Adam Ismail07.01.06
The U.S. Economy
Examining how an economic slowdown or inflation in the U.S. might affect nutraceutical
sales.
ByAdam Ismail
In an issue focused on global markets, it might seem a bit myopic to focus solely on the U.S., but nonetheless, things going on in the U.S. economy are certainly worth covering right now. Ben Bernanke, the new chief of the U.S. Federal Reserve Bank and heir to the Alan Greenspan throne, told a group of bankers in June that it was clear the U.S. economy was slowing down and that inflation was a major concern. This is a very high-level economic comment to make and not one focused on our industry; after all he is the chairman of the Fed and not the chairman of the Nutraceutical Bank. Before you question the relevance of the comment, though, think about the long-term planning of businesses in this space.
Contrary to what we would like to believe, it is a rare case where consumers view nutraceuticals as an absolute necessity to survive. Instead, consumers choose to spend a portion of their excess income on supplements and functional foods because they believe the health enhancements they receive are worth the price. Does that still hold true though in times of economic distress? It is a difficult question to answer because there is not a lot of data available. Nutrition Business Journal (NBJ), San Diego, CA, only started tracking the industry in the mid-1990s, but has remained the gold-standard in annual industry sizing. Estimates from before NBJ existed are unfortunately only anecdotal, and some would argue those learnings are no longer even valid because today’s nutraceutical consumer is completely different from the 1970s or 1980s consumer.
In fact, the wealth of the 1990s helped drive more of the affluent buyers into the market, enabling the successes of retailers like Whole Foods and Wild Oats. When the stock market fell and suddenly the wealth disappeared, growth in the nutrition industry fell down to 7.3% in 2001. That growth rate is highly respectable in other industries, but it seemed like dismal growth in nutraceuticals where specialty supplements and other products are used to growth rates that hover around 20%. Fortunately, however, we had the demographics of an aging population on our side. At the time, dozens of companies started to experience financial pressure, especially as many were starting to expand into mass market channels. Consumers were less willing to pay high price premiums and many supplement companies were forced to take product returns, which eventually left them bankrupt. So it makes sense that companies be wary of where the American economy is headed right now.
What is clear is that there is a lot of “hedging” going on in the market. This may not be an intentional strategy to hedge the risk of a slowing economy, but the result is effectively the same. First, manufacturers and retailers are partnering with each other to offer “2-for1” discounts with such frequency that it is barely considered extraordinary anymore. If you don’t believe me, check out the glucosamine aisle at your local health food store, grocery store, or even Wal-Mart. Second, manufacturers are offering these same incentives on their own, particularly mail-order companies and Internet retailers. Third, in supplement categories like fish oils and glucosamine, where the products are widely-recognized by consumers and a relatively standard product exists, the consumer essentially buys based on a price rather than brand loyalty. These strategies, which are the natural result of competition in the market, will help preserve growth in the nutraceutical space as we begin to enter an era with new economic dynamics.
The second whammy of what Mr. Bernanke implied was that inflation was increasing and that this was the primary concern of the Fed. We would have to go back a long way to understand the effects of inflation on nutraceuticals. These days many supplement and functional food categories have experienced deflation as a result of increasing competition. Because prices in nutraceuticals have fallen, any increase in inflation will hit manufacturers doubly hard if they keep their prices steady. How many companies understand the price elasticity of their consumers in this space? That is, how many customers will they lose if they raise prices? Competition may continue to put downward price pressure on certain segments and it may force others to try to differentiate from the pack with new products or technologies.
The “free lunch” in business planning is over now, so companies need to plan for the future of this economy. If oil prices stay at current levels, this will eventually have a greater effect on the economy and could lead to a full blown recession. How many nutraceutical companies whose business models are focused on growth can survive a recession without any contingency planning? My bet is that if we do enter a recession in the U.S., market leaders like NBTY and Schiff will simply continue to get larger as more and more competitors will suffer.NW