Food Deserts

Spurred on by government incentives, leading industry players are rolling out expansion plans to bring low-cost, healthy food to underserved urban and rural areas. Meanwhile, a variety of nontraditional food retailers are also getting in on the action. It remains to be seen who can find a sustainable business model.

In Chicago, a high-profile meeting in June between Rahm Emanuel, the city's new mayor, and executives from leading retailers, including Walmart, Safeway, Roundy's Supermarkets, Walgreen Co., Supervalu and Aldi, highlighted a commitment between local government and business to serve food deserts. All six companies have said they plan to introduce smaller, efficient stores with more fresh produce.

"By opening stores where customers need them most, Walmart will help build healthier families and stronger communities," says Leslie Dach, Walmart's executive vice president of corporate affairs, in a July statement announcing plans for 275 to 300 new stores in food deserts by 2016.

"We believe every single person should have access to an abundant selection of fresh fruits and vegetables at an affordable price," Dach says. Walmart has opened 218 stores in food deserts since 2007. With the new locations, it will employ about 40,000 associates in food deserts, bringing new jobs to areas with high unemployment rates.

Doing good

Many retailers are challenged by the rising cost of food and shrinking pocket books among low-income families. About 40 percent of Save-A-Lot customers, for example, currently use government assistance to pay for groceries, up from about 25 percent historically, the company says, although the no-frills retail division of Eden Prairie, Minn.-based Supervalu is faring better than some competitors due to its value-oriented business model.

"In any food desert, there's no one solution."

—Mari Gallagher,

Mari Gallagher Research and Consulting Group

Government incentives like the Obama administration's new Healthy Food Financing Initiative, however, are aimed at making it more attractive for retailers to bring fresh food to underserved markets. In food deserts, which the U.S. Department of Agriculture defines as low-income areas where at least one-third of the population lives more than a mile from the nearest supermarket in urban areas and more than 10 miles in rural areas, residents suffer a greater incidence of diabetes, high blood pressure and other conditions related to obesity, which can shorten life spans, says Mari Gallagher, principal at Chicago-based Mari Gallagher Research and Consulting Group.

With public health at risk, grants, tax incentives and technical assistance pr ograms totaling more than $400 million have been included in the Healthy Food Financing Initiative with a plan to eliminate food deserts over the next seven years. Financial assistance to enterprises targeting food deserts is available through the U.S. Treasury Department, the USDA and the Department of Health and Human Services.

Strategies for success

But retailers aren't necessarily waiting for government support before entering underserved areas, says Jim Hertel, managing partner at Willard Bishop Consulting, a Barrington, Ill.-based food consulting firm. Initially, "it's more a question of understanding consumers," he says.

"Stores . . . with limited offerings in a small footprint, or even dollar stores, have a good chance at success."

—Jim Hertel,

Willard Bishop Consulting

While the cost of urban real estate can be a deterrent, compact stores can be profitable in densely populated areas if they operate efficiently, Hertel says. Save-A-Lot emphasizes private label products and limits the number of stock keeping units available in any one product category to generate profits on volume. In addition, it relies on efficiencies through technology and labor savings to shave costs.

"Stores like Aldi, with limited offerings in a small footprint, or even dollar stores, have a good chance at success," Hertel says.

Aldi says it will open 100 stores per year, and Save-A-Lot is on track to double in size to 2,400 locations in 2015 from 1,200 stores in 2010.

Time will tell which business models work best, suggest Seattle-based retail consultants Dick Outcalt and Pat Johnson of Outcalt & Johnson LLC. Aside from their success at receiving grants and other assistance, stores vary in their ability to generate return on assets. According to Outcalt & Johnson's research, the average supermarket earned a return on assets of 7.6 percent in 2010, compared with 6.4 percent for convenience stores and 8.8 percent for fruit and vegetable markets. But perhaps a more important figure is pretax profit, which averaged 2 percent for both supermarkets and fruit and vegetable markets in 2010, according to the consultants' research.

To sell high-margin fresh goods to lower-income customers, the industry's cost structure has to be reinvented, Outcalt says. "The important thing for any retailer is to have the best possible distribution system and the best technology," he says.

In the case of fresh produce, dairy and meat—products with a shelf life of a few days—stores need electronic point-of-sale reporting to get deliveries exactly right. The need for sophisticated operating systems means that not every independent retailer will be able to compete, Outcalt says.

More competition

But some savvy specialty stores are expanding in food deserts. Yes! Organic Market has been adding stores in the Washington, D.C., area, selling healthy food, food supplements and body-care products. Last year, the company worked with local officials for a $900,000 grant to open a store in an underserved neighborhood.

Grocers also may be competing with fast-food retailers, who could find themselves in the sweet spot for serving food deserts, Outcalt says: "Stores like McDonald's and Subway are in a great position to expand into fresh food sales. Subway already uses the 'eat fresh' slogan."

Fast-food retailers could add 3,000 square feet of floor space to their existing units to sell fresh produce, he suggests. "Mom could shop for fresh vegetables, while the kids eat a hamburger in another part of the store," he says.

Other business models include "mobile markets," either for-profit or not-for-profit ventures. In Chicago, nonprofit group Fresh Moves is using a brightly painted city bus—donated by the Chicago Transit Authority—to visit neighborhoods that don't have access to fresh fruits and vegetables. Since May, Fresh Moves has been selling out of fresh vegetables on a twice-weekly schedule.

MoGro (short for mobile grocery) serves the Pueblo community in New Mexico with produce and other goods sold from refrigerated trucks. Besides retired Sysco executive Rick Schnieders, business partners in the new venture include the Johns Hopkins Center for American Indian Health and La Montanita, a food co-op that stores and transports food and manages inventory.

So-called food hubs, or supplier groups that work together to sell to restaurants, grocery stores and farmers markets, also can tap the Healthy Food Financing Initiative. So far, there are some 40 food hubs in food deserts, mainly in the Midwest and Northeast, the USDA reports. Each hub includes about 40 suppliers and generates $1 million in annual sales on average.

In the meantime, retailers who are eager to find growth opportunities also are taking notice, says Hertel of Willard Bishop.

In rural food deserts, retailers will need to attract consumers from a greater distance, who will come to stock up on lower-priced items. "If people travel 15 miles to shop, they won't just be buying milk and bread. You have to have a bigger assortment to meet the needs of customers who only get to the store once a week," Hertel says.

In fact, corner grocery stores and other small retailers might be more realistic options for rural food deserts than chain stores, says Gallagher, who also has done research on food deserts in rural Ohio.

"In any food desert, there's no one solution," she says.

Freelance business writer Ann Keeton worked at Dow Jones News Service for more than a decade. She covered the U.S. airline, aerospace and defense industries for Dow Jones and The Wall Street Journal and has written about retailing and manufacturing.