Unpacking the ACCC’s supermarkets inquiry

Garreth Hanley:
This is With Interest, a business, finance, and accounting news podcast brought to you by CPA Australia.

Tiffany Tan:
Welcome to With Interest. We are here today to deep dive into the key issues shaping business policy and the economy. Today, we are tackling the topic that's been making the headlines and hitting the wallets of everyday Australians: supermarket prices and competition.

With cost-of-living pressures mounting, the Australian government has directed the ACCC to launch a major inquiry into the supermarket sector, looking at pricing practices, competition, and the relationship between wholesale and retail prices. It is a critical moment that could shape the future of grocery shopping in Australia.

Joining us today to unpack this issue is Professor Matt Pinnuck from the University of Melbourne. Welcome to With Interest, Matt.

Prof Matt Pinnuck:
Great to be here, Tiff.

Tiffany Tan:
Matt, before we dive into the details of the ACCC inquiry into supermarket pricing and competition, can you please tell us a bit more about your background and the work that you do? How does your expertise align with the key issues being examined in this inquiry?

Prof Matt Pinnuck:
Great question, Tiff. Happy to give you a short hits-and-misses in my career. So I started at KPMG in audit, where I rose to the dizzy heights of the manager. While I was at KPMG, I also had stints at KPMG Chicago. They said, "Matt, you're a superstar and can we send you to KPMG Moscow?" I said, "I'm not sure about the superstar part, but I'm happy to go."

So I spent some time in Moscow. But once I got back from that, I felt I'd learned all I was going to do at KPMG—great firm, by the way. So I thought I'd do a PhD in financial accounting and data, and econometrics and statistics, at Melbourne Uni. So, I did that and I've stayed at Melbourne Uni through to the dizzy heights of a professor. And now I spend a lot of time advising

industry bodies such as CPA, doing benchmark reports and providing advice to regulatory bodies such as the Australian Accounting Standards Board.

Tiffany Tan:
Amazing, amazing experience you have there, Matt. I understand that you made a submission to the ACCC inquiry into the supermarket sector, and your insights have been included in the interim report. Can you talk us through the key points of your submission and what the main issue or recommendation you've highlighted?

Prof Matt Pinnuck:
Okay, so the key issue of concern by the regulator and other commentators out there is that it was perceived that Woolworths may have been price gouging. So therefore, if Woolworths is price gouging, then the implication of that is that they should be making abnormal profits.

So then the trick becomes, if they are making abnormal profits, we need to assess or provide evidence as to whether they're making abnormal profits. But there wasn't much evidence out there. So I felt I could provide some evidence. Because the key to providing evidence as to whether you're making abnormal profits is to come up for a measure of normal profits, which is very difficult to do.

So what I did to do that, I got all the supermarkets across the world from the high-income countries and measured their level of profitability as a proxy for what the normal profits should be. And that came out using a return on capital at 12 per cent.

So now I know you're waiting for the big picture question. I'll leave the audience in suspense for a minute. So how does Woolworths and Coles compare to the benchmark of 12 per cent? So here's the answer for everybody. Woolworths and Coles' return on capital is around about 12 to 13 per cent. So it's very close to the benchmark of normal. So in turn, my conclusion was there is no significant evidence of any price gouging. So we could all go shopping tonight.

Tiffany Tan:
How interesting, isn't it? I mean, there's a lot of talk in the market that, oh, you know, how much I pay for a chook and all these things. But if you look at other comparable jurisdictions that you alluded to, Matt, it looks like we're all paying the same price, including those other jurisdictions, you know, the UK or whichever country that you look to in terms of the margin, isn't it?

Prof Matt Pinnuck:
Yes, very comparable. So it's staple products. So really, it's homogeneous across the world, so you'd expect the profitability to be reasonably the same unless there was some price gouging going on. The evidence is reasonably clear. Most supermarkets across the world are very competitive and making normal rates of profit.

Tiffany Tan:
Fabulous. Good to hear. I'm going shopping tonight, that's for sure. With the interim report’s highlight concern about the dominance of Coles and Woolworths, right? In your view, I know you touched a bit about it already. What impact does the market structure have on the consumer and the supplier? Because we know that in the Australian market, we have Coles, we've got Woolies, we've got Aldi, maybe some IGAs around, and Foodland and stuff, so what's your view on that?

Prof Matt Pinnuck:
So it's a great question, Tiff, and this is a key question. The perception is, in Australia is that we have a highly concentrated supermarket industry, it’s very true. Realistically, we have Woolworths, Coles, IGA, Aldi, and Costco, with Amazon lurking a little bit at the edges. But the fact is it's a highly concentrated industry.

So then the automatic assumption or premise amongst a bunch of commentators automatically associate that with being bad. But there's two very significant benefits associated with having large supermarkets and a concentration.

The first one is the economies of scale. So with economies of scale, the fact of the matter is at the moment in our society, we want online distribution platforms. So Tiff, you can order your roast chook on the way home tonight and get it delivered to your door. So we want that. And we want a wide choice of products, right? So it's fantastic. We've got a multicultural society. So we want all ranges of food from all countries.

In addition to that, we want organic food. We want gluten-free food. We want dairy-free food. Now, to provide both online distribution platforms and a wide choice, we need big warehouses. So it's very costly. So therefore, we need to share the cost. So if you have large supermarkets, one or two supermarkets, you're sharing the costs across a large number of consumers. So the unit costs come down and in turn prices are lower.

So that's the first point. So the first benefit of having concentration is economies of scale, lower costs and in turn lower prices.

The second one is a really interesting one. The paradox is people think we have thousands of firms out there, the competition is going to be more fierce. But here's a key point; to have high competition, you need to be able to compare prices.

Now, as it turns out, if we only have two supermarkets, such as Coles and Woolworths, it's very easy for us to compare the prices of those two to each other, and therefore they are under price pressure to offer the lowest price.

Whereas if you have a thousand little firms out there, it's very difficult to compare prices, so you don't get that price pressure. So funny enough, I know the perception of people, thousands are going to be better than two in terms of competition. It actually works the other way, particularly in a very busy world.

Tiffany Tan:
I would tend to agree. I don't know how you shop, Matt, but I look at, I'm one of those people that look at the brochure on a weekly catalogue basis. What's on offer in Coles? What's on offer in Woolies? I'm going to get this from Coles this week. I'm sure Woolies will come on to get the same deal next week if I missed it. So I will only buy on special. I'm being a tight person, I would be first admit that.

That's interesting. Never thought about that. I think the one that you hear all the time is, "Oh, you know, there's only two supermarkets, we have limited choice, therefore they can jack up the price or whatever." But it makes sense because there's only two; you can only compare the two. And for people like me who look at the catalogue before I go to my weekly shopping, I'm not being ripped off, I can tell you that. Prof Matt Pinnuck: You're not being ripped off.

Tiffany Tan:
Yes. Thank you. Now, many consumers also have expressed concern about supermarket pricing strategies. I think this might link us to what we just talked about. Including the frequent sales, short-term price cuts and members-only discounts.

How do pricing tactics like members-only discounts and frequent short-term specials impact consumer perception of value?

Prof Matt Pinnuck:
Great question. So, there's no doubt about it, there's a perception out there that in some way these pricing strategies are bad for the consumer. As it turns out, we're all better off, so let me explain why.

The simple fact out there in in the consumer world is, there are some people who are willing to pay more for a product, and some people who are willing to pay less. The tricky part is trying to work out who wants to pay more and who wants to pay less. So all these strategies that the supermarkets do, they're trying to differentiate – find the customer segments that want to pay more and those that want to pay less.

Now, if they can identify the customer segment that wants to pay more, the beauty of that is their revenue’ greater, and therefore they can afford to lower the prices for the shoppers like yourself, Tiff.

Tiffany Tan:
Yes.

Prof Matt Pinnuck:
So, funny enough, these strategies ultimately benefit us all.

There are definitely people out there who are willing to pay more, and you've got your budget-conscious consumers, your students, your retirees, and so on. So, by segmenting the market, they are trying to segment the market, and as it turns out, if they can find the people willing to pay more, their revenue is higher, and therefore they can afford to lower the price for the budget conscious consumers.

So, that’s the big picture sitting behind it all. It’s not as if they’re being nasty or evil or anything like that. As it turns out, we are all better off.

Tiffany Tan:
It's interesting how much thought goes into it behind the scene, what they're doing in terms of the pricing strategy that you talk about. Obviously, we are not the same people; they have different needs.

I know friends of mine who only buy organic. And they’re happy to pay the price and I'm more the value buyer. I'm happy to wait for the price to come down, and I'll them buy in bulk if I can.

But that leads to another interesting question because you clearly can't buy in bulk for perishables and stuff like that, right? So there are reports of perishable product suppliers facing significant risk due to supermarket procurement practices.

So what are some of the key issues here, and how do you think that could be best addressed in terms of that category of goods that you can't really do much about it?

Prof Matt Pinnuck:
Great question. Heads up here, I'm not an expert in this particular area, but I'll give a few thoughts as to what's possibly going to happen going forward. And it's all pretty much good news.

So what's happening now, if you look at the front end of the supermarkets annual report, and there were financial statements, which sadly I love reading, and you look at their strategies, okay? It's not, you look at the strategies or the business models and how they're going to compete. There's nothing in there about physical stores or physical stuff or anything like that.

One of the key things they're going to compete on is data analytics. So with the emergence of AI, big data, analytics, they're going to be able to better predict, okay, as to what the consumers want, okay? And in turn, as a consequence of that, they may have lower stock loss including the veggies and so on and so forth. So that'd be my only observation in that space.

Clearly, supermarkets don't want to have goods going bad. There's no question because they lose. So they are a big part of their strategy. It's just really interesting. You look at the front end of the annual report, it's got nothing about physical stuff. It's all data analytics and AI.

Tiffany Tan:
And I think I heard as well, I'm not reading annual reports like you do, Matt.

Prof Matt Pinnuck:
Oh, you should, Tiff. It's a good nighttime reading.

Tiffany Tan:
But I know there's a lot of initiative already from Coles and Woolies and even Aldi, the big ones, that what they do is they donate those foods to not-for-profit organisations, like Food Bank and stuff like that. So that's really part of the initiatives anyway, to reduce the food waste, right?

It's not that these goods are not good enough, because willing payers will pay for the best, that will reduce the food waste, which is one of the key initiatives apart from data analytics to adjust the procurement process.

Prof Matt Pinnuck:
Yeah, that's a good point, Tiff.

Tiffany Tan:
Yeah. Okay, looking ahead, I know that we haven't got the final reports. What recommendation would you hope for the ACCC in their report, in the final report, to make sure that fair competition in the supermarket sector?

Prof Matt Pinnuck:
Okay, can I give you a recommendation first that they don't do? And then I'll explain why and why it's important. So I hope the recommendation is there's no controls over price. And people need to understand that the price signal is the most important signal in our society and economy to allocate resources. Because that price signal aggregates a whole bunch of information, both on the demand side, what consumers want, and on the supply side if there are constraints.

So they reveal a whole bunch of information. But not only do prices reveal a whole bunch of information, they act as an incentive for action, right?

Tiffany Tan:
Yes.

Prof Matt Pinnuck:
So you got information and incentive for action. Let me very quickly give an example of the benefits of high prices because people think it's all bad. On the surface, it may be.

So at the moment in Australia, the prices of eggs are going up a lot, okay? As you may know, the prices of eggs are going up at the moment a lot. And why? There's a supply constraint, okay? Because of the flu for the chooks.

Tiffany Tan:
Yes.

Prof Matt Pinnuck:
It's unfortunate, but they’ve had to be killed, right? So straight away, the fact that the price is going up is conveying a very important signal that there are constraints on supply, right?

Now, people don't need to know why there is a constraint. But here's a really key point. That increase in price acts as an incentive for action, right? It gives rise to three incentives for people. Those people who really don’t want eggs, they won't buy them.

Tiffany Tan:
That's right.

Prof Matt Pinnuck:
So normally, you may be buying a whole bunch of eggs and making sponges. You’ll cancel the sponge, right?

Tiffany Tan:
Yes.

Prof Matt Pinnuck:
But this is great. So those consumers who don't really want it won't buy it. It'll leave the eggs on the shelf for those who really do need it for health reasons or whatever. So it acts as an incentive for that action.

It gives rise to an incentive for egg producers to change their production technology. Okay, prices are higher now, so perhaps we can afford to produce more eggs.

And finally, it acts as an incentive for entrepreneurs to find substitutes for eggs. As soon as you have price caps or price controls, it destroys that signal. And we don't do anything. We only have queues. It's a mess.

So my first message is I hope the regulator does not introduce price controls.

The second message, I guess, in my view, the most important regulator is a consumer. Funny enough, the consumer is a great regulator. As soon as the consumer sees the price of Woolies is higher than Coles, they will shift from Woolies, as Tiff, you just said you would. You would shift from Woolies to Coles. That acts as the most important mechanism to discipline Woolworths to drop their prices.

So in turn, what should the regulator do? They should help us have a transparent pricing platform. So Tiff, when you go home tonight, you can compare prices. So my advice is the regulator should not be stepping in. They should be empowering the consumer. And they can empower the consumer by facilitating internet platforms that you can compare prices.

Tiffany Tan:
So going back to the point, is the power of demand and supply at the end of the day.

Prof Matt Pinnuck:
Spot on. But seriously, it's a big issue. And the price is the most important signal in our economy and it aggregates up all that information, demand and supply, and you put caps on it, but we don't know what's going on in the world.

Tiffany Tan:
Yeah, it's been tainted anyway. Prof Matt Pinnuck: It's been tainted, right? I guess it's an indication for the consumer as well. Yes. It's not price gouging. It's just in the case of the egg prices, they're not trying to price gouge. There's just no eggs out there.

Tiffany Tan:
Moving on to the next one, Matt. What about other sectors in your research? Do you see any anomalies or issues that will impact consumers, or does it look like the market is functioning pretty well? I think you touched on that anyway.

Prof Matt Pinnuck:
So if anyone has an interest out there. I can tell you, what is a normal rate of profitability of firms in Australia? But as it turns out, across most sectors in our economy, the normal rate of return or normal profitability is 11 per cent. And as it turns out, that's comparable to the rest of the world. So there's no sectors that jump out that are making obscene, abnormal profits.

Tiffany Tan:
What message would you like to share with policymakers, consumers and businesses about the future of supermarket competition in Australia?

Prof Matt Pinnuck:
Okay. I'll just make three observations in that particular space. I think going forward, the supermarket industry is going to remain a highly concentrated industry simply because the way we're going to service ourselves as a society, the supermarkets are going to turn into a tech-platform effectively, that requires a substantial amount of upfront resources to invest in. So the fact of the matter is we're going to have, going forward, a highly concentrated supermarket industry. And we've got to think about this at a national policy level almost because you've got to remember Amazon is coming into Australia.

Tiffany Tan:
Yes.

Prof Matt Pinnuck:
Now, I don't want to get into the whole do we want Australian firms versus international firms, but most people would feel it would be good to have some local Australian firms.

Tiffany Tan:
Yes.

Prof Matt Pinnuck:
Well, if Woolies and Coles are going to compete against Amazon, Aldi, and Costco, they're going to need to be large, just a simple fact.

Tiffany Tan:
Yeah, true.

Prof Matt Pinnuck:
It's just a simple fact. That's the first point. The second point that I want to take away or make is, as I said, the regulator can't solve this problem. The most important police person, if you like, is a consumer, okay, because they can simply shift from shops.

So in turn, then the final and third point to empower the consumer to be the ultimate police person on the street, they need an internet platform to be able to compare prices.

Tiffany Tan:
Yeah, that's very sound advice, Matt. That brings us to the end of today's episode. Thank you so much for joining us, Matt. It's been really insightful having you on the show.

Prof Matt Pinnuck:
Thank you, Tiff.

Tiffany Tan:
It's clear when I look at the interim report that the funding raised some big questions about fairness for both consumers and suppliers, and we'll be watching closely as this final report takes shape.

For more information on the ACCC supermarket initiatives, or to learn more about Professor Pinnuck’s work, please be sure to check the show notes link below. If you found this discussion valuable, don't forget to subscribe to With Interest and share this episode.

As always, we'd love to hear your thoughts. Reach out to us on social media or in the comments below. Thanks for listening. We'll catch you next time.

Garreth Hanley:
You've been listening to With Interest, a CPA Australia podcast. If you've enjoyed this episode, help others discover With Interest by leaving us a review and sharing this episode with colleagues, clients, or anyone else interested in the latest finance, business, and accounting news. To find out more about our other podcasts and CPA Australia, check the show notes for this episode, and we hope you can join us again for another episode of With Interest.