After 40 years of outperformance enabled by a widely used five-part success model, the global consumer packaged goods (CPG) industry struggled to grow over the last decade. Why? Because 12 disruptive trends have diluted the old success model for growing mass brands. Now the COVID-19 crisis is amplifying many of these trends, triggering an industry imperative to change.
CPG players need to rethink their portfolio priorities and “where to play” choices to increase their exposure to growing markets, channels, and subcategories. These shifts will necessitate more dynamic resource allocation and greater use of mergers, acquisitions, and divestitures (M&A&D) to improve portfolio composition.
CPG companies also need to adopt a new how-to-win model that reinvents marketing to focus on consumer relevance and builds new, largely digital commercial capabilities to grow with growing channels and markets, especially in emerging Asia. CPGs need to enable these new commercial capabilities with an evolved operating model that prioritizes consumer closeness and local decision-making in key markets, as well as intelligent productivity gains to fuel commercial investments.
Together, these shifts will help CPG players establish a contemporized virtuous cycle to replace the old model that worked so well for so long. The new model will help CPGs get their evergreen brands on the right side of the disruptive trends and help their small brands scale faster, fueling the next era of industry growth.
The rise and fall of the traditional CPG success model
The global CPG industry performed very well for a very long time, building many of the world’s top brands. The industry generated the second highest total return to shareholders (TRS) across industries in the 40 years before the global financial crisis (GFC) of 2008–09—15 percent, topped only by the materials industry.
CPG value creation model for Western brands
This success owed much to a five-part model that fueled the growth of leading brands. Pioneered just after World War II, the model has seen little change since then. This model entails:
- Mass-market brand-building and product innovation, generating stable growth and gross margins typically 25 percent above non-branded competitors
- Partnering closely with grocers and other mass channels to gain broad distribution as the grocers grew
- Building brands and distribution in developing markets as consumers became wealthier, capitalizing on the No. 1 trend on the planet—rising wealth—that accounted for 70 percent of revenue growth in the CPG sector over the past two decades (and will continue to do so for the next decade)
- Driving cost out of the operating model, often through increased centralization of marketing, among other functions
- Using M&A to consolidate markets and enable organic growth post-acquisition.
This model created a virtuous cycle—strong brand equity and broad distribution generated higher margins that in turn allowed for more brand equity investment. Scale provided a critical competitive advantage.
The struggle to find growth
However, over the last decade, industry performance has faltered in terms of fundamentals and stock market performance. Economic profit1 growth has nosedived. From 2000 to 2009, economic profit grew 10.4 percent per year; from 2010 to 2019, it dropped to 3.2 percent per year. Similarly, industry stock market performance went from outperforming the S&P 500 by 7.2 percentage points per year from 2000 to 2009 to underperforming by 2.8 percentage points per year from 2010 to 2019.
In more recent years, some players began pulling ahead of the pack in economic profit contribution. But margin, not growth, drove almost all of this improvement. In fact, for the top 30 CPG companies in absolute economic profit growth, margin expansion contributed twice as much as growth to value creation (Exhibit 1). Many of these players made major SG&A reductions emerging from the GFC and have sustained them since then—by 3.3 percentage points of sales since 2010.
The central problem is large brands, which are struggling to create unit growth. A closer look at the US market before COVID-19 is revealing. From 2017 to 2019, large brands (more than $750 million in revenue) in the US lost volume at the rate of 1.5 percent a year. At the same time, small brands grew 1.7 percent, and private label grew 4.3 percent.2 Zooming in on the large CPGs (more than $2.5 billion in US revenue), we see that all of their organic volume growth and almost 90 percent of their overall value growth came from their small and medium-sized brands (less than $750 million in revenue), even though those brands contributed only 42 percent of 2016 revenues. Small brands (less than $150 million in revenue) especially outperformed: they contributed 50 percent of value growth, while contributing only 11 percent of 2016 revenues.
As a result, in recent years the leading brands in each CPG category have generated only 25 percent of value growth in US Nielsen-covered channels.3 Meanwhile, small and medium-sized brands captured 45 percent of growth, and private-label products captured 30 percent. This underperformance by leading brands varies by category, with household care performing best, but leading brands in all categories captured less than their fair share of growth (Exhibit 2).
Industry performance mismatch with high market expectations
The market expects CPG leaders to overcome this growth challenge. We analyzed the valuations of 155 listed CPG companies. Their December 2019 aggregate market cap—chosen to avoid the distorting impact of COVID-19—suggests that investors expect significant performance improvements. Assuming constant margins, CPG players need to achieve 1.0–1.5 percentage points higher organic growth rates than they did in the last decade to meet investor expectations. Maintaining their recent growth rate of 2.6 percent risks an approximately 25 percent reduction in market cap (Exhibit 3).
Accelerating growth by approximately 40–60 percent is a tall order. To stay healthy and relevant to consumers, CPG companies must confront the challenge.
Twelve trends disrupting the traditional model
Why has the old success model stopped generating growth? Because 12 disruptive trends have battered the model over the last decade. Now COVID-19 is amplifying many of them (Exhibit 4).
Five of those trends are disrupting CPGs’ traditional mass market brand-building. Digital media and the ubiquity of digital data are transforming how consumers learn about brands. Price sensitivity is skyrocketing in importance in the wake of COVID-19. In Western markets, what consumers value is shifting, with younger consumers seeking brands they see as special, different, and authentic. About half of Western consumers across age groups are prioritizing conscious eating and living, preferring purpose-driven brands that help them meet personal goals like reducing meat consumption. Small brands are rushing in to deliver on these brand values (although execution challenges during the COVID-19 crisis have held them back, growing at only their fair share, instead of outgrowing large brands).
Four of the 12 trends are transforming selling channels. E-marketplaces have experienced meteoric growth of 17 percent over the last five years, generating 65 percent of the growth among the top 150 retailers across the globe (and across all categories). E-marketplaces surged in grocery categories during the COVID-19 crisis, with Amazon’s grocery business growing 45 percent in the US and 80 percent in the UK, according to Stackline. Meanwhile, discounters are continuing their steady rise, especially in Europe and some developing markets. As a result, grocers are squeezed and responding in ways that make them increasingly challenge trading partners. Now COVID-19 is driving foodservice market contraction—a major challenge, particularly for beverage players.
While developing markets will continue to account for 70 percent of consumer goods growth, the mix of geographies has shifted, with emerging Asia generating far more growth than other developing markets (representing about half of global private consumption growth over the next 10 years). Local competitors and digitization of the trade structure are key dynamics in emerging Asia.
Of course, all trends vary by market. Averaging can risk masking the intensity of trends in leading countries—for example, China for digital sales, South Korea for beauty regimen, and Germany for price and value. We advocate monitoring lead markets to see and seed the future in others.
See the sidebar, “Twelve disruptive trends,” for a more complete trend analysis.
Tough questions and strategic choices
Before the COVID-19 crisis, major CPG companies were evolving toward a new model. They were sharpening their execution of the old value creation model, experimenting with ways to own the explosion of small brands in their categories, and pulling the lever of productivity more than ever to meet investor expectations.
Then COVID-19 hit. Grocery volumes surged 20 percent with pantry loading and then settled at 5–10 percent, while restaurants remained closed or tightly restricted. Through this period, large CPG companies mobilized their supply chains and concentrated on top lines, while small players struggled to pivot. Further, 15 percent or more of consumers changed their primary grocery store, generating a shock to loyalty and lots of forced trial. This has created a powerful opportunity for brand leaders to get closer to the consumer, while reasserting the benefits of scale in the supply chain and key account relationships. But the crisis is also accelerating consumer demand for value and reliance on digital. All of this constitutes a call to action for the industry.
CPG companies need to confront these challenges by rethinking their “where to play” growth strategies across categories and brands to get more exposure to growing markets channels and brands. And they need to shift much faster to a new “how to win” model that embraces digital marketing, sales, and operations, creating a new virtuous cycle that works for today’s consumers and trade. We outline questions to ask and moves to consider below.
Portfolio and category strategies
For each of our category franchises, where is the growth, and how well positioned are we to capture it with our current mix of evergreen brands and small brands, especially in the shadow of COVID-19? How are consumers changing? How are channels changing? How well-suited are our competitive advantages to these changes? Therefore, where should we play? In particular, should we participate in the value segment or allow the “good enough” portion of our categories to grow without us? And do we need to divest any brands because they no longer fit our growth requirements or our business model? What capability improvements and what big bets, including true business model change, could unlock a new wave of growth for us?
Great portfolio and category strategies start with two inputs: a privileged view of what is happening with the consumer and the market and a deep understanding of the company’s competitive advantages. With these in hand, a company can determine how well-suited its current evergreen brands and small brands are to capturing growth and therefore what strategic goals to set for them. The company can then identify what new business models, external partnerships, and M&A&D agendas could generate exciting new growth.
Evergreen brand growth strategies
How relevant are our evergreen brands to growing consumer segments, especially those under 35? What will it take to get our evergreen brands on the right side of consumer and channel trends and accelerate their growth?
Many CPG companies have been renovating the brand equity of their large brands, imbuing them with more purpose, more originality, and more relevance. This is the right place to start. Particularly in the context of COVID-19, delivering on the brand’s promise is necessary but not sufficient. Consumers, especially younger consumers, want brands that understand them and share their values. They also want to know that the brand is virtuous on local community contributions, equitable commerce, and environmental performance. Trust and purpose matter more than ever.
Of course, superior functional performance is also essential for evergreen brands, and the bar keeps rising as private-label contract manufacturers mature. Evergreen brands must obsess over their functional performance across all consumer occasions, using innovation as needed to retain leadership.
Getting evergreen brands on the right side of marketing and sales trends is also vital. Marketing must be tailored by audience, delivering relevant messages through relevant channels in a granular way, while the product line of the evergreen brand remains appropriately streamlined. Evergreen brands must also embrace high-growth sales channels and retail formats, even when they require a different commercial model than grocery. Channel strategies will need to be even more customized to each country and category trend. For example, in Brazil, the cash-and-carry format should prove resilient in the aftermath of the COVID-19 crisis. In all cases, evergreen brands must shape the execution of their categories in their relevant channels.
Above all, evergreen brands must lead in consumer closeness, to guard against small competitive brands popping up in segments left unattended and against retailers offering good enough alternatives at lower prices.
Small brand growth strategies
What will it take to help our small brands achieve scale rapidly? How can we make small brand acquisitions successful?
Driving the explosion of small in your categories is an exciting prospect, offering the potential to extend category leadership with concepts that appeal to engaged niches and can command a premium. Major CPG companies are getting the hang of it. In the US, small brands acquired by large CPGs grew faster than other small brands in 2018–20. But many small brands struggle to get over the $100 million barrier so acquiring the right challenger brands is not easy. Would-be acquirers should look for the three hallmarks of a truly scalable proposition: longevity (fit with a growing lifestyle or consumer mindset), breadth (a natural direction for expansion into adjacent categories, channels, geographies, or needs), and momentum (loyalty that secures high returns through repeat purchase or word of mouth).
Acquirers can scale a small brand over time by guiding, intervening in, or integrating it, but they must act at the right time and remember why small brands often initially succeed on their own. On the journey to scale, small brands need to win on their proposition, be disciplined on commercial levers, and build the backbone for scaling. The small brand proposition is usually the “sparkle”—often predicated on new, niche consumer insights or a business model that big brands typically lack the authenticity to offer. The scaling risk lies in expanding beyond the core too early, before a small brand has earned the right to offer the adjacency.
Successful stand-alone small brands are very disciplined and very careful about spending. Small brands usually market efficiently with the core consumer in mind. As they grow, they leverage their community and loyalty to “export” the brand. They also tend to focus on a key channel to deliver and delight the core audience before expanding distribution points to increase purchase frequency. An acquirer can open the door to a few thoughtful channel expansions, as well as guide the small brand in pulling commercial levers (ie, pricing and promotional optimization) before scale takes hold, keeping the brand efficient.
The supply chain and the operating model are often a secondary focus for a small brand but essential for scaling. An acquirer can provide supply chain instruction or even integration support to help the small brand build a strategic and responsive supply chain. This is especially helpful in categories with long lead times, highly regulated environments, or fluctuating raw material costs.
The new model
To execute these category and brand growth strategies, CPGs need to adopt a new model—a new “how to win”—that looks quite different from the old model. The new model continues to leverage scale advantages in marketing spend, distribution, supply chain, and back office but uses digital to move away from mass marketing and sales and toward targeted commercial execution. The new five-part model, which requires building or strengthening 16 individual capabilities, looks like this (Exhibit 5).
Relevance-led brand building, innovation, and marketing
Relevance-led brand building is vital for both evergreen brands and small brands. Most CPG companies need to do much more to sharpen their consumer targeting, enabled by new digital media. This targeting needs to cross all touch points and include personalized point-of-sale marketing, which remains very underdeveloped today. Insights from the vast amounts of data that consumers create then need to loop back into innovation priorities and results, maximizing the brand’s relevance to micro-segments and micro-occasions, while keeping the product line focused on an efficient core.
Partnering with all growing channels and embracing digital sales
While grocers will remain CPG companies’ most important and strategic trading partners in most markets, CPGs also need to ensure that they achieve pervasive distribution of their evergreen brands, which requires embracing many channels, including e-marketplaces. Small brands need to be present in their best-fit distribution channels. Therefore, most CPGs need to strengthen four digital-driven commercial capabilities.
Precision revenue growth management (RGM). Leading CPG players unlock the next growth curve by linking the core levers of RGM—pricing, assortment, promotion, and trade investment—to the company’s occasion expansion and activation strategy. Precision RGM is powered by advanced analytics tools that automate key analyses at a very granular level and enable simulation and foresight.
E-marketplace management. Maximizing success on these platforms without triggering cannibalization of more profitable sales requires appropriate, tailored messaging and assortment at the point of sale. CPGs need to build developer teams that produce the necessary assets (pictures, videos, and key words) and drive technical execution, day in and day out. These teams need to be fully integrated with the business and prioritized as a critical capability required to maximize growth.
Building omnichannel and D2C businesses. CPGs need to excel at omnichannel category management, setting the goal of overtrading versus each retailer’s brick-and-mortar business, particularly given the expected 2–3 percentage point share gain that online will enjoy in most markets post-crisis. Direct-to-consumer (D2C) businesses are commercially viable for only select CPG propositions—namely, those with an average basket and purchase frequency high enough to justify customer acquisition costs and make per-order economics viable. Categories like pet care and non-OTC consumer health offer abundant opportunities. For other categories, D2C propositions may still be worthwhile to acquire proprietary consumer data and create a test-and-learn opportunity.
Managing data for proprietary insights. CPG manufacturers must become experts on retailers’ big data in order to keep their seat at the table. They must demonstrate expertise in big data analytics, insight generation, and ROI tracking of investments, particularly for e-marketplaces since these retailers often do not value traditional CPG category management.
Building brands and distribution in developing markets
Participating in developing markets of course requires deep local consumer understanding. Companies need to rebuild entrepreneurial, dedicated local organizations that can execute impactful global marketing campaigns in locally relevant ways.
CPG companies also need to evolve their routes to market as the trade changes. In emerging Asia, e-marketplace/online-to-offline (O2O) giants will continue to lead, while digital enablement of the fragmented trade will strengthen that format, leaving less room for Western-style modern trade.
For CPG players, early adopters of digital-led route-to-market models will have a clear advantage, both in shaping point-of-sale service level expectations and in leveraging the power of analytics. The value proposition to the fragmented trade will be increasingly customized, enabled by advanced recommendations on assortment and pricing that require different back-end processes in CPG commercial teams.
Evolving the operating model to excel at local consumer closeness and productivity
Historically, some CPG companies went too far in pursuing a global one-size-fits-all model and lost ground to more locally relevant competitors. Going forward, CPG players need to reinvest in local talent and decision rights in priority growth markets and use them as lead markets for understanding consumers and channels in the region or subregion. The local GM should own the game plan for winning in the market.
Companies at the forefront of implementing this more unbundled operating model have, for example, abandoned traditional paradigms of how to organize for innovation. Instead of driving innovation out of global R&D centers, they identify innovation needs by local market, with employees at all tenures having nomination rights. Then they form a cross-functional team within days, fast-track funding, and, with the help of global R&D capabilities pulled into the process, develop a marketable product in weeks, rather than years.
This operating model uses technology and digitizes wherever possible, from automating standardized tasks in HR, finance, and IT to supporting the decision-making of signature roles, such as equipping brand managers with KPI cockpits and consumer insights dashboards.
Great operating models are adept at promoting change. We advocate establishing a high-profile, institutionalized sprint process that identifies, resources, and sponsors new capability-building and other priorities across the business in short-burst cycles. One CPG company, for example, identified mission-critical tasks in marketing and organized cross-functional teams in six-week sprints around each task. Coupled with senior sponsorship and a “fast-track removal of barriers” spirit, all the teams completed their tasks, which otherwise might have taken years. Such success makes it easy to rally the rest of the organization around the coming change and create a pull, rather than a push, transformation.
Operating models also need to unlock the next wave of productivity. We see several opportunities.
Next-generation design and procurement. Product design needs to get closer to what the consumer values and reduce all other costs by modularizing, tearing down, and benchmarking every element in new designs. Even leading CPG companies still lag behind industries like automotive and medical products in embracing design-to-value. Indirect procurement often offers another substantial savings opportunity. Most CPGs can achieve savings of 3–7 percentage points on their addressable direct and indirect procurement base.
Intelligent supply chain. Today it is possible to realize the aspiration of an intelligent supply chain in which an integrated planning process takes relevant data from the demand side and turns it into reality on the supply side. Success requires harnessing digital data throughout the value chain and using it in an integrated, automated corporate planning process. A major benefit of this shift is the ability to move from monthly to more frequent S&OP cycles that maximize sales, while reducing obsolescence and working capital.
Tech overhaul. Tomorrow’s supply chain must operate in real time and with insufficient information to enable cost reduction, resilience, flexibility, and traceability, especially post–COVID-19. Most mature CPG players need to jettison their legacy IT set-up, taking a zero-based approach and moving into a cloud scenario focused on customer-driven processes built for machines talking to each other, not humans emailing Excel spreadsheets.
Back-office automation. In the past 20 years, SG&A cost reductions came from doing the mess for less, making operations cheaper but not better. Now is the time to overhaul the processes built for the ERP environment of the 1990s and use emerging technologies like intelligent automation and artificial intelligence to modernize the back office, creating a service-oriented, low-touch/low-code environment to democratize automation, analytics, and artificial intelligence.
Agile budgeting and resource allocation. Our research shows that top performers reallocate 2–3 percent of resources per year, removing unproductive costs and channelling funds to priority initiatives. The zero-based budgeting processes that many CPG companies have implemented make this ambitious goal more achievable than in the past.
CPG companies have been using M&A&D extensively to pivot their portfolios toward growth and add capabilities rapidly. In the last decade, leading CPGs players turned over their portfolios at more than twice the rate of other large listed firms.4
The strongest CPG players will continue to develop the skills of serial acquirers adept at acquiring both small and large assets and at using M&A&D to achieve visionary and strategic goals—redefining categories, building platforms and ecosystems, scaling quickly, and accessing technology and data through partnerships. The most successful players employ a programmatic M&A approach focused on snapping up challengers, rather than market consolidation or expansion into adjacencies (8.3 percent TRS in 2013–18, compared with 6.1 percent and –7.8 percent, respectively).5 These players often complement their M&A&D programs with incubators or accelerators for small players, that, at their best, leave ample time to fully understand the success drivers of the brand and help the organization scale the brand without overburdening it with inflexible operating procedures.
After a period of disruption intensified by the COVID-19 crisis, the CPG industry is entering a new era. CPGs that prosper in the 2020s will make “where to play” choices that strengthen their portfolios and get their categories and brands on the right side of the disruptive trends. They will also adopt a new “how to win” model that focuses on relevant consumer marketing and selling across growing channels, and they will embrace an operating model that prioritizes consumer closeness and intelligent productivity gains to fuel commercial investments. These shifts will help industry leaders unlock growth with brands and business models, old and new.