The Great A&P and the Struggle for Small Business in America (17 page)

The new strategy was a decided gamble. To make it work, A&P would have to cut costs drastically: lowering prices without lowering costs would devastate profitability. The easiest way to cut costs, of course, was to slash the wages of grocery clerks and store managers, but the Hartfords, extremely paternalistic employers, would not hear of such a thing. Instead, they identified other avenues. The pace of store openings was scaled back; after opening nearly nine thousand stores between 1922 and 1926, A&P would add fewer than one thousand over the next four years. The company’s thirty-six warehouses would have to run more efficiently, keeping less inventory. The bakeries would acquire the latest technology to make a thousand loaves at a time at the lowest possible cost. If stores’ orders for the products of A&P’s bakeries and factories allowed them to run at capacity, the manufacturing plants should earn solid returns even while supplying merchandise at low cost; those that could not would be sold or closed. Low factory production costs would enable the stores to “pass a part of the manufacturing profit along to the customer,” reducing retail prices in a way independent stores would be unable to match.
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The most important change—one that would have grave political consequences—came in A&P’s relationships with grocery suppliers. Through the early 1920s, purchasing had been rather haphazard, with warehouses, unit managers, or division managers buying directly from independent brokers, from manufacturers’ sales representatives, or, in some cases, from wholesalers. The 1925 reorganization put division presidents in charge of purchasing, with the result that the company paid several different prices for a particular product. In 1926, the Hartfords put an end to such laxity. A&P bought more groceries than any other retailer in the country, and they determined that it should be treated accordingly. Headquarters took charge of relationships with the big grocery manufacturers with the frank aim of driving purchasing costs down.

Many of these companies, such as Morton Salt and National Biscuit Company, produced popular brands with hefty profit margins. A&P’s new policy represented an attempt to capture some of the value in those brands. A&P demanded that the manufacturers give it advertising allowances in return for promoting their products nationally in whatever way it saw fit. Manufacturers were to sell directly to A&P, without using brokers or agents, and A&P would receive the commissions normally paid to brokers. If a manufacturer refused to play by those rules, A&P would take its business elsewhere. As the Hartfords anticipated, allowances became a major source of income. By 1929, allowances paid by manufacturers directly to A&P headquarters accounted for one-quarter of pretax profits.
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Manufacturers were to provide volume discounts, as they had in the past—but with A&P now placing many orders centrally, rather than at the unit level, its orders were extremely large, entitling it to deep discounts. Manufacturers almost always gave larger discounts to chains than to independent retailers, and they gave larger discounts to A&P than to any other chain. Between the volume discounts, the advertising allowances, and the brokerage commissions, A&P’s cost to purchase any item should be lower than that of smaller competitors. The difference was not huge: careful estimation by the economist Morris Adelman suggests that in 1929, A&P may have paid 0.94 percent less than wholesale grocers would have paid for the same products. But in a business in which customers would go out of their way to save a few pennies, A&P’s persistently lower purchasing costs gave it a leg up in retail competition.
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If they wanted their products on the shelves of the nation’s largest retailer, suppliers had little choice but to give A&P special terms, but they received special benefits in return. A&P’s orders were usually firm commitments, scheduled in advance. This allowed manufacturers to plan production efficiently, smoothing out the peaks and valleys in their business and thus lowering average production costs. While the advertising allowances it received were rarely tied to specific advertising plans, A&P was a huge buyer of newspaper advertising, and its decision to put its marketing muscle behind a product could turn an also-ran brand into a market leader. Thanks to its masses of sales data, A&P knew more about consumers’ tastes in food than anyone else in the country, and it shared that information selectively with its suppliers. Philadelphians, it found, liked their butter lightly salted, with a light straw color, whereas New Englanders preferred more salt and a deeper yellow coloration. Tastes in coffee and canned vegetables varied, too. A manufacturer allowed to mine A&P’s trove of market intelligence had an important advantage over its competitors.
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Its purchasing executives began to treat A&P’s manufacturing capability as a bargaining chip. If a supplier offered a good enough price, A&P might forgo manufacturing and order from outside. In a 1926 deal, A&P agreed to stop making chocolate products and to promote Hershey’s chocolate instead, and it weighed a similar arrangement with Postum, maker of Jell-O brand gelatin, and Campbell Soup, which offered to buy A&P’s bean and spaghetti plants. Conversely, when vendors of coffee and evaporated milk refused to cut prices as much as A&P demanded, A&P stepped up promotion of two of its own brands, Bokar coffee and White House milk. The possibility that A&P might refuse to stock their products or relegate them to the top shelves was enough to bring even the biggest grocery manufacturers into line, making sure that A&P got better deals than anyone else.
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Its size also gave A&P an edge when unique opportunities arose, because its thousands of stores made its purchasing agents confident that the company could sell almost anything they bought. In 1926, for example, twelve of A&P’s warehouses agreed to bid jointly when a cannery needed to dispose of eighty thousand cases of canned corn. By acting quickly, A&P saved $16,000, or twenty cents per case, off the regular price of corn. Individual stores ordered what they wanted at the low price, and the excess was sold off to other grocers. Such bargains were available to all retailers, but A&P could move faster than other potential buyers because it had little worry that it would be saddled with unwanted goods.
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A&P shook up the way it bought produce, too. Its national produce-buying operation, the Atlantic Commission Company, had started in 1924 by purchasing a modest forty-five hundred boxcar loads of fruits and vegetables. By 1929 it was spending $44 million, taking eighty thousand carloads a year directly from farmers who had signed contracts to grow crops for A&P, and buying another twenty thousand or so carloads on the open market. The savings were huge. Growers were willing to accept lower prices in return for an advance commitment to buy their crops, and by purchasing directly from growers, Atlantic Commission avoided paying brokerage commissions. In addition, less food went to waste, because Atlantic Commission’s distribution system, including fleets of company-owned trucks and refrigerated railcars, circumvented the delays involved in moving fresh produce through wholesale produce markets, shortening the time between field and store. Once Atlantic Commission assured it a supply of low-cost produce, A&P could profitably expand produce departments in its stores. But Atlantic Commission also created new enemies. Its relationships with growers disrupted the business of thousands of produce brokers and wholesalers who now had reason to oppose the giant retailer. And because its stock of perishables rarely was a precise match for A&P’s own needs, Atlantic Commission frequently entered the market as a seller, dealing its excess supply of one or another product to other retailers. Transactions with retailers other than A&P accounted for about 30 percent of Atlantic Commission’s sales, and at times put A&P in the awkward situation of being an important supplier to competing grocers.
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Astute management of real estate was another important aspect of A&P’s cost cutting. The Hartfords rarely acquired stores, because they did not want to be stuck with other operators’ poor locations or long-term leases. When leases expired, stores were often moved to better locations: as the country’s premier grocer, with impeccable credit, A&P was a catch for any commercial landlord. Landlords hoping for long-term leases, however, were disappointed: George Hartford used A&P’s bargaining power to insist on short-term leases with optional extensions, giving the company the right, but not the obligation, to renew a lease at a specified rate. George, like other business leaders in the 1920s, was adept at convincing others to spend for A&P’s facilities. When the company needed a new office in St. Louis and a warehouse in New England, it issued what would later come to be called commercial mortgage-backed securities, so A&P did not need to tie up its own money in the buildings. Concerned about the frothy property market, George ordered in 1928 that store leases not commit the company for more than a single year, leaving A&P in the driver’s seat when property prices and rents tumbled following the stock market crash in 1929. He later explained his prescience thus: “I just couldn’t now go along with all their big talk.”
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The two brothers’ strengths were in unique alignment. John Hartford’s high-volume, low-price strategy, executed with George Hartford scrutinizing every financial detail, represented a radically new model for retailers. Many companies, including A&P itself, had undertaken some of the steps A&P initiated in 1926. Sears, then entirely a mail-order house, had opened an enormous central warehouse in Chicago in 1906 designed to fill millions of customer orders in the most efficient way. Kroger, the second-largest food retailer, was the leader in operating its own factories. Most of the larger food chains ran their own warehouses to gain efficiencies in distribution. Never before, though, had a retailer sought to squeeze out costs from every part of its business in a systematic way: even bags and boxes were recycled, bringing in $1.2 million a year. Nor had major retailers embraced the seemingly counterproductive goal of reducing their margins on the goods they sold. Rather than trying to increase profits per dollar of sales—the conventional strategy of the day—A&P was deliberately seeking to
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profits per dollar sold in hopes of creating more sales. From 1915 through 1925, A&P’s profit had averaged more than 3 percent of sales. Henceforth, Mr. John decreed, profits should never go above the 2.5 percent level lest volume suffer. If the company’s profit margin widened, it would be not a good sign but a bad one, an indication that A&P was forsaking the cost discipline that would lead it to domination of the grocery market.

The giant retailer executed this radical strategic shift with remarkable speed. During the four-year period between 1925 and 1929, consumer food prices nationally fell 2 percent, but prices at A&P stores fell 10 percent. The advertising and brokerage allowances from manufacturers were important contributors to the large price drop: in 1928, A&P received allowances of $8.89 million, or more than 1 percent of its cost of goods. Inventories fell from 7.2 weeks of sales in December 1924 to 4.9 weeks of sales in December 1928 as purchasing agents and warehouse managers learned to move goods through the system faster. A&P’s bakeries, which had yielded a puny 13 percent return on investment in 1925, earned 82 percent in 1928 as more regular orders from the stores permitted the ovens to run full blast. As John Hartford had foreseen, lower prices brought customers streaming into the stores: the grocery volume of the average store doubled from 1925 to 1928. Expenses as a percent of sales plummeted, and the number of unprofitable stores fell by half. The after-tax rate of return on investment topped 26 percent in 1928, the highest rate A&P would ever register. The Hartfords had transformed their company into a profit machine.
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A&P’s new aggressiveness was in evidence throughout the grocery industry. By early 1927, after the new strategy had been in place for just a year, the division presidents’ meeting buzzed with complaints from manufacturers angry at demands for price cuts on their goods. The bottler of Clicquot Club ginger ale was furious that some A&P stores were selling the soft drink at retail for less than independent grocers were paying at wholesale. The maker of Palmolive soap threatened to revoke all of A&P’s advertising allowances. Canada Dry, another soft drink bottler, cut off sales to A&P’s Indianapolis unit. A&P kept its arrangements with individual manufacturers confidential to minimize controversy, but it could not still the rumors that it was selling merchandise below cost—an illegal act in many states—to steal customers. The Hartfords instituted a new rule: no matter the price at which A&P purchased a product, its retail price could not be lower than the undiscounted wholesale price paid by small stores.
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A&P started a price war on bread in early 1927, slashing the price of a standard thirteen-ounce loaf from six cents to a nickel. It could wage such a war lawfully, because its bakeries turned out bread much more cheaply than chain bakeries: competitors buying from one of the big national bakery chains, such as Continental or Purity, were paying nearly five cents per loaf at wholesale. A year later, A&P cut cigarette prices, roiling the tobacco industry and causing steep drops in the prices of tobacco shares. By 1929, A&P was charging shoppers eleven cents for a pack that had sold for fifteen cents a year earlier. The first victims were two tobacco chains, United Cigar Stores and Schulte. Unlike A&P, the tobacco specialists could not accept narrow margins on cigarettes and recover them somewhere else: tobacco was all they sold. United Cigar Stores was swept up in an accounting scandal as it sought to maintain its profits in the face of a price war. Schulte was forced to skip its dividend, cut executives’ pay, and slash bonuses. Hundreds of thousands of independent grocers, newsstand owners, and cigar-store operators were caught in the cross fire. The result, predicted the New York cigar vendor Benjamin Gorlitzer, “will be only to eliminate the small cigar dealers who are entirely dependent upon their business for a livelihood.”
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