As growth slows, what lies ahead for FMCGs?
It is no secret that Pakistan is witnessing an economic downturn. Newspaper headlines and news bulletins on TV have focused on it of late; the rupee’s devaluation has been staggering and it seems that the dollar gains at least a rupee a day, and the rupee has depreciated by at least 15% since January.
The findings of the Pakistan Economic Survey 2018-19 (released in June 2019) have been less than optimistic: core inflation stood at 8.1%, up by 2.5% compared to the previous fiscal year when it was 5.6%; Consumer Price Index (CPI) inflation nearly doubled from 3.8% to seven percent. Foreign investment stood at $1.38 billion between July 2018 and April 2019, registering a decrease of 51.7% compared to the same period in the previous years, when it amounted to $2.85 billion.
After the announcement of the Federal Budget on June 11 (read more about the impact of the budget in Weathering the downturn here), economists have not been too optimistic about Pakistan’s economic future; this is because the budget predicts that the economy will grow at a rate of 2.4% (last year’s projection was 6.2%) in the forthcoming fiscal year.
Economists have termed this projected growth rate to be “a massive decline from last year’s forecast of 6.2%”, which it turned out was a “muted” 3.29%. According to DAWN, the last time Pakistan witnessed such a low GDP growth rate was during the global financial crisis in 2009-10, when Pakistan’s revised growth rate amounted to 2.6%. It would be pertinent to state here that the projected 6.2% was based on optimistic projections for the agriculture, industry and services sectors which amounted to 3.8%, 7.6% and 6.5% respectively. Their actual growth, as it turned out, came to 0.85%, 1.4% and 4.7%. Notable declines have been observed in several sectors according to the Pakistan Economic Survey 2018-19 and include automobiles (-6.11%), chemicals (-3.92%), coke and petroleum products (-5.5%), food, beverages and tobacco (-1.55%), iron and steel products (-10.26%), non-metallic mineral products (-3.87%), pharmaceuticals (-8.67%) and textiles (-0.27%).
Although the large scale manufacturing sector (LSM) witnessed a negative growth of two percent, several of its sub sectors did witness growth: electronics (34.63%), engineering products (8.63%) and wood products (17.84%), albeit without meeting their respective growth targets.
More optimistically, several sectors such as services, retail and transport/storage have registered overall growth of 4.71%, 3.11 % and 3.34% respectively; however these are lower compared to FY 2016-17 when their growth amounted to 5.98%, 6.82% and 3.94%. Similarly, although the finance and insurance sector showed an overall growth of 5.14% in FY 2018-19, it is relatively lower than the 10.8% growth witnessed in the previous fiscal year.
In light of the above statistics, it is no surprise that Fast Moving Consumer Goods (FMCGs) have been impacted. The sector (worth an estimated 1.8 trillion rupees according to Euromonitor) has witnessed a slowdown due to several reasons, although there are no figures available so far to estimate by exactly how much.
Akbar Ali Shah, Country Manager, Health, Hygiene and Home, Reckitt Benckiser Pakistan (RB), homes in on several economic factors that have impacted FMCG companies in particular. “International commodity prices have started going up after a stable period of three to four years, as have oil prices. As a result, all their by-products [many of which are FMCGs] have been impacted. Secondly, the exchange rate is high and that affects organisations which import raw materials or even finished products. Lastly, in the last two years, import duties have been revised, and some have increased by up to 80%. These factors combined have created a challenging environment.”
As FMCGs constitute a relatively diverse range of categories and include beverages, processed foods and personal care products, it is important to examine which ones have experienced the most challenges.
According to Aly Yusuf, Director Finance, Unilever Pakistan, their more expensive products have been adversely affected compared to the brands which are positioned for the bottom of the pyramid segments. He adds that consumer staples are generally less affected in an economic slowdown as are those that enjoy higher consumer loyalty. This is because during an economic slowdown, purchasing power declines and higher price sensitivity emerges among consumers.
Shakil Ashfaq, CE, Shujabad Agro Industries (manufacturers of Eva cooking oil), is more specific, and of the opinion that beverages, cosmetics and personal care products have been affected the most. He explains his reasoning by stating: “With an average household income of around Rs 30,000 (more than half of which is spent on food) there is more room for reduction in non-essential items.”
Muhammad Sabir, GM Marketing, Bisconni, takes this rationale a step further and places FMCGs in three categories: necessity, comfort and luxury. Products that fall within the last two, he says, observe a significant decline in consumption due to inflation.
All this makes sense as during difficult economic times consumer patterns change; they are generally not willing to spend more than they have to. These changes are more apparent in middle- and low-income groups as they are impacted the most, and while they continue to spend on necessities, they try and reduce their consumption of elastic items. Shah points out that during economic downturns, in the case of functional products (such as soap) if cheaper alternatives are available, people tend to consider switching or in the case of severe economic downturns, move on to ‘private labels’ (store-owned products). “Interestingly though, FMCGs are not the first to be hit by a downturn; the travel and hospitality industries, as well as real estate, feel the impact first as do high-investment purchases such as cars.”
The question then is: how have FMCG companies in Pakistan been affected by the downturn specifically? To answer this question, Aurora spoke to experts in national and multinational companies across Pakistan, most of which have witnessed lower profit margins despite introducing price increases.
For Mian Mahmood Hasan, MD, Bake Parlor, the impact of the downturn has not been drastic. This is because although the company makes ‘elastic’ products such as frozen foods, ketchup and pasta, a significant proportion of their revenue comes from ‘non-elastic’ items such as bread and flour. As a result, Hasan says that their organisation has witnessed a 10 to 12% growth in the previous year and attributes this to the fact that “our edge is wheat and we are commodity traders as well.” He adds that although Bake Parlor have witnessed no difference as far as sales of their flour is concerned and a marginal decrease in bread, their pasta sales have gone down. He attributes this to the fact that people with lower disposable incomes have been impacted the most by the downturn and tend to purchase less pasta.
Waseem Amjad Mahmood, Director Marketing, Shezan International, states that increasing production, distribution and fuel costs have impacted them the most, as has the rupee’s devaluation. The latter comes into play as Shezan in certain cases import fruit due to production shortages in Pakistan as well as packaging materials such as jars and pouches. Amna Iqbal, Group Brand Manager, Mitchell’s Fruit Farms, seconds Mahmood’s views, and adds that as none of Mitchell’s products are inelastic, companies such as theirs suffer the most during difficult economic times. “We produce specialty items such as jam, ketchup and squash which are not necessities and demand for these is affected the most during an economic slowdown. Consequently, an all-time high inflation rate and decreased consumption have directly impacted our gross profit margins.”
However, in the case of Bisconni, Sabir has an interesting insight to share. Although one may assume that biscuits would be part of the elastic category, he says that they have not been affected too much because a significant proportion of the general public consume biscuits as a replacement for regular meals in some instances. In fact, he goes as far as to say that demand for biscuits continues to grow – although he does concede that overheads are rising.
In the case of Eva Cooking Oil, Ashfaq states that due to increased import duties and other negative economic factors, Eva have increased their prices by 10 to 12%. However, he adds: “As we provide premium and mid-tier brands, they have not been affected much.” He attributes this to the fact that the upper SECs have, so far, not changed their consumption patterns drastically; he adds that sales in Ramzan were also relatively high and this helped the company.
With regard to the dairy industry, Sami Qahar, Director Marketing and Trade Marketing, Haleeb Foods, is of the opinion that it has had a very “turbulent year” due to price fluctuations. More specifically, he says, that the dairy industry has been affected the most by increasing import duties and the rupee’s devaluation, specifically with regard to skimmed milk powder (used to reconstitute regular milk and to make tea whiteners) which is imported. This, he says, has not only affected dairy companies like Haleeb Foods, but biscuit and confectionery manufacturers as well because they use skimmed milk powder for their products. Qahar adds that as a result of price increases, consumers have, in fact started to switch to loose milk. “In 2009, loose milk consumption stood at 92% (packaged milk captured eight percent); today, it constitutes 95% due to price increases in the packaged milk category.” (Currently a litre of loose milk is priced between Rs 105 and 110 per litre, while packaged milk costs Rs 130.) Qahar and Iqbal both mention that a five percent FED on sugar was introduced in the budget and this will impact their respective organisations, as they both manufacture juices as well.
In the case of RB, Shah says, “The categories we operate in still have a very low penetration rate; therefore, the opportunities are far bigger than the challenges.” He is of the opinion that consumers do not compromise when it comes to their health and hygiene even during an economic slowdown. “We have introduced a number of low unit price products to ensure that our brands remain accessible to the general public.” He also points out that in the case of categories with lower penetration rates (such as toilet cleaners), there are opportunities for brands to increase their sales volumes because there are a significant number of consumers to acquire. For context, he says that categories with very high penetration rates e.g. detergents, there are fewer opportunities for volume growth. “In such categories, a trade down or even a brand switch may take place.”
Unilever, for their part, have felt the impact of the downturn. “The economic slowdown has resulted in lower market growth and consumer down-trading; this has created growth headwinds. There is also a sharp cost increase which is creating stress on profitability,” says Yusuf.
So what are these brands doing to ensure that their products are purchased? One way is to introduce smaller SKUs as cheaper alternatives. “We have introduced smaller packs and aerosols of Harpic and Mortein so our penetration does not drop. Although, generally speaking, there are heavy and light users of products like these, people trust our brands, so even if their prices increase, consumers will decrease their usage, but will stick with the brand,” opines Akbar. Another way is to reduce the grammage of existing SKUs. As Sabir points out “because consumers are price-sensitive the biscuit industry focuses on a fixed price points such as five, 10, and 15 rupees where we have introduced such indirect price increases.” For Unilever, lower-priced and lower grammage variants are a priority in order to provide more value to consumers. Yusuf adds that the company is focusing on “driving cost efficiencies, so that more value can be passed on to the consumer in terms of price.”
Although one could assume that consumers may switch to cheaper brands due to price increases (especially the lower and middle income groups) Aziz Jindani, Chief Commercial Officer, Colgate-Palmolive Pakistan, points out that the increases are being introduced in a “palatable” manner; this means that they are fairly gradual across the board and do not burden the consumer too much. However, Sabir is of the view that brand switching will be observed in certain categories such as personal care, cosmetics and confectionaries if their prices increase further. Qahar adds that consumers of products such as flour, masalas, milk, rice, sugar and tea may also switch to unbranded variants if further price increases are introduced.
Although data for FY 2018-19 is not available yet with regard to ad spend, there is a high probability it will register a decline compared to FY 2017-18. According to the Aurora Fact File, ad spend went down by Rs 6.1 billion in FY 2017-18, registering a decrease of seven percent (from Rs 87.7 billion to 81.6 billion) compared to FY 2016-17. It is worth mentioning that this was the first time that ad spend decreased since FY 2001-01 (when the Aurora Fact File was first published) and this is a significant development given that even during the financial crisis of 2008-9, ad spend increased albeit by one percent. Mediums that witnessed decreases were: OOH (by Rs 4.8 billion from Rs 11.8 to seven billion, registering a 41% decrease); radio (by Rs 0.5 billion, from Rs three to 2.5 billion, registering a 17% decrease); TV (by four billion rupees from 42 to 38 billion, registering a 9.5% decrease); and print (by Rs 0.5 billion from Rs 20 to 19.5 billion, registering a 2.5% decrease). Media that witnessed increases were digital (by Rs 2.5 billion from Rs 5.5 to eight billion, registering a 46% increase); POP/brand activation (by one billion rupees from five to six million rupees, registering a 20% increase); cinema (by Rs 0.2 billion from Rs 0.4 to 0.6 billion, registering a 50% increase).
As digital registered the highest increase, it is likely that this will be the case in FY 2018-19, especially given the fact that most of the experts Aurora spoke to admitted that they have cut down on their advertising (in some cases drastically) or indicated that they are increasingly concentrating on digital. This specifically includes e-commerce, which according to Shah is a prime avenue for Millennials when it comes to FMCGs. Similarly, Ehsan Saya, MD, Daraz Pakistan, in his interview mentions that FMCG sales on Daraz have not decreased, and he identifies a sizable audience base for FMCG products in second-tier cities in Pakistan where Daraz has a presence (thanks to a wide distribution system) and where certain FMCGs may not be available in ‘offline’ stores. Nevertheless, Sabir maintains that mass media still have the highest penetration as far as the FMCG sector is concerned, although he agrees that digital is the platform many companies are increasingly relying on.
Experts estimate that the downturn may last anywhere from nine months to two years. Despite this forecast, RB and Unilever Pakistan are clear that their expansion plans will go ahead as planned. In fact, Shah views the downturn as a transition rather than the future. “We have a clear manufacturing footprint for the next five years irrespective of economics or politics; we are also looking at Pakistan becoming a possible export market in the future.” Yusuf points out that Unilever continues to invest in Pakistan: “Unilever are confident that government policies will bear fruit in the next year or so and bring back growth to the economy.” It is also important to point out here that that P&G Pakistan (who declined to comment) announced earlier this year that they have invested over $50 million in Pakistan by establishing a hair care manufacturing plant at Port Qasim, Karachi. In line with this, Ehsan Malik, CEO, the Pakistan Business Council told DAWN earlier this year that Nestlé and Coca-Cola are investing $450 million and $380 million respectively in Pakistan, and points out that in 2016 Friesland Campina acquired 51% of Engro Foods for about $442 million. Furthermore, Colgate International have publicly expressed interest in acquiring a further 21% share in Colgate Palmolive Pakistan (the Lakson Group), taking their share up to 51%.
Such optimism is not, for the most part, shared by several smaller FMCG companies. Iqbal is of the opinion that given the economic downturn and reduced consumption, Mitchell’s may be able to sustain their profits but it is unreasonable to expect any form of incremental growth. Sabir points out that Bisconni’s focus will remain being “Pakistan’s fastest growing biscuit brand” and as for the future, he forecasts that the market will “balance out”.
He is also of the opinion that “ineffective firms will close down and the more efficient players will remain.”
To conclude, times will not get easier in the short term, especially for smaller players, and in this respect, Shah’s view is especially pertinent when he says that “challenges often bring out the best as companies are forced to think of multiple ways to overcome them. We are looking at technology, cost structures, big data, predictive analytics and questioning the relevance of traditional distribution or brand activation models and what other solutions are available.”
As with all challenges there are several opportunities. The first is e-commerce, which is especially relevant for FMCGs given that so far they are not experiencing declines in online sales, especially among Millennials and people who reside outside Karachi, Lahore and Islamabad. The second is that there is a chance for local companies to carve out a niche for themselves and increase their consumer base as consumption of imported FMCGs declines. Similarly, retail stores also have the opportunity to introduce private labels for various FMCGs that are cheaper than branded items but slightly more expensive then unbranded ones.