- Moody’s released a report showing U.S. packaged food companies will face pricing pressures in 2020 that will lead to moderate earnings growth and flat profit margins.
- Divestitures and M&A for CPG food companies will slow as potential buyers become wary of overpaying for companies.
- Beverages, however, will see positive growth with premiumization being a key trend. Moody’s noted that companies skewed toward premium products will experience stronger growth than those that sell mainstream options.
Not all the news for the CPG industry is unfavorable in 2020. While overall growth for many companies will remain flat, reflecting rising input costs for labor and commodities, Moody’s predicts there will be 3% growth in core operating profit for businesses. These figures are an improvement from the last several years and reflect a modest 1% to 2% growth in sales as well as the cost structuring and saving benefits associated with M&A from the past year. Operating profit growth will hit 3.1% by the end of next year, up from -0.5% in 2018 and 2.8% in 2017. The earlier part of the decade had much larger operating profit growth with a peak of 12.7% in 2016.
Although this M&A strategy has been successful for the last few years, Moody’s noted that the market is now cooling off. With enormous price tags associated with some of these deals, companies are becoming wary of purchasing brands with overinflated valuations. It the last few years, Campbell Soup spent roughly $5 billion to acquire the manufacturer of popular snack brands such as Pop Secret, Kettle, Cape Cod and Emerald; Conagra Brands purchased frozen foods maker Pinnacle Foods for about $10.9 billion in cash and stock; and Hershey added to the fold bar maker One Brands, Pirate Brands and AmplifySnack Brands, the parent company of SkinnyPop.
Still, companies have other avenues to position themselves for growth. Moody’s noted that searching for cost efficiencies is an option for companies to position themselves for a more secure financial future. One way to do this is to pass a portion of the rising input costs through to customers. Companies such as Hershey, Nestlé, Mondelez and Unilever are already pursuing this strategy. Overall, U.S. food prices increased 2.4% during the 52 weeks ending July 20, compared to 1.4% the previous year, according to Nielsen.
Part of that increase can be attributed to premiumization. In the beverage space, premiumization has allowed companies to differentiate their products in an increasingly crowded space. Striving to create a one-of-a-kind product can lead to a brand cultivating scarcity value which can justify incremental increases in price and alleviate some of the sensitivity that consumers have surrounding how much they pay. In the beverage segment, consumers are becoming more interested in products that are functional, flavorful and better-for-you. Moody’s reported this drive for innovation and premiumization will be particularly pronounced in the spirits sector.
According to Moody’s, the reason beverages are better positioned to ratchet up prices is due to the sector's strong marketing and brand support, weaker private label penetration and the advantages of strong beverage distribution systems.
However, premiumization can come at a cost and must be done mindfully. But when done correctly, the payoff is noticeable. In AB InBev's most recent earnings report, its U.S. revenue grew 1.8% driven by premiumization of its portfolio and its new initiatives, including a price increase in April. At Coca-Cola, organic revenue in North America during the most recent quarter rose 3% as the beverage giant benefited from sales of smaller cans, Coke Zero Sugar and innovation in its Diet Coke brand.
Overall, although 2020 is shaping up to be a more cautious year, there are plenty of bright spots for companies to look forward to. "Pricing power will remain strong and margins will improve due to cost-cutting and the realization of synergies from mergers and acquisitions, while consumers' preference for premium beverages will continue to buoy growth," said Linda Montag, a Moody's senior vice president, in a statement.