ConAgra's Earnings Warning Shows It's Not a Private Affair

Late in 2012 the market analysts at IRI Worldwide uncovered a startling shift in consumer buying habits. After years of stretching dollars wherever they could, which led to private-label brand purchases accounting for nearly 30% of all spending in the $725 billion-plus consumer packaged goods market, shoppers were turning back toward national brands.

It was a significant change, particularly in light of ConAgra's then-pending $6.8 billion (including debt) acquisition of private-label food maker Ralcorp. Whereas consumption of private-label foods peaked at 29%, national brands sought to meet the challenge and began implementing an everyday low pricing strategy. Today, IRI says private-label grocery store goods now account for 21.9% of unit sales and 18.2% of dollar sales.

That seismic shift was apparent in yesterday's profit warning from ConAgra, which bemoaned an expected $60 million decline in fourth-quarter profits from its private-label business as it's being forced to cut prices to meet falling sales volumes. It's taking the consumer goods company longer to realize operating profits in the division than anticipated, and now it sees the process stretching out over several more quarters.

There were warning signs that ConAgra's depictions of what the acquisition could achieve may have been too rosy; aside from the IRI data, Brazilian meat processor JBS recently launched an unsolicited $6 billion takeover bid for Hillshire Brands specifically because it wanted its national brands like Ball Park hot dogs and Jimmy Dean sausages to bolster its low-margin business selling private-label meat to supermarkets.

JBS, which used its 75% stake in Pilgrim's Pride as the point of the spear in its drive to acquire Hillshire, ultimately lost the battle to Tyson Foods, which agreed to pay $7.7 billion for the branded meat products. That premium shows the importance producers are putting on brands and keeping an upper hand over rivals in the marketplace.

All is not lost for private goods manufacturers. IRI says store brand growth still exceeds national brands, growing over 4% annually compared to a less than 3% expansion by national brands. But like the stock market, it remains a buyer's market where companies have to pick and choose their spots. 

Private labels have grown their market share across half of the largest CPG categories, with drug, convenience, and dollar stores leading the way. It won't be peaceful coexistence between the warring factions, but each side needs to play to its strengths.

National brands have done that by meeting the low-price challenge, with manufacturers in part absorbing commodity price increases as well as the aforementioned everyday low pricing policy. Private-label brands have also sought to differentiate their products by introducing "premium" off-brands, such as Walgreen's Nice! and Target's Archer Farms. Some 6% of Whole Foods' $13 billion in total revenues came from its in-house 365 and 365 Organic Everyday Value products.

There's little argument that ConAgra mistimed the market. While Ralcorp still has the ability to enhance its relationship with retailers and extend the portfolio in new ways, investors are going to have to be patient. Private-label brands maintain their highest market share levels in the grocery channel, and with growth still exceeding that of national brands, albeit at slower rates, the consumer products producer can turn the tables yet.

Shares of ConAgra tumbled more than 7% yesterday, and it trades at just 12 times estimated earnings and at a fraction of its sales. With a dividend yielding more than 3% and a good portfolio of branded and, yes, private-label products, ConAgra becomes an attractive stock at these levels.