The following was contributed by Tony Perazzo, a partner in the San Francisco office of Grant Thornton LLP
There is no doubt the economy has dramatically changed the way people shop. Two questions every food & beverage company executive must ask himself are: “What are we doing to adapt to the change in consumer buying habits?” And perhaps more importantly, “What effect will the events of the past year have on the future?”
It is no secret people are going to the grocery store looking to spend less. Price and value have become key, which has driven many consumers to private label offerings for the first time. Intense price competition coupled with the fact private label SKUs are becoming more and more profitable have driven many retailers to reduce the number of SKUs in virtually every product category.
A grocery store executive we recently talked to used tea as an example. The store has plans to dramatically reduce the number of brands of tea it carries from nearly 20 to approximately five. This movement, often referred to as “SKU rationalization,” lowers carrying costs for retailers, reduces the likelihood of stock shortages and provides retailers with an enhanced ability to squeeze their vendors. After all, fewer SKUs means less inventory and lower carrying costs. Time to focus on fewer vendors creates intense competition for suppliers. Couple all of this with the rising perception in quality of the private label, and it becomes abundantly clear private label is here to stay as a major part of most every retailer’s product offerings.
The economy will recover and people will, of course, gravitate back toward some level of discretionary spending on specialty products and brands. However, the severity of the recession will likely have a lasting impact on how consumers view their weekly trip to the grocery store. Lessons learned with respect to price and value (the fact consumers have discovered they actually can obtain value at reasonable prices with private labels) will no doubt stay with consumers. As a result, the general consensus is people will continue to want more private label, which means it will continue to grow.
That does all of this mean for food & beverage companies? Quite simply, there will be little room for slow-growth brands and non-strategic categories; rather, private labelers, contract manufacturers and even retailers will have to undertake a more aggressive and novel product development than they have in the past. Low-cost “me too” products will not be as viable as in the past, since shelf space will likely be at a premium and retailers will carry fewer SKUs than in recent years. All of this bodes well for larger national brands as shelf space is typically given to the No. 1 and No. 2 brands within a product category; the retailer’s private label will inch its way into the No. 3 spot.
Though all of this may seem to create dim prospects for smaller brands and emerging food & beverage companies, this is not the case at all. Not only are there increased opportunities to partner with retailers in the production of private label products, but there will also be significant opportunities to innovate and provide value in product offerings. And although it is more limited than before, shelf space will be available to accommodate the most innovative products.
Ultimately, the winners will be those who create new and unique products that capitalize on emerging trends important to consumers, and not those who simply copy the latest successful product.
It will be more important than ever for middle market companies to regain access to credit when the credit markets recover to keep up with product development. Emerging and middle-market companies will have to focus on streamlining operations, as learning to operate more efficiently will be paramount to their success. Inevitably, changes in the way banks lend and investors invest will likely put a strain on capital expenditures, which will cause a significant resumption of large companies buying smaller, more innovative companies. After all, every emerging company wants to be the next Vitamin Water.
The bottom line is higher-value, less expensive product offerings are here to stay. This will make innovation, world class operating efficiencies and focus on relationships with retailers more critical than ever for food and beverage companies.