Kraft Heinz Company’s stock plummeted last week despite the use of zero-based budgeting and investments in supply chain technologies to control their costs. The shares dropped as much as 28 percent one day after writing down the value of some of the Kraft and Oscar Mayer brands and other assets by $15.4 billion. The company’s portfolio is filled with food products like Oscar Mayer hot dogs and Kraft macaroni and cheese that are perceived to be less healthy by consumers seeking fresher, less processed alternatives.
It seemed like Kraft Heinz had the right leadership to execute on a cost strategy. Kraft Heinz’s CEO is Bernard Hees. He previously served as CEO of The H.J. Heinz Company and Burger King Corporation, two 3G companies where he had successfully applied zero-based budgeting. The Brazilian firm 3G Capital had teamed up in 2015 with Berkshire Hathaway to combine Kraft Foods with H.J. Heinz. 3G is well known for practicing the zero-based budgeting business model. Most companies use a form of budgeting where departments use the previous year’s as a starting point to create the next year’s budget. Zero-based budgeting is a method of budgeting in which a department starts with no budget at all. The individual departments must justify all expenses for each new annual budget.
This kind of rigorous budgeting tends to lead to wholesale layoffs of middle management, grounds corporate jets, as well as leading to major reallocations of dollars from less profitable businesses to those with greater profit potential. It is a form of budgeting that drives cost cutting. And the biggest savings opportunities are often in supply chain.
In February of 2018 the company presented financial analysts with a post-integration update. The company was doing lots of interesting work in the supply chain area. For example, trade promotion effectiveness was a goal. The challenge for the marketing group is to grow sales at a faster rate than their budget for trade promotions. The company implemented a trade management hub that allowed finance, sales and marketing to use one source to evaluate program profitability. Once the platform in place, a company needs a promotion optimization solution that allows them to be more able to forecast the lift associated with a promotion and the resulting gross margins; Or even better develop price elasticity curves that show the responsiveness of the quantity demanded of a good or service to a change in its price. Kraft Heinz was doing work with prices elasticity, although this has been difficult to operationalize in the consumer goods industry.
Kraft Heinz also invested in a better planogram solution. A planogram is a diagram that shows how and where specific retail products should be placed on retail shelves or displays in order to increase customer purchases. Planogramming effectiveness is based on both the skill of the merchandizer and the power of the technology they are using. A consumer goods company has limitations on the shelf space they control with their retail partners. It is critical that the right stock keeping units on the shelf match what the demographic analysis shows customers at given stores will want to buy. Done right, the consumer products company is paying for less space but getting better sales.
Supply chain strategies need to differ by channel. Kraft Heinz recognized that they have three channels – traditional retail, food distributors, and ecommerce. The company was working to leverage advanced analytics, store level data, performance metrics and customer specific execution plans to identify and capture incremental revenue at the store level.
Procurement is one place firms can make major savings. Kraft Heinz committed itself to doing more low-cost country sourcing and e-auctions. Operational savings were also pursued using a network design solution form LLamasoft to rationalize their manufacturing and distribution footprint. They embraced a supply chain segmentation strategy by having low cost contract manufacturers produce their non-core SKUs while higher volume/margin products requiring higher service were manufactured in house. Finally, they improved the flexibility and capacity of their production lines.
Mr. Hees had produced industry-leading margins after taking over Heinz in 2013 and cutting costs. That was also the plan at Kraft. It worked for nearly two years. The combined company cut $1.7 billion in expenses. But then the savings opportunities dried up.
When it comes to a company with a portfolio of aging products, you must keep feeding the beast by continuing to buy companies ripe for cost cutting. Or you must develop new products that appeal to customers. In the consumer products industry, the second path is difficult. Kraft Heinz failed at product development, failed to find a new acquisition target of enough size to make a difference, and paid the price.