FTSE 350 Review: Pricing power passes first big test for food producers

For an investor, this resilience is not to be sniffed at. And while price/earnings ratios for staples businesses have fallen over the past year given the higher interest rate environment, there is still something on offer for the domestic investor. After the travails of early 2022 and years of underwhelming operational performance, Unilever (ULVR) still trades at a discount to peers such as Nestle (CH:NESN), despite enjoying an improved 2022. Its internal reorganisation could bear fruit in the years ahead, even if new chief executive Hein Schumacher is an unknown quantity to most.

Reckitt Benckiser (RKT), meanwhile, has proved adept at capitalising on a series of tailwinds, from the pandemic-era surge in hygiene demand to a lack of competition in the US baby formula market. It is likely to have enjoyed another short-term boost from the rampant cold and flu season at the end of 2022 – but it is still lacking a leader, and interim and full-year figures will again face tough comparatives as past years’ exceptional successes start to fade.

The big earnings question for staples and related sectors is whether their brands’ resilience can continue to hold up this year as consumers hunker down. With more food price inflation to come, the attractions of cheaper unbranded equivalents should become more apparent. But it isn’t all plain sailing for private labels. They operate with much thinner profit margins and can find it difficult to scale up to meet increased demand. Premier Foods’ (PFD) proposed closure of its Knighton non-branded beverage arm, announced last month, is a case in point.

There is better news around the corner to offset these risks. Analyst consensus is that falling energy prices and their second-order effects will mean soft commodity price deflation for the 2023 fiscal year. And past deflationary episodes suggest these shifts benefit businesses pretty quickly: a useful tailwind in a recession and a simple way to relieve some of the margin pressure seen last year. Producers will also benefit more directly – or, at least, sustain less damage when hedges roll off – should energy costs continue to fall.

Of the UK-focused food producers, Cranswick (CWK) has also been able to keep volumes more or less steady with minimal margin impact. Yet it’s faced plenty of problems of its own, from a product recall to concerns over avian flu. Cash flow has been hampered by these issues, and Cranswick doesn’t have the benefit of geographic diversification. But management is still investing in the business and its return on capital is comparable with the best of the staples sector.

Hilton Food Group (HFG), on the other hand, has not proved as adept. Recent acquisitions have not served it well in the current environment: while it has the ability to pass on costs in its core meat-packing business, a struggle to do so in the newer seafood arm saw it warn on profits in November. It’s now justifiably trading at a discount to Cranswick. 

Other companies in the sector can point to benefits from the cost of living crisis. A January trading update from Associated British Foods (ABF) suggests that Primark is starting to reap rewards from its pricing points, just as it did in 2008-09 – helping offset pressures in ABF’s sugar business. Premier Foods saw its shares leap during the pandemic as its range of sweet treats and cook-at-home products found favour with the housebound. Those staying home for financial rather than legislative reasons this year could bring another boost to its fortunes.