Many branded food companies face serious challenges in the form of increased customer bargaining power and a proliferation of private-label competitors. Flowers Foods (NYSE:FLO), the second-largest producer and marketer of packaged bakery foods in the U.S., has stayed resilient thus far. Its financial performance speaks for itself.
Flowers Foods has been profitable and free cash flow positive in every year for the past decade. Except for 2010, it has also increased its revenue annually from 2004 to 2013. The reasons for Flowers Foods' consistent profitability and steady growth are discussed in greater detail below.
Based on Iri research, Flowers Foods' bread and bakery brands have a 17.9% market share in the fresh-bakery retail category. Bimbo Bakeries is the market leader with a 31.4% share of the market, while private-label/store brands accounted for 23% of fresh-bakery retail sales. The consolidation of the bakery market has reduced the number of key branded players from eight in 2010 to three currently, including Bimbo Bakeries, Flowers Foods, and Pepperidge Farm.
With respect to individual product brands, Nature's Own, Flowers Foods' brand of baked foods free of artificial flavors, colors, or preservatives, is ranked first in the U.S. Three of the products under the Nature's Own brand are among the top 10 best-selling branded breads in the country. On a dollar basis, sales contributed by the Nature's Own brand have more than tripled to $1.1 billion over the past decade.
Notwithstanding increasing market penetration of store brands, the two market leaders, Bimbo Bakeries and Flowers Foods, currently generate more revenues than individual private-label bakery brands, giving them an edge over their competitors in terms of economies of scale in advertising and sourcing.
One example is Hillshire Brands (NYSE:HSH), a manufacturer and marketer of branded meat-centric food products. It has successfully fended off private-label competition by virtue of its scale and brands. Hillshire's brands are either the market leaders or at least among the top three in product categories such as breakfast sausage, smoked sausage, super premium sausage, frozen protein breakfast, hot dogs, and specialty lunch meat.
These brands have distinct positioning in the consumers' minds. Hillshire Farm-branded smoked sausage is known for its farmhouse quality meats; Gallo Salame-branded specialty lunch meats are sold as artisanal Italian meats; while Aidells' super premium sausage sells on authentic ingredients.
Flowers Foods' brand strength is also reflected in its pricing power. It has maintained a stable and consistent gross margin within a narrow range of 46%-49% for the past decade. Flowers Foods has also invested significantly in new product innovation to keep its brands relevant in the eyes of consumers. This is validated by the fact that new products contributed about 7.9% of Flowers Foods' sales in 2013.
Sensible growth strategies
Geographical expansion is one of the most common drivers of growth, and Flowers Foods is no exception. However, the key difference lies in the fact that Flowers Foods hasn't blindly committed to a goal of extending its presence in more states to build a nationwide footprint. Instead, its market expansion goal is defined in terms of customer reach, serving a geographical area that includes at least three-quarters of the U.S. population by 2016.
As of February, Flowers Foods is present in locations that allow it to serve 79% of the country compared with a ratio of 35% a decade ago.
Another consumer company which has adopted a similarly sensible approach toward market expansion is specialty value retailer Five Below (NASDAQ:FIVE). While Five Below tripled its number of stores from 102 in 2009 to 304 as of January, this rapid growth wasn't the result of an ambition to be a national retail giant. Five Below's strategy was to expand its operations in a contiguous manner, gradually extending its presence outward from its core existing markets.
It expanded into St. Louis and Atlanta in 2012, followed by Austin, Texas and Dallas in 2013. By retaining its store-clustering strategy while expanding, Five Below reaps the benefits of increased brand awareness and economies of scale associated with having a large number of stores densely located in a single geographic area.
In fact, Flowers Foods also employs some form of a clustering strategy with its high geographic concentration. About 46.9% of its customers are based in the Southern markets, where Flowers Foods is dominant with a market share of 28.3%.
Another avenue of growth for Flowers Foods is mergers and acquisitions. Flowers Foods has a wealth of experience in M&A, having completed more than 100 acquisitions since its stock market listing in 1968. Its past acquisitions in the past 10 years are estimated to contribute about $1.7 billion of revenue. Last June, Flowers Foods acquired five brands and 20 bakeries from Hostess Brands.
With the addition of new brands, Flowers Foods has added top 10 best-selling items like Home Pride Wheat and Wonder Classic White Loaf to its product portfolio. The bakeries acquired will help to add production capacity in anticipation of increased consumer demand. Looking ahead, Flowers Foods has set a target of acquisition-driven growth of between 2%-5% per year.
Foolish final thoughts
Flowers Foods is a rarity in today's challenging consumer markets, where former leading consumer brands have ceased to be relevant with their customers. Its strong brand equity and growth strategies are key contributing factors to its continued success. Going forward, Flowers Foods should see continued growth from both new products and acquisitions.
Mark Lin has no position in any stocks mentioned. The Motley Fool recommends Flowers Foods. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.