What a difference a decade makes. In the mid-2000s, economies in North America and Western Europe hummed, while a wave of fast-growing "new markets" supported even faster-growing middle classes from Bahia to Beijing. Just riding the crest brought the world's largest consumer packaged goods (CPG) manufacturers to new opportunities that seemed almost limitless.
Global forces. Now these companies face a very different landscape. Demographics, for example, are no longer so consumption-friendly. Outside Africa and India, few countries show the type of population growth that historically produced consumption-boosting "demographic dividends." Indeed, some of the largest of the so-called emerging markets, including Brazil, Poland, and Thailand, have birthrates that have fallen below replacement levels. The effects of China's population policies will likely be even greater, and arrive sooner: the country's total employment is forecast to start falling by 2024.
Instead, consumption in much of the world seems increasingly likely to be weighed down by government and household debt burdens that now average 280 percent of GDP across advanced economies—and have reached 282 percent of GDP in China. And that assumes an otherwise stable environment. In a mid-2015 survey of executives, more than three-quarters of respondents listed "geopolitical instability" as the leading risk to global growth. This volatility is perceived as the "new normal."
Technological disruptions. Meanwhile, in almost all consumer industries, macroeconomic challenges are compounded by technological changes, which have upended the behavior both of consumers and the companies trying to serve them. For example, the combination of "big data" and mobile devices gives consumers continual access to information, diminishing the value of brands that manufacturers spent billions nurturing. Around the world, chain stores that CPG manufacturers long relied on now face an online onslaught: by 2013, China had become the world's largest ecommerce market, with more than 450 million people now shopping online.
Together the pressures threaten a "hollowing out" of the industry. After recent consolidation, there are fewer economies of scale for the industry giants to take advantage of, and more openings for smaller companies focused either on the premium or value ends of the market. The result is compressed margins and shares for traditional brands. For the first decade of the 21st century, the industry's costs of goods sold rose faster than revenues, reversing a long-term trend of profitability growth.
Activist shareholders, seeing weakness, are therefore promoting heavy doses of cost-cutting—either within existing companies or through mergers. But one important option remains as a consistent source of value for consumer companies in this new normal: operational-efficiency gains that boost long-term productivity.1
Operational innovation: the three-point play
Of course, operational efficiency alone will not solve all of the challenges that the industry faces. But there is still plenty of value for consumer-goods companies to create as long as they are willing to push their operations well beyond what today might be considered "best practice." At this intensely competitive inflection point, "best" won't remain so for long. Instead, operations must start generating their own innovations. And that means companies must perform better on three fundamental requirements.
Execution at scale. The first requirement is easy to understand but very difficult to achieve consistently: ensuring that the whole enterprise is employing the highest-impact ideas in the highest-impact ways. At virtually every consumer organization we have seen, powerful performance-improvement approach —whether newer ones such as zero-based budgeting and clean-sheet costing or long-established methodologies such as lean management—reach their full promise only in piecemeal fashion. That leaves extraordinary improvement potential to lie fallow. We estimate that clean-sheet costing alone, if applied throughout an organization, could conservatively generate cost savings of 5 to as much as 20 percent in the first year, with further improvement in years thereafter. But what it requires is commitment not just to an improvement idea, but to a genuine transformation that reinforces new cultural norms.
Cross-functional collaboration. One of the norms that most organizations most urgently need to strengthen is for greater internal cooperation. Despite the perception that companies in consumer goods engage in more and better collaboration than peers in other sectors, we find that it is typically still too weak in the enterprise as a whole for the most promising performance-improvement measures to take hold. Effective complexity management, for example, expands collaboration beyond existing supply-chain and design-to-value initiatives to encompass the company's product assortment approach, its promotional and demand-shaping strategies, its price-pack architecture, and its innovation pipeline. Cross-function governance must therefore become much more robust, bolstered by new performancemanagement systems that realign often-conflicting incentives. Although the effort required is significant, the result is usually a SKU reduction of at least 25 percent, together with margin increases of 3 percent and asset-productivity improvement of 10 to 25 percent.
Man-machine integration. Probably the greatest of the enterprise challenges will be to adapt to technology, and especially to the integration of human and machine capabilities. Futurism can easily become fantasy: machines will not entirely replace human judgment any time soon in the types of highly complex, behaviorally-driven interactions that lie at the core of the consumer sector. But the initial value that consumer companies are gleaning from advanced data and analytics—such as the online retailer that raised its sales-forecasting accuracy by 40 percent even as its demand volatility tripled—is only a small beginning.
To harvest all the power of technology and data, companies must follow two distinct tracks at once. A longer-term track sets direction,2 develops internal standards, and oversees major investments in areas such as IT infrastructure. A shorter-term track then tackles more immediate problems, using technology and data to improve business performance3 while the organization builds new capabilities. Balancing both tracks (rather than favoring one over the other) will give the organization the flexibility it needs to take advantage of advances such as dynamic planning for manufacturing and logistics, or automation of laborintensive tasks such as reallocation of transport personnel.
Bringing it all together: operations innovation
At-scale execution, collaboration, and man-machine integration combine to form the real opportunity: creating new categories of operations innovation.
The impact from the organization-wide application of a basic step—improved supplier negotiation skills, for example—multiplies when it is part of a larger strategic-sourcing transformation connecting procurement with forecasting, product development, and related functions. New technology-enabled models that link current market dynamics, spending patterns, and supplier economics provide even greater rewards, enabling a more sophisticated costing analysis that that can inform everything from product and service design to risk management and strategic planning.
For a global retailer, changes such as these ultimately reached $1.5 billion in value. Digitally-enabled dynamic planning helped another consumer company reduce inventory requirements by more than 15 percent, propelling it from industry laggard to leader in service quality. And a multinational food company shows just how much an organization can achieve by making committing to address all three.
New value from operational excellence
The story begins with the company's vertically integrated supply chain, comprising dozens of plants and distribution centers handling thousands of SKUs. Long production cycles, many times justified due to the nature of the company's products, hobbled its end-to-end planning. The results included frequent stockouts in some locations, obsolete inventory in others, and unnecessary freight costs due to excessive movement of goods to fulfill demand. Rising frustration among customers started to depress sales, as service dropped below the acceptable threshold.
The basic process foundations that the company had built in areas such as sales and operations planning were no longer enough. It was clear that solving the problem would require not just process excellence or even best practices at scale, but new ideas to accommodate volatility and long lead times—which were becoming more acute as the company grew. Sensing a real business crisis, the company's leadership started by changing its operating model: it brought all of the functions together into a single forum to make day-to-day planning decisions: sales, strategic planning, production, distribution, and logistics.
That step led the company to restructure its entire planning process. The temporary cross-functional group evolved into a permanent "war room" organization that now orchestrates multifunctional meetings on a daily and weekly basis. In parallel, the company re-balanced the roles of the demand planners and the marketing and sales team. Finally, a minimal IT investment multiplied the insights the company generated through predictive analytics, bringing new clarity to the current and projected future status for production, inventory, and sales data for every SKU across each of more than 50 distribution centers.
Short-term results, long-term advantages
The resulting cycle of demand assessment, production planning, and internal alignment meant that on-time in-full performance rose by more than 25 percentage points in six months. Demand fulfillment—measured by case-fill rate—rose almost 20 points, matching that of best direct competitors.
That was two years ago. Since then, the company has found new opportunities for innovation and improvement. Taking advantage of inexpensive mapping tools, the company has built a logistics control center that lets managers see the status of every truck—where it is, how long it has been waiting to load or unload, and where it could be redirected if needed to meet urgent demand. The entire cost was repaid within one month of operation. Losses due to perishability fell by more than half, and demand fulfillment has risen still further to rank among the best in the world.
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For companies in consumer packaged goods, the urgency and the potential are both apparent. A clear-eyed view of the organization's capabilities will reveal the most important moves it must make, whether in boosting management discipline to enable execution at scale, engaging leadership commitment to foster greater collaboration, or acquiring new talent to integrate human and machine competencies more closely together. All three will be necessary to compete and survive in an industry undergoing a new revolution.■
About the authors: Jan Henrich is a director in McKinsey’s Chicago office, where Shruti Lal is a senior expert and Ildefonso Silva is a principal.
The authors wish to thank Aneliya Valkova and Luis Flavio for their contributions to this paper.
1 Mike Doheny, Jan Henrich, and Shruti Lal, "When subpar operations threaten margin growth," mckinsey.com (October 2015).
2 Driek Desmet, Ewan Duncan, Jay Scanlan, and Marc Singer, "Six building blocks for creating a high-performing digital enterprise," mckinsey.com, September 2015.
3 Driek Desmet, Shahar Markovitch, and Christopher Paquette, "Speed and scale: Unlocking digital value in customer journeys, mckinsey.com, November 2015.