient staffing to drive the most positive customer experience it can.
“We've put millions back into labor, and we do not plan on taking it out,” he said. “We've got to have the right labor in the stores to deliver on our strategy.”
Too Much Promotion
The chain's forward momentum took a hit during its fourth quarter, which ended in June, when it realized it was falling short of its own internal expectations, “and we ended up pushing the button too far on promotions,” Lynch told SN.
Winn-Dixie initiated a series of programs to drive volume, including accelerated 10-for-$10 offers and incentivizing customers to stretch their government stimulus checks, that succeeded in boosting sales — but at the expense of margin expansion, Lynch said, “causing us to fall below our earnings guidance range for the year.”
Adjusted EBITDA for the fourth quarter was just $9 million, down from $29.1 million in the prior year, and gross margin declined 100 basis points to 26.9% — “not indicative of what we believe Winn-Dixie can deliver,” Lynch said at the time.
By the end of the first quarter, however, Winn-Dixie had recovered, with EBITDA back on track — up 38.5% to $27 million — and gross margin up 40 basis points over the prior year's first quarter to 27.9%.
Lynch told SN he accepts full blame for the promotional overreaction. “I talked to our team about driving more sales late in the quarter, so our spend was larger than it should have been, and we didn't get the returns,” he told SN.
“I think we've learned our lesson, that you don't want to over-promote in a down cycle,” he added.
According to Short, “The fourth quarter taught Winn-Dixie a valuable lesson, so we would not expect to see a miss of a similar order of magnitude going forward.”
For Lynch, one positive that resulted from the over-aggressiveness of the fourth quarter was Winn-Dixie's ability to draw more traffic into the stores. “I think [the fourth-quarter promotional activities] put a little bit of wind behind us,” he explained.
Winn-Dixie operates 521 stores in five states: Florida, Alabama, Louisiana, Georgia and Mississippi. All operate under the Winn-Dixie banner with a conventional format, except for 11 discount stores called SaveRite — a holdover from previous managements, Lynch noted. Although Winn-Dixie will continue to operate them, it has no plans to expand that format, he told SN.
Sales for the fiscal year that ended last June were $7.3 billion, up 1.4% from $7.2 billion in fiscal 2007, with industry analysts anticipating a boost to $7.4 billion for the year ending next June.
Identical-store sales gained 0.9% last year, and the company projects IDs this year up 1%-1.5%.
The chain achieved $13 million in income before nonrecurring charges in the last fiscal year, but a one-time adjustment in self-insurance reserves left it with a loss of $6 million. However, EBITDA rose 57% to $101 million, and the company projects that figure to increase to a range of $110 million-$125 million this year.
Gross margin for the year was 27.2%, up only 30 basis points — due largely to the increased promotional activity in the fourth quarter, the company said — and is projected to be “slightly higher” this year.
“We entered the new fiscal year with a better store base and brand image, improved relationships with our customers and vendors, and a healthy balance sheet,” Lynch said.
Cerankosky told SN Winn-Dixie's turnaround will not be complete until it can achieve consistent same-store sales growth above the rate of inflation and operating profit margins of 2%.
IDs rose to 3% in the first quarter, which ended Sept. 17, aided by a boost of 1.1% from strong pre-hurricane sales, for a real run rate closer to 1.9%, observers noted. Operating margin for the quarter rose from minus 1.1% in last year's fourth quarter to negative 0.08% in the first — a significant improvement, Cerankosky noted.
“While I usually don't look for trends on a quarter-to-quarter basis, the improvement is definitely a major break in the right direction and shows management has rectified the fourth-quarter problems,” he told SN.
Asked if management has an ultimate exit strategy for Winn-Dixie that would involve seeking a buyer for the chain, Lynch told SN, “When something is attractive, people like to look at it. But our intent is to turn the stores around so they will succeed for the long term.”
Eric Harris, the chain's director of investor relations, who joined Lynch during the SN interview, added, “We are truly focused on maximizing shareholder value, which is evident in our financial performance since the bankruptcy and the remodeling activity.”
According to Bishop, a future sale seems inevitable. “There's no question it's all about a sale,” he said. “The big prize is always developing an effective exit strategy, and the company is working hard to achieve that goal.”
Giblen said achieving a complete turnaround would mean stabilizing Winn-Dixie's sales and gross margin. But when the time comes, he suspects the company would more likely be sold to another operator than to an investment group.
“Investors depend on borrowing money to make a deal, and borrowing money will be tougher for a while because of the economy,” he explained, “whereas a purchase by another chain would usually involve cash.”
Focus on Remodels
Meanwhile, Winn-Dixie is concentrating on improving its store base.
It is allocating $250 million this year for capital improvements, up slightly from $240 million in fiscal 2008 — with $150 million earmarked for store remodels and the balance for improvements in information technology and logistics equipment.
Lynch said the chain is financing cap-ex from a combination of cash flow, better vendor terms and various working-capital improvements.
Winn-Dixie is on track to complete 75 remodels this year, he said. Although it completed only one during the first quarter “because of a little bit of a bump with hurricane delays,” Lynch said the company anticipates completing 17 remodels in the second quarter, 35 in the third and 22 in the fourth to meet its goal.
If all 75 remodels are completed by next June, Winn-Dixie will have upgraded 170 stores, or 18% of its base, with a goal of remodeling 50% of the stores by June 2010 and substantially all of them by June 2013.
The company is remodeling stores across its entire operating area rather than picking off the “low-hanging fruit” first, Lynch said.
“We've been selecting stores based on several criteria, including when they were last remodeled; whether we want to cluster the remodeled stores; what new competition has opened nearby; and the potential for making market share gains,” he told SN.
Lynch said he sees the heavy remodeling activity as the chain's opportunity “to reintroduce consumers to the new Winn-Dixie.”
That's been a challenge, however, given the negative image the chain had built up over the last decade or so, Lynch acknowledged. But with the remodeling effort well under way, “we're depending on strong word-of-mouth to help us,” he said.
Asked why someone would want to revisit a Winn-Dixie store they had abandoned years before, Lynch replied, “Because what they'll experience is so different from what it used to be that we hope anyone who happens to stop in just for a loaf of bread likes what he sees and decides to come back as a regular customer.”
What customers experience at the new Winn-Dixie is a more up-to-date look, with a contemporary color palette, new wood flooring, warmer lighting and wider aisles, plus expanded departments throughout the store.
Cerankosky said he gives the chain good marks on the look of the entire store base. “Every store [is] presentable and quite clean,” he said, “[and] remodeled stores look modern and attractive.
“Each showed clear signs of neighborhood-oriented merchandising, which is critical given the dispersion of stores across several states and a wide variety of ethnic and demographic demarcations.
“Because much of Winn-Dixie's competition is showing prettier stores, a better appearance will do as much as improved perceived value to recover market share.”
To improve the quality of the store base, Winn-Dixie is customizing each location to the demographics it serves, Lynch pointed out, by going into each neighborhood and amassing extensive data on the area's specific preferences “so we can understand the customers and what type of store they need.
“We have good transparency on our stores. We understand what's going on in each store's immediate area by customer segment, and we design the remodels accordingly. Many companies say they do that, but we really dig in to determine what's needed, and that's what we provide.”
Winn-Dixie breaks down its marketing into five neighborhood formats: urban, affluent, kosher, Hispanic and resort. Although the differences between each are important, “75% to 80% of each store is basic,” Lynch told SN.
With its focus on store remodels, Winn-Dixie has opened only one new store since 2003 — a 50,000-square-foot store in Americus, Ga., last June that replaced a location destroyed by a hurricane; and it has only one more new store in the pipeline — a 50,000-square-foot store in Covington, La., scheduled to open in June.
Winn-Dixie operates six distribution centers: two in Jacksonville, plus facilities in Miami and Orlando, Fla.; Montgomery, Ala.; and Hammond, La.
It sold two dairies last year — to sharpen its focus on retail operations, Lynch said at the time — to Southeast Milk, a Belleview, Fla.-based cooperative that continues to supply the chain with fluid milk, orange juice, fruit drinks, tea, water, ice cream and frozen yogurt.
