What will it take for the consumer goods industry to turn its fortunes around? Once a leader in total shareholder returns (TSR), the industry has fallen from the top to the bottom quartile in TSR performance. This episode of the McKinsey on Consumer & Retail podcast examines the reasons for that decline—and what consumer packaged goods (CPG) companies can do about it.
The episode is excerpted from a webinar on “Rescuing the decade: A dual agenda for the consumer goods industry,” McKinsey’s latest article on the state of the global consumer goods industry. (This is the third edition of the article; the first was published in 2018, and the second in 2020.) It describes four megatrends that have reshaped the industry, recommends six moves for companies to make, and quantifies how big those moves need to be. The following is an edited transcript of the conversation between one of the article’s lead authors, McKinsey senior partner Jessica Moulton, and podcast host Monica Toriello. Subscribe to the podcast.
Monica Toriello: What was the impetus for writing this article? Why does the decade need “rescuing,” as you say?
Jessica Moulton: We started this research in 2018 because the industry had hit a rocky period—which had lasted for quite a few years at that point—during which many players struggled to grow after having had a really long period of outstanding performance, so we tried to understand the drivers. Then, of course, COVID hit, we had the period of inflation, and a lot of dynamics changed. Our new article looks at the dynamics five or six years later.
Monica Toriello: I’ll summarize those dynamics for our listeners. The very short version of the story is that, for decades, the consumer goods industry was an investor darling. Over the past ten years, top-line growth has faded away and CPG companies have done a lot of cost cutting. But investors want growth, so shareholder returns in CPG have dropped significantly. And you’ve identified four megatrends that have led to this reshaping of the P&L [profit and loss]. Talk about those megatrends.
Four megatrends
Jessica Moulton: The first and most important one is the overall macroeconomic slowdown. Population growth has been stagnating, and wealth expansion is slowing in both developed and developing markets. Developing markets are critical here because they have been 70 percent of the growth of the overall CPG industry over the past couple of decades.
China is a big part of that story. In the 2000s, China was contributing 30 percent of the growth of the industry overall. Going forward, we think that’s going to be more like 12 to 14 percent, which puts China in line with its population size—so it’s no longer in this outsize-growth role. That’s a real challenge for the industry. Everybody’s growth models were built on the assumption of a benign underlying market, and now macroeconomic figures are much trickier.
We have historically seen that when markets are in a fast rate of wealth expansion and development, the CPG industry benefits, because it’s one of the first categories that consumers spend on. But after a certain level of wealth—about $22,000 in household income—consumers start spending their additional wealth on more expensive categories, and the rate of growth of the CPG industry really slows. Premiumization becomes more important because it becomes all about getting consumers excited and earning their willingness to pay for premium products.
Monica Toriello: We’ll dig more into that later, but for now tell us about the second, third, and fourth megatrends.
Jessica Moulton: The second megatrend is consumer fragmentation, driven mostly by the shift to digital. At this point, 75 percent of all advertising spend is digital, which is a sea change for the mass-market brand-building model that CPGs used to use. While many have been doing a lot to change and evolve their models, they haven’t done as much as some other industries have, so CPG is behind in its use of digital channels. That makes it harder for them to get their brands in front of consumers.
There are a number of other challenges that are generating a more fragmented landscape. Among those is the growing consumer interest in “better for you” and “better for the planet.” There’s also the question of how prescription weight-loss drugs will affect the market over time. It’s far from certain, but it’s very possible that they’ll have a significant impact on consumer goods players as well.
That brings us to the third megatrend, which is the mass-merchant squeeze. Supermarkets have been the most important trading partner for most consumer goods players for a long time, but overall they have been losing share: supermarkets have lost about five percentage points of share over the last ten years. Particularly in Europe, this share loss has resulted in supermarkets struggling with their own profitability, which has made them tougher trading partners. They’re pushing down prices, becoming tougher negotiators, using more buying alliances, and investing in private label quality and promotion, particularly as an antidote to the discounters. And they’re ratcheting up their supply chain and fulfillment expectations of suppliers. Importantly, they’re often going through rounds of cost reduction, resulting in reduced head-office capability—which means that their merchant teams often have less depth, which can make them tougher collaborators when it comes to bringing your best innovation to market as a CPG.
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Finally, the fourth megatrend is the issue of escalating and volatile costs. We’re clearly still in an inflationary period; it’s lessening but not reversing. And we have ongoing rates of crop failure and other sources of cost driven by climate change. We expect that costs will remain elevated above 2019 levels for some time.
Monica Toriello: One of the things that people probably didn’t expect to hear as a large-scale trend is the rise of prescription weight-loss drugs—specifically, GLP-1 [glucagon-like peptide-1] medications—and their impact on the CPG industry. Where do you see that going?
Jessica Moulton: It’s very early days, but we know that something like 40 percent of US consumers—the figure is the same in the UK, and in some European countries it’s a little bit lower—are projected to be type 2 diabetic or obese by 2030. Of that 40 percent, we expect that a good number will be interested in these drugs because, so far, the tolerance levels appear high and they’ve been used by diabetic patients for a long time, so they have a track record.
Now, there’s plenty that still needs to be investigated, and we won’t have certainty like we do for statins for some time—but, assuming the safety profile continues to look good and health insurance providers start to pick up the costs, it’s very possible that the adoption rates could be 4 or 5 percent of the population in some markets. The overall impact on the CPG industry could be something like a 1 percent reduction in sales, which is quite a big number. So we think it’s a trend to track very carefully. It’s important to understand that the impact could be that high so that boardrooms can really think about this topic and their response to it.
Monica Toriello: The fourth trend you identified is escalating costs. Do you foresee costs coming down as inflation goes down?
Jessica Moulton: That’s difficult to predict, but we expect that costs will remain about 20 to 40 percent higher than 2019 levels for quite a few years. There are individual commodities, which are likely to be affected by climate change over time. Most growing regions will shift, and that will affect most categories, but those that have concentrated growing areas will be disproportionately affected. We think that this issue of escalating and volatile costs is going to be with the industry for a long time.
Do brands still matter?
Monica Toriello: Against that backdrop, where is brand loyalty these days? Talk a little bit about how consumers are feeling about big brands versus small brands.
Jessica Moulton: Brands are absolutely alive and well. We did some consumer research for this work and wondered if we would see that younger consumers are less brand loving than older consumers. And the answer is, they are not: brands are very important to consumers. However, consumers are fragmenting in their preferences, so every brand needs to be renewing itself for younger consumers’ minds. And many consumers are increasingly valuing the brand equity of the grocer that they trust; they confer a lot of value on that, and as a result, they see a lot of private labels as being of good quality.
You asked about small brands, which we have been tracking very closely. In 2018, it was a big part of the CPG story because small brands were disproportionately capturing growth. That was spurred by a couple of things. One was consumers’ interest, particularly younger consumers’ interest, in “special” and “different” and “authentic”—brands they felt were really “for them.” A second reason was retailer pull. A lot of retailers were looking to help small brands be successful, maybe giving them special dispensation for supply chain compliance and having programs in place to cultivate them. There was also a lot of investor support, in the form of private equity and venture capital, helping these small brands reach their bull’s-eye consumer through digital marketing, sampling in store, and other marketing spend.
What happened is that during the pandemic, retailer interest and investor support really stepped back. There still is underlying consumer demand for special, different, authentic—but the other forms of support are much less in place today, so we see small brands doing a lot less well in aggregate. You could say that “the explosion of small” is paused. It may come back; many large CPGs have been thinking a lot about this and are looking to own the explosion of small in their categories, so this is an interesting space that will be an important one to watch.
The dual agenda
Monica Toriello: How should companies stay abreast of the evolution of these megatrends? Are there tools or techniques that are particularly effective for monitoring or anticipating trends?
Jessica Moulton: We think every executive team should be dedicating time on their annual calendar of executive meetings to review these trends and think about their trend exposure. It’s important to think about which trends are strengthening for you and your business. If there’s a trend that is either reducing in strength for you or holding steady, then you have already figured out how to adapt to it. But if you expect it may accelerate, then you need to lean into more strategic change. The next question to ask is, “What should we do about this trend within the next 100 days?” When setting up strategy in periods of uncertainty, getting concrete about the next period is critical.
Monica Toriello: What should CPG companies be thinking about? What should they be doing to address this reshaping of the P&L?
Jessica Moulton: We think this external environment calls for action on six topics. None of these are rocket science—your business is already acting on many of these—but we think the difference lies in how big your moves need to be. For each of these topics, we’ve researched what benchmark leaders need to hit in order to really move the needle on these topics.
It’s also important to ground ourselves in how much change the industry needs to take on. To return to top-quartile TSR performance, the industry overall will need to grow at 4 to 5 percent. But the underlying market growth and analysts’ expectations for the industry are only 3 to 4 percent. So industry leaders need to find another 100 or 200 basis points’ worth of growth. Players also need to figure out how to reduce cost when a lot has already been done.
So, the six topics can be thought of as “portfolio shaping” ones—we call that Agenda 1—and “performance driving” ones, which are about getting your execution machine revved up even further, and we call that Agenda 2.
On Agenda 1, we think about two topics. The first is portfolio reshaping, which is about getting more exposed to high-growth categories and geographies through resource allocation, and also how you use M&A and divestments to refresh your portfolio. And when we go to this idea of “how big is big”—what’s the benchmark that you need to hit—we think that leaders need to reallocate 5 percent of their resources each year. That might sound like a small number, but it’s actually very difficult and typically requires more change than businesses are naturally set up to do, because, normally, last year’s resource allocation is the most important determiner of next year’s. This instead calls for taking funding away from lower-ROI areas and reconcentrating it on higher ones, to the tune of 5 percent reallocation annually.
A second benchmark is to have 20 to 30 percent of your revenue coming from new sources—new categories or geographies—every decade. That’s the level of refresh that we see winners doing historically. Maybe of note: M&A is not as value creating in CPG as it is in some other industries. It is still unquestionably value creating, but it’s not the runaway success that it is in some other industries.
The second portfolio topic is the idea of getting serious about a new business. Most CPGs have not done this historically, partially because they haven’t had to, and partially because when you have a ROIC as high as this industry’s—25 to 27 percent—it can be hard to find another business that is accretive. But it is really important to look at the ecosystems and services that surround your core categories and think about a third of your revenue coming from this new business, or “second leg,” in five to ten years.
That brings us to Agenda 2: performance. The first topic here is “truly scaling commercial excellence,” and the benchmark is to be taking share in 80 percent or more of your revenue. The next topic is “the marketing revolution.” We are all talking about the ways in which generative AI [gen AI] can empower marketers to drive more relevant marketing and a much greater level of personalization so that digital is at least 75 percent of their marketing spend and half their digital marketing spend is gen AI-assisted. It’s a very interesting, fast-changing space.
The next topic is “owning the premiumization and category expansion in your categories”—having two times your fair share when it comes to the premium segment in your categories and new category growth. And the final topic is “reinventing productivity.” All players need to be thinking about their next 250 basis points of cost reduction, which is going to require more automation and more demand management than in the past, because a lot of the more obvious levers have already been pulled.
Of course, there are some important enablers of these six moves. Chief among them is digital transformation. Other enablers are a future-fit operating model, which is generally more end-to-end decision making, and a culture that excites talent and is good at change.
Next steps for business leaders
Monica Toriello: Have you found that CPG companies need to attract and retain nontraditional talent and skills to be able to successfully execute these moves? Or is it possible to do all of this with the talent they already have in-house?
Jessica Moulton: The area that probably most requires new talent is digital transformation. Players need to be developing agile pods, with a range of capabilities needed to drive change. Building software is, of course, always best when it’s highly iterative, with lots of feedback loops from end users and from the field, and that requires an agile squad—a full complement of software development roles, led by a product manager who ideally comes from the business side but has had real training on digital change. So I’d say digital transformation is the area that requires the most new-skill development.
But on some of these topics, CPGs need to rediscover areas of strength that they used to have. I would particularly point to innovation—bringing back innovation best practices if they’ve perhaps stepped away from them a bit.
Monica Toriello: Company leaders might look at the six moves and wonder, “Where do I get started? How do I prioritize?” How can a company decide which of the six moves to pursue, and how should it determine next steps?
Jessica Moulton: We think it’s useful for executive teams to assess where they are today: “Compared to this benchmark, where would you say you stand today? Which of these would move the needle the most for you?” We are not saying that, to lead, a CPG needs to excel at all of these topics. Instead, it needs to make good progress, be in good shape, and then it needs to pick a few where it’s really going to stand out in front.
Of course, there are important differences by geography, channel, and category—which makes it hard to generalize on which of these actions will move the needle the most. But I would flag scaling commercial excellence as a must-do.
Monica Toriello: What does scaling commercial excellence look like? Is it mostly about revenue growth management [RGM]? What are some on-the-ground things that companies have done to scale commercial excellence?
Jessica Moulton: RGM is probably the number-one lever. It is a fantastic competitive advantage. But it is often a multiyear journey to get to excellence, and some companies can see long-term promise, but they see the path from here to there as being too challenging. Some good news there is that gen AI is changing this space and making it easier for companies to adopt RGM practices at the local level. So it’ll be interesting to see how it develops over the next couple of years, with some players managing to leapfrog as a result of those new capabilities.
Monica Toriello: That’s one thing we haven’t talked about at length: gen AI. What are the biggest use cases for gen AI—whether in marketing or elsewhere—for CPG companies?
Jessica Moulton: There are some exciting use cases in marketing. The first one is accessing your knowledge estate. This is already a proven use case that a number of players are operating at scale: they’re taking all the consumer insight work they’ve done and the marketing briefs they’ve written, and letting gen AI access them to do things like write a first draft of a creative agency brief in a fraction of the time it would have taken to generate originally.
Another exciting use case is modular content creation, where gen AI can create a whole lot of tailored marketing, which can assist a marketeer to operate at much greater scale and get messaging that is much more relevant for particular audiences. But many players have not yet figured out some of the IP [intellectual property] challenges and risks, so we don’t see this in scaled operations so far.
And then, of course, there are a lot of interesting gen AI use cases that enable automation, where we see gen AI being used to identify optimization opportunities in manufacturing settings and make it easier for technicians to prioritize their work. There are a host of other automation capabilities being piloted but not scaled just yet. But that’s the next step.
Monica Toriello: Any final thoughts, Jess, before we say goodbye to our audience?
Jessica Moulton: We think it’s a really exciting time for the industry. We’re excited about all the players who are leaning into these six big moves, and we’re standing by to continue the conversation with anyone who would like to pick up on any of these themes, or related ones.
