Overview
Heidi, the past year somehow hasn’t gone that badly for the consumer staples companies you cover?
In terms of how the shares have done, I would say they've done decently. But it's more about the fact that these companies have had better sales growth and much better earnings than a lot of people expected.
Ok, explain…
Companies have been able to deal with the inflationary environment much better than anyone would have foreseen. I have always held the view that these companies have better pricing power than the market recognises. And often in my time covering these stocks, I’ve seen that when inflation starts to rise, the stocks underperform because investors question their ability to price - by which I mean raise prices. Historically, I've always seen that as a really attractive entry point into these stocks because actually they have been able to price, and the shares have done well on the back of it.
But then the last couple of years have been very different from anything we can remember.
Yes, had we known going into this just how much inflation there would be, I would not have been as confident in their ability to raise prices sufficiently. Had you told me on day one that these companies have to raise prices by, say 10-20 per cent in Europe, where price increases are notoriously difficult, and asked me ‘Can they do that?’ I would have said, ‘That will be difficult.’
And yet, largely, they have managed to.
They've still suffered like everybody else has suffered. But at the same time, they've been able to do better than most would have predicted.
Why do you think that was the case?
Several things. I think firstly, this time inflation was so broad based that everyone had to increase prices on products. So when the companies negotiate with retailers, they provide evidence of what the cost pressure is. And the evidence is just so overwhelming that price rises are needed. The retailers have understood that.
And accepted price rises?
Right. But I also think the consumer generally sees pricing pressures everywhere. There's an expectation or a realisation among consumers that this isn't companies taking advantage of them, this is a genuine pressure.
But aren’t consumers hurting?
Well, obviously it is not across the board, but on the whole affordability has been pretty good. Wage inflation has been much higher than it has been in the last few years. People still have pent up savings from Covid. So if, say, Coca Cola, puts prices up 20 per cent, the consumer has still been largely able to afford that. Normally volumes would suffer but this time the volume declines haven’t been that severe.
Another reason why volumes were more resilient is that companies have better pricing tools that allow them to be smarter about their price increases. They have a much better understanding of demand elasticity by product and channel and are able to increase prices where elasticity is lower.
Are there post-Covid effects in the volumes, do you think?
Yes. I think we need to separate these effects, but certainly things have happened in some categories. For beverages there has been a benefit from reopening: during Covid, ‘on trade’ sales were very weak - that's sales to restaurants and bars - whereas the sales at retailers were stronger. Now we've seen the recovery in the on trade channel. But at the same time the ‘off trade’ - at home - consumption has been resilient.
Are there any examples where companies have hedged the raw material costs and been able to gain from rises in consumer prices?
That's not really what happens when they hedge. The margins have been down, right? They hedge more to buy time. Especially in Europe, price negotiations are on annual cycles. And so you can't just have costs go up and get that better price you need the next day. It takes time to negotiate with retailers. What hedging does, it really buys them time to take the pricing action that they need.
Will prices come down as quickly as they have risen?
I think that will depend on where the commodities end up. If they stay where they are today, I would not expect prices to decline very significantly. If commodities fall 20, 30, 40 per cent from here, then I would expect some of it to get passed on. But then again, it really will vary by the type of product that these companies are selling, how competitive the segment is, how much private label competition there is and so on. That will demand a nuanced view.
