Analysis: Wal-Mart's price push tests manufacturers' prowess

Tue Mar 6, 2012 3:59pm EST
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By Martinne Geller and Jessica Wohl

NEW YORK/CHICAGO (Reuters) - Consumer staples companies have a problem. It costs more to make everything from soup to soap to soda, but when they raise prices they turn off consumers and strain their relationships with Wal-Mart Stores Inc (WMT.N: Quote), their biggest customer.

For some companies, like Clorox Co (CLX.N: Quote) and Kraft Foods Inc KFT.N, the problem can be comparatively easy to handle. They either have brands that consumers like, and therefore Wal-Mart needs, or they are big enough to have significant negotiating power.

But Wal-Mart is now pushing its grocery suppliers harder to offer consistently low prices, instead of timed promotions or "rollbacks." That means food companies are unlikely to be able to pass through more price increases and will be forced to pull other levers, such as cost-cuts to protect margins or product innovation to drive sales.

And with many consumer goods stocks trading at a premium to the broader market , analysts say the risk is on the downside. In particular, they see pressure on companies with second- or third-tier brands, such as ConAgra Foods Inc (CAG.N: Quote), whose Hunt's ketchup competes with Heinz HNZ.N.

Shares of makers of packaged food that raised prices too much, like General Mills Inc (GIS.N: Quote), whose products range from Cheerios cereal to Progresso soups, also may face pressure.

Consumer staples companies that make up two Standard & Poor's indexes -- the S&P 1500 Packaged Foods & Meats Index .15GSPFOOD and the S&P 1500 Household & Personal Products Industry Group Index .15GSPHHPE -- trade at nearly 16 times expected earnings, while companies in the S&P 500 index trade at 12.8 times expected earnings.

"I think we reached the wall in terms of raising price. Consumers can't take any more," said Edward Jones analyst Jack Russo, citing recent Nielsen data showing correlations between price increases and declines in sales volume.

"A lot of these companies are going to have to get back to basics and not raise prices much, and if they want to grow sales they're going to have to do it through innovation, or being razor-sharp on pricing."   Continued...

A worker walks through the "Action Alley" at a new Wal-Mart store in Chicago, January 24, 2012. REUTERS/John Gress