Private-label brands: A new source of profitability?

The economic challenges of the last three years and beyond have seen some significant demands placed on grocery brands worldwide, whether it be workplace restrictions, supply disruptions, or, more recently, sustained inflation not seen for many years. 

While the United States economy seems to be holding up in the face of these challenges - fingers crossed - it is changing the behavior of consumers. While inflation has grown significantly, wages have not grown to the same extent. Consumers have to wrestle with working out how to stretch the household budget further and deal with higher interest rates on their mortgages, credit cards, and auto loans. 

As you would expect, consumers are changing what they buy. They are being much more selective about which products and brands they buy. There is a move toward getting more value from their spending with consumers often preferring private label brands over traditional FMCG (fast-moving consumer goods) brands, for example, primarily for cost reasons. 

This presents a challenge for grocery retailers as they work out how best to respond to this changing pattern of demand. 

Let's explore some of these issues in more detail. 

Why are retailers pushing private labels over national brands?

Private-label offerings are not new. Retailers have often used them to compliment the offerings of national brands, perhaps using the private label brand as a cheaper alternative to other FMCG brands, for example. 

But these days, the story is becoming more complex. 

Let's explore some of the issues in more depth. So why do retail companies continue to invest in their store brands?

To address changing customer needs

Retailers are the past masters at anticipating their customers' needs, whether its be that ice cream flavor you never knew you needed or the fruit and vegetables you can get out of season all year round. 

As we've touched on, fulfilling an unmet need - the need for good value products - has driven many retailers to promote their private brands. In a retail world filled with more expensive premium FMCG brands, retailers knew some of their customers needed an array of cost-effective alternatives, that didn't compromise too much on quality. 

To retailers, developing and promoting their private label goods helps to keep their retail offer fresh and relevant in a changing economic environment. Private labeling of products broadens their offering, ensuring customers keep coming back, week in and week out. They may be spending less, but they are still spending and showing their loyalty. 

Related: How recent supply chain issues are impacting retail

Revenue differentiation

The relationship between a grocery brand and an FMCG brand, for example, is a complex one. They both need each other. National brands need a reliable outlet, ideally statewide, if not nationwide, to ensure consistent availability for their target audience. They need outlets whose brand values mirror and enhance their own. Retail brands need a reliable supply of the branded products their customers love, so they come regularly and maintain their loyalty. 

That said, the relationship between national brands and a grocery brand can be fraught. There are constant discussions over shelf space and positioning for a specific consumer product on the prized middle shelf. Retailers must achieve specific sales volumes to secure additional supplier discounts and bonus payments. Brand owners also often buy other brands to broaden their portfolio to secure more negotiating power over retailers. 

To strengthen their own hand in this situation, retailers have turned to their private brands, in many ways their hidden strength, to provide extra negotiation leverage. Developing and enhancing a range of private label items to go on their shelves alongside branded products provides more choice for the consumer, which they prize greatly and is a driver for maintaining their loyalty. 

This gives them access to additional potential margins too. While they will agree to sell a volume of a national brand for a given margin, many retailers feel they can get a better deal if they work with a private label manufacturer to create similar products but at a more competitive price point. They can use their scale and deep consumer insight to create more profitable products. 

Brand enhancement

Many retailers are in a very strong position. They often have a uniquely close relationship with their customers, often built up over many years from childhood onwards. They are used on a monthly basis, if not more often, by a loyal customer base. 

In the last 30 years, they have proven to be experts at extending their brand application to encompass online shopping, home delivery, downtown mini supermarkets, as well as out-of-town discount stores and shopping clubs like Sam's Club. The development and growth of private product labels are part of this evolution. It has reached the point where private label brands compete with national brands at price points above, below, and at the same price point. 

This brand enhancement gives retail chain owners more options in running their business, accessing more revenue streams and ways to engage with their target audience. 

What the popularity of private labels means for brands 

There is little doubt that a private brand product represents a challenge to a national brand. Brands take many years to develop, with millions of dollars invested in developing a product and the promotion central to its brand identity. A powerful brand does not simply just 'happen.' It is the outcome of a great deal of work and investment, which explains why well-known branded products typically command a premium price. Quite simply, branding is very valuable, which is a significant challenge for brands where private label items are placed on the shelf in the grocery store next to them, but at a lower price point. 

FMCG brands, for example, have to work much harder for their owners to engage with shoppers and secure their loyalty. This might mean revamped packaging, running additional advertising, running promotional campaigns, enhancing their social media campaigns, or other similar initiatives. 

There is little doubt that private-label goods are impacting branded products. Private label share of spend is increasing at the expense of branded products. 

That said, it isn't all doom and gloom for brand owners. Who do their competitors turn to when they need their products made? Very often, it is the brand owners themselves, or at least the same private label manufacturers, where the brand owners themselves may already be already invested. When visiting a private label manufacturer, it is not unusual to see branded products and products with private label branding being produced side-by-side. 

Why are private labels becoming more popular among shoppers?

All this choice is great for shoppers, of course. They get more options to choose from, and the competition helps to drive down prices and help stretch the household budget. This competition is also driving up the quality and value of private brands, both in terms of the product and its presentation.

This competition between national brands and store labels has extended far beyond FMCG products. It now extends across electrical goods, stationery products, clothing, and much else. Manufacturers worldwide have product ranges positioned as white-label products, simply waiting for retailers to approach them to re-package their products as private-label brands. Of course, for shoppers, this is a welcome development in a cash-strapped world. 

Which retailers' private label brands are growing fastest?

These developments are changing the dynamic as owned brands continue to drive dollar sales, with market share changing in favor of retailers over brand owners. 

According to industry research, brands including Target, Aldi, and Amazon are the fastest-growing private label brands. Aldi private label household penetration grew by 2.3 points from Q2 2021 to Q2 2022, followed by Target's Favorite Day brand at 2.2% with Amazon Basics at 1.7%. 

Conclusion

It is quite clear that the idea of 'private label' provides a great deal of flexibility to retail store owners as they develop their businesses. 

It can offer both tactical and strategic flexibility, whether it offers a cost-effective alternative to certain food brands or a broader range of options, extending to household goods, electricals, cleaning products, pet food, and much else. 

In many ways, they are the ideal business development platform for retailers. Retailers are experts at understanding and anticipating their customers' needs almost before they know it themselves. Private label branding allows them to target and segment very specific consumer groups by age, location, or demographic, for example, that a company with a strong brand portfolio would likely struggle to do.