The consumer goods industry was an investor darling for decades, delivering a reliable formula of more than 5 percent growth at healthy, stable margins. Over the past ten years, however, top-line growth has faded away. While consumer packaged goods (CPGs) have searched for it, they have ended up scrambling to generate the earnings growth they need through cost reduction.
But investors love a growth story. Industry shareholder returns have dropped from the top to the bottom quartile. Now, as inflation slows, it is time to graduate from this shaky position. Winners will rally around an ambitious change agenda that includes both Agenda 1, portfolio (using mergers, acquisitions and divestitures [M&D&A] to improve growth exposure; reallocating resources to invest in growth and push down the cost to serve elsewhere; and entering entirely new businesses to establish a “second leg”) and Agenda 2, performance (commercial capability builds to propel share steal, market expansion, and premiumization; fundamentally higher productivity through demand reset and automation). It’s a full-change agenda, and leaders are moving.
From outperforming to underperforming
For more than three decades (1980–2012), the CPG industry epitomized high performance. In the first decade of this century (Era 1 in Exhibit 1), publicly listed CPGs generated average annual revenue growth of 9 percent, with constant margins, and 22 percent ROIC. CPGs enjoyed smooth sailing, ranking as a top four industry. CPGs owed these results to their long-standing formula for creating value in a steadily expanding market: build strong brands, expand with growing markets and channels, and manage costs to generate more brand-building wherewithal. Investors loved the stability of the formula.
But the formula lost its power in the 2010s as population growth slowed, grocers consolidated, and consumer attention and preferences fragmented. Industry revenue grew just 2 percent per year from 2012–19 (Era 2). While CPGs searched for growth, they made their earnings growth on cost reduction.
Then came the pandemic (Era 3) and inflation (Era 4), which drove down margins for the first time and led to volume contraction. Today, consumers are spending more and buying less: in 2023, Americans spent 10 percent more on groceries but bought 4 percent fewer items.
The collective result of this scrambling for growth while making it up on cost is a new profit-and-loss (P&L) shape. ROIC excluding goodwill is at 27 percent, up 400 basis points from the end of Era 1, and SG&A is down 250 basis points. It is a real restructuring (Exhibit 2). But investors' belief in the sector’s ability to generate sustainable performance has plummeted. All CPG subsectors are feeling the pain. CPG companies, therefore, face two urgent needs: renewing growth when opportunities are limited and reducing costs when companies have already done a lot.
Obstacles to resuscitating industry performance
So what happened to top-line growth? In short, the traditional CPG formula has been buffeted by four megatrends, which are set to strengthen in the decade ahead (Exhibit 3):
- macroeconomic slowdown, consumer fragmentation, and the mass-merchant squeeze, which have collectively undone CPG’s traditional approach to brand building and growing with mass merchants
- escalating and volatile costs, which have challenged traditional cost-management approaches
Macroeconomic slowdown
Favorable macroeconomics were once the industry’s most important tailwind. Now they are a headwind. Population growth is stagnating at 0.9 percent per annum, and developing-market wealth expansion has dropped almost 50 percent since the late 20th century. Global consumer goods industry growth was 5 percent at the turn of the century. In recent years, it has dropped to almost zero.
Looking forward, our forecasting indicates that consumer goods growth will rebound to an inflation-adjusted 3–5 percent, which is half of what it was in Era 1. CPGs now need to work much harder to generate growth, and share steal has become more important. Further, CPGs need to update where they look for growth.
Going forward, underlying market growth will be:
- 50 percent lower than it was in the 2000s
- more than 75 percent derived from developing markets, but will be more geographically dispersed than Era 1, with China stepping back from contributing more than 30 percent of global growth to 14 percent
- more reliant on the United States, which will contribute 12 percent of industry growth, compared with 7 percent in the pre-COVID-19 years—and, for most, will contribute a disproportionate amount of profits
- more reliant on premiumization, to spur wealthy consumers to spend more: past the household income threshold of about $22,000, consumers favor higher-ticket items as they become wealthier, and a dollar of extra spending on groceries shrinks to 75 cents
The CPG industry is accustomed to the momentum of strong, reliable underlying market growth. That period is behind us. Now, the ability to identify sustainable growth pockets and make the most of them is critical and may be a source of sustainable competitive advantage for those who excel at it.
Consumer fragmentation
It is well established that digital has fragmented consumers’ attention. It has also fragmented their preferences—for instance, by allowing smaller brands to get themselves in front of their bull’s-eye consumers. CPG innovation and marketing functions have responded by evolving, but they need to be revolutionizing.
Digital now represents 75 percent of all advertising spend, from nothing just 20 years ago. But CPG advertising is only 50 percent digital. Furthermore, CPGs’ strong financial incentives to stay focused on core equities and mass products has opened up the space for small brands to capture the premium segment and to lead on “better for you” positionings while private labels take the value segment. For these and many other reasons, CPG brands are losing relevance. In 2002, Interbrand’s global ranking of brands included eight CPG brands in the top 50. In 2022, only two made it.
Before the pandemic, large brands’ loss of market share was a big story. From 2016–19, US small brands (those with less than $150 million in revenue) generated 50 percent of value growth despite representing only 11 percent of 2016 revenues, mostly at premium price points. Now, the cost-of-living crisis has caused 80 percent of consumers to pull back on spend, and the rise in interest rates has led many privately funded small brands to reduce their marketing budgets.
The explosion of small brands has effectively paused, but the underlying drivers of consumer preferences for “special, different, and authentic” remain in place, so the next era will be critical. Will large CPGs own the growth in their categories through innovation and relevant marketing? Or will their P&L pressures keep them focused on yesterday’s winning formula, allowing small companies to own this growth?
Looking ahead, it is also important to track the potential role of prescription GLP-1 weight-loss medications such as Mounjaro, Wegovy, Zepbound, and similar treatments. In the United States, they are relevant to the 40 percent of consumers who will classify as diabetic or obese by 2030. We estimate that 4–5 percent of the US population may take these drugs by then. Given that consumers reduce their calorie intake by 30–40 percent when on these drugs, the US food sector could contract by 1–2 percent. This is an important disruption to consider.
Mass-merchant squeeze
Supermarkets have always played a fundamental role in the CPG formula for success. But these critical trading partners have lost five percentage points of market share over the past decade. The share winners include e-commerce in the United States and the United Kingdom, discounters across Europe, and warehouse formats in Latin America.
As a result, many grocers, particularly those in developed markets outside of the United States, are experiencing low growth and strong pressure on profitability. Many find their ROIC close to or below their cost of capital. Grocers, especially those in Europe, are responding in ways that make them more challenging trading partners. For example, they are cutting prices, becoming tougher negotiators, investing in private label, and demanding more supply chain excellence. They are also reducing their head offices, often shrinking the commercial teams that collaborate with CPG players.
These moves make the trade structure in the United States more attractive than in Europe. Today, average nonpromoted selling prices in the United States for matched items are about 40 percent higher than in Europe. And private label’s share is 25 percent of sales in European markets, compared with 14 percent in the United States. Grocers’ private label is a particular dynamic to watch: more than half of consumers in major Western markets (including the United States) say that they consider the quality of private-label products to be as good as branded products.
Escalating and volatile costs
CPG companies will continue to pay more for the materials they transform into products. Commodity prices are forecasted to remain elevated, at 20–40 percent above 2019 levels, at least until 2025. Food commodities will be challenged further, as climate change effects build. Out of 21 major food commodities analyzed, 85 percent are expected to face moderate or substantial increases in drought exposure, which is likely to lead to lower crop yields and more frequent crop failures. Several crops are in an acute position, in which they face both substantially increasing drought risk and highly concentrated footprints, including almonds, olives, hops, and cocoa. These changes in climate are expected to increase volatility in supply and price, necessitating shifts in where crops are grown and the need for further climate-resilient growing practices.
Expectations for performance improvement
The next five years will be challenging for the industry. To return to top-quartile performance across industries, CPGs will, on average, need to deliver 4–5 percent annual top-line growth at 15–16 percent EBITA (Exhibit 4). This growth rate is 100–200 basis points higher than both analyst consensus and our underlying market growth projections and this level of EBITA delivery is 100–200 basis points above current levels. In short, it’s a tall order.
So how can CPGs recapture the crown of an investor darling and rescue the decade? They need to rally around an ambitious change agenda on both portfolio (Agenda 1) and performance (Agenda 2).
Agenda 1 is about getting more exposed to profitable growth by having the foresight to see growth pockets and then truly focusing resources—financial, talent, management attention—on those pockets, using sizable M&A&D to get there faster. Additionally, CPGs need to identify the breakout businesses that can become their next S-curve. A growing list of pioneers are making these pivots in categories that lend themselves to premium segments, ecosystems, and growth markets.
Agenda 2 is about outperforming wherever you play. CPGs need to become the best executors in their categories, driving relentless commercial excellence and embedding best-practice tools and capabilities in more than 75 percent of revenues. Most CPGs need to truly reinvent their brand building and marketing more broadly. Media disruption continues, and since CPGs don’t have easy access to first-party data, CPG marketers must work harder to build new capabilities, particularly in insights and content creation.
Meanwhile, all CPGs need to keep pushing productivity across their value chains. Productivity was the insurance policy that saved the industry in the 2010s. Now, CPGs need to embrace the potential of digital and generative AI (gen AI) to open up fundamental new levels of cost reduction while rightsizing costs to serve in lower-potential markets.
Digital transformation is essential to all of these capability builds. To date, the CPG industry has lagged behind most major industries on digitization. This comes as no surprise, since it lacks first-party data and hasn’t experienced as much digital disruption as industries such as financial services and telecommunications. But now, leaning into digital transformation is critical for the next S-curve. The good news is the playbook has been well established by leading industries such as banking (see sidebar, “Making digital transformation happen”).
Leaders also need a cohesive operating model that excels at end-to-end, collaborative decision making and is well supported by core technology. And they will have to nurture a culture that excites and retains talent and is good at handling change.
Of course, the sector is diverse, and the best package of actions differs by company. We believe each CPG needs to make a big move in at least one of six major areas—and make progress on all. Exhibit 5 crystalizes the big moves, and below we unpack what each entails.
Agenda 1: Portfolio
Now more than ever, CPG companies need strong portfolio management to reshape their current portfolio and extend it into new businesses, expanding their access to sources of profitable growth.
Portfolio reshaping
CPG portfolio management should relentlessly focus resources on the most promising categories and geographies. This requires developing a robust planning process to allocate resources—talent and management, as well as funding. Best practice involves reallocating at least 5 percent of those resources each year. This is easier said than done, however, as it requires revamping annual planning processes to allow more top-down opportunity prioritization.
CPG companies should also leverage M&A&D to strengthen their exposure to the most successful categories and geographies. Mergers and acquisitions can open new paths to growth in core CPG categories and their adjacencies, as well as in key geographies, while divestitures can unload businesses and costs that no longer fit the company. Leaders will also look to more joint ventures and partnerships across the value chain. Our research shows that the ideal rotation refreshes 20–30 percent of a company’s revenue every decade and that CPG companies that leverage M&A&D for growth generate 2.5 percentage points more TSR than companies that pursue organic growth alone.
Extend into new businesses (a ‘second leg’)
Companies in many industries, including high tech and telecom, have long sought renewal by entering new business territories related to their core business. For years, industry outperformance shielded CPG companies from the need to follow suit, but the industry’s recent underperformance has created a new imperative for action. To rekindle growth and boost margins, most CPG companies should get serious about moving into services or ecosystems that provide new platforms for growth. We advise setting an ambitious target, such as aiming for the new business to deliver at least one-third of the company’s revenue within ten years.
Some CPG companies have taken the plunge. Mars, for example, transformed its pet food business into pet care, an ecosystem anchored in its core brands. This comprehensive offering includes therapeutic food, veterinary services, genetic testing, and more.
In a different vein, several CPGs are building “eB2B” wholesale digital platforms, such as AB InBev’s BEES, a multicategory platform for both on- and off-trade. The platform has revolutionized AB InBev’s relationship with small and medium-size retail outlets and has given it a tech business to build alongside its core.
Agenda 2: Performance
Outperforming is critical given today’s underlying growth challenges. Almost all CPGs need to get more serious about the capability builds needed to lead on share steal, market expansion, and premiumization—and to achieve fundamentally higher productivity levels.
Achieve commercial excellence
Excelling across the commercial excellence spectrum, everywhere and every day, is now critical, from key account partnerships to digitally enabled routes to market excellence to succeeding in newer channels such as e-marketplaces. Most CPGs need to relook at their capabilities on each of these topics and determine what they need to do differently to consistently win the battle for market share, and propel market expansion.
Capability builds that require thousands of colleagues to change are never easy. Take revenue growth management (RGM). CPG players appreciate the need to link their RGM actions to their occasion expansion and activation strategies, and the need to be consumer-insight-led, data-driven, and granular in making decisions on price, promotion, assortment, and trade terms. The challenge is doing so at scale, with excellence and cost efficiency. The right tech is essential—but so is an operating model that supports local tailoring while also benefiting from scale as much as possible. We advise structuring technical teams into pods responsible for packages of tools. The pods work at the direction of market deployment teams that maintain the road map and work directly with local teams to manage the end-to-end adoption life cycle—saying goodbye to tool-by-tool rollouts and to push models. This is not easy to get right, but the benefits are substantial. Programs designed to step up RGM capabilities can generate 3–5 percent return on sales, making it the single largest near-term performance opportunity for most CPGs.
Marketing revolution
To return to the forefront of marketing, including correcting the industry “undertrade” in digital advertising (50 percent of spend, compared with 75 percent across industries), CPG companies will need to build skills and ways of working not found in robust form across the industry today. Many of these skills can now be accelerated by gen AI, for which we see four front-runner use cases: accessing proprietary insights, accelerating product and brand innovation, adapting creative content, and optimizing media campaigns and spend. Soon, we think new technologies will fuel every part of the marketing value chain. Imagine a network of AI-powered marketeers staying close to their consumers and making locally relevant choices (Exhibit 6).
While it will be key to lean into gen AI opportunities, the basics remain critical—always starting with the consumer, generating brilliant creative, using the right channel mix and sufficient spend to engage the consumer with relevant messages.
Innovate for premiumization and category expansion
CPG companies know the power of innovation. One-third of CPG executives call innovation the number-one lever for growth. But 75 percent of industry innovations fail. Now, CPGs need to create growth in their categories—specifically premium in developed markets (and the 10 percent share of the market that is premium in most developing markets) and category expansion in developing markets, as the consuming class grows and per capita wealth expands. To do so, CPGs need to reinvest in the consumer-centric product design processes that many have lost: canvassing consumers for unmet needs, getting inspired by what is on the cutting edge, and reimagining products in light of new technologies. They also need to upgrade their innovation operating models to cut down time to market, get better at test and learn, and then truly fuel winners through sustained investment and in-market activation.
Reinvent productivity
Technology is set to transform CPG efficiency over the next decades. Applying our McKinsey Global Institute research on technology applications and likely maturity curves, we expect that within the next ten years, technologies will generate 55–60 percent savings in the supply chain, 45–55 percent in back-office functions, and 40–45 percent in commercial functions. Key technologies will be gen AI, applied AI, robotic process automation, next-generation analytics, robotics, and autonomous vehicles. This transformation will have major implications for technology investment as well as organizational rightsizing, career pathing, and third-party collaboration. Every CPG needs an enterprise strategy to plan for these changes.
Reaching these levels of savings, however, is a journey, and we are in early days. Proven automation use cases so far are in areas including supply chain forecasting, financial planning and analysis, order to cash, recruitment and onboarding, legal, and call-center customer service.
Any productivity program needs to pair automation efforts with the classic levers of demand management, spans and layers, and low-cost locations. For instance, most CPGs can go much further in rightsizing market service levels to better tie cost-to-serve to scale and growth prospects. They can also move more activity to their low-cost hubs, including strategic capabilities such as sales support, given the sophistication of remote-collaboration tools.
It will also be critical for CPGs to drive down cost of goods sold without reducing consumer appeal. Most CPGs can further strengthen product design to get closer to what the consumer values and reduce all other costs by modularizing, tearing down, and benchmarking every element in new designs, while also decarbonizing with minimal additional costs. Even leading CPG companies still lag behind industries such as automotive and medical products in embracing design-to-value.
Looking ahead
So what is your business doing to understand and respond to these changes? We pose several questions for management teams to consider.
- Megatrend exposure: How has our business been impacted by the megatrends so far? How will it be impacted going forward?
- Aspiration and gap: What earnings growth do we need to achieve our financial aspiration and what is the degree of difficulty of hitting that number?
- Agenda 1: How much portfolio reshaping do we need to do to be on the right side of trends? How quickly do we need to act? How important is it for us to get on a new S-curve with a new business/second leg? What options excite us?
- Agenda 2: Are we closely tracking marketing share gains/losses and acting fast to fuel winning cells and fix leaky buckets? What commercial capability builds do we need to take on to outperform where we play (scaling commercial excellence, transforming marketing, owning premiumization and category expansion)? Do we have a clear line of sight to our next 250 basis points of cost reduction, reinventing productivity? Do we have the enablers in place needed to deliver this agenda—thinking about digital transformation capability, future-fit operating model, and culture?
- Acting fast: What open questions need to be answered to make decisions? What immediate next steps should we take?
