Global suppliers are delivering the goods thanks to innovation and cost-effective restructuring. Glynn Davis reports

Despite the ongoing sluggish economic situation, the world’s grocery manufacturing giants continue to deliver strong performances.

The 2003 Global Giants Index compiled by OC&C Strategy Consultants showed that with sustained organic growth - sales were up 4.1% on last year excluding M&A and currency effects - and operating margins running at more than 15%, the world’s 50 leading grocery manufacturers continued to deliver the goods in 2003.

This is particularly impressive when set against continued pressure from retailers and the maturity of the category.

Martin Deboo, director of OC&C, says: “The numbers show that the industry has once again demonstrated the ability to generate high and increasing profits in the face of sluggish demand and retailer price pressure. It is achieving top-line growth through innovation and restructuring that is getting through to the cost base. This is in a stable industry, unlike some others like telecoms, which is a good deal for shareholders.”

Highlighting this stability is the consistency of the names within the index. Although Nestlé moved up one notch to take the top spot from Altria, this was a result of a change in the methodology of the index with excise duty on tobacco now removed. Below them, the top 10 still contains the likes of Unilever, P&G and PepsiCo.

The key indicator of how these companies performed is return on capital employed, up 0.5 points on last year.

Diageo performed particularly well with a 5.5 point increase to 19.3%. This was the result of a 32% rise in operating profit and a 14% decrease in capital employed - mainly from the continued effects of the disposal of various businesses including Burger King.

Its divestitures pushed sales down by 21% but when set against the 20% increase in its operating profit compared with last year, Diageo enjoyed the largest operating margin increase in the top 50 - up 10.7 points. This gave it the highest margins in the index - 31.9%, compared to the average of 15.2%.

Deboo says this is an impressive figure for an industry as capital-intensive as grocery
manufacturing and he believes the good performances of Diageo, as well as Procter & Gamble and L’Oréal, are testament to their ability as brand managers. “All these companies walk the talk of category focus and are willing to invest heavily in marketing and R&D to defend and grow their brands.”

Cadbury Schweppes moved towards the bottom of the profit and return on capital employed league table in 2003, reflecting the cost of its ‘Fuel for Growth’ restructuring programme and the acquisition of Adams Confectionery. However, the impact of Adams on its global confectionery sales moved it from 28 to 20 in the sales league table.

The flipside was that this acquisition gave it a major sales uplift of 22% and pushed it up to number 20 in the index compared with 28 in 2002.

While remaining highly profitable, Unilever posted slow sales growth in 2003 as the effects of its ‘Path to Growth’ brand rationalisation programme impacted the top line. Trevor Gorin of the corporate relations department for Unilever, says 2003 was “not a freak year but there was an unusual confluence of events”.

These included SlimFast being hit by the low-carb diet phenomenon, Calvin Klein fragrances still struggling after September 11, patchy sales of frozen foods and turnover of household cleaning products only recently
enjoying improved sales. Despite these issues organic growth at Unilever was up 1.5%.

Deboo says it was French firms who were the champions of organic growth with Danone recording a 7.2% increase compared with a 6% gain in 2002 and L’Oréal just behind it with 7.1% - although this was not as good as the impressive table-topping 8.9% it achieved last year.

Just behind them was PepsiCo, which concentrated on organic growth - apart from the purchase of the Wotsits brand - and achieved a doubling of sales to 6% for 2003. Martin Glenn, president of PepsiCo UK, suggests the key elements behind this were remaining competitive, delivering a “pipefill” of news to stimulate consumer interest and focusing on availability.

“We know that innovation fuels growth. PepsiCo introduced nearly 200 new products in 2003 and these generated results that surpassed our plans and there are many more in the pipeline,” says Glenn.

Many major manufacturers still regard acquisitions and divestments as an important route to improving the performance of their businesses. The latter certainly hit a brick wall with the value of divestments collapsing from $21bn to $2bn as the number of divestments fell from 17 to 16 in 2003. A good chunk of this was related to the handful of sales undertaken by Unilever as it continued to sell “tail” brands.

Deboo says that the cycle of portfolio rationalisation which has driven divestment activity over the past few years may now be running its course. “The average value of divestments fell from $1.23bn to $130m, reflecting that rationalisation programmes have now reached the smaller brands and businesses. For example, Unilever launched its current phase of rationalisation a few years ago with the multi-billion dollar exit from industrial chemicals. Divestments this year have been relatively small outposts such as Oral Care and Brut in North America.

“At the same time we are seeing that the majors are willing to make big bets on acquisitions close to their core. 2003’s acquisitions league table was led by P&G’s $7.4bn purchase of Wella AG.

“The rationale is to stretch their consumer haircare business into salons and attack L’Oréal in this market.”

At Cadbury Schweppes, Dora McCabe, head of PR, says: “We’ve evolved from a Commonwealth focus in confectionery and beverages to operating in a number of chosen markets and we’ll acquire and divest to create a powerful portfolio of brands in our core categories in these markets.”

Its key move was the Adams purchase, which took it into new territories within its
main categories as well as some new areas “around the edges” of its core offering, such as medicinal sweets via the Hall’s brand.

Cadbury and P&G’s acquisition moves reflected a wider trend with total spending on acquisitions moving up slightly to $19.2bn in 2003. This was despite the number of deals involving fmcg giants falling from 31 to 23.

Many companies are focusing on core activities and implementing cost-reducing programmes. The importance of these activities is highlighted by the fact that 98% of the top 50 cited speeding up of growth in core activities as a key strategic priority compared with 94% last year. Improving productivity and effectiveness was the second most important priority - being mentioned by 90% of manufacturers in 2003, compared with only 66% last year.

Evidence of this can be seen in changes taking place throughout the industry. Cost reduction, for instance, continues to make an impact on the grocery manufacturing landscape with 59% of companies saying they have initiated, or are continuing, such programmes compared with 43% in 2002.

Further changes to improve operating margins and operational effectiveness are also taking place at many major companies. The OC&C report found that as complexity increases 22% are implementing actions to improve business management. In order to make such improvements, 39% of company leaders cite improvements to the supply chain and 22% the better management of complexity - by reducing the number of products, lightening the infrastructure and introducing new IT platforms.

Such initiatives are certainly having the intended impact on margins, according to Deboo: “In a difficult economic context, productivity improvement and operational efficiency programmes have played a major role in margin improvement.”

As margins continue to improve, along with other key measurements, there is confidence that the world’s leading grocery manufacturers will meet their growth targets this year. But this must be tempered with a recognition that many challenges remain - not least higher raw materials prices, the risk of terrorism, the ongoing Iraq conflict, the threat to margins posed by bigger customers and the impact of fundamental concerns such as obesity. But in the industry’s favour is its ability to prove remarkably resilient to widespread pressures.