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Investing in More Organic, Sustainable and Ethical Food Supply Chains

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Supply Chain Matters has featured numerous prior commentaries regarding the difficult challenges and structural business challenges facing large consumer packaged goods producers and their associated supply chain ecosystems. Yet while the industry continues to respond with severe cost cutting and a sense of crisis, the industry may well be overlooking the more important strategic need for meaningful investments in organic and sustainable food supply chain capability and supplier development.

Currency headwinds and activist investors focused on short-term shareholder value and increased earnings add more cost cutting pressure to the crisis. Signs of increased merger and acquisition activity, most recently the announced HJ Heinz and Kraft Foods mega merger, add more turmoil and stark actions surrounding CPG supply chains.

Today’s consumers demand healthier food choices and more natural ingredients, shunning high volume, well-known iconic food brands. Consumers are more interested in knowing where their food originated, the ingredients within food and how food is produced with sustainable methods. Well known producers, food service providers and suppliers such as Hershey, Nestle, MacDonalds, Tyson Foods, Costco, Yum Brands and others have all embarked on initiatives directed at curbing the use of antibiotics in animals, artificial food coloring within food, and higher quality standards for suppliers.

In a previous commentary, we advocated the need for CPG producers to focus on increased product innovation and quicker introduction of new and healthier products. These capabilities need to be obviously enhanced, in spite of continued pressures to reduce costs. However, we have wondered how the ever increasing consumer needs for more organic and sustainable food products can be fulfilled among current food supply chains.  Is there a discernable capacity shortage?

A recent report published by The Wall Street Journal, Hunger for Organic Foods Stretches the Supply Chain (paid subscription or complimentary metered views) brought forward such a perspective. According to the report, the increasing need among consumers for more organic foods is literally: “hampering the growth of one of the hottest categories of the U.S. food industry.” Farmers, dairies and ranchers face significant costs and risks in attempting to convert from conventional to organic farming or animal production techniques. “While organic produce or livestock can command prices as high as three to four times that of conventional food, farmers generally have to sell their food at conventional prices during the transition.”

Mentioned specifically are organic and natural foods producer Hain Celestial Group, soup maker Pacific Foods and fast casual restaurant chain Chipotle Mexican Grill recruiting, financing and training more farmers willing to utilize and adhere to organic methods.  Some producers such as Hain Celestial have had to initiate long-term buying agreements, as much as three to five years, to insure the transition to more organic supplies. Two years ago, Chipotle began providing financing incentives to help black bean farmer’s transition from conventional to organic production. This fast-growing restaurant chain that prides itself on higher quality, ethically based food ingredients recently took the bold step of suspending sales of its pork product in nearly a third of its restaurants after discovering a supplier was not complying with animal welfare standards.

With increasing reports of supplier bullying and cost squeeze tactics occurring among the larger traditional packaged foods producers, we wonder if that approach actually lends itself to required investments in organic and sustainable food supply. If the ultimate strategy among activist investors is ultimately to squeeze existing costs across the entire conventional processed food supply chain to free-up cash to fund acquisitions of smaller, more organic and healthier food producers, will such innovative and dedicated producers wither amidst an environment of draconian cost-cutting?

By our lens, it may be an argument for supply chain and individual brand segmentation anchored on market differentiation and segments.

For us, one tenet appears obvious, the industry needs to respond to growing consumer tastes by actively investing in boosting capacity and capability in organic, sustainable and healthier food products.  To do otherwise is opportunity lost.

Bob Ferrari

© 2015 The Ferrari Consulting and Research Group LLC and the Supply Chain Matters ® blog. All rights reserved.


Report Indicates Wal-Mart Ratchets Up Pressures on Suppliers to Squeeze Costs

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When a report directly impacting supply chain strategy is featured as a front page article in The Wall Street Journal, we are certainly going to bring it to Supply Chain Matters reader attention. When that report correlates with other related reports, namely supplier squeeze or bullying tactics, rest assured we will bring it to greater industry supply chain visibility.   Wal_Mart Store

We have previously featured reports of supplier bullying strategies involving certain consumer product goods supply chains, and quite recently, supplier squeeze tactics among certain commercial aerospace supply chains.

Today’s WSJ report (paid subscription or free metered view) indicates that last month, Wal-Mart began an effort to place increasing pressure on its North America based suppliers to cut the cost of their products. According to the report, the retailer is telling suppliers involved in a wide range of purchased categories to forgo any additional investments in joint marketing and focus the savings on lower prices to Wal-Mart. Apparently new executive leadership is embracing the concept of supplier squeeze in order to lower existing prices at retail stores. Wal-Mart recently raised salaries for store associates which have added a new cost burden. Further reported is that this effort has already caused renewed supplier tensions among suppliers who are already attuned to the retailer’s relentless focus on inbound cost.  The new tensions for suppliers are that they potentially have less control on the way their individual branded products are marketed to Wal-Mart consumers.

This new WSJ report revisits a previous report of Wal-Mart’s current dealings with well- known consumer products goods provider Procter & Gamble and its cash cow product, Tide laundry detergent. The retailer recently began merchandising Henkel’s Persil laundry detergent directly aside of Tide in a move that the WSJ now clearly declares was an attempt to pressure P&G to lower the price of its market-leading laundry detergent.

Yesterday, Amazon released the news of a Dash Button, a physical version of its 1-click ordering. An Amazon Prime member sets up the device to correspond to a certain product and places the physical device in a convenient place (perhaps inside the cupboard or cabinet where household products are stored). When the supply runs low, the user can press the button to order more of that product, which directly communicates with Amazon via a Wi-Fi connection. It is literally an electronic Kanban replenishment system in a B2C setting. A total of 255 products from 18 brands are reported as being available through the Dash Button program and surprise-surprise, P&G and its Tide detergent is noted as a participant. That may well be another motivation for Wal-Mart to place direct pressure on its most longstanding and loyal supplier partner. This is also not the first time that P&G and Wal-Mart have openly sparred over P&G’s collaborative efforts with Amazon.

As survey methodology often depicts, a single data point is an observation, a second similar data point is of interest and a third data point within a short period of time is the early indication of a building trend.

Supplier squeeze tactics are often prevalent in times of significant economic stress when preservation of cash is a critical corporate objective. Industry supply chains experienced many forms of such tactics during the great recession that began in 2008-2009 and some suppliers actually succumbed to bankruptcy as a result.  Today, global supply chain activity and output as manifested in the J.P. Morgan Global Manufacturing PMI Index has recorded 27 months of consecutive expansion. Thus, motivations for current supplier squeeze tactics have taken on different motivation, perhaps more related to short-term Wall Street and consequent stockholder expectations. In any case, it is by our lens, a concerning trend with the potential to provide setbacks to efforts towards deeper collaboration and/or partnerships with suppliers. Consider that Wal-Mart has embarked on a multi-billion dollar initiative to influence suppliers to source more products within the United States.  Wal-Mart gives, and then takes-away.

A short-term business outcomes perspective can permeate across the many levels of the value-chain and procurement teams and financial senior executives need to be reminded of the consequences for longer term supplier partnerships directed at product, process and customer fulfillment innovation. Focus on the P&G dynamics with Wal-Mart, both rather savvy and determined business partners who have experience in good and not so good times, and in the savvy of push-back.  Many suppliers, particularly smaller scope suppliers do not have the leverage of a P&G, and thus, there resides the current risks in supplier management.

Bob Ferrari

© 2015 The Ferrari Consulting and Research Group LLC and the Supply Chain Matters® blog. All rights reserved.

 


Supply Chain Matters Tutorial- Pros and Cons of Zero-Based Budgeting

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In the light of this week’s announcement of the mega-merger among HJ Heinz and Kraft, coupled with the new interest in zero-based budgeting techniques, we felt it was timely to provide a brief tutorial on the process.

A Google search can yield ample content and perspectives on this process.

In definition, zero-based budgeting (ZBB) is essentially a financial-driven process where budgetary resources are set to zero every year and must be justified for the new budget period. It was a process originally conceived in the seventies in an era where organizational  bloat among large corporations was rather common. Instead of referencing the previous year’s budget, the slate starts over with managers having to justify their business assumptions and required expenditures for the upcoming period, as if they were a new business or support function. Every budget is viewed from a fresh perspective and evaluated and approved based on relevance to overall corporate goals and expected outcomes.

In context it is rather important to note that ZBB is often a financial-driven process and can be undertaken and applied within companies or organizations that are required to considerably reduce costs and improve profits. As some are now pointing out, that is why it is garnering increased interest in among large consumer product goods producers.

It is rather important that organizations understand the pros and cons of this process. In our effort to do so, we are sharing our perspectives. We certainly encourage our readers to add their perspectives and experiences in the Comments section associated with this posting so that many can benefit.

Pros of ZBB:

  • A mechanism that facilitates much higher levels of cost reduction than traditional budgeting methods.
  • Relate costs to the specific mission and purpose of an organization at a given time.
  • Garner much more detailed understanding of an individual organization’s role and purpose and that organization’s staffing and resource levels.
  • Weed out duplication, ineffective and/or counterproductive activities.
  • Uncover additional opportunities for cost synergies.
  • Provide a means for prioritizing spending cuts
  • Some would argue that it diffuses an entitlement mentality by requiring detailed justification.

Cons of ZBB:

  • Clearly ZBB consumes a tremendous amount of time and organizational energy. Some would argue it can take up the bulk of organizational time, constantly having to justify and re-justify efforts.
  • In many cases, ZBB can stifle bottom-up or supplier based product or process innovation, since there is little time or resource for such efforts.
  • Consensus is difficult and often painful.
  • The impact to employee morale can be substantial, not only in the dimension of perceived perks, but in individual value and promotional opportunities.
  • Pits individual organizations in competition with one another.
  • Cuts can be taken to an extreme.
  • There can be a loss of focus to new, emerging or undiscovered opportunities among business, industry or new markets.
  • Needs to be implemented very carefully and skillfully.

 

Now at this point, you may have discerned that this analyst and consultant may have biases towards the cons of ZBB.  Contrary to the past, many industries and businesses have undertaken initiatives grounded in Six-Sigma, Just-in-Time or Lean Manufacturing methods. Thus, a lot of bloat or excess has already been analyzed and addressed. Some might argue whether these efforts were ultimately positive or detracted from business goal fulfillment or the overall reduction of costs.  Others would argue that the above methods did not effectively address organizational overhead or layering. I believe that on the whole, they were successful.

In my career, I have found that ZBB methods must be carefully and methodically conducted in the light of a well understood mission and clearly articulated strategic roadmap. Talent recruitment, skills development and ongoing career opportunities must not be sacrificed by the process. ZBB can often bring foreword a “survivor” mentality where political skills outweigh either proven years of experience or sacrifice the required leaders of tomorrow. ZBB can sometimes be a panacea for wholesale human resource shifts. The process can further serve as a radical change to supplier relationship and collaboration practices.

The difference today is that certain private equity investment firms such as 3G Capital are setting a different, or perhaps more acute standard.

We now invite our readers to weigh in.  Share your pro and con perspectives

Bob Ferrari

 


Breaking News: H.J. Heinz and Kraft Foods Mega-Merger Portend Additional Tremors Across CPG Supply Chains

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This morning, financial headlines reveal the rather stunning but not unexpected news that H.J. Heinz will merge with Kraft Foods Group in a combined public company that will be named Kraft Heinz Company. According to The Wall Street Journal, this deal will likely top $40 billion in valuation with the combined entity having revenues of approximately $28 billion. It would create what is expected to be the world’s fifth largest food and beverage company featuring many well-known consumer brands.

From the lens of this blog, this development reinforces a clear message to other traditional consumer product goods supply chains that business-as-usual is no longer acceptable, and that further industry changes and developments are inevitable.

This Heinz-Kraft deal is backed by infamous private equity firm 3G Capital Partners, and the financing of Warren Buffet’s Berkshire Hathaway, which are each contributing $5 billion in financing. The terms call for Heinz shareholders to hold 51 percent stake in the combined company while Kraft shareholders will hold a 49 percent stake. Once more, existing Kraft shareholders will receive a special, albeit hefty cash dividend of $16.50 per share representing a 27 percent premium over yesterday’s closing stock price.

Management of the combined company will consist of Alex Behring, current chairmen and managing partner at 3G Capital, as the new chairmen, and Bernardo Hees, current CEO of Heinz, assuming the CEO role. John Cahill, the relatively new chairmen and CEO of Kraft will assume the vice-chairmen roleCahill assumed the Kraft CEO role in late December with a mandate to speed-up business change, after Kraft reported flat annual sales and declining profitability. Indeed, in a mere 3 months, business change has occurred and will accelerate. As has been the case with prior 3G Capital actions, the combined company’s management focus will solely be that of 3G.

In its briefing to Wall Street analysts, 3G Capital executives indicated that the strategic intent for the combined company is to leverage product innovation and international reach.  However, cost-trimming is indeed part of the agenda with $1.5 billion or above in potential cost synergies being identified as likely opportunities.

Readers may well recall 3G’s prior track record with its prior acquisitions of AB In-Bev, Burger King and H.J. Heinz.  The firm actively practices a zero-based budgeting approach and every single year, 3G managed firms have to justify their cost and resource needs. In the situation of Heinz, the original goal of $600 million in cost savings amounted to near $1 billion in savings. Expenses were aggressively cut and production facilities were soon closed. Thousands of jobs have been shed among all of 3G’s prior acquisitions. In a Supply Chain Matters January commentary we echoed UK blogger David Weaver’s commentary on supplier bullying tactics occurring in Europe that specifically named 3G Capital managed companies such as AB In-Bev and Heinz’s practices for delaying payments to suppliers in some cases up to four months.

Once this latest mega-deal is consummated 3G will likely place an emphasis for expanding current well-known North American Kraft food brands to more global offerings among emerging markets while shedding other considered non-performing or non-strategic brands. Product innovation will indeed be the emphasis but more in the context of product formulation.  Have you tasted Heinz ketchup of late? From this author’s taste buds, it is far sweater and sugary in composition.

The irony here is that Kraft was once a food, beverage and snacks company with global aspirations.  Activist pressures precipitated the 2012 breakup of Kraft into two companies, Mondelez International and Kraft Foods Group. The declared strategic intent of the split was to create two smaller consumer products companies focused on different growth objectives, one being international snacks and convenience foods and the other, North American cheese and food brands Post split, Mondelez continues to struggle with sales and profitability growth after considerable cost cutting actions that impacted supply chain operations. An activist investor recently garnered a Mondelez board seat.

In a September 2013 Supply Chain Matters commentary related to Kraft’s supply chain profile at that time of the split, we outlined the significant business process and systems challenges that the Kraft supply chain team inherited.  We were tremendously impressed with the leadership of its integrated supply chain team at the time, as well as its direction, but now, more change can be anticipated. That indeed is the initial takeaway from today’s mega-merger announcement.

Our Supply Chain Matters Predictions for Global Supply in 2015 called for continued CPG industry turbulence because consumers are demanding healthy choices in foods and our shunning traditional brands that emphasize processed foods. Compounding this trend has been activist investors seeking accelerated shorter-term shareholder value, along with the shadow of 3G Capital and its track record of wholesale cost-cutting. The announced Heinz-Kraft deal obviously sends yet another troubling message to the consumer products sector, namely that financial engineering is a more preferable method of approach vs. continuous improvement.

Expect and anticipate more industry change to occur in 2015 and beyond. The emphasis is now focused on product innovation, doing more with less and market agility.

Stay tuned.

Bob Ferrari

© 2015 The Ferrari Consulting and Research Group LLC and the Supply Chain Matters blog. All rights reserved.


FedEx Impresses Wall Street with Positive Fiscal Third Quarter Results

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It seems as though the U.S. west coast port disruption as well as the recent holiday period provided positive benefits for some global carriers. Earlier this week FedEx reported rather rosy fiscal third-quarter financial results reporting a 53 percent surge in earnings as a result of a highly successful holiday shipping season as well as significantly lower fuel costs.

Total reported revenues were up 4 percent to $11.8 billion and operating income nearly doubled from the year-earlier period. Total profit for the quarter increased to $580 million, 53 percent higher than year earlier period.

In briefing analysts, executives pointed to reduced costs as a significant contributor to earnings growth.  Higher volumes across all transportation segments and improved yields at FedEx Ground and FedEx Freight were reported as key drivers of operating results.

According to its recent quarterly filing, average per-gallon fuel costs for ground vehicles have dropped from $3.69 per gallon in fiscal Q1 to $2.71 in the latest quarter.  Similarly, average FedEx per gallon costs for jet fuel have dropped from $3.08 per gallon in fiscal Q1 to $2.07 per gallon in the latest quarter. A significant restructuring undertaken in the largest segment Air Express division resulted in the buyout of 3600 employees while fleet modernizing and route optimizations contributed to reduced costs.

Further noted was that the January introduction of dimensional pricing has already provided positive financial benefits with average revenue per package increasing 3 percent from the combination of base rate increases and new pricing. One important statistic shared by FedEx CEO Fred Smith was that about 85 percent of shipments from the top three online e-commerce shippers average less than 5 pounds in weight.  That, by our lens is another indication of the magnitude of change implied by dimensional pricing on carriers and eventually on online shopping practices.

FedEx’s Freight division nearly doubled operating income from the year earlier period.

Executives additionally forecasted revenue and earnings growth to continue into the fourth quarter of 2015, driven by ongoing improvements in the results of all transportation segments.

So while FedEx impresses Wall Street, is the same perception shared by shippers large and small, as well as industry supply chains?


Global Currency Movements Causing More Widespread Industry Supply Chain Concerns

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Today’s front page headline article of The Wall Street Journal, Weaker Euro Ripples Around the World, reflects far deepening foreign currency headwinds for producers whose supply chain costs and operations are weighted in U.S. dollars.  For senior supply chain, procurement and sales and operations planning (S&OP) process leaders, it is further compelling evidence that existing supply chain cost and product sourcing strategies will come under enormous scrutiny and pressures in the weeks and months to come.

Supply Chain Matters has already called reader attention to recent corporate quarterly financial results reflecting substantial impacts to earnings as a result of the strengthening U.S. dollar against major foreign currencies.  B2C and consumer product goods companies are especially impacted, but so are many other industries as well. The headwinds are strong and concerning.

To cite but a few examples, Procter & Gamble recently reported a 31 percent drop in profit as the stronger U.S. dollar diluted the effects of a modest 2 percent organic sales growth. Foreign exchange pressures had the effect of reducing net sales by a significant 5 percentage points. Mondelez International recently reported that foreign currency headwinds delivered a $149 million hit to its operating income in its prior quarter, in spite of recently rising prices across the board. Conversely, globally diverse CPG firm Nestle was able to sustain a 4 percent organic sales growth in that company’s first-half.

The European Central Bank (ECB) has embarked on its own form of quantitative easing, similar to what the United States embarked on after the severe global economic crisis that began in 2008-2009. The ECB is prepared to print upwards of €1 trillion to buy the bonds or assets of various Eurozone countries to boost their economies and keep European interest rates low. The immediate result is that value of the Euro against the U.S. dollar reportedly has declined by more than a fifth since June, and has now reached its lowest point since 2003. That is obviously good news for European manufacturers and service providers, as well as other foreign based producers not pegged to U.S. dollar costs. This situation is expected to continue for many more months.

Companies whose supply chain and operational costs as well as product pricing is anchored in U.S. dollars now face considerable financial headwinds, motivating some U.S. based firms to quickly raise prices within foreign markets.  Many U.S. based manufacturers have upwards of half of existing revenues stemming from export markets.

The compounding effect is added costs and potentially lower export sales as foreign based manufacturers take advantage of a pricing advantage within their export markets. According to the WSJ, business leaders, economists and policy makers are becoming convinced that the Euro’s drop is helping to turn the tide in Europe’s favor. There is further concern that the U.S. Federal Reserve will have to ultimately raise interest rates as well.

For procurement, supply chain and sales and operations planning process leaders, the current financial challenge to the business requires that various planning scenarios and subsequent options be developed to ascertain ways and means to reduce costs or mitigate currency impacts in cost of goods sold (COGS) or in back-up sourcing strategies that are anchored in other than the US dollar.  Teams need to able to assess various options to meet quickly and considerably changing sales and product margin goals. Without such plans and subsequent supply chain actions, previous cost and productivity savings efforts can be neutralized.

As to how long this current challenge continues it very much an individual industry or corporate decision. One thing is clear, however.  This is a period where analytical and data-driven decision-making capabilities will prove to be rather important.

Bob Ferrari

© 2015 The Ferrari Consulting and Research Group LLC and the Supply Chain Matters blog.  All rights reserved.


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