A new strategy unveiled by Unilever CEO Alan Jope has failed to convince investors dubious about how the company can boost sales and profits without some significant portfolio reshaping, either organically or through M&A. Simon Harvey takes a look at the main contentions.

Following a year described by chief executive Alan Jope as pandemic-related “aggregated chaos”, Unilever has set out a five-pillar strategy based around driving more purposeful innovation and regaining market share, particularly in the US.

But investors were not overly impressed because of a lack of real substance in the plan – unveiled yesterday (4 February) in the annual results – and the absence of any detail on how Jope might reshape Unilever’s portfolio amid criticism some food categories don’t have the desired potential to deliver financial benefits in the longer term. 

The announcement was also accompanied by a new multi-year financial framework, to kick-in this year, where the CEO has reintroduced a target for a 3-5% target in underlying sales each year. But that was met with confusion linked to where Unilever’s priorities lie in terms of targeted metrics.

Unilever’s new strategy is primarily centred on innovation and accelerating growth in the US, India and China, which are key markets for the Marmite spreads and Hellmann’s mayonnaise owner, with those countries generating combined sales of EUR17.2bn (US$20.6bn) last year of the group’s total turnover of EUR50.7bn. 

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By GlobalData

Another of Jope’s pillars is to “evolve” the group portfolio into “high-growth areas” across the company’s three divisions in food and refreshments, home care, and beauty and personal care through acquisitions and disposals, although the CEO told analysts yesterday on an earnings conference call 2021 will probably mark Unilever as a “net acquirer rather than a net disposer”.

And to foster innovation, Unilever plans a “sequential step-up” in spending on research and development, with a slant toward better execution to increase competitiveness, especially in the US, where Jope said there’s “still work to do” in terms of market-share rankings versus its peers.

Unilever’s remaining three initiatives revolve around “winning” with its brands through “purpose and innovation”, to lead in “channels of the future” and to spur a “purpose-led future-fit organisation and growth culture”. 

Confusion on margins

Investors were left a little perplexed by the reintroduction of the 3-5% USG target. That’s because Jope also said profit growth will take precedence over organic sales, which markets have read as an endeavour to improve the underlying operating profit margin from last year’s print of 18.5%, which was down 60 basis points on the previous 12 months.

Vincent Lee, an analyst at asset-management firm AllianceBernstein, says the two are incompatible together, while he has doubts over the achievability of the 3-5% target without further changes to the portfolio when Unilever is facing challenges from private-label and challenger brands.

“How can you continue to grow margins and accelerate growth?” Lee says, adding Jope should perhaps look to reduce Unilever’s margin ambitions in order to more effectively drive the top-line.

“If they were to take margins down 100-200 basis points, that wouldn’t be the end of the world. I mean, we are talking 16-17% margins, which is still fantastic,” Lee tells just-food. “But it would make their life a lot easier to re-accelerate growth if they were able to take that on the chin and say ‘look we need to take margins a little bit lower to accelerate growth.'”

Lee suggests annual underlying growth of 3-5% is a stretch for Unilever, and the long-term potential is more likely around the 3.5% area. “The reality is, you really have to make a trade-off between margins and growth.”

Alain Oberhuber, an analyst at financial-services firm Stifel, says Jope should broaden the guidance out to include both top-line sales and margin targets and, from a personal point of view, expressed disappointment margins arguably appear to have “taken a back seat”.

Given the negative reaction around Unilever’s share price, which has spilled over into Friday, Oberhuber says Jope might just be inclined to make a tweak to his financial objectives.

“He will look into that for sure,” Oberhuber tells just-food. “He will probably give some priorities and maybe say the first priority is the top-line and the second priority is the underlying profit margin. We think the margin will probably go up every year by ten to 20 basis points.

“But Unilever’s focus is really on the top-line. Unilever will not give a straight EBIT margin target because they clearly want to gain market share.”

Questions over ice cream

Unilever’s strategic objectives have to be seen in the context of the pandemic as the Ben & Jerry’s ice-cream owner, like other food manufacturers, is honing resources behind categories that have seen favour among consumers during the crisis, as eating at home became the new normal, while at the same time weeding out underperforming SKUs and ill-fitting assets. Companies are taking action to try to retain new followers and market-share gains once the virus has been brought under control.

In food, sales through retail outlets are helping to take up the slack to some degree from the loss of revenue linked to the closure of the out-of-home and hospitality channels. Sales from Unilever’s foodservice-focused food solutions arm still dropped 26% during 2020 to EUR4bn, with a 20% decline in the fourth quarter alone.

Finance chief Graeme Pitkethly also threw in a caveat during the call that at-home ice-cream sales offer about ten percentage points less gross margin than through foodservice, while he noted Unilever’s results were also pressured by unfavourable currency valuations, pandemic-related costs, including PPE and donations, and commodity-led inflation.

AllianceBernstein's Lee says there needs to be a rethink behind the categories Unilever is in to drive sales growth toward the target.

"Our frustration is that the strategy is kind of more of the same"

"Are they in the right categories and are their execution levels up to scratch?" he asks. "Fundamentally, we would say the categories that they exist in are in some ways a little bit challenged. You are talking about mayonnaise, condiments, ice cream – these aren't really categories that grow 3-5%. They are probably around a 2% growth market.

"Our frustration is that the strategy is kind of more of the same. What we want to see is bold decisions being made. Realising that ice cream isn't the place to be and acknowledging that the portfolio needs drastic change. I'm not really seeing that in their strategy."

Targeting the world's three most-populous countries makes sense, particularly when consumers in China and India are becoming more affluent, as Unilever's underlying sales growth at the group level slowed to 1.9% in the calendar year from 2.9% in the corresponding 12 months. And it was a similar picture for the food and refreshments division, the largest of the business units behind beauty and personal care, with underlying sales growth easing to 1.3% from 1.5%.

But there were positives in that retail food sales rose 12%, while Unilever's plant-based business, The Vegetarian Butcher, notched up 70% growth, and e-commerce grew 61% to account for 9% of Unilever's group sales.

Back in November, the Knorr flavourings and soups owner said it wanted to increase sales of plant-based alternatives to meat and dairy products by five-fold over the next five to seven years, with an end target of EUR1bn. Jope said the category is a priority high-growth area for Unilever, along with functional nutrition – such as the deal struck last autumn for US-based SmartyPants Vitamins – and to a lesser extent, scratch cooking and ice cream. 

M&A vs disposals

Oberhuber argues further deals in the functional-nutrition space might be overblown given competitors like France's Danone and Nestle in Switzerland are making "strong" inroads in the sector, and "that's getting pretty crowded". 

Still, he believes plant-based foods is the right way to go, with Unilever most likely to look to bolt-on "regional" acquisitions to accompany The Vegetarian Butcher. Unilever's tea business, under review, will probably go this year, perhaps to a private-equity firm, he says.  

Lee argues Unilever would need to undertake "something big" to foster "meaningful" growth but is more likely to look to more mid-sized M&A.

"In the more immediate term, what's probably going to be driving growth is the disposal side. In the near term, even though they may do acquisitions, it's hard to see how that will drive growth because it takes a long time. But you can't dispose of too much otherwise you lose that scale benefit."

Stepping aside from human foods, Jope says the entrance into pet food with the January launch of the Cafuné brand in Brazil, was more of a "fun experiment" rather than a "strategic move" for Unilever.

Despite the difficulties with Covid, the 1.3% underlying sales growth for the food and refreshments division was almost double the 0.7% consensus rate expected by market watchers, although the underlying profit margin for the sector dropped 50 basis points to 17%, in line with market forecasts.

But red markers dotted the results on a group level.

Turnover fell 2.4% to EUR50.7bn, following 2019's 2% gain, albeit a decline put down to foreign-exchange effects.

Underlying operating profit decreased 5.8% to EUR9.4bn but was up 0.7% when currency effects were discounted.

Net profit fared better, rising 0.8% to EUR6.1bn, but almost on a par with the EUR6bn recorded the prior year, when profits fell 38%.

Inflation on horizon

And inflation could be challenge for Unilever in light of the impact any increases in prices may have on consumers, many of whom have been furloughed or have lost their jobs in connection with the pandemic. Many economies around the world are in recession too.

CFO Pitkethly says: "We are seeing quite a bit of commodity inflation and a larger foreign-exchange impact as we go into 2021, particularly in Latin America, Turkey, India and South Africa. And we have some commodity inflation coming through in tea, in particular in India, palm oil, liquid oils and food ingredients.

"We do expect mid-to-high single-digit inflation in the first half, so we have to be at the top of our game in pricing going forward. We would expect our profit growth will grow faster than our top-line growth."

Winning back market share in the US is a key theme in Jope's plan, along with building its presence in India and China, where the company ranks first and fourth. In the US, Unilever languishes at seventh. 

By the end of 2020, 65% of Unilever's group businesses had made inroads against the competition, up from 47% in December 2019. But the CEO noted it "is not yet above 50%" in the US, adding every ten percentage-point step up in competitiveness is worth about 100 basis points of growth.

Boosting competitiveness is one thing but, when you are faced with inflationary pressures, the ability to cut prices is limited, suggesting Unilever might have to turn to M&A to reach Jope's desired goals or come up with some strong on-trend innovations organically. Without some deal-making, the 3-5% sales target looks precarious.