News Analysis: Unilever feels price pressure bite

A profits warning by the FMCG giant has marked an ignominious end to its Path to Growth scheme.

Patrick Cescau, Unilever's new chairman, gave his first briefing to the City last week. It wasn't the best start to his tenure at the helm of Britain's biggest consumer goods titan, taking as it did the form of a profits warning. Cescau revealed that the firm would be dipping into profits to fund a higher advertising and promotional spend, partly because fierce price competition in European supermarkets has eroded margins.

Full-year earnings per share are now predicted to be in the low single digits, rather than the low double digits, which was the original target for 2004, the final year of Unilever's five-year Path to Growth scheme implemented by Cescau's predecessor, Niall FitzGerald.

A day later, another City briefing shed some light on Unilever's situation.

Tesco chief executive Terry Leahy reported a 23% rise in pre-tax profits for the six months to August. Like-for-like sales grew by 8.3%, something Leahy attributed to the retailer's strategy of reducing prices by an average of £5m a week.

Unilever has had more problems than just the competitive nature of British supermarkets. Its traditionally strong Asian businesses have suffered from renewed efforts in the region by arch-rival Procter & Gamble, while the washed-out European summer did little for a company that sells ice cream.

But discounting in the aisles has been a particular headache for Unilever in continental Europe, where consumers have embraced 'hard discounter' retailers offering bargain-basement prices.

In the UK, the big four supermarkets are now also increasingly promoting themselves on a platform of cutting prices, with manufacturers, for the most part, financing these reductions.

Shrinking margins

Downward pressure on prices has become more marked recently as Tesco and Asda have responded to Morrisons' takeover of Safeway.

Verdict Research analyst Gavin Rothwell estimates that in the second quarter of this year, the food and grocery market deflated by 1.4% - the first time this has occurred in the 20 years that Verdict has been studying the market. Despite - perhaps because of - this drop in prices, total sales rose from £24.2bn to £25bn, as volume sales increased.

Although pressure on prices applies across all grocery categories, Unilever's household and personal care brands in Europe have felt it particularly keenly. Margins on brands such as Persil and Lynx have suffered, even if their market share is still healthy. Globally, Unilever expected prices to rise by 1% this year, but discounting has put paid to this.

The grocery retail market in the UK has almost returned to its state of the late-90s, when retailers used the strength of own-label products to dictate terms to manufacturers, according to Corporate Edge director Michael Levy.

'The answer then was that retailers could see it was in their interests to work with manufacturers to boost the long-term value of categories,' he says. 'But now it seems retailers have been unable to resist a return to competing on price.'

Levy adds that the strength and profitability of supermarkets' non-grocery lines (such as clothing and DVDs) has meant they can afford to reduce prices on food and household goods to attract consumers who then make higher-value impulse purchases.

The only way out of a discounting spiral is to build the profile of brands to convince consumers to pay extra. But a Unilever spokesman explains that while spending on marketing as a percentage of sales has risen from 13% in 1999 to its current level of 14.5%, it has not kept pace with its competitors, meaning its brands have a lower 'share of voice'.

Part of the problem can be attributed to a reduction of support for 'secondary' brands over the past few years. 'The idea was that the money be diverted into the "power" brands, but in many cases that didn't happen,' says a Unilever insider.

Bolstering budgets

To strengthen brands, money must now be taken from short-term profits - stunted though they might be - to boost budgets. This investment has already begun in the UK. Comfort's adspend for the year to the end of June was £12m - up from £9.7m the previous year, according to ACNielsen; Persil has been handed £24m - a 50% year-on-year increase.

Unilever is also spending a higher proportion of its marketing budget on in-store promotions. This can be attributed in part to the growing demands of retailers, but also to a recognition that purchasing decisions are often made in the aisles rather than in front of the TV.

While price pressure may be bad, Unilever should be able to market its way out of this trough. After all, Procter & Gamble and Reckitt Benckiser are fighting the same battle and doing rather better: the latter, which sells household products in many of the same regions as Unilever, is predicting an altogether more impressive 18% increase in net profits this year.

DATA FILE

Unilever financial results

2003 2002 2001 2000

Net profit (pounds bn) 2.8 2.1 1.7 1.1

Net profit margin (%) 6.5 4.4 3.3 2.2

Earnings per share growth (%) 11.0 21.0 12.2 10.5

Turnover (pounds bn) 42.7 48.3 51.5 47.6

Source: Unilever

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