Investing in Consumer Packaged Goods: A Global View

by: Howard Sun

The consumer packaged goods [CPG] industry has undergone and will continue to undergo significant changes as consumers become more differentiated, and suppliers and retailers place more pressures on CPG companies to reduce costs. As an investor in CPG companies, there are several trends we need to keep in mind when determining how to invest in these companies. In this article, I’ll explain some of the major trends that are occurring in 2008, as well as a checklist of factors to look for in bullish and bearish companies.

Slowing economy in the U.S. and certain parts of Europe reduce consumer purchases

The United States is in a recession; a recent report by the Commerce Department showed that consumer spending posted its weakest gain in 17 months in February as it edged up just one-tenth of one percent. This is the third consecutive month of sluggish activity. Consumer sentiment indicators also reported weaker than expected numbers; in fact, the recent number from Reuters/Michigan at 69.5 is the lowest since 1992.

Although the rest of the world has not suffered to the same degree of decline as the U.S., they’re not significantly better either. Several of the largest countries in Europe have recently trimmed growth forecasts. In France for example, consumer confidence fell to a record low in March amid accelerating inflation.

Increasing commodity prices jacking up consumer goods prices

Commodities have been in a bull market for a while now, as demand has increased drastically while supply has not kept up to speed. A particular reason for this is the drastic shortage of supplies in major BRICIT countries (Brazil, Russia, India, China, Indonesia, Turkey). China for example, has recently become a net importer of rice, coal and various other commodities.

CPG manufacturers taking price increases across the board

The increasing costs of commodities have put significant strain on CPG manufacturers’ supply chains. Over the years, most companies have tried to streamline operations, gain better manufacturing and supply chain efficiencies, and initiate various cost-cutting projects to offset increasing raw material costs. In addition many manufactures have taken price increases to pass higher raw material costs to consumers.

Consumers have become more price conscious

Cost-of-living is increasing across the globe. In the US, inflation rose to a two-year high in January. Eurozone inflation has been at the highest level in 14 years, and China’s inflation has accelerated to an eleven-year high. A majority the Chinese middle-class have found themselves saving wherever they can – including eating and driving less. In western countries, shoppers are considering low prices and bargains above all else for the first time in a decade – this means going to supercenters more often, shopping online more often, buy more value products such as private label, and overall shopping less than they usually do.

Innovation is the key to growth for CPG companies

Innovation has always been a focus of most CPG companies; however, in the face of slowdown, CPG companies need to put even more focus on innovations to drive greater revenues and profits. Innovations also keep consumers from deflecting to less-expensive private label products that do not have the same features. According to Advertising Age, product categories in more than 20 countries show a private-label market that is 56% higher where there is low innovation activity compared with cateogires with many new products.

Marketing has also become more non-traditional and more creative

Marketing is usually one of the top three expenses on a CPG company’s income statement. Traditionally, some of the biggest TV and news advertisers have been CPG companies. Due to changing consumer preferences and the need to reduce costs, CPG companies are increasingly exploring non-traditional media (social media, in-store advertising, endorsements, web 2.0) versus the often more expensive traditional media (TV, news, radio).

Factors to look for when investing in CPG companies

Now that we’ve talked about some of the major trends occurring in the CPG world, the following are a list of macro factors to look for in a CPG company. I’ve separated the two parts into bullish and bearish companies. You’ll notice that the factors under each grouping are pretty much counter to each other. Also beware that more rigorous analysis needs to be done to analyze each of the specific companies; this analysis is out of scope for this paper and I’ll certainly post company-specific analysis at a later date.

Factors to look for in bulls

  • Diversified portfolios across consumer categories
  • Diversified portfolios across countries and global regions
  • Innovative in multiple functions – product development, supply chain, marketing
  • Increasing revenue and profit growth even in face of recession
  • Cost-cutting initiatives progressing well
  • Factors to look for in bears
  • Undiversified portfolios across consumer categories
  • Undiversified portfolios across countries and global regions
  • Not innovative all functions
  • Decreasing revenue and profit growth particularly in face of recession
  • Cost-cutting initiatives not progressing well

The bottom line

The overall market outlook for consumer packaged goods companies certainly doesn’t look as good in 2008 as it did from 2002-2007. However, most CPG companies will likely not suffer too much due to nature of the products – after all, everyone needs shampoos and toilet paper. Unless you’ve identified a really bullish company to go long or a really bearish company to go short, I recommend standing aside from the consumer goods market altogether until the economy recovers to a certain degree, or if the recession is anticipated to progress longer than expected.

Disclosure: none