Special Reports

Private Label

Back in June, CGT offered a recap of our first Innovation Share Group meeting. As stated, one of the biggest talking points of the day was around private label. How do consumer goods (CG) companies compete? According to Lora Cecere, research director, AMR Research, private label products are make up 37 percent of products on the shelves, and the number is expected to reach 41 percent in 2008. Product innovation is an obvious answer, but according to experts Nirmalya Kumar and Jan-Benedict E.M. Steenkamp, the real answer lies in an innovative strategy.
Kumar, professor of marketing, faculty director for executive education, and co-director for the Aditya Birla India Center at London Business School, has two decades of consulting experience, including work with Fortune 500 companies on various issues related to marketing, retailing and strategy. Steenkamp, the C. Knox Massey Distinguished Professor of Marketing and marketing area chair at the Kenan-Flagler Business School, University of North Carolina, also has consulted with numerous companies in Europe and the United States, has chaired numerous industry conferences and has contributed to more than 100 conferences and executive seminars for senior managers. Together they wrote a book, called "Private Label Strategy: How to Meet the Store Brand Challenge."
Essentially, the authors believe that manufacturers don't have a successful strategy around private label in order to compete. Their book sets out to "debunk the long-standing myths about private labels and describe the new multilayered strategies that retailers are using for private labels and challenge brand manufacturers to develop an effective response." CGT conducted a Q&A with Kumar and Steenkamp to garner their insight.
Can you provide an overview of the private label industry?
KUMAR AND STEENKAMP: Global private label sales now approach $1 trillion and counting. In the United States alone, private labels have outperformed manufacturer brands in all but one of the last 10 years. They now account for 20 percent of U.S. sales in supermarkets and mass merchandisers, as well as a healthy share of sales in department stores, category killers, specialty stores and convenience stores. Store brands are present in more than 95 percent of consumer packaged goods (CPG) categories, including "sophisticated" categories. In fact, among the fastest-growing categories for private-label sales are lipstick, facial moisturizers and baby food. Even a wholesale club store, like Costco, that generally focuses on bulk products is developing a line of private label cosmetics.
The private-label phenomenon is not restricted to CPG products and grocery retailers. Best-in-class retailers and distributors such as Best Buy, Decathlon, Federated, Gap, Ikea, Home Depot, Lowe's, Office Depot, Staples, Target, Toys 'R Us, Victoria's Secret and Zara carry a large percentage of, or in some cases exclusively, private labels. The number and types of retailers and distributors who fall under the private label spell continues to increase.
And private label success is not restricted to the United States. In Germany -- Europe's largest economy and the third-largest economy in the world -- private label share increased over the last three decades from 12 percent to a whopping 34 percent. While in Great Britain, private labels account for 40 percent of all grocery sales.
In the first decade of the 21st century, overall private label share as a percentage of total CPG industry is anticipated to grow by more than 50 percent, from 14 percent to 22 percent. The already developed private label markets of Australasia (greater than 50 percent growth), North America (plus 35 percent), and Western Europe (increase of 50 percent) will continue to show strong growth as retailers consolidate gains.
With the proliferation of private label products, how do CG companies compete?
KUMAR AND STEENKAMP: The proliferation of private labels may lead brand manufacturers to become pessimistic about their future. But while second-tier brands may be on life support, strong manufacturer brands continue to have a promising future. Today, despite the growth in private labels and the emergence of premium private labels, consumers are still passionate about manufacturer brands. In contrast, few private labels from mass retailers elicit the same strong feelings. As Colgate-Palmolive, Procter & Gamble and Unilever are discovering, they are alive and kicking. Overall, manufacturer brands still have an edge in the consumers' mind, but the gap has substantially reduced over the years.
As a result, the manufacturer brands on the retail shelves have become less important. Only when they respond aggressively to the threat from store brands, will manufacturer brands be able to recapture their luster. They want to beat private labels with their brands and want to know how to do it.
Let us share the bad news first. Our years of working with leading brand manufacturers around the world have taught us that there is no silver bullet. There is no single answer that will solve the brand manufacturers' problem vis-a-vis private labels. Whatever marketing consultants or gurus may claim, no such magic potion exists.
However, through hard work and consistent effort, the private label threat can be addressed head on by pursuing four strategic thrusts -- partner effectively, innovate brilliantly, fight selectively and create winning value propositions.
These four actions are not to be pursued in isolation but rather as a combined, concerted and frontal attack -- only then is there a chance for a victory. The secret lies in their execution, rather than in the grand plans. But beware -- there are no guarantees -- one must accept that retailers also have several aces up their sleeves.
Edwin Artzt, the former Procter & Gamble CEO, captured the challenge best in a Fortune magazine quote: "We're not banking on things getting better with time. We're banking on us getting better."
How does private label fit into the overall business strategy of a brand-focused company?
KUMAR AND STEENKAMP: Some companies, as they observe the continued growth of private label share, wonder if their future lies in producing private labels to profitably employ their capacity. Rather than trying to beat private labels, perhaps it is better to join the party by producing both its own brands as well as private label brands for retailers --but only under very specific and restrictive cost conditions does it make sense for a brand-focused company to engage in private label production. In most cases, there is no compelling rationale (as opposed to a post-hoc, stated rationale) to produce private labels.
The real danger is that brand manufacturers can get trapped in a vicious circle of private label manufacturing. It is likely to reduce the company's focus on its own brands. Much time will have to be devoted to renegotiating contracts, reducing conflict in the company between salespeople selling brands versus private labels and managing conflict with the retailer who demands that the manufacturer gives priority to (less-profitable) private label shipments. Moreover, private label production results in a reduction of the quality gap between manufacturer brand and private label as the retailer will pressure the manufacturer to share the latest technology.
Illustrative is the opinion of the CEO of a Spanish company in office materials: "It used to be a high volume, moderate margin business. Now it is a very low margin business and when you take into account the transportation and sales costs, it is difficult to justify. At the present level of margins, we would not enter this market." This is not an isolated example. We have heard this over and over again, on different continents and industries. Once you take the longer term into account, private label production is rarely a profitable business. Therefore, for most brand manufacturers producing private labels should be at best a peripheral activity. It only tightens the noose. Their central mission should be to sell their brands profitably and grow their market share.
How does private label competition affect the retailer/manufacturer relationship being that they retailers are not only customers, but competitors?
KUMAR AND STEENKAMP: The retailer/manufacturer relationship is affected in at least four ways. First, for every private label item sold, one item fewer of a national brand is sold. Second, the retailer gains greater leverage over the brand manufacturer because the presence of private labels in a category allows the retailer to negotiate a better margin on manufacturer brands. Third, favorable shelf space is ever more difficult to secure as retailers reserve much of their best shelf space for their own brands. Fourth, private labels help differentiate the retailer from other retailers. Consumers who purchase these store brands can only do so at the retailer in question. Retailers use this to move consumers from brand loyalty to store loyalty. The end result of all this is that private labels play a crucial role in the power shift from brand manufacturers to retailers. And such a power shift comes with a price tag.
How will Tesco's entrance into the United States affect the industry?
KUMAR AND STEEN KAMP: Tesco is one of the world's largest retailers. Its private label program is arguably the most sophisticated in the world, and it plays a large role in its global expansion strategy. Tesco will use these skills in its attempt to become successful in the United States., too. If successful, this would be bad news for brand manufacturers -- also because Tesco's stores in Great Britain are more than 50 percent private label.
But there is hope. The United States is known as the "graveyard" of European retailers with a long list of unfortunate ventures by such successful firms as Casino, Carrefour and Marks & Spencer. Even mighty Aldi is much less successful in the United States than in Europe. In spite of this, do not underestimate Tesco's power to buck this trend especially as they are entering after substantial careful research of the market.
To learn more about the book, "Private Label Strategy: How to Meet the Store Brand Challenge," visit www.HBSPress.org.