Exchange-Commissary merger eyed to stem store crisis
March 27, 2014
By Tom Philpott
Crowds that shop daily in base commissaries and exchanges perhaps are oblivious to a confluence of forces threatening to dismantle their multi-billion dollar resale systems.
Thomas C. Shull, chief executive officer of the Army and Air Force Exchange Service (AAFES), is not, which helps to explain his March 17 memo proposing a merger of commissaries with exchanges to try to save both.
While Department of Defense civilian and military leaders testify that base grocery stores can survive 20 percent higher prices, and that base department stores can weather falling sales, behind the scenes the systems’ top managers are sounding alarms.
At risk are the prized discounts on groceries and merchandise the military has enjoyed for decades. Industry sources contend the threats have never been more real, more numerous or potentially more destructive.
Automatic defense spending cuts from the sequestration scheme in the 2011 Budget Control Act is the greatest threat. However, the Obama administration’s plan to cope with some of the cuts by slashing taxpayer support of commissaries, from $1.4 billion a year down to $400 million by fiscal 2017, is viewed as reckless if the real goal is to save the stores.
If the plan is enacted, Shull wrote, so many patrons would leave as “to render the commissary system unsustainable,” forcing stores closures across the continental United State with “devastating” effects on exchanges.
Where commissaries close, customer traffic into exchanges would drop 20 to 30 percent, threatening the viability of AAFES, Shull predicted.
“A conservative estimate of the financial impact…is a loss of over $1 billion in sales, which translates into about a loss of $200 million in earnings,” Shull wrote. That drop, in turn, would force cut to dividends used to support base-run qualify-of-life programs. In fiscal 2012, roughly $330 million in exchange profits helped to fund recreation centers, youth services, arts and crafts, aquatic centers, golf courses and more.
To save commissaries and protect exchanges, Shull proposed to Frederick E. Vollrath, assistant secretary of defense for readiness and force management, a plan to merge commissary operations with exchanges and use resulting efficiencies to stabilize grocery prices and keep patrons.
This would be far better, Shull wrote, than turning the Defense Commissary Agency (DeCA) into a new and separate “non-appropriated fund instrumentality” like AAFES and Navy and Marine Corps exchange systems.
“Using the best of exchange and DeCA leadership to lead a transition of the commissary from a cost-plus-reimbursement environment into one based on profit and loss principles is a much better solution than the one proposed,” Shull argued. “The exchanges have a core competency of controlling costs while delivering value to our service members and families.”
Resale industry sources said Shull correctly warns of the catastrophe awaiting base stores if $1 billion a year is cut to commissary funding. There are, however, many more developments occurring simultaneously that also put base shopping at risk. These include:
-- FALLING SALES: The three exchange services are seeing sales drop markedly by an average of 5.9 percent in 2013 alone. AAFES blames its $900 million drop on a pull back of troops from Afghanistan, Army re-stationing of forces from Europe, and stiffer sales competition off base. To soften the effect on dividends that support morale, welfare and recreation programs, AAFES aggressively lowered overhead cuts, cut full-time staff, cut spending on transportation, utilities, travel, supplies and future construction.
-- FORCE CUTS: The size of the military has fallen from wartime peaks. But the steepest drops, in ground forces, began this year and will accelerate. Active duty strength will be cut six percent from 2015 to 2019 and Reserve and Guard forces by another four percent. Those totals assume some extra relief from sequestration. It none occurs, the active Army will have to shed an additional 20,000 troops in that period, officials warn.
-- CURBS ON TOBACCO: Exchanges have relied heavily on sale of tobacco products for profits. Most commissaries also sell cigarettes but on consignment from the exchanges. In fiscal 2012, tobacco sales in military stores totaled $711.4 million, generating profits of $125.7 million.
Inspired by the recent decision by CVS Caremark pharmacies to pull tobacco products off its shelves, Navy Secretary Ray Mabus is preparing to announce soon he will end tobacco sales on Navy and Marine Corps bases and in ship stores by September. Proponents say it would end the hypocrisy of selling tobacco conveniently and at deep discounts while encouraging service members and families to stay healthy and fit.
If Mabus executes his plan, shopper traffic on bases would fall, further straining exchange profits. Yet AAFES would be under intense pressure to follow the Navy lead, which would make their own sales more anemic.
The Navy Department has taken other steps to discourage tobacco use, arguing it drives up medical costs and drives down individual readiness. In 2012 it narrowed discounts on cigarettes sold on base. Later that year, the submarine community became the first to ban smoking across its fleet.
Defense health officials strongly support such actions. The department estimates it spends more than $1.6 billion a year on tobacco-related medical care, from higher hospitalization rates to lost workdays.
Christopher K. Haddock with the Institute for Biobehavioral Health Research, co-author of several articles on military cigarette pricing and impact on health policy, agrees that Mabus is putting rounds on target.
“Availability and price have always been two of the biggest drivers of tobacco use. Study after study has shown that,” Haddock said. As long as base stores not only sell tobacco but at a discount, “it sends a message that the military must not be serious about tobacco and health because they’re making it convenient and cheap.”
-- MINIMUM WAGE: Resale industry officials also blame President Obama’s recent executive order, raising the minimum wage in federal contracts to $10.10 an hour, for forcing some base franchises to close.
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