A SHIFT IN FOCUS. Pursuing Profit and Prospects

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1 A SHIFT IN FOCUS Pursuing Profit and Prospects

2 With slowing demand in developed markets and strong local competition in the BRICs, tried and trusted approaches are leading to diminishing returns. FMCG manufacturers need greater category coherence to maintain profits and to be more selective in targeting markets where they can generate future profits. Recent news that Procter & Gamble plans to divest, discontinue or merge more than half of its brands globally in a restructuring exercise designed to concentrate on its top brands is the most prominent sign to date of an emerging trend in the global food industry. Global players are focusing on their portfolios to maximise profit, while re-examining their options for growth. P&G s announcement in summer 2014 underlines the main finding from the latest edition of our annual top-50 FMCG research: companies are struggling to find growth at the same pace as they have experienced in recent years. Two causes stand out: consumer expenditure remains sluggish in mature developed markets, and the leading international FMCG companies are facing increasing local competition in the leading group of emerging markets: the BRICs (Brazil, Russia, India and China). The way forward is to focus resources on profitable brands and to concentrate investments in fewer new growth markets. 01 An OC&C Insight A Shift in Focus GLOBAL PLAYERS ARE FOCUSING ON THEIR PORTFOLIOS TO MAXIMISE PROFIT, WHILE RE-EXAMINING THEIR OPTIONS FOR GROWTH

3 OC&C AND THE GROCER S GLOBAL 50 TOP-10 (2014)¹ Eight FMCG giants (including one Chinese) are excluded because they have not published an annual report or because of a lack of granular financial data: Cargill, Mars Inc, Groupe Lactalis, Dairy Farmers of America, Wahaha, Ferrero, S.C. Johnson, and Vion Food Group. An OC&C Insight A Shift in Focus 02

4 CONSOLIDATING FOR PROFIT The Global top-50 FMCG companies experienced a significant slowdown in headline sales growth, from 5.6% in 2012 to 2.9% in 2013, highlighting the challenges the industry faces in finding growth globally. Although exchange rate volatility and falling commodity costs partly account for this slowdown, underlying organic volume growth continues to be very slow at 2.8% (for those companies that split it out). The Global 50 are having to contend with slowing mature markets and are finding the going tough in the BRICs. They are responding by rebuilding profitability after the margin compression of the recession, and with success. Gross margins rose by 0.7% to 43.4 in 2013 (against 0.1% in 2012) and EBIT margins by 0.9% to 16.1% (still below the prerecession peak of 18.1% in 2007). A more cautious and focused approach can be seen in many aspects of the Global 50 s behaviour. This was evident in public communication with shareholders, for example. In their annual reports for 2013, the Global 50 placed much less emphasis on initiatives that have no short-term impact on their P&L, notably (in that order) Supply Chain Enhancement, Driving Strong Consumer Connect, and Sustainability and Corporate Social Responsibility (CSR). But it also showed in the portfolio moves of the Global 50 in M&A as well as in innovation. M&A We are seeing an increase in divestments as businesses with lower growth, weaker competitive positions or a poor fit with core operations are sold off, while acquisitions are concentrated on businesses that will strengthen existing market positions in key markets, rather than diversification. (In 2013, most acquisitions were same-sector deals.) P&G s brand consolidation plan and the disposals announced over the past couple of months (by P&G itself, but also by Unilever and others) suggest that, if anything, the trend that emerged in the figures for 2013 has accelerated in In other words, the FMCG industry as a whole appears to be aiming for fewer categories in order to build scale. A good example of this was the divestment by Mondelez last May of its coffee business (with brands such as Jacobs and Tassimo) to D.E Master Blenders (e.g. Douwe Egberts, Senseo) in a cash-and-share deal that created the world s leading pure-play coffee company. This joint portfolio of iconic coffee brands would have leading market positions in more than two dozen countries and a strong presence in emerging markets, the two companies said. The deal was described as a compelling strategic fit due to highly complementary brands, geographic profile and technology platforms, designed to create significant synergies and capitalize on significant growth opportunities through increased scale, greater focus and targeted investment. It is the same recipe of clearing out brands and categories which players in the alcoholic beverages sector have been pursuing for much longer. Although demand in China for premium spirits was hit in 2013 due to a crackdown on conspicuous consumption, the sector as a whole had the fastest sales and EBIT margin growth in 2013, thanks to greater category coherence and acquisitions that created manufacturing synergies. (Japanese companies were the exception, due to currency depreciation.) In 2013, there was solid overall growth in this sector, with major breweries engaging in acquisitions (e.g. AB Inbev and Heineken in Asia, Eastern Europe and Mexico), reflecting a trend towards consolidation plus aggressive cost-cutting programmes to defend margins. 03 An OC&C Insight A Shift in Focus

5 A RAPID FIRE MARKET TESTED INNOVATION MODEL IS PRACTISED BY A NUMBER OF COMPANIES ACROSS THE BRIC MARKETS INNOVATION The Global 50 s enhanced category and profit focus is also reflected in their innovation moves in Our research shows that most champions concentrated on renovation within their core categories, line extension being the most common strategy, with very few cases of great leap innovation. Examples of this include Pernod Ricard s launch of ABSOLUT Tune (a blend of Absolut vodka and sauvignon blanc) and Pepsico exploring opportunities in dairy products. However, overall, more than 80% of innovation investment in 2013 was spent on evolving core brands and categories rather than opening up new markets or categories. Only a handful of companies are investing aggressively in R&D. beverages) is a good example of this, producing multiple flavour variations on its market-leading instant noodles every year. If they sell well, they become a permanent fixture; if not, they are culled to make way for new products. Such an experimental, off the cuff approach to innovation would seem particularly appropriate for snacks and drinks and in markets with rapidly changing tastes. In East Asia in particular, the prominent role of the social media in consumer markets supports this model, as companies then do not need to spend heavily on TV and print advertising. This highly focused approach may, however, be giving way to a new trend in emerging markets, where local players are willing to experiment with rapid fire innovation. With consumer tastes evolving rapidly, local FMCG champions are benefiting from launching product innovations more frequently, and experimentally and then simply letting the market decide which are the winners. This low-cost market-tested innovation model is already practised by a number of companies across the BRIC markets. The Cayman Islands registered Taiwanese company Tingyi (instant noodles and An OC&C Insight A Shift in Focus 04

6 TAKING A FRESH LOOK AT EMERGING MARKETS FMCG companies are enjoying rapid growth in emerging markets, and indeed exposure to emerging markets remains a major driver of growth for the Global 50. Companies generating over 50% of their revenue from Asia and Africa grew at 3.6% vs. only 1.6% for those that generated less than 30% of their turnover from those regions. About 23% of total Global 50 revenues now come from Asia and Africa. That said, stiff competition from local giants in leading emerging markets, notably those in the BRICs, is hurting. Despite all the resources they are focusing on these markets, the Global 50 (excluding those based in emerging markets) continued to lose share in BRIC countries in 2013: 0.7 percentage point of their market share in China, 1.3 percentage point in India, 1.4 percentage point in Brazil and 0.4 percentage point in Russia. For their part, the top 20 local players in each BRIC market have captured significantly higher market share than the Global 50 with the local top 20 having an average 41% share vs. only 25% for the Global 50. LOCAL HEROES This sustained growth by local BRIC firms The evidence from our 2013 Global FMCG is illustrated by their advances in 50 survey suggests that international international rankings. This year we ve FMCG companies need to develop a more seen the first Chinese firm Tingyi nuanced perspective on emerging markets enter our Global 50 index at number 41, gaining a better understanding of with two other Chinese firms Yili Group differences between them as well as and Mengniu narrowly missing out on a variations within them. This way they can top-50 spot. Another pointer to the be more focused and more selective in success of such local heroes in emerging where they plan to grow, while varying markets is the 14.6% growth recorded in their approach to achieving that growth by the four Global 50 companies To succeed, companies need to be based in emerging markets: JBS and confident that they are offering something Brazil Foods in Brazil, Grupo Bimbo in distinctive, and this means they need to Mexico and Tingyi in China. know a thing or two about the consumers they re targeting. 05 An OC&C Insight A Shift in Focus

7 THE GROWTH POTENTIAL OF THE MINTS Our survey shows that the MINT group of emerging markets Mexico, Indonesia, Nigeria and Turkey is of growing interest to the Global 50. These countries were mentioned as strategic growth markets 44 times in Global 50 annual reports for 2013 (against 88 times for BRICs) and, of the companies in the Global 50 which reported underperformance in a BRIC country in their annual report, 70% named one of the MINTs as a key growth market. Early movers in MINT markets are establishing very high market shares, well ahead of what has been achieved in BRICs. In Nigeria, for example where local players are less well-developed compared with China and fewer Western companies have gained a foothold Coca-Cola has built a 41% share of the soft drinks market compared to 26% globally, and Nestlé has built a 69% share of the coffee market (versus 22% globally). Clearly, these newer and hitherto less intensively targeted emerging markets that have weaker local competition are providing a welcome wave of growth opportunities for the world s largest FMCG firms. Indonesia is the fourth most populous country worldwide with a quarter of a billion people, Nigeria (180 million) ranks seventh worldwide and is the largest market in Africa, Mexico (120 million) is the world s most populous Spanish-speaking country and in greater Europe, Turkey (77 million) is on a par with Germany and second only to Russia in terms of population. Companies that are struggling to establish a strong foothold in the BRICs should consider these new markets as opportunities for expansion and consolidation. OF THE COMPANIES IN THE GLOBAL 50 WHICH REPORTED UNDER- PERFORMANCE IN A BRIC COUNTRY, 70% NAMED ONE OF THE MINTS AS A KEY GROWTH MARKET An OC&C Insight A Shift in Focus 06

8 SUCCESSFULLY TARGETING MARKETS IN THE MIDDLE EAST AND IN NIGERIA, UNITED BISCUITS HAS TRIPLED THE SIZE OF ITS INTERNATIONAL BUSINESS SINCE An OC&C Insight A Shift in Focus

9 THE BENEFITS OF MORE INNOVATIVE BUSINESS MODELS Methodology Now in its 12th year, the OC&C Global 50 assesses the performance of the world 50 largest fast moving consumer goods (FCMG) businesses, businesses, ranked according to their FCMG revenues. Information is taken from the latest annual report of each business. Turnover is stated in US dollars, but growth rates quoted are those in the local currency in which each company reports. In emerging markets, smaller Western companies are often more flexible in their marketing approach than the major corporations, simply because their smaller size leaves them no choice but to differentiate through their product portfolios or actively search for local partners. Leading international FMCG companies should follow their example by actively varying their approaches and pursuing different business models. For example, the French company Materne has successfully internationalised its distinctive apple sauce pouches (which are branded as GoGoSqueeZ in the USA) and partnered with a local US firm to jointly develop a local manufacturing solution. United Biscuits has tripled the size of its international business since It is successfully targeting markets in the Middle East and in Nigeria, where its McVities digestive biscuits have good appeal, and then acquiring local firms to strengthen the route to market and enable local manufacturing. Apart from taking a leaf or two out of Tingyi s book of rapid, trial-and-error innovation, the Global 50 could also draw inspiration from the local heroes entrepreneurialism and approach to partnerships some of the other features that make local players such formidable competitors in BRIC markets. Developing local partnerships is often the key to success. When PepsiCo realised that extending its already established distribution capabilities in China would be costly, it decided to piggyback on Tingyi s vast network and with result: in 2013, Pepsi s Chinese drinks business grew by 20% and became profitable, while Tingyi achieved 13% growth in local currency sales. Richard McKenzie is a Partner in OC&C s Greater China practice and Will Hayllar is a Partner in OC&C s London office. An OC&C Insight A Shift in Focus 08

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