With rising interest rates, profitability has become a premium across all industries.
Many retailers, operating on thin profits, face tight margins that can fluctuate with even minor changes in costs or revenue. Enter retail media networks (RMNs) which have become a focus for many retailers over the last couple of years.
RMNs drive customer discovery by leveraging support funds from brands, in the form of digital ads, to drive greater sales while delivering increased profitability for retailers.
Amidst the backdrop of slowing advertising spend, how are media networks performing and where are they headed? A few key themes stand out as the focus for many retailers shifts from growth to the bottom line.
Increasingly important source of profit margin for retailers offering national brands
For retailers that operate on thin margins, such as grocers, support funds from national brand vendors are a critical component of operating profit. Many brands allocate these support funds (trade funds) to retail media networks.
A recent Wall Street Journal article revealed that, according to Matthew Hamory of AlixPartners, these funds “often account for more than a half of supermarkets’ operating profits.”
For ecommerce marketplaces – sites without limitations on the number of items offered to customers – that operate at scale, profitability may be determined by the success of the retail media networks given the often-thin margins on just the selling of items.
As an example, Instacart grew its revenue by 30% in the last quarter while gross merchandise value, or GMV (a proxy for transactions), grew by only 5%.
Grocers and marketplaces today are trying to squeeze more profit out of the business by selling media opportunities to advertisers rather than solely relying on the growth of customers’ purchases, which are strained right now.
Instacart’s S-1 filing in preparation for a public listing, revealed that one-third of its revenue
comes from ads, a much higher margin business than pure retailing. Like other grocers, which operate on low margins with high purchase frequency, the profit from advertising revenue—often between 50-70%—is essential.
Instacart’s strategy follows the path laid out by retailers such as Walmart, Target, Kroger, and Amazon which are leaders in “grocery sales share” and have led the charge in winning advertising share from Google and Meta brands in the media market.
Retail media is the frontier of product marketing today in grocery – and other categories with national brand suppliers – where advertisers seek a greater share of wallet with customers.
The business of advertising has become an important source of profitability for many of these retailers, including Instacart, which are increasingly dependent on the media business to retain operating margins.
Positioning for shifting funds amidst sales changes and increasing private label penetration
As consumer spending slows from the heights of the pandemic, brands are more selective in how they allocate trade funds to support sales.
The most important factor in relation to retail media network investments – which comes as no surprise – is the media performance to drive sales (Return on Ad Spend – ROAS).
As retailers increase their private label offerings to provide more value to price-conscious customers, while improving their margins, the question for many brands will be how to allocate support across retail media accounts where retailers may be taking away their space in the assortment?
The move by merchants towards increasing private labels might conflict with the long-term growth of retail media networks.
For many brands, investment allocation decisions for retail media networks are often driven by sales and market share growth. As retailers eat into national brand sales with expanded private label assortments, they may inevitably cannibalize their own retail media network sales if they cannot drive sales growth for national brands at the same time.
So, while retailers improve their bottom line in the short-run, and deliver improved margins, they will simultaneously have to keep their eye on driving sales growth for brands to capture more than their fair share of support funds from national brands in future years.
The media business has historically benefited players with the largest scale/distribution – from newspapers to TV to search. What makes retail media slightly different, though, is the need for both distribution of the media and delivery on the sales side.
The connection between media impressions is what makes the promise of retail media networks great and, yet, drives great pressure for retailers.
Retail media will likely play out in the long-run like other legacy media businesses with the benefits accruing to the largest players, especially ones that can make investments in their suite of tech products.
However, just as importantly, the largest retailers need to demonstrate the ability to deliver on sales growth for brands to pick up a greater share of support funds from brands in the market instead of merely reallocating existing trade funds, a longstanding element of the retail-brand relationship.