What’s Keeping CEOs Up at Night?

For more than two years, COVID-19 has been a nightmare from which retailers and manufacturers thought they might never awaken. But just as the industry was finally getting back to some semblance of normal, there’s a new boogeyman to contend with: record inflation.

“In the late 70s and early 80s we saw stagflation, but in my 30 years in the food business I have never seen such a rapid and asymmetric surge of costs across all fronts: raw ingredients, poultry, gasoline/freight, labor and packaging,” says Adnan Durrani, founder and CEO of Saffron Road, Stamford, Conn. As a result, temporarily shifting resources from one area to another simply isn’t possible.

“In the past, when transportation costs were inflated, feed costs may have been down, so we could offset rising costs in one area with savings in another,” explains Jasen Urena, vp at Denver-based NestFresh. “But for the first time, we’re seeing increases across the board, all at the same time…so savings are very difficult to find.”

Same story at Cincinnati-based Graeter’s Ice Cream where CEO Richard Graeter reports, “Cream prices have doubled and eggs have tripled. Paper goods and literally everything else are increasing at double-digit rates. And some items, like our branded cups, are simply not available at any price,” he reports, shining a light on the other monster under the bed: supply chain disruptions over which manufacturers have little control.

“The impact of labor shortages [on the supply chain] seems to be diminishing,” reports Austin Kelly, CEO of Silverton, Ore.-based Willamette Valley Pie Co. “However, now we’re seeing global events have a significant impact. Extreme weather has damaged fruit crops; the war in Ukraine has affected availability of flour, tin and other commodities; and the recent avian flu outbreak disrupted our supply of non-GMO, cage-free eggs.”

INGREDIENT SWAPS NOT AN OPTION FOR SOME

For companies like Kelly’s that hang their hat on high quality, clean ingredients, easier-to-source substitutes aren’t an option, forcing them to get creative. Willamette Valley Pie Co. is stockpiling frozen inventory in case certain ingredients are temporarily unavailable and production is delayed. Like other manufacturers we talked to, the company has also “doubled down” on communication with suppliers, sometimes touching base weekly in an effort to stay ahead of any potential supply chain snafus.

That’s the approach taken by Dallas-based Van’s Kitchen, which is working hard to strengthen relationships with its suppliers, says CEO Theresa Motter. The company also extended its lead times to accommodate vendor delays. “Things that generally took a maximum of six weeks are now taking about 12,” she reports. “Because of that, we doubled lead times with our clients as well.”

Other companies are broadening their supplier base. “We’ve created redundancies — adding suppliers so we don’t run out of key ingredients,” confirms David Greenfeld, co-founder and CEO of Los Angeles-based Dream Pops, another better-for-you-brand committed to a short list of clean ingredients. But what happens when that’s simply not possible due to more widespread shortages or unacceptably high costs?

“It is not uncommon right now for a core ingredient or packaging component to be discontinued or changed with only a few weeks’ notice,” making ingredient swaps inevitable, says Doug Hall, senior director of marketing for the North American sandwich division at San Ramon, Calif.-based Raybern Foods, which also opted to scale back its offerings in order to ensure availability of best sellers. In order to avoid out of stocks, he continues, both retailers and manufacturers have to adapt quickly to necessary changes. Still, he says, “The ability to swap ingredients, introduce new items and gain retailer acceptance is a looming challenge.”

And if retailers aren’t willing to accept changes? Well, manufacturers may decide the partnership isn’t worth the trouble. Since supply chain disruptions have limited the availability of some items, there’s been a not-so-subtle shift in control, explains Motter. “While retailers used to wield power over manufacturers, now manufacturers hold the power, so they can decide which retailers they want to do business with.”

The good news is that most retailers seem to get it. “We have seen much more cooperation and understanding from our retail partners since the beginning of 2020,” confirms Kenny Farnsworth, president of Salt Lake City-based Rhodes Bake-N-Serv. Like most manufacturers, “We have been passing on rising costs in the form of price increases,” he adds. “Fortunately, most retailers understand that higher prices are unavoidable, and we have seen less pushback than we had prior to this inflationary period.” But in an effort to cushion the blow, many manufacturers are taking on at least part of the burden themselves.

For example, says Durrani, despite some price hikes, Saffron Road continues to absorb more than 70% of cost increases it’s experienced, “which is compressing our margins while benefitting retailers and our consumers.” In anticipation of that hit to its bottom line, the company moved sourcing of many raw materials to the U.S. more than a year ago, he says. It also pivoted production to the East Coast in order to avoid costs associated with shipping coast-to-coast. But it hasn’t been enough. “If inflationary costs don’t come down, we plan to put through further price increases,” reports Durrani, who says that “dumbing down” ingredients or reducing package sizes isn’t an option for a premium brand like Saffron Road.

“If you look at syndicated data,” he explains, “[rising prices] seem to be having a barbell effect. Yes, lower- and middle-income households are buying more private label and trading down to lower-priced products. But at the upper end, premium brands like ours continue to do well even at higher SRPs.” In fact, adds Durrani, since Saffron Road increased prices, its sales actually went up. However, other manufacturers of premium products worry that less affluent customers will be impacted by rising retail prices.

“My No. 1 concern is that people will no longer be able to afford good quality food,” says Pete Speranza, CEO of Minneapolis-based Wicked Kitchen U.S. And while he believes that younger consumers in particular place a high priority on eating well, he realizes they’re also among the most likely to be hurt by inflation. As a result, “We leverage our partnership with Tesco in the U.K. and our supplier network to manage costs appropriately, and we try not to push costs on to the consumer if we can avoid it.” But not every manufacturer has that luxury.

‘My No. 1 concern is that people will no longer be able to afford good quality food.’ — Pete Speranza

CONSUMERS ARE TIGHTENING THEIR BELTS

While Austin, Texas-based NadaMoo! is working to maximize operational efficiencies, “A company our size is not able to fully absorb cost increases we have experienced, so we have to pass a portion of them along to the consumer,” says president and CEO Daniel Nicholson. And unlike in the premium frozen meals segment, he says, consumption of better-for-you frozen desserts is down as consumers tighten their belts in the face of rising prices. To help ease that pressure, NadaMoo! is leaning into its start-up mentality by prioritizing the launch of new products that have been in its pipeline for some time, reports Nicholson. “We’re working hard to deliver on the customer’s needs with the right products at the right price in the right places with the right level of promotional frequency.”

NestFresh is also taking a hard look at promotions, says Urena. Like many suppliers, “We are definitely promoting less,” he reports. “We would rather try to deliver a better everyday price that consumers can count on.” In an effort to keep its specialty eggs affordable, the company is absorbing “quite a bit” of the rising costs it has incurred. But it can only do so much and still take care of the independent farmers who make up its supplier network. “Farming is their livelihood. It’s all they do,” says Urena. “So we have to make sure they make a livable wage while also not overburdening our consumers. Finding the right balance…has been a real challenge over the past six to nine months.” And he doesn’t expect things to get better anytime soon.

“Supply chains see price increases before consumers,” says Urena. “And, unfortunately, there are still costs in the pipeline that consumers haven’t seen yet.” In addition, he says, many of the root causes of the supply chain crisis — particularly the labor shortage — are long-term problems with no easy solutions. As a result, Urena believes relief won’t come until well into 2023.

COMPANIES ADAPT, BUT AT WHAT COST?

The good news is manufacturers have been operating under these conditions for more than two years, and most agree they’re getting better at it. The bad news is that operating in a crisis environment for such an extended period is starting to take a toll.

‘Today’s high inflation environment has pushed many companies into survival mode. The longer the situation lasts, the more likely it is that…we’ll lose a significant number of small- to mid-size players — and consumers end up with fewer options.’ — Jasen Urena

“We’re asking a lot of our team right now as we collectively work to solve issues in the current market,” says Daniel Goetz, founder and CEO of GoodPop, Austin, Texas. “The external pressures and the increased workload can create a high-stress workday. So the biggest thing on my radar is ensuring that we’re taking great care of our people.”

Of course, that also includes front-line employees in manufacturing positions that are particularly hard to fill. “We have responded to the labor shortage by taking a hard look at our compensation and benefits package to make sure that we can continue to attract and retain a quality workforce,” says Graeter. “While this puts additional pressure on the bottom line, our team members are essential to our commitment to produce, distribute and serve safe, quality food product.”

Beyond putting out a good product today, executives at up-and-coming companies in particular worry that a limited labor pool will hinder opportunities for growth. “If there’s one thing that really does keep me up at night, it’s finding the right talent…to support our future needs,” confirms Ross Perkins, co-owner and COO of Baltimore-based Mason Dixie Foods. Although many companies are focused on current problems, “You have to hire for what’s coming up, not where you’re at.” In the wake of “the Great Resignation,” however, it’s a lot harder than it used to be.

Kelly has similar concerns. “Building our team is always on my mind… [But] it’s easy to get distracted by the economy, COVID or any number of other big issues in the world,” he says. In fact, several company execs worry that operating in crisis mode for more than two years has stalled new product development as well.

‘INNOVATION SLOWED TO A TRICKLE’

“With most of the focus on meeting demand, innovation slowed to a trickle,” reports Hall. And while it’s picked up over the past six months, manufacturers are concerned that retailers’ overemphasis on SKU rationalization — which was justified during the peak of the pandemic but now, not so much — will stymie the rollout of new items. Suppliers say it’s already happening in some categories.

“We’re seeing a lot of retailers staying with existing assortments and avoiding new innovation,” reports Dream Pops’ Greenfeld. “It’s a challenge for new entrants in particular, but some chains just aren’t making room right now.” And that may come back to haunt them.

“If we’re not looking at next year’s needs and solutions today, we’ll have a big problem down the road,” says Urena. “Focusing on innovation over survival is a smarter, more sustainable strategy.”

Similarly, Certified B Corporations such as NadaMoo! are worried that the industry’s laser focus on keeping shelves stocked will sideline work on important issues such as sustainability and diversity, equity and inclusion (DEI). “Difficult markets like the one we’re currently navigating can cause us to take our eye off of the obvious, immediate progress that needs to be made on these important issues,” says Nicholson. “But we have to play the long game, and sometimes that means making hard decisions in the short-term to [guarantee] success in the future.”

What else is keeping CEOs up at night? Urena says the potential for significant consolidation among both retailers and manufacturers is weighing heavy. “Today’s high inflation environment has pushed many companies into survival mode,” he explains. “The longer the situation lasts, the more likely it is that…we’ll lose a significant number of small- to mid-size players — and consumers end up with fewer options.”

Indeed, says Greenfeld, the capital markets are pretty scary right now. “So we’re tightening our belts for the bear market, making sure we have cash on hand and spending it wisely.” Still, he expects volumes and profits to rise this year, sounding an optimistic chord echoed by several manufacturers we talked to.

“We expect sales volume to be strong again in 2022 — like 2021 but not as strong as 2020,” reports Farnsworth, who believes Rhodes Bake-N-Serv profits will follow a similar trajectory. However, other manufacturers anticipate a short-term decline in profitability.

“We expect our volume to increase both now and in the long run,” says Graeter. “But while we negotiate the disruptions of the present inflationary market, we expect profitability to fall in the short run.” However, he adds, “Inflation has been around since the invention of money. So as long as our politicians don’t do anything too foolish, it will pass.”

BRING IT ON, COVID

Ironically, the one thing that manufacturers aren’t worried about is a resurgence of COVID — the crisis that led to all of those sleepless nights in the first place. In fact, the prevailing opinion is that, at least for the majority of manufacturers, it didn’t kill us — it only made us stronger.

“The frozen food industry has been operating with the impact of COVID for more than two years,” explains Perkins. “And in that time, we’ve become much more resilient by working closer with our partners, watching supply and demand like a hawk, and implementing software tools to help us manage our business operations.”

Plus, no one can deny that the pandemic reintroduced millions of consumers to the modern frozen food category. And if COVID surges again this winter as epidemiologists predict, “The frozen sector will once again be a hot spot,” says Durrani.