• With the EU accounting for c.70% of UK food and non-alcoholic drinks imports and exports, Brexit, and the associated uncertainty, is likely to have a material impact on the sector
• A lower £ is likely to increase raw material costs for food producers, which could end the recent deflationary food environment
• Implications for how food producers have access to labour in the UK could also have a significant impact in the longer term
• However, though consumer confidence may fall, food spending has broadly remain consistent through periods of downturn
“The uncertainty of Brexit may at first seem unappetising, but can offer opportunities for those who are hungry.”
The EU accounted for c.70% of UK food and non-alcoholic drinks imports and exports in 2015 although in value terms exports to the EU (£8.9bn in 2015) are far smaller than imports from the EU (£24.6bn).The farming sector has benefited from direct EU payments of £2.4bn in 2015 via the Common Agriculture Policy (CAP). This is all likely to change and the direction of travel is currently unknown. While we don’t have the answer to what the outcome will look like, we believe that a sensible approach is breaking down the Brexit impact into its constituent factors impacting the food producing sector in the short and long term.
In the short term, we see the three factors impacting company performance:
• The outlook for consumer confidence and the potential impact on consumer spending.
• The weakening of the £ which by 28 July declined by more than 12% versus the € and c.11% versus the $ since 3 January 2016.
• Access to labour and stability in the factories in the short-term.
Although we may see an impact on consumer confidence on overall consumer spending, food has historically been relatively insulated from such falls in spending. Historically consumers have broadly maintained their food spend during a downturn, as a result of which it may become a larger part of their overall household expenditure. However, it may prompt continued changes in consumers’ shopping behaviour through trading down in product and channel.
However, companies that demonstrate value to consumers and work closely with grocers, for example by launching innovative products and supporting category management, may be able to turn Brexit into an opportunity and win market share. We saw in the last recession that there are opportunities to differentiate more in difficult times.
The UK is a net importer across most food commodities apart from beverages where the export of whiskey drives a trade surplus. A lower £ is likely to increase raw material costs for food manufacturers which could call a halt to the recent deflationary food environment.
We believe that switching to local supply will not mitigate this impact as increasing local demand will result in higher prices. Scope for substitution can be limited, e.g. some bakeries need to buy Canadian wheat which varies in protein content from UK wheat.
In the short term companies that are dependent on importing commodities are likely to be hedged to some extent. Over the next 12 months we would however expect price increases to be passed on to consumers especially if commodity prices start increasing as well as Sterling remaining at relative low levels. Timing of this is unclear and price increases may be limited to specific categories given continued strong competitive pressures in the UK grocery market.
Managing the cost base becomes more important and options deemed unnecessary in better times need to be reconsidered. SKU rationalisation to get rid of unprofitable products, changing recipes without sacrificing value and reengineering the supply chain can offer dramatic cost saving opportunities.
In the longer term the key factors resulting in change for the sectors are likely to be freedom of movement, foreign direct investment, regulation and subsidies.
Access to labour in particular is a key factor for the UK food manufacturing industry as around a third of the food manufacturing workforce are EU migrants, the highest of any sector and a full 8 percentage points ahead of any other sector. Greater reliance on UK workers could impact the wage costs. In the longer term, this could prompt food manufacturers to rethink their business models. It’s arguable that in sectors like agriculture, the availability of flexible and cheap migrant labour has meant that capital owners may have made fewer investments in productivity.
It is too early to comment on the outcome of potential negotiations between the UK and the EU about trade and associated topics. We believe, however, that any significant deviation from the status quo, whether it’s a Norway like model or a trade based on WTO rules, is likely to lead to disruption and increasing costs.
There is no recipe and magic cure for an external shock such as Brexit. Companies in the food industry need to focus harder to maintain market share and margins.