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FTSE 350: Consumer goods companies face price battle

The likelihood of price rises for household goods may test the attractiveness of their brands
January 26, 2017

Consumer tastes can be fickle, and so can spending habits, which means consumer goods companies will need to work hard this year to keep customers loyal.

'Marmite-gate' looms large. The spread’s maker, Unilever (ULVR), tried to usher in price rises of 10 per cent, according to reports, across a range of goods following sterling’s post-referendum fall. But the company was negotiating with the wrong man in Tesco (TSCO) chief Dave Lewis, who used to work at the consumer goods group.

The storm was soon becalmed, but it highlighted how precarious pricing – and therefore margins – might be in 2017. Recent data suggest it will not be long before inflation rises above the Bank of England’s 2 per cent target. If companies are unable to pass on input cost rises to their grocer customers, or have to renegotiate currency hedging contracts at less favourable rates, they will have to look to cut other costs.

Unilever, Reckitt Benckiser (RB.) and PZ Cussons (PZC) also face the ongoing challenge of defending branded products against non-label alternatives. Supermarkets’ own-brand goods are often cheaper than their branded cousins and if wages fail to keep up with price inflation, they could become even more compelling for consumers.

Food companies don’t only have to appeal to consumers’ wallets, but also to their bellies. It will be imperative for businesses here to adapt to capture changing food trends in the UK and an increasing preference for food-on-the-go, which is now a £16bn domestic business.

Buying rivals helps, and this was borne out by various deals in the sector in 2016. The biggest of them was Greencore's (GNC) $747m (£615m) purchase of US-based Peacock Foods. The purchase will see Greencore’s US-based sales increase from roughly $300m a year to $1.3bn, completely transforming its American presence and providing a real growth driver. The purchase by pork producer Cranswick (CWK) of Crown Chicken was arguably equally transformative, albeit smaller in scale.

One known unknown for the sector is the removal of EU sugar quotas this year. The expected rise in acreage on the continent for sugar beet crops would have an impact on prices for the likes of Tate & Lyle (TATE) and Associated British Foods (ABF).

Price (p) Market value (£m)PE (x)Yield (%)1-year change (%)Last IC view
Associated British Foods2,58020,42524.41.4-14.1Sell, 2,638p, 8 Nov 2016
Cranswick2,3661,19021.31.723.7Buy, 2,375p, 29 Nov 2016
Dairy Crest62187517.13.62.7Buy, 597p, 10 Nov 2016
Greencore2421,69918.61.9-16.2Buy, 237p, 5 Jan 2017
PZ Cussons3401,45619.72.427.0Hold, 306p, 24 Jan 2017
Reckitt Benckiser6,84047,88526.32.213.9Hold, 7,302, 2 Nov 2016
Tate & Lyle6893,21016.84.117.1Sell, 830p, 3 Nov 2016
Unilever3,35643,06623.23.118.0Hold, 3,558p, 21 Jul 2016

Favourites: We've recently tipped Greencore (Buy, 237p, 5 January 2017) as we see the Peacock Foods deal as transformative, strengthening the company’s position in a robust part of the food market in two major geographies. We also like Cranswick, which has major contracts with significant retailers and is expanding its capacity.

Outsiders: The prospects are the toughest in our view for Tate & Lyle and AB Foods, which could be hit by the removal of European sugar quotas, as well as the rise of sugar substitute rivals such as stevia producer PureCircle (PURE). AB Foods also has the issue of containing costs at its fashion brand Primark to deal with, as it buys the bulk of stock in euros and dollars but sells (mostly) in the relatively weaker sterling.