Consumer staples have historically been seen as largely homogeneous, offering broadly similar levels of predictable, long-term growth and cash generation. That seems unlikely to be the case going forward. Too much of the investment debate on consumer staples has been around the valuation premium they are trading on and not enough about who will be the winners and losers in a sector facing unprecedented change, not least from increasing competition from artisan brands.
The vodka industry provides a good example. Even though vodka is just a commodity it’s been highly profitable for the main players in the US as a result of high barriers to entry in the spirits industry – primarily the brand strength of the incumbents (based on many years of marketing), retailers who’ve had cosy relationships with their suppliers, economies of scale and the tightly controlled US distribution network.
These barriers are now less robust than they once were, particularly from a branding point of view, and it’s the smaller operators who are seeing the greatest benefit.
One such company is Tito’s Handmade Vodka. This brand appears to have little going for it; it only spends c.5% of sales on advertising and promotion, it’s only existed for 20 years in a market where brand heritage has historically been seen as key and it is owned by a small independent player. However, in its favour is affordable pricing, prestigious awards and probably most importantly, word-of-mouth advertising as consumers look for more ‘authentic’ experiences away from those promoted via mass-marketing. These attractions have allowed Tito’s to relatively quickly claim 10% of the US premium vodka market.
There are similar trends across the other US spirits categories with a shift away from large-scale national brands as millennial consumers (21-34 year olds), fuelled by the growth in social and digital media seek products that are more batch produced, locally sourced and in general contain more ‘craft’. This has resulted in a large number of new entrants, drawn by the supernormal profits earned by the established operators; the US has gone from 92 ‘small’ distillers in 2010 to more than 700 in 2014 according to the American Distilling Institute.
The artisan trend is increasingly prevalent in other areas of consumer staples such as beer and food with a myriad of new entrants starting to challenge the incumbent players. For the established brands they are facing this downward pressure on market shares and profit margins at the same time as their end markets are also seeing lower volume growth. The incumbents face an uphill task of reskilling and adapting their businesses to address changing consumer preferences. Those who identify opportunities to diversify their revenue, build new relationships with customers, and monetise their assets more efficiently, will survive and thrive in the changing environment.
The value of investments will fluctuate, which will cause prices to fall as well as rise and you may not get back the original amount you invested. Past performance is not a guide to future performance.