Five common mistakes of CPG startups
Even the very best idea isn’t a guaranteed success without the right implementation. As Michael Dell once said, “Ideas are commodity. Execution of them is not.”
This is especially true for the labor-intensive and operationally-complex consumer packaged goods (CPG) industry, where production and supply chains can make or break a startup.
Launching a CPG brand is an opaque process, and it can be difficult to know how to take an idea from theoretical concept to physical product to full-fledged business. Here are a few common mistakes that can quash even the most promising CPG product.
1. Moving into mass/conventional retail too quickly
Getting into Safeway or Walmart seems like the ultimate achievement for a nascent food or beverage brand, right?
Not necessarily. While conventional grocery stores typically have far-reaching distribution, they’ve also been the downfall for many CPG brands, particularly those with natural or specialty products. Once these companies make the jump to mass/conventional, they often struggle to meet supply demands or even to drum up much demand at all. When you’re just one of dozens of products on a shelf, it’s difficult to stand out – particularly if you haven’t achieved the scale to compete on price yet.
Entrepreneurs frequently don’t account for the additional marketing dollars needed in order to push customers to the store. If you spend all your capital on a huge PO, you won’t have any marketing dollars to put behind the product and it might just sit on the shelf. And there’s no benefit to having your product at a heavily-trafficked supermarket if it’s just sitting on the shelf. If a product isn’t generating sales quickly enough – often in as little as three months – it’ll be kicked out. And once it’s out, it’s nearly impossible to get back in.
So establish your brand in more targeted channels, like independent groceries, natural chains like Whole Foods or Wegmans, or direct-to-consumer first. Once you have a solid customer base, some brand recognition, economies of scale, and confidence in your performance, then consider if a move to mass or conventional makes sense for your product.
2. Paying high slotting fees
Retailers have been charging slotting fees for premium placement (or any placement at all) on their shelves since the 1970s, but these fees have recently skyrocketed at certain major retailers, while disappearing altogether from others. To place just one SKU on a shelf at a major retailer can cost as much as $100,000, a crippling sum for almost any new brand.
Slotting fees are often rolled into marketing costs, which can artificially inflate unit economics while dampening a company’s ability to promote its brand. In-store visual marketing (i.e., product packaging and/or how a product looks on the shelf) is not as effective as it used to be, given the recent explosion of new consumer products, so slotting and promotional fees are not efficient methods of acquiring customers.
So say no to slotting fees and use that capital to help build your brand instead. Even if it means fewer retail partnerships to start, brand equity is a lot more valuable in the long run.
3. Me-tooism
Barriers to entry are higher in CPG than, say, mobile apps, but it’s becoming progressively easier to launch a packaged goods company. With this comes the temptation to quickly launch products that have already been validated in the market in order to capitalize on new trends.
Categories like Greek yogurt, kombucha, and jerky have experienced extraordinary growth over the past few years. While there is certainly plenty of room for multiple players in these spaces, particularly as consumers are looking for more personalized products, imitation without innovation is a recipe for failure. Consumers are wary of copycat brands and rising marketing costs are preventing boilerplate products from gaining recognition.
Similarly, being “first” to a category is no longer a significant advantage. When building a CPG business, you need to assume that as soon as you prove product-market fit, a dozen copycats will pop up.
4. Not paying enough attention to unit economics
How does the hottest new CPG company – with millions of dollars in annual revenue and more demand than it can satisfy – fail? By not managing gross margin.
No matter how much buzz you generate or how much customers love your product, if the unit economics – the direct revenues and costs associated with a particular product unit – don’t work, the company won’t work.
In particular, low gross margins signal that either prices are too low or input costs are too high. In other words, quality might be extravagant relative to the price, which is likely to spur customer demand, but may not generate enough income to cover overhead costs. While it’s possible to compress manufacturing costs as a company grows, economies of scale rarely increase margins by more than 5-10%. And if you’re planning on just hiking prices to improve the margin later on, well, that’s nearly impossible without alienating your customer base.
Even the most capital-efficient CPG company with minimal overhead is unlikely to break-even with gross margins below 20% and most should aim for 35-50% margins in order to scale and protect against price or manufacturing volatility (e.g., changing commodity prices). By comparison, in the beauty industry where branding/marketing drive pricing, gross margins are typically as high as 80-90%.
5. Benchmarking to tech products
The line between technology products and consumer products is blurring every day. CPG startups use technology for marketing, automating supply chains, and even selling directly to customers. And consumers are leveraging the internet to discover, purchase, and share new products.
As a result, growth is accelerating, startup costs are compressing, and network effects are increasing for CPG companies. Still, it would be a mistake to borrow growth projections or valuation multiples from tech startups. Even with the most efficient manufacturing process, the average physical product will take much longer to scale and exits are typically more conservative than in the tech industry.
Inflated valuations can encourage CPG brands to cut corners in order to meet unrealistic expectations of investors, or may result in lower valuations for later fundraising rounds, which can be a negative signal to potential investors or acquirers.
There’s very little luck when it comes to launching a CPG startup. Success is highly correlated to hard work and efficient operations. Hundreds of new brands are launched every year and only a few survive in the long run. Fortunately, there are lessons we can all learn from previous innovators in order to avoid the most common pitfalls of the industry.