Greedflation, profiteering, price gouging – are these variations of a theme increasingly levelled at packaged food manufacturers and grocery retailers fair or even warranted?

Or groundless accusations reflecting a lack of understanding of the economic landscape in the industry and ignorance about the dynamics of the food-producing system as costs rise – albeit with some signs inflation is starting to ease by varying degrees, country-by-country.

The sabre-rattling from multiple quarters has undoubtedly emanated from the pressure on consumers, particularly the less affluent, suffering under the weight of pandemic-induced price increases. The war in Ukraine has exacerbated inflationary pressures, inflating energy and fuel costs, and now rising interest rates are driving up mortgages and rents.

The global food industry has resounded an emphatic no to the claims of jacking up prices to influence profits and margins, or keeping prices artificially high when commodity and oil costs began to retreat.

Prices of some inputs have yet to return to the pre-pandemic levels of 2019, while food manufacturers say they have yet to fully recover the higher costs through pricing, while some are locked into more expensive hedging contracts for commodities and packaging. Nestlé, for instance, indicated on 27 July sugar and cocoa prices are 35% more costly than last year’s average.

“We find no clear evidence of profiteering and consider the accusations unreasonable,” Warren Ackerman, the head of Barclays’ European consumer staples team, concluded in support of food producers and grocery retailers in a lengthy analysis published on 4 July.

“Of course, perception often matters as much as reality, and companies involved in this space – especially the retailers, given their more obviously customer-facing position – have to be conscious of potential reputational damage,” Ackerman wrote in conjunction with colleague Patrick Folan.

Commodity lag

Similarly, many food manufacturers and grocers are publicly listed and accountable to shareholders. For any business seeking to survive a protracted inflationary cycle, it’s only sensible to raise prices. But, of course, food is an essential consumable and so producers and retailers tend to attract scrutiny.

“It can be a six- or even 12-month process for higher commodity, packaging and energy costs to move through the value chain,” Cyrille Filott, a global strategist for consumer foods, packaging and logistics at Dutch investment bank Rabobank, suggests. “People see natural gas and corn prices are lower than a year ago but there’s still a catch-up effect and not all your higher prices have been passed through.

“Natural gas is still at a higher level and some of these commodities like wheat are still at a higher level than pre-conflict. Yes, they’re lower than let’s say nine months ago, but they’re higher than 18 months ago.”

Revenues of global food manufacturers might have benefited from higher prices but volumes and margins on the operating side have suffered and, in some cases, bottom-line profits have soured, too, in the struggle to recover rising input costs.

Gross margins might also have increased in some cases, but not all. Unilever, for example, noted in its first-half results commentary on 25 July that its gross margin – undisclosed – remains 270 basis points below the level it was in the opening six months of 2019.

Overheads also have to be factored in down the P&L ledger. A notable input here has been labour, which has been in shortage during and after the pandemic, and, workers have won wage increases that raise operating costs in the short and longer term.

“In general, it’s a very competitive market – you’ve got a lot of companies that sell branded food and you've got private label. If you’re a branded food company, you’ve got to be very cognisant of the price that you charge for your products,” John Baumgartner, a US-based managing director at Japanese investment bank Mizuho Securities, says. “For the vast majority of these companies, their profit margins are below what they were before inflation.”

In the UK, Barclays compared food manufacturers’ gross margins in 2019 – post-pandemic – to those in 2022 and identified a 320 basis-point drop, on average. EBIT margins, meanwhile, fell 210 points.

It is difficult, in our view, to argue that the manufacturers have been profiteering.

Warren Ackerman and Patrick Folan, Barclays

On 20 July, the UK Competition and Markets Authority (CMA) concluded a two-month-long assessment that exonerated the country’s grocers from charges of profiteering.

At Barclays, Ackerman and Folan concluded: “Whether we look at gross margin percentage, EBIT margin percentage or absolute EBIT, it is difficult, in our view, to argue that the manufacturers have been profiteering.

“Pricing is starting to roll over now and we expect pricing to be back to normalised levels in 2024, which might include European pricing back to deflation. After decades of dealing with deflation in Europe, we think it’s hard to argue that a few years of inflation due to record commodity prices is profiteering.

“In real terms, food prices have come down significantly over the last few decades, helped by aggressive competition from hard discounters and the ongoing threat of de-listings.”

Graeme Pitkethly, Unilever’s finance chief, said in July nutrition and ice cream, the core elements of the CPG giant’s food portfolio, “remain at an earlier stage in the inflationary cycle due to their ingredient profiles” and would require further pricing.

Retail spotlight

Terms like greedflation and profiteering have become buzzwords but, when it comes to the food industry, arguably lacking in substantive evidence to support the accusations. And how do you quantify such claims and in what context?

As the Barclays’ analysts noted, the “debate on the topic has been especially intense in the UK”, particularly centred on the grocery retailers.

“Claims of profiteering seem particularly focused on the UK food retailers, but our analysis shows that Tesco, Sainsbury and M&S have seen little or no absolute profit growth and have actually seen significant margin erosion between 2019 and 2022,” they wrote.

In March, Sharon Graham, the general secretary of the trade union Unite, claimed the “British public are hostage to greedflation” as she urged the government to challenge “corporate greed”.

Unite’s own research, revealed in a 28 March report, pointed to a 97% combined increase in profits for Tesco, Sainsbury and Asda in 2021 to £3.2bn ($4.1bn), “nearly double pre-pandemic levels”.

Nevertheless, the CMA’s review of Tesco, Asda, Morrisons and Sainsbury, as well as the discounters Aldi and Lidl, found operating profits fell 41.5% on average across those businesses, albeit for 2022-23. And operating profit margins dropped from 3.2% to 1.8%.

“Sinister” attack

Are the accusations of profiteering merely a symptom of misunderstanding or even just flippant remarks?

“I think it’s much more serious and sinister than that,” Clive Black, a director at UK investment company Shore Capital, says. “There are single-issue people that want to challenge the market economy and there are stupid people who just come out with nonsense.

“I think there is a total utter intellectual incapability on behalf of a lot of people. It’s not a nice thing to say, it’s not something that one wants to say, but it’s a reality.”

Black fights the fight for UK grocers, executives of which, including Sainsbury’s boss Simon Roberts and Tesco’s commercial director Gordon Gafa, found themselves defending their corner in front of a government committee in June.

“There is absolutely an anti-market motive in certain quarters,” Black suggests. “Tesco makes two billion pounds of profit, it makes a 5% return on capital and a 4% margin – that’s not ripping people off.”

Black references the remarks made by Sainsbury's Roberts in June, that “two-an-a-half years ago we were being lauded as people feeding the nation, and now, we're castigated as the people ripping people off and our profits have gone down in the last three years”.

Black emphasises the industry’s struggles to navigate the supply chain bottlenecks and the challenges in the current cost environment, notwithstanding the aftermath of Brexit.

The evidence of profiteering across the UK food industry, “is scant, and few and far between”, he argues.

“Has the government done nothing to help the public or industry manage expectations? No. In fact, it’s absolutely come down on the side of the public, and so you end up with these noisy people, often social-media savvy and all the rest of it, go out on a rant and use emotive terms about how disgraceful it is that XYZ is happening, and not thought for one moment about why have those prices gone up?

“The UK-EU policy, a pandemic that’s stuffed the economy from a labour perspective, a war in Russia, for which we are having to pay higher energy costs. Regulations that have to be complied with, from animal welfare to food safety through to health and safety through to environmental control. A lot of them constructs of government, then add all those things up. And, at the end of the day, margins tend to be flat to declining, not rising.”

Volume loss

Eight of the UK’s “top food manufacturers” – Associated British Foods, Hilton Food Group, Arla Foods, Unilever, Cranswick, Mondelez International, Bakkavor and Nestlé – were also singled out by Unite over their profits in 2021.

Rabobank’s Filott suggests the “general public tends to look at the absolute margins of retailers or the absolute profits”.

He adds, however: “The financial industry, of course, looks at percentage margins – the net profit percentage or the operating profit percentage – and those are coming down. That is where the distinction is, the general public tends to look at these big numbers, and perhaps understandably so, and say they are capturing so much money out of all of this.”

Meanwhile, many branded food manufacturers have been losing volumes through pricing as they, too, raise prices to fend off inflation.

“Food manufacturers, they keep pushing up prices, but at the same time they tend to be losing volume, they tend to be losing margin, and actually, their profits are going down?” Filott says.

“They have to push up prices still because of this lag effect. Many of the food companies are trying to figure out what the best trade-off is between margins and volumes because, if you increase prices too much, you will get a massive volume hit. But if you don’t increase your prices, efficiently, then you get a margin hit. So, what’s the optimum?”

Barclays’ analysts suggested “accusations of profiteering by food retailers and manufacturers are an emotive subject”, and an equally sensitive topic, too.

Only Nestlé and Unilever responded to Just Food’s requests for comment on the accusations of profiteering levelled at food manufacturers in general. Mondelez, General Mills and Kraft Heinz didn’t. Neither did Tesco, Sainsbury’s, Walmart or Kroger.

Nestlé, the world’s largest food company said via a spokesperson, before the first-half results announcement on 27 July: “We have worked to keep our products affordable and accessible and adjusted prices carefully and responsibly.

“We have been doing everything we can to mitigate the impact of inflation on consumers by finding efficiency gains and cost-savings and have absorbed increasing costs to the tune of billions of dollars. This is reflected in a significant decline of our gross profit margin for two consecutive years and a decrease in our underlying trading operating profit margin.”

Pricing hesitance

Packaged food manufacturers have consistently insisted through the inflationary cycle, on many a conference call, that they have passed on price increases to consumers only as a last resort.

Other options include cutting back on advertising and marketing spending, peeling back investment in plants and equipment, trimming the number of items, or SKUs, they produce and reducing ranges – offering, for instance, one pack size instead of three. And, of course, shrinkflation – pricing at the same level but with deflated content, part of strategies on around what some companies call their price-pack architecture.

Unilever provided a response, via a spokesperson, before the Marmite maker announced first-half results on 25 July. The numbers showed volumes in its two food units – nutrition and ice cream – were down 1.9% and 5.2%, respectively, amid pricing of 12.6% and 11.5%.

However, Unilever didn’t directly address the requested comment on profiteering.

“We’re very mindful of the pressure that price increases put on consumers, which is why we always look for efficiencies in our business before raising prices and have passed on just 75% of the cost pressure we’ve felt.

“Pricing decisions are always taken very carefully and there are several levers we can pull before increasing list prices, which is a last resort, including reducing promotional activity and offering a selection of products that have higher margins. It’s also why our shareholders have seen an impact to our margins while we’ve faced the highest input-cost inflation in over a decade.”

Despite the pressures over the last 18 to 24 months, in a slew of financial results over the past week, companies such as Nestlé, Danone and Unilever have suggested input costs are coming down, enabling price increases to be paired back. Nevertheless, risks remain.

Unilever’s CFO Pitkethly said last week: “We’ve continued to face cost-of-goods inflation, particularly in nutrition and in our ice cream, requiring further pricing which has resulted in some short-term turnover losses. Whilst most price agreements have been reached, there are some ongoing negotiations in Europe that have resulted in pockets of lost turnover in a couple of markets.”

Rabobank’s Filott prefers to take a “nuanced” view on whether the accusations around profiteering are warranted: “In general, yes, but there may be exceptions.”

Baumgartner at Mizuho says the evidence is there that costs are rising, in the dairy case for example.

“You can bellyache about the price of milk in the grocery store but you can go right to the USDA data on the government website and see what the farm price of milk actually is – and it’s up 30 or 40%,” he says.

“I think in some cases, there’s probably a lack of awareness of just the cost of the supply chain – raw materials, like wheat, grains and cooking oil are going up, labour costs are going up, transportation costs are going up and you’ve got shortages of workers – US wages are up 5-6% year on year.

“Even if some commodity costs are down, your labour is still up mid-single digits, you have to cover that somehow.”

“New norm”

It might be argued, too, the average consumer has to wake up to the prospect of paying more for what they eat if they want access to safe and sustainably produced food that’s friendly on the planet.

And what might the unusually hot weather events playing out in parts of Europe, the US and Asia, and the yet-to-be quantified effects of the El Niño weather pattern, mean for harvests and farm-to-fork costs?

“One big unknown for the second half of the year is the possible impact of El Niño on agricultural commodity prices. This could scupper the thesis that food prices simply roll over from here and it’s possible that it could cause a second wave of food-price inflation,” the Barclays’ analysts wrote.

Deeper down, they added: “To us, the cause of higher inflation is still elevated costs for farmers, many of whom are still loss-making or making only marginal returns post the spike in costs in the wake of the Russia/Ukraine war.

“With the longer-term risk of climate change and the shorter-term risk of El Niño, we probably need to accept that there will be much more volatility in commodity prices than there has been in the past and that consumers may need to accept higher costs for their food.”

Black and Filott agree.

“There's been a structural change in the cost base. If people want animals that are brought up decently, if they want clean water and cleaner air, if they want workers to be safe in factories and distribution centres, if they want reliable food supplies and safe food supplies, they have to pay more for their food,” Black argues.

Filott suggests many food inputs remain above pre-Covid levels, and “a few parts of the cost base are structurally higher” than they were even pre-conflict in Ukraine.

We might also be in a reset phase when it comes to supermarket prices.

“Are they going to actively say, well, this is going to be cheaper, or are they going to think well, because the consumer is used to these price levels, let’s keep it that way. Then some of the margin recapture comes into play. Even if all the cost of the commodities goes back to the levels of pre-Covid, which I don't expect to be honest – it could happen – labour costs have still structurally changed,” Filott says.

Baumgartner reawakens a phrase that became common during the pandemic in various contexts “a new norm”.

He explains, based on his own observations using the US as an example: “If you look at the history of inflation, you don’t really have periods of steady deflation. Ever since the US left the gold standard, it’s been this constant cycle of inflation, maybe at different rates, some periods maybe you have disinflation, but for the most part, it’s just been a straight trendline higher.

“For you to get deflation, you would have to have massive bumper crops. And if you look at the tension between yields and population growth, it just feels like the price of money has been reset now with all this like flagrant borrowing, handouts and subsidies during Covid.

“I have to imagine that unless you see a 20% contraction in the money supply, you’re probably not going to see a material contraction in prices. This is the new norm now – you hope at some point, wages increase to meet the new price level of these products.”