The landscape for the consumer staples sector has become more complex with the advent of technology and e-commerce. The key asset for consumer staples companies is their brands. Before the e-commerce era, the strategy was straightforward: the higher the exposure and visibility of a brand relative to its market share, the more the brand’s market share would rise. However, this model is no longer applicable.
The acceleration of e-commerce and the pandemic crisis
e-commerce has disrupted the traditional brick and mortar, business model. It has impacted and damaged consumer goods companies’ conventional route to market, supermarket and “big box” retailers. Consequently, supermarkets are pressured to employ excessive price promotions and discounts which eventually harmed staples’ brand equity. The reaction chain comes from the “big box” retailers which are under constraint from convenience and discount stores to online retailers. “Big box” retailers are forced to turn their suppliers to generate profit, not the consumers. This phenomenon tends to result in product line proliferation. According to Credit Suisse HOLT Data, retailers hardly cover their cost of capital with about 90% of the profit mainly captured by branded staples producers throughout their entire value chain. For the staples’ brand owner, the advent of e-commerce offers a great opportunity for a new method to deal with brand awareness. It pushes consumer staples’ firms to be more customer-centric in the approach to the market. As per PWC Data Research, 80% of the prospective clients go online before committing to any decision.
Consumer product companies become more tech
Staples’ companies recently accelerated their investments in their digital capabilities and their supply chains in anticipation of a prolonged COVID-19 crisis to meet rising demand from the online sales channel. We see an opportunity for Staples’ companies to realign their strategy to key factors such as green efforts, digitalisation of society and supply chains agility.
All in all, we expect consumer goods sector to reach pre-COVID-19 levels in the end of the last quarter of 2021. Still, with a considerable resurgence of infections, the sector could face periodical downturn with plants and manufacturing lines to close for health and safety reasons. Nonetheless, these measures might not significantly affect sales and returns. The consensus of a second wave is high according to health experts which view the pandemic near its peak in some regions in the world, although, the threat remains intact unless a vaccine or an effective treatment is widely available, which is not likely to materialise at least until the second quarter of 2021.
Weakening Australian economy and slow rebound
The Australian September Quarter National Accounts reveals a weak economy across households and businesses with consumption and investment expenditure reporting 1.2% and -4.8% over the last 12-month. Australian exports remain strong even with a recent high in geopolitical risk with the Sino-American trade tensions. However, the Reserve Bank of Australia assumes a high level of uncertainty. A second outbreak and imposed restrictions can affect household and business confidence. With this pessimistic outlook, GDP may contract by 6% over the year and resume growth by around 5% in 2021. Hence, the employment rate may rise to 10% over the end of 2020 with a gradual decline to 7% in 2021. Inflation is likely to stay below 2% for some time. On a positive note, over the past quarter of 2020, it has become apparent that the effect of the pandemic on the economy with imposed activities restrictions was less than assumed from the first-quarter projection. However, continuous weak demand is likely to persist. With the assumption of resumed lockdown and border closure, we can expect a moderate GDP growth toward the end of the second quarter of 2021. GDP growth is accounted predominantly by household consumption due to contraction in much of the rest of the Australian economy.
Consumer goods growth depends on household consumption
The recovery in household consumption depends on a combination of the lift of restrictions and substantial income support. Household disposable income may remain steady with social assistance payments, policy measures and early withdrawals from superannuation accounts. Government aids contribute to support consumption. However, we can expect household income to decrease by the first half of 2021 due to the gradual withdrawal of government support combined with a high unemployment rate. Consumption may not regain its pre-COVID-19 level until the end of 2021, in line with unemployment rate projection and an average recovery in household income. Inflation is to remain relatively constant around the current level. Rent growth remains limited due to low population expansion and a weaker household income. Slow development of the economy may be offset, hence reducing supply growth. Consumer goods and demand for groceries could keep up for some time, while surge to food prices over recent years from an increase in international demand for meat and supply disruption may diminish. Retail prices will likely be related to exchange rate fluctuations, although it is uncertain to affect the retailer’s behaviour to reduce discounting given expected weaker household income and consumer spending.
Risk and uncertainties
Risks that might affect the consumer staples sector are uncertainties regarding the course of the COVID-19 crisis and how businesses and households react to that. A key factor to a systematic downside risk would be continuous cycles of infections and lockdowns, which weigh on economic and business confidence. Conversely, progress in vaccine and treatment, together with unprecedented fiscal and supportive monetary policy strengthen the economic recovery. Central banks’ policy decisions will define the path of the global economic recovery along with the pandemic outcome. Internationally, governments have displayed significant support to the household’s income during the initial phase of the crisis, which is likely to continue. On the geopolitical scene, tensions were already heightened before the pandemic and further increased since the global virus outbreak. Geopolitics key risks are the US/China trade and technology tensions spilling over into broader geopolitical threat between the two nations. Intensification of these geopolitical and domestic political tensions could disrupt the global economic recovery.
Economic stabilisation after unprecedented declines
The global economy displays early signs of improvement from its lowest level since the first quarter of the year. China emerges ahead of other nations due to its early shutdown and reopening, while global economic activities advance with a recovery in manufacturing. Major economies have reopened and moved past the recession cycle. However, retail activities and service-related industries remain well below pre-COVID-19 level. The global economy will likely endure tentative and uneven with a looming second wave virus outbreak.
Sector performance comparison
Consumer staples (ASX: IXI) slightly outperform by a tenth of a per cent the benchmark (ASX: STW ASX200) with a year-to-date +2.27% (as of November 6, 2020). However, Consumer staples lag healthcare (+3.55%), materials (+6.09%) and technology (+3.31%) sector. Since the beginning of the year, the consumer staples sector remains relatively stable throughout the year, during the March sell-off. Consumer staples are non-cyclical and provide safe exposure to the equity market during a recessionary environment. Consumer goods are usually defensive and tend to outperform during high systematic risk climates.
We can assume that the market is in the early recovery phase as the consumer staples sector trailing correlation with the benchmark is approaching 1. Consumer staples (ASX: IXI) evolve in a narrow horizontal channel since May this year after an impressive recovery from March sell-off. Strong support at the 76 level provides an opportunity for a buy entry. The 76 level coincides with the 38.2% Fibonacci extension and the base of the long-term ascending triangle which suggests a perfect inflexion point for further upside.
We can envision two scenarios: a break of the 76 key support level would trigger a downside leg to the 23.6% Fibonacci level that corresponds to July low in case of a risk-event or on a positive note, a re-test of the 79 resistance area and a breakout rally to 82 level and beyond.