Imagine 2025
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Imagine 2025 The Consumer EdiƟon FOR REQUIRED NONͳU.S. ANALYST AND CONFLICTS DISCLOSURES PLEASE SEE PAGE 228. EQUITY RESEARCH | DECEMBER 10, 2018 Disseminated: December 10, 2018 05:21ET; Produced: December 10, 2018 05:21ET Imagine 2025 – The Consumer Edition Thinking About the Consumer: 2025 and Beyond Greek philosopher Heraclitus once wrote, “the only thing that is constant is change”. This famous proverb has been timelessly echoed in the halls of public and private organizations. However, we would argue that while change is constant, the rate of change is not. The pace of change is accelerating...quickly. We believe that change can no longer be thought of in strictly linear terms. We are in an era of exponential transformation. Consider this, it took 47 years for electricity to gain mass adoption. It only took 2.5 years for mass adoption of the iPhone. While the pace of change is more rapid than ever, investors and management teams still do not properly prioritize following and analyzing long-term change forces. Anticipating mega- trends and potential future outcomes often requires lateral perspectives that are either intimidating or time consuming. Furthermore, it often means sacrificing legacy brands and near-term profitability to realize longer-term survival and prosperity. Renowned futurist Brian David Johnson describes the necessary investment timeframe as ubermorgen—not tomorrow, but the “day after tomorrow”. All too often, we are finding that the “distant future” is not as far away as we think and this future is increasingly impacting stock valuations within a typical investor time horizon—especially when forward-thinking leaders act on their own version of the future (e.g. Amazon acquiring Whole Foods). Perhaps nowhere has the disruption from technological innovation and advancement that underpins our Imagine framework been felt more than in the Consumer sector. Remember Circuit City? Borders Bookstores? Blockbuster? Best Buy sacrificed $1.3bln in gross profit over a three-year period before evolving its business model so that it could compete with Amazon. In many ways, the consumer vertical was the original lateral battleground for tech disintermediation. We think it is only the beginning. It is our hope that as you read this report (from cover to cover!), your range of thinking starts to expand to proactively consider how some of the newest technologies, innovations and exogenous macro dynamics of our times will impact how consumers feel, shop and consume in the year 2025. We implore people to look laterally, around corners—a necessity as near- term trend following becomes further commoditized. We also hope to equip our readers with new questions they should be posing to management teams and the boards of consumer/retail companies. Whether it is packaged food, restaurants or apparel, corporate leadership needs to be able to describe the competencies needed for its company and sub- industry to survive and grow in the year 2025. As we consider investment implications from the change forces in this report, investment conclusions will include perspectives on corporate strategy and our views on respective corporate courage to evolve with new paradigms. As you read this report, please reach out to us with any feedback, thoughts or questions. We wish you and your family, happy holidays and a healthy and prosperous 2019 and far beyond. Justin Spitzer Andre-Philippe Hardy Rufus Grantham Paul Hissey Head of US Research Head of Canadian Head of European & Head of Australian Research APAC Research Equity Research December 10, 2018 RETURN TO TOC 2 Imagine 2025 – The Consumer Edition Executive Summary The Imagine 2025 Global Consumer Edition: Following on from our June 26 landmark RBC Capital Markets report Imagine 2025: Themes, Opportunities and "The Law of Accelerating Returns" study, we look to apply our learnings to the global consumer sector. As a reminder, through our Imagine 2025 process we identified 23 change forces that manifested into six themes we believe will ultimately define the global consumer sector's future through 2025. These themes are The Calibrated and Augmented Self, The Artificial Intelligence Race, In Cloud We Trust, Collective Action, Escalating Uncertainties and The Agility Imperative. To bring these themes to life, we provide a series of company-specific case studies and actionable global investment ideas. Artificial Intelligence: Artificial Intelligence is a collection of multiple technologies that enable machines to sense, comprehend, learn and act. The dialogue around “AI” has been going algorithmic lately, and we expect the activity to only ramp from here. Applications of AI are very broad, and include autonomous cars, voice-enabled devices, bioengineering, industrial robotics, etc. Economic, social, and political implications could be dramatic. It is obvious to us that the companies that have the best data (and the ability to evolve that data via AI) will be able to deliver better value propositions to the consumer over the coming years. By the year 2025, we envision AI in combination with bio data will give consumer companies the capability to proactively predict and order products before consumers know that they need it. An example of this would be an internal device embedded with AI that detects that a consumer is about to break out with blemishes and proactively orders a bespoke skincare product to address the consumer’s need. The Calibrated and Augmented Self: The Calibrated and Augmented Self is based on the concept that the “average consumer” is vanishing as machine and quantum computing learn and predict behaviors, leading to hyper-personalized products and services. Today’s consumer may be about mass personalization. However, tomorrow’s consumer will be about “bespoke consumerism”. We believe the converging forces of big data, AI, advancements in genomics/science, the rise of 3D-printing among other change forces will flip traditional business models and value chains upside-down. Are apparel companies prepared for VR shopping and the age of 3D printing? Are today’s large CPG companies equipped to deal with consumers’ 1-on1? Can packaged food companies capitalize on consumers becoming more aware of what they should be eating based on their DNA? These are the questions we believe investors should be asking consumer company management teams and boards. As we imagine the world in 2025 based on our framework, we are excited to be consumers. However, as analysts following consumer companies, our enthusiasm is a bit more tempered. In Cloud We Trust: We see Cloud as the ultimate enabler—if a consumer business has unique ideas and innovation, the cloud enables organizations to bring those ideas forward quickly and at scale. In addition to spurring growth, the cloud is cheaper than on-premise software storage solutions by as much as 40%+ over a 10-year period (a percentage that is only likely to increase as cloud services quickly become more affordable). The cloud provides instant scale to start ups and also allows organizations of all sizes to share insights and form alliances. We are also mindful of Amazon as a leading cloud provider and the strategic challenges that presents for the consumer industry. Collective Action: The power to act collectively has never been greater given technology and the viral speed with which social sharing can occur. As a result, long-held beliefs in traditional institutions, social norms, and commerce are being challenged. The idea of “collective action” is by no means a new phenomenon; but advancements in global connectivity have increased the pace at which groups can unite and catalyze change (versus relying on December 10, 2018 RETURN TO TOC 3 Imagine 2025 – The Consumer Edition traditional institutions). Take for example the Civil Rights Movement. The efforts of activists and countless protestors brought about legislation to end segregation, black voter suppression and discriminatory employment/housing practices—but it took 14 years (1954– 1968). How would this have differed with today’s technology in place? The implications on the consumer/retail sector are already taking shape. The consumer value equation has changed. No longer do products sell based on price/benefit alone, but based on the collective feedback from other consumers. Innovation curves are accelerating, transparency is rising in importance and new business models are emerging. A burgeoning sharing and gig economy will only accelerate from here as a result of collective action. Escalating Uncertainties: Even as we struggle with a staggering amount of change, we can envision a future where this rate of change goes parabolic, making our present concerns seem quaint, heightening uncertainty, and expanding the list of threats and challenges posed to the world’s nations, institutions, and corporations. The sheer scale of change has significant economic, environmental and resource considerations. For consumer companies (especially consumer staples companies) consistency of cash flows, reliable dividends, and stable growth are the most important qualities for investors. However, today (and likely more so tomorrow), the world is directly at odds with the consumer industry’s ability to deliver on those promises. Currency volatility, climate change, resource scarcity, geopolitical tensions, and population imbalances are just some of the pressures weighing on every consumer company’s ability to deliver sustainable and profitable growth. In tandem with the disruptive technological change, the magnitude