Like most industries, the consumer industry has been strongly affected by the economic slowdown: the weighted-average annual TSR (Total Shareholder Return) for the period 2007 through 2011, 5.4 percent, is significantly below the industry’s long-term annual average of about 10 percent. However, averages can be deceptive. Many of the top ten TSR performers in the FOUR consumer sectors analyzed in our study—Fast-moving consumer goods (FMCG), Consumer Durables and Apparel, Retail, and Travel & Tourism—produced significantly better returns.
For example, the top ten performers across all four sectors achieved shareholder returns ranging from 7 to 61 percent during the five-year period from 2007 to 2011, and the averages for each sector’s top ten companies ranged from 15 to 26 percent.
When we analyzed the top ten value creators’ shareholder returns against THREE main dimensions of TSR—Sales Growth, Margin Change & Changes in Valuation Multiples—we found a wide spread around the average on each specific dimension. We also found that the top performers took many different routes to value creation. Some were substantially below average while others were significantly above average.
For senior executives, such wide variations can be frustrating because there does not appear to be a clear path to superior value creation. But the encouraging takeaway from our analysis is that the path to above-average TSR is not a fixed route available to only a few, select companies: all businesses can potentially produce above-average TSR. The best path for any individual company will depend on that company’s starting point, as defined by the economics of its business and its current valuation in the equity markets. In the end, each company has to chart its own course and develop its own value-creation strategy.
Fast-Moving Consumer Goods (FMCG) – Leading the Field with High-Margin Brands :FMCG was the highest-performing sector in the consumer space: it outpaced every other sector, from chemicals to telecommunications, achieving a weighted-average annual TSR of 8.6 percent.
The top ten companies produced dramatically better results (24 percent on average), outstripping the sector average by a factor of nearly three. High-margin, distinctive brands lie at the heart of this success, generating the returns and cash flow needed to boost TSR through cash payouts or by reinvesting in sales growth. Different companies took different routes.
Cash machines continue to deliver results. One recurring theme across the FMCG companies is their ability to generate more cash than they need to grow. In developed markets, where economic growth is sluggish and could slow even further, the top TSR performers used their surplus cash smartly to fuel superior returns in conjunction with modest sales growth. This cash machine approach was illustrated by companies such as British American Tobacco and Lorillard. Even in high-growth emerging markets, robust cash flows and increased payouts can be powerful levers, as demonstrated by AmBev.
These out-performers struck the right balance between growth and throwing off cash, either through above-average cash payouts or by using the cash to fund M&A. For example, Brasil Foods (BRF) carried out a transformational M&A that helped the company achieve the sixth-highest TSR in the FMCG space. BRF accomplished this through a mix of growth and improved margins despite multiple compression.
Growth engines reap the benefits of emerging markets. Unlike their developed-world peers, companies in emerging markets have enjoyed—and capitalized on—a relatively high-growth environment, particularly in the brand-conscious Asian markets. In fact, seven out of ten of the top TSR performers in FMCG are from emerging markets, highlighting the importance of growth for superior returns; for the sector as a whole, sales growth accounted for 60 percent of TSR. Some companies, such as Hengan International, Tingyi, and Kweichow Moutai, produced and sustained spectacular growth from 2007 through 2011. As a general rule, companies that are structurally more profitable are able to grow more rapidly than the average company in this sector.
The power of multiples. In both developing and industrialized markets, some companies earned superior shareholder returns through a combination of growth, cash generation, and expanding multiples, reflecting heightened expectations from investors. For example, higher multiples contributed significantly to the TSR of Femsa and Estée Lauder, among others.
Potential pitfalls for the unwary. While many companies produced impressive TSR performances given the circumstances, others lost their way. Companies that fail to grow, especially if they concede market share, are often severely punished by investors. In a branded market, any move toward lower-margin commoditization is also likely to produce a backlash. Another common problem is a “leaky” capital-allocation strategy, including poorly timed share buybacks, one-off dividends that are capitalized by shareholders, and M&A deals that fail to deliver on their promise, often due to weak post-merger integration.
Going forward. Maintaining and cultivating brands with consumer pull will continue to be crucial for success and to enable both growth and margin expansion, when done correctly. Emerging markets will also be important for growth. For multinationals, M&A will offer opportunities to access these markets, including new distribution channels, while local businesses will have to professionalize further to compete with these growth-hungry “outsiders.” In all cases, effective utilization of assets and strong free-cash-flow generation will be essential, especially if economic growth continues to slow down.
Consumer Durables & Apparel – Sharpening Business Models and Building Growth Platforms :
Consumer durables and apparel companies saw their weighted-average shareholder returns fall by 1.3 percent for the period 2007 through 2011. Nevertheless, the top ten players showed that above-average returns can be achieved, producing a weighted average annual TSR of 19 percent. Of course, the two types of business that make up this group—consumer durables and apparel—are quite different, and thus the challenges they face and the value-creation paths they have created are different as well.
Consumer durables become more efficient cash machines. Following the financial crisis, many top TSR companies in the consumer durables space introduced cathartic cost takeouts and margin improvements, striving to allocate capital to highest-value operations while bolstering the balance sheet and balancing a meaningful capital return to shareholders. Those companies, mainly in developed markets, have been confident in their ability to consistently deliver free cash flows, regardless of where in the cycle they are, and to use them to invest in new opportunities, including M&A. Tempur-Pedic International is a case in point. The company strengthened its core business and focused on innovation, a strategy that was enhanced through its acquisition of Sealy.
Generally, capital returns to shareholders are an important part of the TSR mix for developed-market out-performers. This strategy is likely to become even more important in the near to medium term because a low-growth environment will not hide inefficient or decretive capital deployment back into R&D or operations.
In emerging markets, companies such as the Indian watchmaker Titan Industries generally relied on growth to lift their TSR, while others, such as China’s white-goods giant Haier, combined growth and margin improvements. Whether or not the growth-oriented approaches are a sustainable source of TSR will depend on the economic outlook of these markets; current indicators suggest that they may not be.
Apparel establishes brand-focused growth platforms. The most successful apparel companies have generally been able to develop sustainable growth platforms that are built on three key ingredients: brands that resonate with consumers, designs creating or reflecting trends that cannot be matched by competitors, and continuous innovation.
Consequently, sales growth has contributed far more to TSR for the top performers than dividend yield. For example, both Burberry and Deckers Outdoor have continued their growth trajectory with five-year average annual sales growth of 17 percent and 35 percent, respectively. Nike also relied on growth, although multiple expansion played a nearly equal role in producing the company’s TSR.
Dividends and share redemptions were also more influential with regard to Nike’s final TSR than they were with regard to Burberry or Deckers. Fossil, in turn, grew both its sales and margins simultaneously to achieve superior TSR, delivering double-digit improvements in both measures year on year.
Going forward. Growth is likely to remain a major driver of above-average TSR in the near term. Successful companies will capitalize on the growth of increasingly affluent populations in emerging markets (assuming that income growth materializes). In addition, durable-goods companies that continue to identify attractive adjacencies for growth, while effectively managing their core asset-base and margin structures, will outperform. Success for apparel makers, on the other hand, will continue to depend on their ability to commercialize break-out brands and products that both reflect current trends and cultivate an emotional connection with consumers.
Retail – Attracting Consumers with Innovative Value Propositions :
Retailers are fighting major battles on two fronts. On one side, traditional models, such as big-box stores—and especially consumer electronics retailers and department stores—are increasingly being challenged by more-specialized competitors and nimble online rivals. On the other side, consumers, who have developed a keen eye for value and are becoming pickier about how and where they shop, are forsaking middle-market retailers in favor of trading down to value-focused stores or trading up to high-end retailers.
Yet despite these turbulent challenges, the weighted-average annual TSR for the retail sector was 6.1 percent. In contrast, the returns of the top ten TSR performers were more than four times higher on average, at 26 percent. More impressively, given the frosty economic climate, six of these out-performers generated double-digit sales growth. In fact, growth was the biggest contributor to shareholder value for the sector as a whole.
Significantly, companies that were able to deliver credibly sustainable growth were rewarded by investors with improved multiples—the second biggest contributor to TSR for the sector as a whole. Multiples for nine of the top ten retailers moved up. Conversely, many companies that lost investors’ confidence in their growth potential are trading at substantially lower multiples than in the past.
The Continuing Importance of Developed Markets. The TSR winners have a disproportionately high exposure to economically beleaguered developed markets, especially the U.S., underlining the importance of these markets for superior shareholder value. Six of the top ten retailers derive more than 50 percent of their sales from the U.S. (Note, however, that some effective companies may not appear in our sample only because they did not meet the criteria for ownership structure and size of retailers in developing markets.) While developing markets still have substantial potential, as consumers urbanize and disposable income grows, one of the key lessons from developed economies is the importance of innovation, particularly given consumers’ pursuit of value for money.
Enticing Consumers with Valued Innovations. Consumers continue to be focused on finding the goods they want at attractive prices. This is one explanation for the success of online retailers such as Amazon.com, which offers products more cheaply than brick-and-mortar rivals. But to attract and keep consumers, companies need to use innovative approaches. And the top TSR performers do this in different ways. For example, AutoZone delivers both affordable parts and value-add services to grow DIY auto repair, while Chipotle is changing expectations of what fast, casual dining can deliver, promoting new occasions to produce rapid sales growth. McDonald’s, in turn, is taking a two-pronged approach to value through a combination of Dollar Menu offerings and trade-up items using higher quality ingredients at relatively affordable price points relative to competitors.
Going Forward. While some innovative retailers will continue to generate strong growth in their respective markets and categories, a greater focus on improving margins and free cash flow is forecast to be required for achieving top-quartile TSR. The sluggish economic outlook, the growing share of online transactions, and a higher proportion of consumers seeking a distinct value or service offering will all drive the trend.
Travel & Tourism – Delivering Value via Targeted Growth and Effective Asset Utilization :
Of the four consumer sectors analyzed, travel and tourism produced the least impressive TSR results, with average shareholder returns falling by 3.4 percent over the five-year period. Impressively, however, the top ten value creators in travel and tourism averaged 15 percent TSR. Three main value-creation themes emerge from this sector.
Leveraging Emerging Markets to Drive Growth. Asia has become a major source of revenue growth for many companies as consumers in the region become more mobile and have greater disposable income. Companies that have capitalized on Asia’s increasing appetite for travel include AirAsia, China Southern Airlines, and China Eastern Airlines. At the same time, businesses are seizing the commercial opportunities offered by more relaxed gaming regulations. Companies that have aggressively invested in local options for gaming include Genting, Kangwon Land, and Wynn Resorts.
Strengthening Asset Productivity and Market Consolidation to Improve Margins.In developed markets, the top TSR airlines are increasing their utilization of assets while optimizing networks and allocating existing aircraft to the routes with the highest yields. For example, Alaska Airlines drove margin improvements and increased revenues through smart selection of routes and improved utilization of its fixed-asset base. Although no U.S.-network airlines have yet become top ten TSR performers, that situation could soon change. Most have made major strides through consolidation-oriented M&A, effective post-merger integration, and smart partnerships that enable them to compete and grow on the global playing field while generating improved returns.
Creating New Business Models with Technology. A new breed of companies is disrupting traditional distribution channels through scalable, IT-driven models that offer consumers better value and service while allowing providers to capture an attractive share of the revenue pool. For example, Price-line.com delivered the highest TSR of all 208 consumer companies studied—an impressive 60.7 percent—through a combination of rapid growth and margin expansion, a pattern it sustained during the five-year period. At the same time, Expedia followed a more measured path to TSR with moderate sales growth and effective use of buybacks, which led to an improved multiple that contributed to its 8.5 percent TSR.
Going Forward. Emerging markets are likely to continue to drive growth and enable TSR as long as consumer incomes keep growing. In addition, liberalized regulation of gaming companies may provide an additional boost in emerging markets. In developed markets, market consolidation and improved utilization of assets will remain key drivers of value creation. Airlines are also likely to continue to leverage partnerships to augment their global reach and realize growth from the increasing connections between developed and developing markets. Finally, new economy models will likely create fewer TSR opportunities as the evolution of digital travel distribution enters its mature stage.