Why Are the Big Supermarket Chocolate Brands Losing Their Appeal?

It is always hard to say exactly when a change began, but this much is now fact: the big-name chocolates on supermarket shelves are losing ground to premium brands.

"The one-size-fits-all era is over."

That remark by David Nolen, director of product strategy at the Hershey Company, more or less sums up where big supermarket chocolate brands like Hershey now stand.

Two weeks after he said it, Hershey released its third-quarter results on October 28, US time. They were dreadful.

Hershey's global revenue fell 3.1% year on year. China remains tough: sales there fell 15%, and in the first quarter the China region suffered a 47% plunge. Hershey promptly cut its full-year earnings forecast. In fact, it has fallen short of analyst expectations for several years running.

"The weak economy, combined with less foot traffic in retail, has presented us with difficult challenges," Hershey's global CEO J.P. Bilbrey told an analyst meeting.

Hershey is not alone. The big-name chocolates we all know, also called mass-market chocolate brands, such as Mars's M&M's and Dove, are taking a shrinking share of American household chocolate spending. According to the market research firm Mintel, Dove, which has long dominated in China, lost 0.4% of its sales volume share there last year, the first time it has lost ground. Nestlé's core chocolate brand KitKat, which is not sold in China, has disappointed in Europe too, losing nearly 1% of market share over the past five years.

For premium chocolate brands such as Cadbury, Godiva, Lindt and Brookside, the picture is the opposite. Global sales of the Swiss brand Lindt jumped 48.3% year on year last year. Count the Godiva shops multiplying in upscale office towers and shopping districts such as Shanghai's Financial Center and Grand Gateway, and you get a sense of how popular the Belgian brand has become in China. Royce' from Hokkaido is one of the most popular souvenirs at Japanese airports; if you are flying out of Japan, it is surely on your shopping list.

"I rarely buy chocolate now, and when I do, I buy British Cadbury or some German brand. It's never one of the brands everyone knows," says Beth, a consultant at EY in the US. Many of her colleagues feel the same. Beth is 26 and earns US$63,000 a year.

The Cadbury that Beth is talking about

It is always hard to say exactly when a change began, but this much is now fact: mass-market chocolate brands are losing ground to premium ones.

Premium chocolate generally costs more than twice as much as mass-market chocolate. According to Mintel, the average retail price of chocolate in China in 2014 was US$21.21 a kilogram, while premium chocolate sold for more than US$40 a kilogram. Lindt, for example, averaged US$66 a kilogram in China, and Royce' as much as US$119.

None of that has stopped them catching on. According to the Financial Times, premium chocolate has grown almost twice as fast as mass-market chocolate over the past few years.

In China, premium chocolate is catching on mainly as a gift. When you cannot think what to give, a fine box of chocolates is never wrong: elegant packaging tends to look appropriate, and at this time of year especially, chocolate brings a sense of warmth and pleasure.

Godiva strawberry chocolates

So when Hershey, Mars and others launch premium lines to fight back, they tend to aim at the gift market. Dove's premium "Zunmu" line, for example, targets gifting directly. On the Tmall flagship stores of Lindt and Godiva, the most prominent spots on the home page go to gift boxes of every kind, such as the "Excellence Dark Assorted Flavors Gift Box" and the "Christmas Chocolate Gift Box."

Dove's "Zunmu" line of chocolates

"The company will improve production efficiency, innovate more and invest more in marketing, and we hope for a decent Christmas season," Bilbrey said. But Ken Goldman, an analyst at JP Morgan, poured cold water on that: "Over the past two years, your numbers have come in below estimates every quarter, and there is always something unexpected hitting your market."

Exactly. To be fair, mass-market chocolate is still the mainstream and still holds 82.5% of the market. But the trend will be hard to reverse. Here, as we see it, is what is hitting the mass-market chocolate business.

High earners want pricier chocolate, while price-conscious shoppers are cutting back

"The widening wealth gap in the US is hollowing out the middle-income group, and they are exactly the core customers of mass, mid-priced chocolate brands like Hershey. High-income customers like buying more expensive chocolate, and people who watch prices have become more frugal. In short, Hershey is in neither camp." Bilbrey sees this as a major reason why mass-market brands, Hershey included, are struggling in the US.

The US is Hershey's largest regional market, contributing about 80% of its revenue. Hershey also holds the largest share of the US chocolate market, about 44%.

So where has the vanishing middle-income group Bilbrey describes gone?

CNBC data show that the average American earned US$28,851 in 2014, and 67% of people earned less than this median. More and more people are sliding toward the low end of the curve.

Americans also feel "poorer" for psychological reasons. The financial crisis ended six years ago and the economy is slowly recovering, yet the latest Marketplace survey finds that 75% of Americans still feel the crisis is not over. Wall Street Journal reporter John Carney put it this way: "When you have seen half or all of your life savings vanish overnight, it takes a long time to recover."

The middle class that once drove American consumption is shrinking, and its spending habits increasingly resemble those of "low-income" households.

Mondelez International, Oreo's parent company, says that to win over this "stingier" group, "we have launched a wider range of products in convenience stores and dollar stores, such as larger snacks at a slightly higher price." At the end of last year Hershey also bought Allan Candy, a Canadian confectioner known for low prices.

China and the US, the world's two largest single markets, are in fact moving in opposite directions.

According to the National Bureau of Statistics, per capita disposable income of urban residents reached 28,844 yuan in 2014, with compound annual growth of 10.9% from 2009 to 2014. The post-1980s and post-1990s generations, who grew up during China's boom years, have become its middle class.

But unlike America's first middle class, they have lived through the sweeping changes the internet brought to daily life. The globalization of information has also given them an international outlook and higher expectations of quality living.

McKinsey predicts that the "upper middle class," with annual household disposable income of 106,000 to 229,000 yuan, will become the mainstream of China's middle class.

In a media interview in October, P&G CEO A.G. Lafley said that P&G's mistake in China was that its managers all assumed they were dealing with "thrifty middle-class consumers." "We got stuck in the middle of the market. Consumers are moving more and more upscale, which means we are moving down."

The same logic applies to China's mass-market chocolate brands. "It's a premium brand" and "it's imported from a famous chocolate-making country" are the two main reasons Chinese consumers are willing to pay more.

Fewer people visit the main sales channels, and many impulse buys have vanished

The main places people buy chocolate differ between the US and China, but in both countries those main channels are drawing fewer visitors.

Hershey's chocolate sales fell most sharply at grocery and convenience stores, which are among the main places Americans buy chocolate: down 9% from the third quarter of last year. Foot traffic at grocery stores was 4% lower than in the same quarter a year earlier.

"For many years our candy (including chocolate), mints and gum were the best-selling items in convenience stores and held the best spots in the store, but over the past 12 to 18 months things have been different," Hershey said.

That "best spot" is the checkout area, where customers are most likely to buy on impulse. Hershey says 63% of its revenue from US physical stores comes from near the counter and only 37% from the shelves.

But more and more people shop online, where they hunt for discounts and promotions and buy strictly from their own shopping lists.

China is no different. According to Mintel's survey of the Chinese chocolate market, supermarkets and hypermarkets remain the main places consumers buy chocolate, even though both channels are shrinking. Compared with two years ago, the share of people buying chocolate at supermarkets and hypermarkets fell by 14% and 2% respectively. The share buying from convenience stores, groceries and corner shops, and vending machines rose sharply, but not enough to offset the decline in the main channels.

In 2015, growth in China's overall chocolate sales volume slowed to 6.3%, roughly flat with the year before but far below the roughly 20% growth of five years earlier.

Chocolates with more refined, distinctive shapes and packaging are growing faster, though. Individually wrapped chocolate and handmade chocolate, for example, are expected to grow 7.8% and 7.1% a year respectively over the next few years. From April 2014 to March 2015, individually wrapped chocolate made up 48.5% of new products, a share that has risen over the past three years.

None of this plays to the strengths of mass-market brands. Hershey has decided to "rearrange the product mix in the counter area and persuade convenience stores to keep promoting Hershey's products." But more and more snacks are fighting for space at the checkout. "The variety of snacks has grown by 30% over the past few years," Bilbrey said, and that has hit Hershey's sales directly.

An unprecedented focus on health is another obstacle

We reported not long ago that "a whole bunch of big food companies are now talking up health." The main reason is that most consumers have become keenly health-conscious. In 2014 Nielsen surveyed people of different ages in 60 countries about health and found that young people under 20 and aged 21 to 34 care a great deal about health and are more willing than other groups to pay high prices for healthy products.

In a July cover story titled "War on Big Food," Fortune reported that US sales of packaged food have fallen by more than 1% a year for the past two years as people switch to healthier food. Chocolate, a high-calorie snack, has always been linked with weight gain.

The snacks customers favor now include granola bars, nuts and other healthier, more natural options.

Another interesting shift: dark chocolate and nut chocolates have toppled milk chocolate from the dominant position it held for so long, further evidence that we care more about health than we used to.

In May this year, Hershey and Mars both launched health-focused snack bars. Mars's is called Goodnessknows; Hershey launched one under its Brookside brand. The two products are very similar: both add fruit and nuts on top of a chocolate bar, and both claim to contain no artificial colors or flavors.

Goodnessknows snack bar

Granola bars and chocolate bars have become near-perfect substitutes for chocolate, and so formidable competitors. According to Euromonitor, in the snack bar category alone, the companies with the largest market shares are General Mills (24%), Kellogg Co. (18%) and Clif Bar & Co. (13%). Snack bar sales in the US run to US$6.8 billion a year and are growing fast.

Rising cocoa costs are also pushing more consumers toward premium brands

The International Cocoa Organization (ICCO)'s latest report cut its estimate of global cocoa production for the 2014/15 season by 10,000 tonnes and its estimate of grindings by 33,000 tonnes, and forecast a global cocoa shortfall of 15,000 tonnes. ABN Amro raised its forecast for the average 2015 cocoa bean price by US$90 to US$3,250.

The surge in cocoa prices has pushed up the prices of Hershey, Mars and other chocolate makers in the US by about 8%, and the average retail price of chocolate in China rose 7.8% between 2013 and 2014.

These price swings have clearly changed buying habits. Growth in the chocolate market over the past few years has come mainly from emerging markets such as China and India, which are also quite sensitive to price rises. High earners, meanwhile, see premium chocolate as the better value.

Lindt & Sprüngli's results for the first half of 2015 bear this out: global sales reached 1.41 billion Swiss francs (about US$1.47 billion), up 17.4% from a year earlier, and income rose in step to 90.6 million Swiss francs, comfortably outpacing rising raw-material costs.

This is also why more and more chocolate makers are launching premium brands.

In December 2014, Dove launched "Zunmu," a new premium line aimed at gift-giving. It comes as assorted chocolate gift packs priced at 500 yuan a kilogram and is meant to lift the brand's premium image.

In April 2015, Hershey launched Brookside chocolate in China, a line made up mainly of dark chocolate with flavored fillings. It retails for about 250 yuan a kilogram, well above the 180 yuan a kilogram average for mainstream Hershey chocolate.

Brookside chocolate

Last week Nestlé relaunched Cailler, a classic premium chocolate brand, in new packaging, aiming to take on premium brands such as Godiva and Lindt. The company hopes Cailler will lift its confectionery business and make up for having missed the rapid growth of premium chocolate.

If there is a Hershey bar or a pack of M&M's in front of her, Beth will still eat it; she just no longer buys them herself. "I don't know why. Maybe my tastes have changed and I've become pickier."

Graphics: Xu Bingqing