Conagra (CAG 0.40%) has been following the usual playbook with regard to inflation, just like most of its consumer staples peers. But during the company's fiscal fourth-quarter 2023 earnings call, management noted that there's been a slightly different response from consumers. Is this a problem or a temporary blip? Here are some things you need to consider when examining all consumer staples companies.
The pain and the plan
Inflation is a fact of life for consumer staples companies. As they face rising costs, they take action to protect their margins. Generally, there are a few tactics used in some combination: cutting costs, changing packaging options, and raising prices. That last one is the most obvious to consumers.
Image source: Getty Images.
There's a predictable response. Volume typically drops as companies like Conagra raise prices. Very often, the drop is driven by consumers trading down to lower-priced options. For example, instead of buying Conagra's Orville Redenbacher's popcorn, which is a premium brand, customers might opt for the store brand. Eventually, customers grow accustomed to higher prices and switch back to their preferred brands. At that point, the volume starts growing again.
Conagra earnings highlight some of the normal trends here. For example, during the fiscal fourth quarter, the food maker's sales rose 2.2%. That number was driven by "a 9.9% improvement in price/mix, which was partially offset by a 7.7% decrease in volume." On the surface, that's exactly what you would expect: The company raised prices, and customers bought fewer of its products.
A nuance to watch
Now that Conagra's price increases are anniversary-ing, however, the normal expectation would be that consumers will return to its brands. This is exactly the reversion that every consumer staples maker is counting on. Only, Conagra sees a potential wrinkle investors should be monitoring.
Specifically, volume recovery isn't happening as quickly as expected. The reason is what's most troubling. Since Easter of 2023, Conagra's management team has seen broad-based delays unrelated to trade-down activity. Instead, it appears consumers are simply holding off on buying products. That has resulted in entire product categories shrinking. To extend the example above, consumers aren't buying cheaper popcorn -- they just aren't buying popcorn at all.
Management offers some very logical reasons for this, including both economic uncertainty leading people to hunker down and increased travel, which reduces the need for food at home. But these are just educated guesses. Conagra doesn't have a better read into consumer behavior than any other company. The expectation is that this situation is temporary and that demand will eventually pick up again, as usual, if just a little later than expected.
This isn't an issue investors should be overly worried about right now. Conagra's take on the situation could be correct. But this is still something that should be monitored as you watch the consumer staples stocks you own. If demand doesn't return to more normal levels, the entire consumer staples sector could be left fighting to attract a smaller number of buyers.
That would likely lead to sales activity (effectively competing on price) that would trim the margins companies have worked so hard to restore. The delay could also be unique to Conagra and, perhaps, a small number of peers, hinting at weaknesses in brand portfolios. That might actually be a worse outcome.
Listen to the story
The most notable fact here is that Conagra's earnings reports aren't where you will likely get the best information on this subtle topic. You will need to listen to what management says on their conference calls in the coming quarters. Indeed, this is a nuanced issue but one that will be material if there is a lingering shift in consumer behavior following the dislocations of the coronavirus pandemic and subsequent bout of inflation.
The best news would be no news. But if you keep hearing about slow (or no) volume recovery, this could be a very important new headwind to consider when investing in the consumer staples sector.
