Chocolatiers: seeking a sweet spot to balance demand and prices

It is Easter weekend and chocolate is on the menu. Most of us have a favourite: Cadbury, Hershey or Lindt to name a few. The Belgian-Swiss Barry Callebaut is unlikely to be on the list even though its chocolate is found in treats such as Unilever’s Magnum ice creams.

The reason is that Barry Callebaut is the world’s largest business-to-business chocolatier, a status that limits brand recognition. This week it told investors that hot inflation is continuing to soften sales volumes. That appears to conflict with the widely-held idea that demand for chocolate is inelastic.

Elasticity of demand — or the lack of it — is an important concept in investment. In theory, a rationally greedy business would increase prices as long as demand stayed high. This usually applies to chocolate. It is hard to substitute with other foods. It triggers human pleasure responses in unique ways. People buy it as a treat even if they are economising on ordinary groceries.

Barry Callebaut delivered over 1mn tons of chocolate and ingredients in the six months to February, 3 per cent less than last year. Shutdowns at its Wieze plant in Belgium, the largest chocolate factory in the world, were partly responsible.

The problem is that cocoa prices are soaring and are now close to five-year highs. The corresponding increase in retail chocolate prices has been sharp enough to crimp normally inelastic consumer demand. At the same time, food manufacturers have cut proportions of chocolate as an ingredient in their wares.

Even though the company expects full year volumes to be flat, shareholders have a few reasons to stay sweet. Sales in Swiss francs rose almost 4 per cent year on year and recurring operating profits were up 10 per cent. A strategy to move upmarket, put in place by Peter Boone who recently departed as chief executive, should continue to drive profit growth.

“Innovations like vegan and ruby chocolate are helping drive a higher margin mix that should translate into sustainably higher profits at Barry Callebaut,” says Alex Sloane, an analyst at Barclays.

Discerning chocolate lovers — and investors — might prefer Swiss peer Lindt & Sprüngli. Shares in the famous chocolate brand trade at a pricey 40 times multiple of forward earnings, about twice that of Barry Callebaut.

Lindt grew volumes by 2.6 per cent last year, slower than the 7 per cent it managed in 2021. The company managed to offset lower volume growth with higher prices and more profitable sales; operating margins of 15 per cent were the highest on record.

Demand elasticity for sweet treats shows quite how hard inflation is hitting disposable incomes. Researchers at UBS found that consumers are less willing to pay steep prices for chocolate.

Global inflation has yet to show signs of a sustained slowdown. That is bad news for chocolate producers. It is becoming harder for them to pass on high input prices. Chocolate sales this weekend may be a little subdued relative to other years, despite the sugar rush engendered by the product.

Rathbones/Investec: call of duty

Managing money in the UK is tougher than ever. Markets are weak. Fees are low. Businesses are subscale. All three drivers are reflected in the latest wealth management tie-up. Rathbones is bringing Investec’s UK wealth business into its fold.

Lex’s broad view is that fund managers — of which wealth managers are a subset — need to go big, go specialist or go home. Traditional stock pickers are under heavy pressure from passive giants.

The combination of Rathbones and Investec looks defensive in this context. Competition is just one side of the coin.

A “consumer duty” imposed on UK financial businesses this July may be a further reason for an all-share deal valuing the Investec unit at £839mn. The new duty will be avowedly “outcomes based”. For a discretionary manager such as Rathbones, that may sound ominously retrospective. Investments do not always work out as advisers and clients hope.

Critics fear the consumer duty will spur litigation and dent City competitiveness. The new rules will also boost rapidly developing passive investment managers.

Greater scale should be some help to Rathbones. Combined funds under management of £100bn remain small compared with the client assets of passive giants such as BlackRock and Amundi. But the figure is roughly double assets at Brewin Dolphin, which was acquired by Royal Bank of Canada for £1.6bn this time last year.

The deal will leave Investec shareholders with a 41.3 per cent economic stake and 29.9 per cent of the votes in the combined business. Rathbones is paying a price equivalent to 2.1 per cent of Investec’s assets under management (AUM). That is a third below some comparable deals, notably RBC’s purchase of Brewin Dolphin and Rathbones’ acquisition of Saunderson House in 2021. On a standalone basis, Rathbones’ shares trade at about 1.9 per cent of AUM.

The stock has fallen about 10 per cent since the start of 2020. That reflects tough operating conditions and rising IT investment. The latter shaved almost 4 percentage points from operating margins that last year hit a multi-decade low of 21.3 per cent.

Margins were expected to bounce back to the high 20s by 2024. The new consumer duty may make that target harder to hit. Much depends on whether politicians support rigorous enforcement. Backers of the Financial Conduct Authority are scarce within the current administration.