Food manufacturers need to focus and innovate

- Last updated on GMT

Related tags: Food industry, Food companies, Innovation

Food manufacturers need focused, attractively branded portfolios
and the ability to offset cost pressures through cost savings and
margin improvement if they are to succeed, according to a report
published last week.

The report by Goldman Sachs advised investors to take a cautious view of the packaged food industry, citing uninspiring growth outlook as a key reason for its wariness.

The investment bank said companies with focused portfolios - such as Hershey and Kellogg - perform best as they are better at product innovation.

"Companies with narrower portfolios are able to focus their resources and energy more acutely, enabling them to be more competitive in areas such as innovation, customer segmentation, sales execution, advertising, and price promotions,"​ said Judy Hong, the lead researcher.

In contrast to the "bigger and broader is better"​ mentality of a few years ago, many food companies are now shedding non-strategic assets and focusing on their core businesses. GS believes that this improvement in focus makes companies more competitive.

For example, one of the key tenets of Kraft's Sustainable Growth Plan is transforming its portfolio, hence the recently announced divestitures of its $500 million sugar confectionery business, plus its yogurt and UK desserts businesses.

GS believe that Hershey and Kellogg have also successfully managed to offset cost pressure through savings and product mix improvement.

"In the case of Hershey, the mix improvement is the result of significant SKU rationalization, as well as successful innovation in the form of product extensions,"​ said Hong. Meanwhile, she said Kellogg's mix had been driven by the company's volume to value strategy, especially in areas such as cereal and wholesome snacks.

However, even if food manufacturers manage to follow this advice, GS considers the food industry a difficult sector at present and likely to remain so for the foreseeable future. The researchers said that a lack of innovation and pricing pressure were responsible for this dismal state of affairs.

Pricing pressures can be attributed to a variety of factors, not least the rise in the price of commodities for food ingredients, packaging and fuel; commodity costs are up around 26 percent on average since mid-2003, according to the bank.

"Although many of the agriculture commodities have seen their prices decline from the peaks seen in spring of 2004, the comparisons in the first half of 2005 are still difficult,"​ said the researchers.

Changes in consumer lifestyles, health trends and demographics are also impacting the food industry and food companies are being forced to respond.

"Unfortunately, although some companies (such as Hershey and Kellogg) have been more successful than others in the area of innovation, we have yet to see clear evidence on a broad basis that innovation is sufficient enough to add to food-at-home sales growth meaningfully,"​ said Hong.

Moreover, packaging costs have risen, fuel costs remain high and some companies are again facing higher pension and benefit-related costs.

With all this in mind, GS forecasted that sales growth for large cap food companies will decelerate in 2005 through 2008. The bank also said it only expected a modest improvement in 2005 off a depressed 2004 base.

Related topics: Suppliers

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