Pathmark integration impacts gross margin

Chain Drug Review, Nov 10, 2008

MONTVALE, N.J.--Both operating and net results for this year's second quarter were impacted at A&P by problems in the integration of the Pathmark operations acquired in the fourth quarter of fiscal 2007. Specifically, the problems resulted in a 143-basis-point reduction of gross margin that was felt at both the operating line and the bottom line.

During a conference call with analysts chief financial officer Brenda Galgano noted that Pathmark stores traditionally are more driven by price and promotions than A&P stores and, consequently, generate a lower gross margin. Exacerbating that fact, though, was an acceleration of cost inflation to more than 5% that was not immediately passed on to the shelf, in part because of the distractions stemming from converting systems, people and processes.

"Second, we experienced a decline in incremental income due to a change in processes, which led to a decline in forward-buying activity at the store level," she said. "This change was initiated by Pathmark prior to the close of the acquisition but not fully implemented until the end of our fourth quarter.

"There was a lag between the change in the process and the resulting store-level buying behavior, which delayed the impact until this quarter. Changes, including centralizing forward buying, were made at the end of the quarter to fix this issue."

In the first five weeks of the third quarter, forward buying has generated increases in aver age weekly incremental income of about $1 million as a result of the changes implemented, Galgano added. However, president and chief executive officer Eric Claus pointed out that additional "systems process" issues related to the transition caused significant out-of-stocks.

"The capacity of the system is not an issue at all, even during the holiday season," Claus assured the analysts. "It is really just people and processes, and we believe we have those in place."