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October 22, 2010

Comment: Food makers feeling the pinch as commodity costs bite

When Russia announced plans to curb grain exports in August, mainstream news outlets spoke of a probable jump in food prices in markets worldwide. The noises coming from within the industry, however, were mixed. Now, there are signs that manufacturers are feeling the pinch.

By Dean Best

When Russia announced plans to curb grain exports in August, mainstream news outlets spoke of a probable jump in food prices in markets worldwide.

The noises coming from within the industry, however, were mixed. Premier Foods plc, the UK’s largest food group and maker of Hovis bread, said it was sure to put up the price of its bread. Nevertheless, some industry watchers argued that, despite the Russian restrictions, global grain stocks remained strong and questioned the impact Moscow’s move would have on food manufacturers.

The jury may have seemed out at the time but, in recent days, we have seen a number of signs that indicate grain costs are putting pressure on food manufacturers across the industry.

Europe’s largest poultry processor Groupe Doux has urged retailers in its home market of France to raise prices on its products amid higher cereal costs. This week, Doux CEO Guy Odri told just-food that the company could no longer be the “buffer” between cereal traders and retailers.

In a passionate defence of Doux’s stance, Odri said it was wrong to paint manufacturers as “wolves” and said retailers were “hiding behind” their argument that they were protecting consumers from price increases. Discussions between Doux and three unnamed French retailers – who make up 40-50% of the market – continue but it was a sign of the depth of Odri’s feeling on the issue and, perhaps, the pressure his company and the poultry sector is facing, that he went public on what often is a subject that stays behind closed doors.

Elsewhere, it has emerged that General Mills, the US food group behind cereal brands like Big G and Cheerios, has told its US retail customers that it will up the list price on selected lines next month.

General Mills did not disclose the names of the specific brands but prices will rise on around a quarter of its cereal volume. Of course, General Mills’ move on its list price does not necessarily mean US consumers will face higher prices on-shelf and, given the lack of consumer confidence across the Atlantic, retailers may face having to absorb the price themselves.

That said, with US consumers still facing an uncertain economy and looking for value, General Mills’ move is a bold one and could see shoppers plump for rival brands or private label. As Kellogg’s earnings downgrade demonstrated yesterday (21 October), the US cereal sector remains a very competitive marketplace.

It seems, then, that Premier was correct. The Russian ban on grain exports, swiftly followed by a similar move in the Ukraine, is putting pressure on manufacturers. Reports in the UK this week suggest that Premier itself has indeed pushed up prices on its Hovis products – albeit with mixed results, with some retailers accepting the price hikes but Tesco, the country’s largest grocer, rebuffing the move.

While the likes of Groupe Doux would disagree, there is no denying that retailers are facing still fragile trading conditions and are reluctant to wave through price increases when consumer sentiment remains weak. We are now in the period when food manufacturers the world over issue their third-quarter results, so expect more light to be shed on the growing pressure commodity costs is exerting on processors. Yesterday, for one, US confectionery giant Hershey said it expects input costs to be higher in 2011 and issued profit forecasts for the year that disappointed investors.

And there is a further consideration. With economies, particularly in the West, still fragile, retailers are likely to play hard ball when manufacturers ask for price increases. Some food makers, then, may be forced to put up with their higher commodity bill – but some may only be able to withstand that pressure for so long.

As one leading food-industry executive told just-food at the SIAL exhibition this week: “The price of wheat is going up, corn prices are going up, milk prices are going up, all the basics are going up and still the market is squeezing down. That will at some moment explode. It is really a dynamic cocktail. When it will happen?”

A two-year downturn has stunted growth and manufacturers can only eke out efficiencies for so long to protect margins. Meanwhile, lending conditions are hardly buoyant with banks deciding – and in some cases forced – to hold more capital on their balance sheets. Food makers seeking respite from commodity costs may not be to turn to lenders as easily as they perhaps had done in the past.

All this in turn creates a fertile landscape for further consolidation in the food sector, with weaker players seeking solace in a larger company – and the bigger firms looking for acquisitions to boost their bargaining power with retailers.

Faced with rising commodity costs, food manufacturers the world over will be looking at how best to adapt in the months ahead.

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