Big Brands Face Big Disruption

For decades, analysts and investors have been quick to sound the death knell for consumer brands. Despite the dire warnings, big brands have survived wars, bubbles, panics, pandemics, recessions, depressions and crises.

But now, big brands may be facing their biggest foe: disruption in the digital age.

A fast-changing consumer is testing the age-old consumer staples business model by more rapidly changing product preferences, service expectations and purchase channels. But according to a new report from Morgan Stanley Research, the brands that find the right balance between efficiency and innovation may find themselves well-positioned and perhaps even “future–proofed.”

Big brands are hurting. Year-over-year growth within consumer goods categories like packaged foods, beverages, and home care has been anemic—or dipped­—since 2012. The slowing growth is particularly noticeable in the U.S. food industry where revenue growth has declined steadily from 2.4% in 2013 to 1.1% in 2016.

Is Growth Slowing for Fast Moving Consumer Goods?

“The U.S. food sector faces uniquely elevated structural pressures compared with other consumer goods peers, owing to the shift away from processed foods, ongoing share losses and limited emerging markets exposure," says Richard Taylor, who leads Morgan Stanley’s European Consumer equity research team.

Like much of consumer goods, the packaged food business is in the midst of a massive shift as consumers look for more natural, local products and find new items online. Other sectors are faring slightly better. For instance, in the U.S., big brand beverages—alcohol in particular—have been less impacted than other consumer staples. Still, no one is excelling when it comes to growth.

According to Taylor, these long-standing business behemoths are in the grips of a “pressure pincer”:  the pressure for extreme efficiency coupled with the pressure to innovate.

First, lacking top-line growth, many consumer goods companies are boosting their bottom line by becoming more efficient. That often means ruthlessly cutting expenses to improve margins.

However, these companies also need to invest in order to innovate and grow. This is especially true in the digital era, as more people shop via mobile devices and fickle consumer tastes require brands to take risks or lose market share to smaller, more agile startups. Again, the U.S. food sector provides a prime example. Small brands have actually experienced increased growth over the past few years, in contrast to their large-cap peers.

Large Cap U.S. Food Stocks vs. Smaller Brands
Measured Channel $ Growth - YoY

“If (consumer goods) companies don't set out a path to get lean fast, their long-standing castles will come under attack from outsiders," Taylor says. “But if they focus too much on short-term efficiency and underinvest in the business, the moat that protects the castle will shrink as savings and merger and acquisitions options run out."

A few macro-economic factors may help shore up big brands in the near term. For instance, the Morgan Stanley report notes that growth in emerging markets will likely bounce back within the next year. For consumer brands, “many of these growth concerns will fall away as the focus shifts back to the burgeoning emerging markets middle-class consumer," Taylor says.

Combine this with the efficiency efforts, and big brands may have a window of opportunity. However, taking advantage of it requires something that hasn't always come natural to big brands in the past—innovation.

If they want to future-proof their brands, consumer goods companies will need to find the balance between investing in growth and tightening up. This means:

• Strategically culling their portfolio. The current high-multiple, low-interest rate environment offers the chance to sell underperforming assets. Companies can then reinvest the proceeds in something with more growth potential, or use them to buoy their bottom line.
• Create autonomous business units. Innovation isn't always a natural part of big company culture. By creating new business units, consumer goods giants can develop independent environments where creativity flourishes. Morgan Stanley contends that brand conglomerates can achieve do this by “cherry picking the best innovation and business models or buying them outright."
• Take a digital deep dive. Finally, this new era of brands is about more than manufacturing and distribution. Consumer goods companies need to commit to the digital era, or face being left behind. Case in point: one global conglomerate has wholly embraced the digital disruption, hiring a chief digital officer for every brand, rolling out consumer apps and increasing its digital ad spend. The result?  Digital sales are now the company's fourth largest market.

For more Morgan Stanley Research on big brands, ask your Morgan Stanley representative or Financial Advisor for the full report, “Brands Are Dead. What's Next?" (Oct. 3, 2017). Plus, more Ideas.