Marketing: BREAKFAST CEREAL
A FROOT LOOP BY ANY OTHER NAME...
As golden puffs of corn tumble out of an industrial oven, Ralcorp CEO Richard A. Pearce grabs a warm sample. They look like Kix, one of General Mills Inc.'s top brands. They taste like Kix--sweet on the outside, savory inside. But they sure don't sell like Kix--at least not yet.
With prices as high as $5 for a 20-ounce box, name-brand cereals have long been an obvious target for private-label manufacturers. Yet the supermarket cereal aisle remains a stronghold of national brands. Ralcorp Holdings Inc., a recent Ralston Purina Co. spin-off that dominates the store-brand business, sells its knockoffs for nearly $1 a box less than their branded counterparts--the widest "gouge gap" in the grocery trade. And since cereal is cheap to make, the knockoffs can still offer retailers as much as twice the profits of branded cereals. Yet private labels account for just 6% of cereal sales, half the share of private-label groceries as a whole. The reason: Private-label cereal makers have lacked the skill and wherewithal to sit at the same table as Kellogg Co. and Mills. In quality, packaging, and marketing clout, the breakfast kings have eaten the lunch of their private-label rivals.
That's finally changing. Last year, private-label cereal growth averaged 8%, while branded cereals grew 3%. And analysts expect even more private-label growth as the aggressive Ralcorp pours on new products. This isn't just generic cereal: Ralcorp cheerfully duplicates national brands--usually slapping a retailer's name on the boxes to make them store brands. Pearce plans to launch as many as four new knockoffs a year, aiming at Shredded Wheat, Trix, and a dozen other major brands that lack store-brand counterparts. His upstart stable of challengers, such as Nutty Nuggets (a knockoff of Post Grape Nuts) and Apple Dapples (a Kellogg's Apple Jacks wannabe), will eventually double their share of the cereal category, Pearce predicts. "The cereal aisle is going to look different," he vows between bites at his Sparks (Nev.) plant.
MIXED BAG. Skeptics abound--especially on Wall Street, where Pearce tried to sell investors on the billion-dollar Ralcorp spin-off last year. Analysts suspected Ralston's cagey chairman, William P. Stiritz of unloading a bunch of losers. Cereal accounts for 70% of operating profits, but Ralcorp inherited other disparate businesses from Ralston: private-label crackers, Beech-Nut baby foods, and a pair of ski resorts. Pearce's plainspoken, regular-guy persona made for a tedious road show. To top it off, Ralcorp carried $380 million in debt, 69% of its capitalization, prompting Moody's Investors Service to slap it with a below-investment-grade rating. The stock opened at $15 per share in April, 1994, then sank to $13.50 two weeks later.
Still, Pearce had plenty of room to make improvements. He cut costs and boosted efficiency by replacing company-owned warehouses with third-party distribution. He eliminated a direct sales force in favor of brokers who have more clout with big retail accounts. And he outsourced computer systems, internal audits, and tax accounting. Ralcorp's results surprised the skeptics. Over the six months ended Mar. 31, food profits soared from $33.9 million to $51.6 million. And the stock has nearly doubled, trading at 241/4 as of June 13.
To make his imitations even more sincere forms of flattery, Pearce is investing in new plant technology that will help Ralcorp more exactly copy the brands. And packaging is growing slicker. Duplicating big-name cereal brands is legal because they're made with standard, nonproprietary manufacturing processes. But trademarks and names are protected, and disputes over promotional claims occasionally crop up: General Mills won a 1992 administrative case against Malt-O-Meal Co. over advertising that compared the No.2 private-label maker's Toasty O's to Cheerios.
A bigger worry for private-label cereals is the possibility of a Froot Loops Friday. After all, the last time generics exploited such a vast price advantage, the brand-name leader--in that case, Philip Morris Cos.--retaliated by slashing the price of its No.1 brand, Marlboro. Could flakes, pops, and puffs go the way of smokes?
Most analysts say no--perhaps because Pearce's success hardly has branded makers quaking. General Mills CEO Stephen W. Sanger says private-label growth will slow, because Ralcorp and others have already copied all the big lucrative brands. As the knockoffs mimic smaller brands, "the law of diminishing returns will cause retailers to question the value of additional private label," Sanger told analysts in April. And the big brands are giving the knockoffs less of a window: Kellogg, Mills, Kraft Food's Post, and Quaker Oats Co. have reined in price hikes recently, narrowing the gap between private-label and branded cereals from $1.05 per box at the peak in 1993 to about 95 cents today, counting the impact of coupons.
Still, retailers seem to have a healthy appetite for store-brand cereal and its sweet profit margins. Private-label cereal "hasn't come close to its potential," declares Curt A. Lerew, senior vice-president at Fred Meyer Inc., a $3.2 billion Pacific Northwest supermarket chain. Lerew recently devoted 20% more shelf space to cereal, giving most of it to his store brands and promoting them heavily. The result: Private labels account for more than 10% of cereal sales at his 103 stores.
A GLEAMING EYE. Unlike the highly promoted introductions of cereal brands, private labels tend to build slowly, as cautious retailers add them to the shelves one by one. So while Pearce encroaches on the name brands' turf, he will need more profits from his private-label crackers and Beech-Nut baby foods. He plans to beef up Ralcorp's small branded-cereal business--Chex and Cookie Crisp--with a new premium-priced brand. And Pearce says that he is looking for food-industry acquisitions, getting a gleam in his eye at the mention of privately held Malt-O-Meal.
But Ralcorp could also be the quarry. "If they don't do something great, they'll probably be taken over," declares Trisha L. Reopelle of the Wisconsin Investment Board, Ralcorp's third-largest stockholder. Pearce concedes that Quaker would be a logical buyer, but meantime he's investing for the long term--and munching handfuls of his new Kix knockoff, Silly Spheres. Time will tell if he's been eating too many of them.By Greg Burns in Sparks, Nev.