Fighting for Freddo: Cadbury’s Fight for Profitability in the Face of Brexit Uncertainty
This post examines Cadbury's challenge to maintain profitability in the face of increasing input costs due to Brexit.
On June 23, 2016, 51.9% of the U.K. electorate voted to leave the EU sending shockwaves around the world. Within 24 hours of “Brexit,” as this referendum became known, the S&P Global Broad Market Index lost $2.1 trillion of value and the British pound suffered its biggest one-day selloff in recent history.[1] Today, uncertainty remains around the U.K.’s withdrawal from the EU with negotiations over the single market and freedom of movement having significant consequences for British manufacturing supply chains. If British leaders opt for a “hard Brexit,” the country embraces World Trade Organization (WTO) terms, leading to firm customs duties and closed borders.[2] The elimination of the prevailing low cost, low friction trade environment will complicate supply chains and pose a substantial risk to the profitability of companies operating in the U.K.
Cadbury, the iconic British chocolate company owned by Mondelez, is one of many food companies with global operations that must rethink its supply chain strategies to maintain profitability in a more isolationist macroeconomic context. If Cadbury does not respond, import and export tariffs, higher inventory requirements to compensate for procurement bottlenecks and delays, and a depreciation of the British pound could destroy the company.[3] The magnitude of these changes is severe. A “hard Brexit” could cause a shift to standard WTO tariffs (2% to 13%) on all exports and imports, and result in a 10% increase in the cost of labor in the U.K. and a 20% devaluation of the British pound.[4] The confluence of these factors will dramatically increase the cost of production and erode already slim margins.
One solution is to move all production outside of the U.K. However, Cadbury traces its roots to a grocer’s shop in Birmingham and its quintessentially English heritage is foundational to the brand. Moving all production out of the country is not a viable option and Glenn Caton, President of Mondelez for Northern Europe, who manages Cadbury in Britain, expressed the company’s commitment to remaining in the U.K.[5] Nevertheless, Cadbury has experienced a decline in revenue since the Brexit vote and the decline of the British pound is making raw materials imports more expensive. The price of cocoa has increased over 50% since 2013.[6] In the short term, Cadbury has raised its prices and shrunk the size of its goods, also known as “shrinkflation,” to maintain profit margins as input costs increase.[7] In January 2017, Mondelez announced a 20% price increase on Cadbury’s Freddo bars which inspired outrage in the British media. In response, a Mondelez spokeswoman said: “Increasing prices is always a last resort, but to ensure we can keep people’s favorite brands on shelf and look after the 4,500 people we employ in the U.K., we are having to make some selective price increases across our range.”[8]
In the medium term, Cadbury is focused on boosting productivity to protect the quality and taste of its chocolate as the company faces mounting pressures. Mondelez, Cadbury’s parent company, has invested more than £200 million in the business, including £75 million on modernizing manufacturing at Bournville in Birmingham, the home of the brand.[9] In addition, Caton chairs a company committee examining the implications of Brexit.[10]
Given the uncertainty surrounding Brexit negotiations with outcomes ranging from no change at all to severe change, it is paramount that Cadbury remains a nimble organization. Glenn Caton and his team must develop a strategy that can adapt to various future outcomes, engaging in a continuous cycle of implementation, monitoring, and adjustment to initiate incremental changes in the organization and its supply chain.[11] It is prudent to delay major, irreversible decisions, such as relocating all manufacturing overseas, until there is more clarity on the extent of trade regulations. Yet there are certain actions, such as investing in cost management and operational effectiveness, that augment Cadbury’s competitive edge regardless of the outcome of negotiations. Creating the most efficient domestic manufacturing process by investing in technology to increase productivity and eliminate waste can only help Cadbury long-term. Shifting to automation would mitigate the impact of rising labor costs. Cadbury can also invest in a few small-scale pilot plants in the EU that can be scaled up or down quickly.[12] If the U.K. initiates a “hard Brexit” Cadbury is well positioned to relocate and ramp production quickly. In the case of minimal change, Cadbury has avoided a large, unnecessary investment and preserved its reputation. Financial hedging instruments and denominating contracts in different currencies could also mitigate foreign currency risk.[13]
The key question is whether these steps will be enough to preserve Cadbury’s business model in the face of mounting uncertainty. Will raising prices and “shrinkflation” erode the consumer’s brand loyalty? If a “hard Brexit” does occur, how can Cadbury can maintain profitability and preserve its British brand heritage without relocating manufacturing overseas?
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[1] Graeme Wearden and Nick Fletcher, “Brexit Panic Wipes $2 trillion Off World Markets – As It Happened,” The Guardian, June 24, 2016, https://www.theguardian.com/business/live/2016/jun/24/global-markets-ftse-pound-uk-leave-eu-brexit-live-updates, accessed November 2017.
[2] Thomas Kwasniok, Peter Guarraia and Michael Garstka, “Is Your Supply Chain Ready for Brexit?,” Bain & Company, February 6, 2017. http://www.bain.com/publications/articles/is-your-supply-chain-ready-for-brexit.aspx, accessed November 2017.
[3] Ibid.
[4] Ibid.
[5] Graham Ruddick, “Cadbury Says Chocolate Could Get Smaller After Brexit,” The Guardian, March 24, 2017, https://www.theguardian.com/business/2017/mar/24/cadbury-warns-chocolate-could-get-smaller-after-brexit, accessed November 2017.
[6] Zoe Wood, “Toblerone Maker to Hike Price of Cadbury’s Freddo Bars,” The Guardian, January 12, 2017, https://www.theguardian.com/business/2017/jan/12/toblerone-maker-mondolez-hike-price-cadbury-bars-freddo, accessed November 2017.
[7] Graham Ruddick, “Cadbury Says Chocolate Could Get Smaller After Brexit,” The Guardian.
[8] Zoe Wood, “Toblerone Maker to Hike Price of Cadbury’s Freddo Bars,” The Guardian.
[9] Graham Ruddick, “Cadbury Says Chocolate Could Get Smaller After Brexit,” The Guardian.
[10] Joel Dimmock, “A View from the Top: Glenn Caton, Head of Northern Europe for Cadbury-maker Mondelez,” The Independent, October 12, 2017, http://www.independent.co.uk/news/business/analysis-and-features/glenn-caton-mondelez-cadbury-maker-head-of-northern-europe-dairy-milk-a7980986.html, accessed November 2017.
[11] Thomas Kwasniok, Peter Guarraia and Michael Garstka, “Is Your Supply Chain Ready for Brexit?,” Bain & Company.
[12] Ibid.
[13] Ibid.
In an age of decreasing consumer loyalty and increasing transparency (read: millennials), maintaining product quality is of utmost importance. For that reason, I very much agree with investments in productivity to protect quality and taste in the face of mounting pressures – and very much disagree with measures like “shrinkflation” which will be all too visible to consumers. While British consumers have been outraged by rising prices in the past, I do think it is very likely that this will become an all-too-common reality for British consumers and not exclusive to Freddos in the wake of Brexit. Though, as you aptly describe, the extent to which prices will rise is uncertain, I believe that British companies should prioritize maintaining quality over maintaining price to please consumers in the long run and maintain some level of loyalty.
Protectionism is certainly putting a strain on companies’ ability to keep costs down and preserve margins. But, as you pointed out, costs aren’t the only consideration in certain industries especially those as consumer-driven as chocolate. Brand heritage is critical to the success of these consumer goods. I do not think British consumers would feel as positively towards Freddos if they were made abroad, as they are inextricably tied to the British identity (as we saw at our Flag Ceremony!). While consumers are not typically reading the label of their chocolate to determine where it was manufactured, they will certainly be made aware of the change – I anticipate this would be a prime example for the media to latch onto in denouncing Brexit should they be forced to manufacture overseas.
Great read! I agree that the use of financial hedging instruments will help to mitigate the rising cost of ingredients for Cadbury, and was the first solution that came to mind when I read your article. However, I think other ways that Cadbury can exercise cost containment and preserve the “British heritage” without moving manufacturing overseas is to innovate around alternative products that use cheaper or less raw materials. For example, you mentioned in your article that the price of cocoa has skyrocketed by 50% since 2013. What would be the effect of substituting ingredients like chocolate with more caramel? What about decreasing the size of the chocolate bars? I think there are changes Cadbury can make to its products to sustain its profits. Additionally, while I admire efforts by the company to engage in fair trade standards for cocoa, I think that in the wake of Brexit and isolationist policy, perhaps it would be wise to cut back on spending on “do good” initiatives? The company invested 45 million pounds in to Fair Trade chocolate [1], but cutting back on sourcing these expensive raw materials may be a wiser move.
[1] https://www.seed.manchester.ac.uk/research/research-with-impact/cadbury-invest-%C2%A345m/
Agree that this was a great read. Shocking to see the trickle down effects of Brexit on Cadbury – the tariffs, cost of labor, and devaluation of the pound all compound to have an enormous impact. I very much agreed with your recommendations and had similar thoughts myself – love the idea of having easily scalable pilot plants in the EU, and that staying prudent is wise until we can know with certainty whether a “hard Brexit” will occur. Investing in technology or processes to improve productivity or operate more leanly would also be beneficial regardless of a “hard Brexit” outcome or not.
I think actions such as “shrinkflation” on Cadbury’s part are a band-aid: a temporary fix that cannot sustain the company long-term. Customers will most likely notice this change, and I could envision backlash in the face of this realization. What I think is critical is for Glenn Caton to think very critically about at what threshold would he consider moving production out of the UK. Depending on Cadbury’s existing margins, there may not be very much margin buffer for the potential impacts of a hard Brexit. In this case, the company very well may need to prepare to move outside of the UK if they wish to continue profitable operations.
The tragedy of rising cocoa prices (and its implication on my own consumption) aside, Cadbury has a critical social obligation: continue providing delicious sweets to those of us that depend on them.
While the case does not segment sales, I imagine that the EU makes up a significant portion of their revenue base. If I were Cadbury, I would be attempting to localize my supply chain within the borders of the EU rather than expanding factories in England. Regardless of a hard or soft Brexit, labor costs and tariffs will almost certainly increase. Cadbury should maintain the ability to meet demand on both sides of the English channel, but should focus on immediately shifting capacity to the EU. Price sensitive consumers will not tolerate rapidly increasing candy prices due to regulatory changes. Rather than risk a droppoff in revenue, Cadbury should begin scaling EU operations now.
Thanks for sharing! It seems like in this case, isolationism is not limiting Cadbury to protect in favor of domestic production and labor supply, but rather is increasing the labor cost and tariffs, which makes it challenging for Cadbury to maintain its profit.
I understand the brand values its British heritage, but I think the emotional ties rely more on the core brand image, than on its supply chain. The brand can preserve its heritage through effective marketing communication with consumers. On the supply chain side, in an age of globalization, sourcing supplies from abroad and even relocating the manufacturing companies can reduce cost and increase Cadbury’s competitive advantage in the global chocolate market. Cadbury can also enforce strict standards and control production process to reflect its value of quality and consistency. With an improved profit and better perforce, Cadbury can even boost its brand image of British heritage in a global age. I think the relocation of manufacturing is an opportunity Cadbury should not forgo.
Great read! While rising unit costs are going to indeed be a challenge, I think the falling pound does not spell all doom and gloom for Cadbury in the long run. If we consider the situation in terms of supply and demand, we see that there are a couple effects at play when the pound falls:
1) UK products become cheaper internationally and export demand increases
2) Imports become more expensive, and so UK citizens spend more on domestically produced products
Both of the above effects suggest that in the long run, the depreciation of the pound will in fact increase the demand for UK manufacturing output. However, this positive impact will be delayed due to international order lead times and a rule of thumb is that it will take 18-24 months for the new prices to work through and trade to fully reflect changes in exchange rates. This effect is known as the “J-curve” [1].
[1] https://www.forbes.com/sites/timworstall/2017/06/05/brexit-effects-uk-manufacturing-output-and-exports-up-as-pound-falls/#4ff18a9f30ab
While Cadbury has very limited ability to control the increasing labor costs and tarifs brought on by isolationism, I do think that the company can play a significant role in decreasing the costs of its inputs in order to increase profitability. Through Mandalez International, Cadbury is part of a industry, Hershey has combined forces with 8 leading chocolate companies to form CocoaAction, which has an aim to double the yields of 300,000 farmers through improved planting materials, fertilizer, and improved agricultural practices by 2020.[1] Since its inception in 2016, this initiative has already successfully supplied 147,000 farmers with interventions to improve their productivity. However, producers such as Cadbury need to play an increasingly greater role in ensuring supply chain sustainability and controlling costs of cocoa. To this end, Cadbury can work with private and public-sector partners to address both credit constraints and information asymmetries that have historically prevented smallholder farmers from reaping the full benefits of innovations in agriculture, and in doing so enable increased productivity at lower cost. This can include innovations such as using high cell-phone penetration to deliver precision agriculture (e.g. through providing agronomic and weather information) as well as increasing access to financial services (e.g. credit and insurance) for purchase of key inputs such as fertilizer and high-quality seeds.
[1] CocoaAction. Annual report 2016. Accessed November, 14 2017 at http://www.worldcocoafoundation.org/wp-content/uploads/2016-CocoaActionReport-English_WEB_10-30.pdf
Unfortunately, in the case of a “hard Brexit” and significantly increased tariffs, it might be unavoidable to move some of the production abroad and I agree with management’s idea of setting up some small pilot plants in Europe that could easily be scaled up. The key in that case would be to manage the public perception of the brand. Many apparel companies emphasize that their clothes are “designed in the US” (or in whichever country is their main market) even though they are not manufactured there to emphasize their ties to their home countries. I think the public perception of Cadbury in the UK could remain positive as long as over 50% of the production remains there, but it will take a well thought out PR approach to manage the backlash that will likely ensue when jobs are eliminated.
Great to read an essay that provides concrete analysis on the implications of Brexit for a particular company and the near-term decisions they must make. Although raising prices and shrinking the size of its products has drawn the ire of the British media, it is likely to be dwarfed by the resentment that would surface should Cadbury decide to close any factories, as seen by Burberry’s experience in 2009.[1]
However, apart from the sensationalized media attention, I wonder whether it is actually important to consumers whether the bars they eat are produced in the UK. Cadbury is already manufactured in more than 15 countries in the world [2] and Cadbury’s parent company, Mondelez, is headquartered in the US and has a very American heritage. If consumers are generally ambivalent as to where their chocolate is manufactured, which could easily be tested through a survey, I agree with the suggestion of investing in pilot plants in the EU. More generally, Cadbury should try to increase production in lower cost facilities outside the UK.
Secondly, Cadbury is sold in over 40 countries,[3] and thus given the broad geographic diversification, Cadbury is far from completely reliant on sales in the UK market. To the extent that any of Cadbury’s products made in the UK and exported, higher labor and raw material costs will be offset by the weaker GBP, although Cadbury will still have to absorb or pass on the impact of any tariffs. Thus, increased UK production costs may not actually have a huge net financial impact on Cadbury, in which case it is worth keeping them open to avoid the PR fallout. However, it is difficult to gauge from the outside and this decision is ultimately a trade-off management will have to make a decision on.
References:
[1] https://www.theguardian.com/business/2007/apr/18/4
[2] http://www.mondelezinternational.com/~/media/MondelezCorporate/Uploads/downloads/cadbury_Fact_Sheet.pdf
[3] http://www.mondelezinternational.com/~/media/MondelezCorporate/Uploads/downloads/cadbury_Fact_Sheet.pdf
Thanks for sharing, this was a pleasure to read! Agreed with a couple comments above in that I would recommend Cadbury to start scaling up operations in the EU in preparation for a potential hard Brexit to hedge their bets, as well as in the sentiment that a move from the UK to EU would be more sensationalized in the media versus have a real impact on volumes.
What I would be more concerned about is what your post made me think of for British chocolate in general, as compared to that coming from other countries. I’ve found that American chocolate for example is often spoken of with a tinge of disgust from our British friends, largely due to the overly sugary taste, saying “this isn’t chocolate,” “you don’t use cocoa”, while our Belgian friends (hi Francois) would scoff at the both of us for not being purists and including anything other than pure chocolate. Up until now, Britain has been under EU regulation for the percentage of vegetable fats or milk content they have been allowed to include [1], but perhaps now that the UK will no longer be hampered by this regulation, the actual taste of the chocolate may change [2]. I wonder if it would give Cadbury leeway to experiment in different percentages that might be lower cost in the face of declining revenues from exchange rates, import, and volumes, which could lead to significant negative backlash if the Brits taste a change in their beloved Freddo.
[1] http://news.bbc.co.uk/2/hi/uk_news/678141.stm
[2] http://www.bbc.com/news/uk-politics-eu-referendum-36457903
I agree that Cadbury UK should build an internal strategy to respond quickly to market issues and not invest too much during this ‘waiting’ period while the UK government negotiates it’s Brexit T&Cs with Europe. Moreover, automation will help reduce the dependency on skilled labour, which could be effected by Brexit. With the incorporation of AI, the ‘robotisation’ of factories is a good strategy for quality consistency and long term cost reduction, irrespective of Brexit.
On the question of British brand heritage, I believe we live in such a globalised world and are so accustomed to parts / raw materials being sourced in Germany, assembled in China and shipped to the US, that moving Cadbury production facilities abroad will not have a major impact on domestic demand. As long as Cadbury maintains a strong cultural and branding association with the UK in terms of it’s partnerships, packaging and sponsorships – it can maintain strong brand loyalty.
Lastly, while uncertainty certainly exists today for British corporations, I question if Brexit could be a positive trend for UK Inc.? The UK will gain more control over it’s monetary and fiscal policy and hence can create attractive terms for foreign investors such as tax loopholes and SEZ’s. Nations such as Dubai and Singapore have thrived on few natural resources by creating strong governance / institutions and incentives for global talent to live in their respective companies. London is a huge competitive advantage that attracts top talent from all over the world as ‘a great city to live’ and it will be tough for executives to re-locate to Frankfurt with their families.
NAK, thank you for sharing! As a European, I fully share your concerns regarding the British economy after Brexit – as a chocolate lover, I am even more concerned now that I have learned about the challenges Cadbury is facing.
What should Cadbury do? For the moment, nothing. The investment and the time needed to completely switch production from the UK to other countries is too high: it is better to wait few months and see where the negotiations will lead us before committing to a radical strategy change.
I believe that in the case of a “hard Brexit,” the incentives for Cadbury to move production abroad will be consistent, unless the UK government will implement countermeasures targeting directly local companies.
Nevertheless, the shift to production abroad might be easier than expected: some of Cadbury’s chocolate is already produced outside the UK, as the company own facilities in more than 15 countries.[1] This also mean that UK customers might have already been buying products produced abroad, or more in general did not abandon Cadbury because of its foreign plants. Therefore, also going forward UK customers will likely keep on buying Cadbury products even if production is abroad, as they have already been doing.
As far as management concern for existing employees, in case of a “hard Brexit” many new jobs will be available in the UK as a substantial number of non-British workers might have to leave the country: should Cadbury’s employees lose their job, there will be high demand in other companies staying in the UK.
[1] http://www.mondelezinternational.com/~/media/MondelezCorporate/Uploads/downloads/cadbury_Fact_Sheet.pdf
In response to the article and others comments, I think that Cadbury should continue to be focused on product quality, not just cost. Anyone can develop low cost candy but not just anyone can develop a brand like Cadbury. Customers in general are moving towards higher quality goods in the food industry as we’ve seen with the “all natural”, non-GMO, and organic movements.
As for the ways to mitigate risk of high tariffs, I’d recommend building out another factory outside Britain. Many companies, especially those as large as Cadbury, have multiple factories in various locations to mitigate various risks of production. These would allow as you mentioned, the ability for them to scale up as needed. Otherwise they’ll be stuck in a difficult spot of in fact a “hard Brexit” does occur and have to eat the cost of high tariffs until they can build out another solution. You don’t want to be stuck and make rash decision that could negatively affect the company for years to come.