Inflation and Buying Groups
Retailing in the Week Ahead, Week 11, 2017
There can be no denying that the recent period of global food deflation is ending. Part of the reason is the strength of the US Dollar. This has led to higher prices in global food commodities priced in dollars, such as sugar and coconut oil.
However, that is not the only reason. Even in the USA, where deflation was rampant in 2016, some categories are expected to begin rising such as dairy and seafood. The USDA is forecasting very mild food inflation for 2017, between 0% to 1%, compared to 2016 deflation levels of -1.3%.
Elsewhere, food prices will be rising at a faster rate. Countries like the United Kingdom, dealing with the currency exchange rate effects of the Brexit vote, could see food prices rising 3.5% by the end of 2017, or even higher.
Drought conditions in many parts of the world are placing price pressure on free trading. This has led to a fresh vegetable crisis across Europe over the winter. However, we could call consumer access to fresh courgettes (zucchini) a first world problem. Across more impoverished parts of the world, the United Nations has now declared that 37 countries are in need of external assistance to feed their populations. The most profound of these is the crisis hitting countries in East Africa. High inflation alerts on staple goods have recently been made in Ecuador, Kenya, Nigeria, Somalia, South Sudan, Sri Lanka, Uganda, and Tanzania. The result is that governments are increasingly intervening in food commodity markets to buy emergency supplies of food, leaving less for food wholesalers and other commercial agents.
This leads us to ask two important questions:
- How will consumers react to rising prices?
- When will prices rise in different categories, given the newly consolidated global food supply chain?
The great news is that we have some early answers to both questions.
How will consumers react to rising prices?
Our colleagues at Kantar Worldpanel have done some great analysis of the British consumer’s reaction to rapid changes in purchasing power. They looked at what happened the last time consumer purchasing power came under pressure and identified four types of behavioral change at a macro level.
The four types are:
- Buy on Promo. Consumers bought the same brands at the same volumes but started shopping goods based on their promotional price.
- Trade Down. Consumers bought the same products at the same volumes but they traded down to private label or less premium brands.
- Trade Over. Consumers stopped shopping for the same products/brands by moving to less expensive stores such as the discounters or low priced supermarkets.
- Trade Out. Consumers reduced their spend on the category.
There is no guarantee that consumers will react the same way as last time when purchasing power is affected but understanding what happened last time can guarantee that we avoid making the same mistake again. Last time, consumers bought household items on promo, traded down on frozen and healthcare, traded over for alcohol and ambient (dry), and traded out for fresh and chilled. Suppliers looking to be ready for the changes we expect to arrive in H2-2017 could spend some time now reviewing what happened to shoppers for their own categories and brands.
For the record, we would expect the reaction this time to be similar to last time.
When will prices rise in different categories given the newly consolidated global food supply chain?
The biggest change in the global supply chain for food in the past ten or so years has been the digitization of the global food landscape. The food supply information revolution means that global traders can spot surpluses and shortages of food in more proactive ways than ever before. Global retail giants, have recently begun to take advantage of this information by establishing new rules on purchasing. In the past, if a supplier met with a retail buyer and said, ‘I need to raise prices because my own supplies are more expensive’, the buyer had two choices:
- Negotiate over the size of the price rise
- Change suppliers
In 2017, those choices are still available to retail buyers. However, retailers now have their own direct farms and dedicated suppliers. Moreover, many retailers now have more advanced private label purchasing programs and therefore see the same commodity prices as suppliers do. The result is that their reaction to a supplier’s demand for higher prices is more nuanced than in the past. At Kantar Retail we might characterize this as the rise of the cash flows mentality in retail.
Retailers, now, can do two things they could not do before:
- Buy the goods directly through a buying alliance or other global platform
- Manipulate the timing of category price rises to take advantage of ‘cash flows’
We expect retailers to do both things in H2-2017 and we encourage suppliers to prepare for both. To prepare best for increased negotiations involving buying groups, the most important step is to keep up with the changes taking place. We would encourage suppliers not used to dealing with buying groups to consult their colleagues in France, Spain, Portugal, and Italy to learn best practices as a first step. Since 2014, the sophistication of the retailers participating in buying groups in these countries has been incredible.
As a second step, suppliers should allocate a buying group expert to educate new countries. For example, now that Australia’s Woolworths has joined the EMD buying alliance and Kaufland is soon to arrive in Australia, the company’s EMD specialist should work with the local key accounts teams in Australia to prepare for H2-2017 negotiations.
In addition to understanding buying groups, Kantar Retail would encourage suppliers to build a timeline for when prices will go up across different channels and leading categories in their countries. We know that retailers are increasingly able to hold off price increases through sophisticated financial investments including currency hedges and other instruments. Their new focus on cash flows, not margins, makes this work easier to plan by looking at the goods the retailer sells in tranches. Mass retailers will feel the pain first, with shoppers reacting to their price rises in categories outside of your own, typically much earlier than expected.
A simple method for thinking about ‘the retailer’s cash-flow mentality’ is illustrated below:
For suppliers looking for advice and guidance for H2-2017 negotiations, we are here to help.
As always, we appreciate your feedback on “Inflation” or “Buying Groups” and/or any other topic. Good luck in the week ahead,
Twitter: @RayGaul or @KantarRetail
We encourage hardcore analysts to have a look at the new USDA food inflation forecasts on the 24th of March. Link: https://www.ers.usda.gov/data-products/food-price-outlook/
For those who want even more, another good source for information is the FAO Food Price Index which will be revised on 6th April 2017). Link here: http://www.fao.org/worldfoodsituation/foodpricesindex/en/
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