Saving Jell-O

If some were still looking for signs that the powerplay between brands and consumers is shifting, they got what they were looking for last week. Kraft Heinz, the owner of major brands we all know and have been buying for years, like Oscar Mayer, Jell-O, Kool-Aid, and Kraft’s Mac & Cheese, announced that it is writing off $15.4 billion worth of intangible assets. Essentially, buyers overpaid for Kraft a few years ago. As a result, the company lost over $12.6 billion U.S. this past fiscal year. To make matters worse, the company is now subject to a federal securities investigation. This essentially means that the company’s management expects its portfolio of brands to generate 25% less in future earnings than it did just a few months ago. That’s a big drop in sales, and represents a lot of food.

Just to put this into our own Canadian perspective, over $12.6 billion U.S. worth of food at wholesale would equate to about one fifth, or 20%, of all the food bought at retail in Canada over the year. Several reports hint at the decline of the center section of the supermarket, or the fact that consumers are avoiding major national brands. As for Kraft Heinz, most of their products are traditionally sold in areas of the food store now desperate for foot traffic. It is not a secret to anyone that much of the business that traditionally went to food multinationals is now going elsewhere. Most companies like General Mills, ConAgra, Hershey, and Mondelez have adapted by either acquiring health food product manufacturers or changing the products they produce, to make them more natural. But the focus at Kraft Heinz has been on other issues.

Over the past decade or so, Brazilian giant 3G Capital has deployed ruthless cost-cutting measures to raise profits at Anheuser-Busch InBev, Burger King, Tim Horton’s and Kraft Heinz, using a method called zero-based budgeting, which requires that each expenditure be justified every single year, as opposed to the traditional approach of adding a couple of percentage points to the previous year’s line items. It was lethal and drastic, but it was working, that is, up until now. Since the Kraft Heinz merger in 2015, most of the profits have come from cost-cutting measures.

But what’s more spectacular is what happened to the Kraft Heinz marketing budget. The company is literally spending $1b less in advertising per year compared to 2015. Kraft Heinz, controlled by Brazil’s 3G Capital and Warren Buffett’s Berkshire Hathaway, has been combatting steep transportation and commodity costs. But some shareholders believe less marketing has led to brand equity erosion. Over the last two years, Kraft Heinz shares have dropped by 60%, and the brand it is now worth barely half of what it is was worth in 2015, when Kraft and Heinz were united.

What the company may be realizing is that cutting costs without prejudice is no longer enough. The company will need to make a case for its brands, once again by either using more marketing or by reformulating recipes. Regardless, Kraft Heinz will need to spend more, which is counterintuitive to the current company’s management mantra. And the inflationary environment is not helping either. Amazon, with Whole Foods, Walmart, Costco and Target in the U.S. are all keeping prices of processed foods at historically low levels. Not much room, then, for Kraft Heinz to increase prices to support margins. And given that grocers have all the data, they are calling the shots as they are putting more pressure on vendors like Kraft Heinz. Private labels are also a priority for many grocers, which will make access to shelf space a larger issue. Case and point: Sales of Costco’s private label, Kirkland, have reached $39b last year, in a little over 700 retail outlets. That would be 70% more than Kraft Heinz’s total sales during the same period.

As a backdrop to all of this, however, is the moralistic view of public health regulators these days. Public regulators, including Health Canada, are becoming more vocal, and more explicit about the perils of processed foods. This is becoming a nightmare for a company like Kraft Heinz as it will need to navigate through a sea of growing public skepticism affecting their brands.

For decades, these behemoth companies have made millions by selling us convenient products which have become part of our way of life. But what consumers are seeking now, especially the younger demographic, is something different. Brands don’t mean much unless the company serves a larger, holistic purpose for the environment, health, and other societal issues important to consumers. So Kraft Heinz and many other processed food giants are in trouble, unless they can figure something out.

But what is most shocking is the lack of foresight from Warren Buffett himself. He was involved in the creation of the company and never saw this coming. The Kraft-Heinz experiment really shows that the billionaire’s investment philosophy is vulnerable to sudden shifts in consumer food trends. If Buffett got it wrong, there is likely not much hope for the rest of us. The North American marketplace’s unpredictability is the new normal.

SYLVAIN CHARLEBOIS.

Professor in Food Distribution and Policy, Faculties of Management and Agriculture, Dalhousie University.

Senior Director, Agri-Food Analytics Lab, Dalhousie University.