Inflation vs. advertising: The battle for companies' bottom lines

The Q1 results reporting season is now over, and an overall assessment of it would be that little has changed significantly, both when it comes to advertisers and the advertising industry. For the latter, the global online Tech platforms have started to regain favour with investors (Meta’s share price has doubled since the start of the year, for example) as investors warm to the themes of ‘efficiency’ and job cuts, backed up by Q1 revenue growth that, while not spectacular, was solid. 

For the agencies, there has been a widening divergence in performance, with Publicis and Omnicom at the higher end of the growth spectrum but still positive momentum behind the industry. True, broadcasters in North America and Europe had a tough quarter. However, it should be noted that they were still benefitting significantly in Q1 2022 from significant advertising spend from start-up firms and ‘growth’ sectors, which has faded away given rising interest rates.

When it comes to advertisers themselves, a core theme (again) was the continuation of rising prices, particularly in the FMCG space. No surprise there. However, what was surprising was that the impact on volume decreased from previous quarters for many companies, even given significant price increases. For example, Unilever globally saw pricing growth of +10.7% year-on-year but only a volume impact of -0.2%, as opposed to +13.3% pricing growth in Q4 but a 3.6% hit on volume. Nestle, meanwhile, saw a 9.8% improvement in prices vs. a -0.5% impact on volume in Q1 compared with a 10.1% rise in prices in Q4 but a 2.6% impact on volume.  

That was the same when it came to Asia Pacific markets.

Unilever reported South Asia grew double-digits in sales in Q1 with a varying performance by markets (China had low single-digit growth, Indonesia remained flat, but the Philippines was up double-digits, for example). Coca-Cola saw a 10% rise in case volumes in the region and a 5% growth in price/mix, with China, India and Australia leading the way. 

Mondelez saw its APAC and Africa operations show both an 8% increase in pricing as well as a strong 5.8% growth in volume. Asia Pacific, as aregion continues to serve many companies with strong growth despite the differences between countries here.

The message from most companies in the space (well, virtually all) was that price increases would continue, although all gave the message that the rate of such gains would have to fade. There is potentially a major long-term bonus for the companies here if they can get such price increases to stick. 

Price rises tend to be permanent in nature, but many of the input costs, mainly around commodities do (usually) come down over time and, in some cases, already have. Elevated revenues and declining costs lead to improved margins. Make that stick, and you have the arguments for a share price re-rating.

However, clouds are growing on the horizon; the major one is political. While inflation has started to fall in many markets, what is called ‘core’ inflation (crucially includes food) has remained stubbornly high. That is making the jobs of governments and central banks to reduce inflation harder and has led politicians, particularly in the United States, to include the food companies of ‘greedflation’ and unjustifiably increase profits to boost margins. That risk is probably elevated in many parts of the Asia-Pacific as Governments–generally–can take a more interventionist line than their American or European counterparts.

How can advertising help in that regard? 

A theme that I have mentioned constantly for my Campaign UK op-eds is that advertising, particularly brand advertising, is ‘intangible capex’, namely that, just as firms invest in physical plant and equipment to grow long-term sales, so investing in brands and advertising also helps to drive long-term value. 

What is happening now is a demonstration of the truth of that argument. The greater-than-expected price increases and the less-than-expected impact on volumes generally has shown that strong brands drive deliverable value for companies’ revenues and earnings and share prices. It is a point constantly referenced on earnings calls.

It is ironic then that, anecdotally, some finance teams within advertisers are starting to push the line that, because consumers have accepted these price increases better than expected, so companies can afford to ease off on advertising "for a quarter or two." 

That is a very dangerous line. Partly because the temptation becomes to extend such cuts every quarter because nobody knows where the tipping point is but also, in the Asia-Pacific context and more generally globally, that a strong brand can help offset some of the political criticism coming brands’ ways. 

For advertisers looking for the long-term, do not give in to the siren calls of ‘penny wise, pound foolish’ savings.

As usual, this is not investment advice. 

Ian Whittaker is founder and managing director of Liberty Sky Advisors.