Consumer products industry outlook
INSIGHT ARTICLE |
Key takeaways from the winter 2020 consumer products industry outlook
- Digital transformation and leveraging e-commerce will make a big impact in retail and other consumer products sectors.
- The labor market will continue to have a significant impact on the retail and restaurant ecosystems.
- Cost pressures resulting from the increased labor costs likely means consumers could see higher prices.
- Consumers demand healthier plants and proteins, while healthier snacking increasingly replaces full meals.
- Controversial plant-based ingredients face increasing scrutiny.
- Embracing innovation could be costly for fashion businesses.
- The middle market faces key challenges integrating digital, in-store experiences.
- Beauty and personal care is likely more resilient during a slowing economy.
From customer pressure for the latest and greatest online or in-store experience to healthier and more socially responsible products, consumer companies face myriad challenges in 2020. Against the backdrop of a volatile trade war that could affect their supply chains and ultimately, squeeze margins to the overall economic slowdown, retailers, restaurants, fashion and health-and-beauty companies are seeking ways to shore up their operations, become more nimble and protect the bottom line.
The year ahead in the retail ecosystem will be affected by many of the same trends that shaped 2019. While not likely to reach the pace seen in 2019, retail sales will continue to grow in 2020, with a continuation of the trend toward new and expanding sales channels. Margin compression will be in the spotlight throughout the year as retailers tackle labor challenges, tariffs and other cost pressures.
Election year sentiment and retail sales growth
In all recent election years, there is a demonstrated pattern of consistency of retail sales growth in the early part of the year as the political landscape sets up and polls begin to roll out. The decline in retail sales growth in both 2008 and 2012 were likely due to a combination of the election year impact to sentiment, as well as other macroeconomic factors. Heading into 2020, there are a number of macroeconomic headwinds that have the potential to have a similar impact to sentiment and ultimately, retail sales. With continued strength in the labor market, retail sales growth will likely remain stable in the early part of 2020. As we progress further into the year, how the trade dispute with China progresses, as well as how the presidential election plays out, will have the largest impact on consumer sentiment and retail sales.
Digital transformation to continue in 2020
While there may be some deceleration in economic growth and retail sales in 2020, the pace of change will continue to accelerate. Nonstore retail sales growth through the third quarter of 2019 was nearly 15%. Many are quick to point out that retail sales across all retailers, which includes both nonstore as well as omnichannel retailers, still represent only approximately 10% of all retail sales, and they are correct. However, a closer look at the data highlights the fact that some sectors, such as shoe stores, have online sales growing at a faster pace, while others, such as sporting goods, are lagging behind. Retailers with a strong digital strategy in 2020 can take advantage of the consumer preference for a seamless omnichannel experience, especially in those sectors with online sales that are outpacing the rest of the industry.
The continuously evolving retail landscape is more than just a one directional shift from brick and mortar to online sales. Many digitally native brands continue to open brick and mortar locations in an effort to strengthen their brand and to offer customers a seamless experience across all channels. According to a study published by Retail Dive, digitally native brands will open 850 stores in the next five years. However, retailers are trending toward smaller footprints with storefronts under 5,000 square feet representing over half of the leased retail in 2019. While malls across America will continue to see store closings, lifestyle centers and flexible retail spaces will be the home to many of these omnichannel retailers.
This trend will certainly continue in 2020, and it highlights how important a digital strategy is to the future success of all retailers. In fact, in RSM’s recent survey on digital transformation, nearly half of all CEOs cited a digital strategy as the single most important strategic priority.
Prioritizing digital strategy
Most retail leaders place digital investments among most important strategic priorities; nearly half of CEOs most often view digital as single most important strategic priority
The labor market will continue to have a significant impact on the retail ecosystem in 2020. With unemployment dropping as low as 3.5%, it’s possible that the economy hit a cyclical low for unemployment in 2019. However, the number of unemployed persons remains at historic lows and wages remain strong. According to the Bureau of Labor statistics, the largest age demographic represented in the retail ecosystem is individuals ages 24-35 years old. In that demographic, wages have continued to grow at a rapid pace through both 2018 and 2019.
Strong wages have a dual impact on the retail sector. The additional income promotes continued retail spending from one of the industry’s key age groups.
At the same time, it results in increased costs for retailers. Retail will undoubtedly continue along its digital transformation journey, which can help alleviate some of the labor challenges. However, labor will still remain one of the largest operating expenses in the ecosystem in 2020.
LIKE THE RETAIL SECTOR, THE FOOD SERVICE INDUSTRY HOPES TO CAPITALIZE ON WHAT HAS BEEN A RESILIENT CONSUMER HEADING INTO 2020.
Like the retail sector, the food service industry hopes to capitalize on what has been a resilient consumer heading into 2020. How well operators manage rising labor costs, reduced foot traffic and changing customer preferences will separate the winners from the losers in the restaurant ecosystem, especially in the middle market.
Rising labor costs
The restaurant sector will focus on the challenges of the same labor environment we see in the retail ecosystem. The greater focus in the food service sector will be the margin impact of rising labor costs. Minimum wage continues to rise across the country and operators or franchisors, like McDonald's, are also incurring increased benefits costs as they try to compete for scarce resources. Larger multiunit operators may be able to lean on technology to help mitigate the margin impact and reduce reliance on human capital. Middle market operators will need to look for similar opportunities in order to remain competitive with slowing foot traffic and compressed margins in the year ahead.
The impact of a rising minimum wage goes well beyond minimum wage staff. According to Harris’s Hospitality & Food Service Wage Inflation Survey, 82% of restaurant operators gave wage increases to their nonminimum wage workforce in order to maintain an appropriate pay gap.
Restaurant traffic and sales
Cost pressures resulting from the increased labor costs likely mean that consumers will continue to see higher prices in 2020 as operators raise prices in an effort to mitigate the margin impact. The combination of higher prices, a decline in consumer sentiment, and the increased ease and popularity of free grocery delivery will make it more attractive for consumers to eat at home rather than out. Larger grocery chains are not stopping at delivering unprepared groceries. Kroger announced in December 2019 that it will start Kroger Delivery Kitchen, which will prepare meals made from scratch and deliver them right to a customer’s door. All of these factors point to a continued decline in overall foot traffic in 2020.
Digital transformation: Not just a retail phenomenon
Opportunity does exist for restaurant operators to compete for customers, especially those that have a strong digital strategy and can cater to changing customer preferences. The recent trend has favored to-go orders over dine-in orders. Technology will continue to play a critical role in to-go restaurant orders in 2020, as more and more customers default to mobile devices for ordering.
The significance of the digital evolution in the restaurant sectors doesn’t stop with online ordering. The gig economy continued its push into the food service sector in 2019. Third-party delivery allows customers to order food on their handheld device and have it delivered anywhere, and just about any time.
Millennial and Gen Z consumers live life on the move and rely heavily on their mobile devices to help them keep pace. To accommodate, the food delivery trend has evolved to locations other than home. Many gyms offer separate space within the building to allow their customers to have food delivered just in time to replenish their energy storages after a workout.
Those operators that can adapt to changing customer habits and tackle the margin challenges associated with third-party delivery in 2020 have the best opportunity to improve same-store sales growth, especially in the fast casual space.
FOOD AND BEVERAGE
Consumer tastes and preferences are constantly changing and food and beverage companies need to develop innovative products and strategies to grow in 2020. Consumers continue to be health conscious and craving all things natural. It is significantly changing how and what they eat.
Plants and proteins
Plant-based items are growing in the food and beverage industry. Sales of plantbased beverages made from soy, almond, oat and palm have grown significantly over the last 10 years. In light of the recent bankruptcy of Dean Foods due in part to increased demand for plant-based milk, it is anticipated that plant-based protein products will experience similar growth. Growing consumer demand for healthier protein alternatives as well as more environmentally friendly choices has plant-based meats showing up in many fast food chains and grocery stores. According to Nielsen, U.S. retail meat sales dropped 0.4% while plant-based meat sales grew 8%. The consumer acceptance of plant-based meats is encouraging innovation to cell-based meat products produced in labs. Cell-based meat products will have to overcome high production costs and consumers' willingness to try the alternative to be competitive, but the sustainability is attractive, especially to areas with large populations.
This has caught the attention of the beef industry who is now trying to decelerate the growth of both plant- and cell-based products by suggesting legislation on the definition of “meat” and questioning the overall safety of the new products. The Food and Drug Administration and U.S. Department of Agriculture have agreed to regulate cell-based products conjointly.
Snacking replaces meals
In a recent study conducted by The Harris Poll, Mondelez International released its “State of Snacking” report. According to the report, 59% of adults prefer snacking to meals because snacks are convenient and can be low in fat and sugar. Snack food manufacturers are focusing on healthier options to meet consumer demands for more nutritious selections. The plant-based trend is entering the snack bar market with increased vegan varieties. Natural ingredients and transparent packaging in bagged snacks is also taking over market share. While the overall trend favors a healthy snack, there is also a contingent of adults that still enjoy the occasional indulgent snack as well as cookies and treats that have a nostalgic spin. According to the Wall Street Journal, there are a host of “snackgrammers” who regularly post on social media about new and yet-to-be released cookies and candy, providing manufacturers viral publicity. Overall, food and beverage manufacturers will need to review formulations and ingredients to meet consumer demands and increase market share.
Controversial plant-based ingredients face increasing scrutiny
As margins are shrinking, food and beverage manufacturers are trying to take advantage of consumers’ increased interest in CBD as a natural health aid. Cannabidiol or CBD is the nonpsychoactive component of marijuana and hemp that many believe reduces pain and anxiety. Many food and beverage manufacturers are contemplating or already including CBD in their products, and it is estimated that revenues will continue to increase as CBD-infused products will not only be sold at legal dispensaries, but will also make their way to larger grocery and retail chains. Still the FDA remains hesitant. At the end of November, the FDA released a statement listing several potential health risks, concerns over unsafe manufacturing practices and deceptive marketing to consumers regarding the overall benefits of CBD. Regardless, consumer interest continues to grow in this area as do opportunities to gain revenue in an untapped market.
FASHION, BEAUTY AND HOME FURNISHINGS
Heading into 2020, businesses in the fashion, beauty and home furnishings sectors will feel initial margin pressures despite relief on Chinese imports from what’s being called Phase One of a trade deal between the United States and China. Most Chinese imports within the sector are still subjected to tariffs ranging from 7.5% to 25%. The burden and uncertainty of the tariffs have been somewhat offset by the strong U.S. economy. However, while consumer spending remains strong, consumer confidence showed signs of attrition in 2019. If the rate of wage growth and consumer sentiment continues to erode in 2020, leaders in the sectors will need to look toward innovation to maintain profitability.
Embracing innovation costly for fashion businesses
Consumers are increasingly concerned with the values of the companies they purchase from (58% of Gen Zs are more likely to buy from brands that back a good cause), in addition to demanding value when making purchasing decisions (52% of Gen Zs compare the retail prices of competitors). Apparel companies, particularly those that have embraced the fast fashion trend, have faced increased public scrutiny for poor human rights and sustainability practices throughout their supply chain. Consumers are now expecting higher quality, ethically sourced fabrics, and are often looking to purchase products from companies that are passionate about the environment. A focus on quality and sustainability has also led to emerging business models, including the sale of recycled and used clothing, as well as the rental of special occasion and everyday fashion pieces. As these new channels rise in popularity, fashion companies will need to be open to new ways to fit into the consumers’ evolving closets.
Middle market faces key challenge integrating digital, in-store experiences
EXPERIENCES The integration of digital and in-store shopping experiences will also be costly. Legacy fashion companies risk losing out on valuable customer data by neglecting to invest in digital direct-to-consumer platforms, while their digitally native counterparts look for the right physical footprint for consumers to interact with their products. While innovation creates the opportunity for smaller disruptors as well as established brands, middle market companies may not be as nimble or have the capital or economies of scale to effectively implement new products and technologies in light of the uncertain global economic headwinds.
Beauty, personal care more resilient during slowing economy
While beauty and personal care businesses face the same consumer demands and need for innovation, the sector itself is more resilient to deteriorating economic conditions and is poised to embrace innovation. During previous economic downturns, the decline in consumer spending on beauty products was less severe than drop-offs in spending on other categories. Some categories within the sector, such as cosmetics and skin care, are expected to see five-year growth rates above 15% according to Euromonitor. While the sector is dominated by a handful of large players, smaller private equity-backed organizations may be better suited to take advantage of trends in innovation.
E-COMMERCE IS AN AREA OF INNOVATION WHERE MIDDLE MARKET HOME FURNISHING BUSINESSES CAN ALSO CONTINUE TO CAPITALIZE, AS CONSUMERS ARE GROWING MORE AND MORE COMFORTABLE WITH MAKING HOME PRODUCT PURCHASES ONLINE.
Opportunity awaits with private equity, venture capital backing
Similar to their packaged food peers, large industry leaders may be restricted by dividend and debt obligations, which may prevent them from investing in new products with a natural and sustainable focus, and refreshing their established brands. This could be an opportunity for middle market companies with private equity and venture capital backing to fill the innovation void. Additionally, the large industry leaders may look toward smaller acquisitions as beauty multiples continue to rise. The consumers’ willingness to purchase beauty products online creates another opportunity for middle market beauty brands willing to invest in their direct-to-consumer businesses. Marketing in this sector has historically been dominated by advertising and in-store product testers; however, this shift allows for the emergence of digitally native companies to control their brand experience and scale up quickly, without having to give margin share to retailers or develop their own physical footprint.
Capitalizing on e-commerce
E-commerce is an area of innovation where middle market home furnishing businesses can also continue to capitalize, as consumers are growing more and more comfortable with making home product purchases online. The trend allows middle market organizations, without the physical footprint of established home furnishing retailers, to reach customers across the country and abroad. Strategic partnerships with digital retailers like Wayfair and Amazon have made it easier for midsized companies to reach a broad range of consumers. Advancements in 5G networks and augmented reality coupled with eased return policies should only accelerate the digital growth in 2020.
see the full industry outlook report
Get data-driven economic insights and sector outlooks provided by RSM senior analysts on a variety of middle market industries.