Many brand-driven moats are currently more assailable than at any time in our investing career. We attribute this disruptive trend to a confluence of causes, including (but not limited to) the opportunity to “rent” manufacturing scale by outsourcing production, an ability to reach customers cost-effectively outside traditional TV and print advertising via digital marketing efforts, increased consumer comfort with e-commerce, and retailers’ success at building trustworthy “house”/private-label brands. Dollar Shave Club, recently purchased by Unilever, is a good example of the impact of several of these trends.
They make some of the world’s best-loved products. Their logos are instantly recognizable, their advertising jingles seared in shoppers’ brains. For investors, they promise steady returns in turbulent times. They seem to be getting ever bigger: on June 30th Mondelez International made a $23 billion bid for Hershey to create the world’s biggest confectioner; and on July 7th Danone, the world’s largest yogurt maker, agreed to buy WhiteWave Foods, a natural-food group, for $12.5 billion. Yet trouble lurks for the giants in consumer packaged goods (CPG), which also include firms such as General Mills, Nestlé, Procter & Gamble and Unilever.
For a hint of the problem they face, take the example of Daniel Lubetzky, who began peddling his fruit-and-nut bars in health-food stores: his KIND bars are now ubiquitous, stacked in airports and Walmarts. Or that of Michael Dubin and Mark Levine, entrepreneurs irked by expensive razors, who began shipping cheaper ones directly to consumers five years ago. Their Dollar Shave Club now controls 5% of America’s razor market. Such stories abound. From 2011 to 2015 large CPG companies lost nearly three percentage points of market share in America, according to a joint study by the Boston Consulting Group and IRI, a consultancy and data provider, respectively. In emerging markets local competitors are a growing headache for multinational giants.
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For a time, size gave CPG companies a staggering advantage. Centralizing decisions and consolidating manufacturing helped firms expand margins. Deep pockets meant companies could spend millions on a flashy television advertisement, then see sales rise. Firms distributed goods to a vast network of stores, paying for prominent placement on shelves.
Yet these advantages are not what they once were. Consolidating factories has made companies more vulnerable to the swing of a particular currency, points out Nik Modi of RBC Capital Markets, a bank. The impact of television adverts is fading, as consumers learn about products on social media and from online reviews. At the same time, barriers to entry are falling for small firms. They can outsource production and advertise online. Distribution is getting easier, too: a young brand may prove itself with online sales, then move into big stores. Financing mirrors the same trend: last year investors poured $3.3 billion into private CPG firms, according to CB Insights, a data firm — up by 58% from 2014 and a whopping 638% since 2011.
Most troublesome, the lumbering giants are finding it hard to keep up with fast-changing consumer markets. Ali Dibadj of Sanford C. Bernstein, a research firm, points out that some consumers in middle-income countries began by assuming Western products were superior. As their economies grew, local players often proved more attuned to shoppers’ needs. Since 2004 big emerging economies have seen a surge of local and regional companies, according to data compiled by RBC. In China, for example, Yunnan Baiyao Group accounts for 10% of the toothpaste market, with sales growing by 45% each year since 2004. In Brazil Botica Comercial Farmacêutica sells nearly 30% of perfume. And in India Ghari Industries now peddles more than 17% of detergent.
In America and Europe, the world’s biggest consumer markets, many firms have been similarly leaden-footed. If a shopper wants a basic product, he can choose from cheap, store-brand goods from the likes of Aldi and Walmart. But if a customer wants to pay more for a product, it may not be for a traditional big brand. This may be because shoppers trust little brands more than established ones. One-third of American consumers surveyed by Deloitte, a consultancy, said they would pay at least 10% more for the “craft” version of a good, a greater share than would pay extra for convenience or innovation. Interest in organic products has been a particular challenge for big manufacturers whose packages list such tasty-sounding ingredients as sodium benzoate and Yellow 6.