UK Smaller Companies: Transformative Trends

The UK Consumer

Since late 2021, the UK has been forced to navigate one of the most crippling cost of living crises experienced in recent years. With high inflation outstripping wage and benefit increases, real disposable incomes are compressing, further exacerbated by domestic tax hikes. Certain consumer companies have felt the brunt of this; these are cyclical in nature and usually hard hit during an economic downturn as investors flock to safe-haven staple goods at the expense of non-essential consumer products and services.

While many consumers will be seeing their spending power eroded by inflation and higher utility costs, it is worth remembering that in the UK excess saving, the amount deposited over and above levels seen in the equivalent period before the pandemic, totalled over £190bn as of March this year. This may provide a cushion to the reduction in spending available to households as will the proportion of fixed rate mortgages also shielding mortgage holders from increased interest rates. Despite the mixed picture and near-term challenges to the UK consumer we continue to believe in the long term value creation of investing in respected consumer brands, and believe they will demonstrate their resilience through any short term downturn.

Consumer Brands

To best leverage any rebound in consumer spending habits, the power of a strong brand should not be underestimated. Carving the personality of a company, a brand is the core identity of a business and much more than ‘just’ a logo. A carefully considered brand controls the way consumers perceive products or services; it is a powerful tool to preserve future earnings prospects. With the upsurge of the UK digital economy, a strong brand is arguably more valuable today than it ever has been. Consumer exposure is at its highest and businesses are grasping the opportunity to showcase their enterprise in innovative ways, considering that 77% of consumers are likely to buy from a brand that they follow on social media¹.

¹Source: Renderforest Branding Survey, December 2020

UK Smaller Companies Offer a Competitive Edge

Brand strength provides much more than just a marketing edge, however. The economic moat created from ‘consumer brand’ intellectual property cannot be understated. Consumers are often willing to ‘pay up’ for superior brands, offering a degree of pricing power as well as resilience during market-wide downturns. In fact, over 65% of people have formed an emotional connection to a brand*, a connection that is difficult to replicate once established and reinforces competitive advantage. 

However, in order to benefit from the competitive edge inherent in a strong consumer brand, investors do not necessarily need to limit their search to established FTSE 100 companies. Iconic brands develop over time. By partnering with management teams during earlier-stage evolution, investors benefit from compound growth as companies that are protected by expanding brand power disrupt their paths to industry-leading positions. Through rigorous company analysis we have identified several UK Smaller Companies that align to our consumer brands investment theme.

Consumer Brands: The Opportunities

Resilient business models earn customer loyalty

Package holiday operator Jet2 is currently second in the UK market according to ATOL licences, earning a 28% share which rose from 20% in 2019. The company is the highest-ranked package holiday provider and airline company in the most recent UK Consumer Satisfaction Index and has recently won travel brand of the year at this year’s Which? Travel Awards. Additionally, based on Trustpilot reviews, Jet2Holidays achieves the highest ranking out its nearest peers. The brand equity has been built over many years, but was enhanced during the Covid-19 pandemic when a conservative balance sheet (stemming from the ethos of the business as well as the owner/operator structure with Chairman Phillip Meeson owning over 20% of the company) enabled Jet2 to quickly process customer refunds. Over £1.7bn in advance deposits for cancelled and delayed holidays were quickly and efficiently refunded to customers, unlike many of its peers.

The company’s ‘Customer First’ strategy has earned the Jet2 brand a degree of customer trust, especially in times of uncertainty. We believe that customers partner with the operators they know they can trust and who offer them the best value for money in such times. A holiday is a significant expense and an experience that customers value; when looking for their next booking they will remember the companies that treated them well and those that did not. This brand loyalty and operational excellence supports our belief that Jet2 will take further market share and enhance its competitive position. 

National heritage can enhance competitive position

AG Barr is the maker of Scotland’s ‘other national drink’, Irn-Bru, and is demonstrating resilience as customer budgets are squeezed and eroded by high inflation. Known at the time of launch in 1901 as “Iron Brew”, it has been manufactured at the company’s Cumbernauld factory for 120 years and has had a Barr family member on the board ever since. Though the Barr family’s ownership has dropped to just below 15%, the features of a family business remain, including a focus on conservative financial management, cash generation and investment for the long term. The family’s stewardship has helped the company to build an enviable brand in Irn-Bru, with Scotland supposedly being one of only a few countries in the world where a carbonated drink outsells Coca-Cola.

Whilst Irn-Bru generates around 50% of company revenue, AG Barr has been busy developing other brands such as tropical fruits drink Rubicon and pre-mixed cocktails Funkin, supported by management’s demonstrable expertise in building long-term brand awareness. If customers do need to cut back on their spend, we believe that Irn-Bru will retain its place in the shopping basket, supported by its entrenched position through distribution but also its place in the nation’s collective psychology.

Our investment process is focussed on researching and identifying the most promising businesses in the UK smaller companies investment universe. Our overarching philosophy is centered on quality with respect to a company’s business model, management team, financials, and competitive position. We believe that a strong consumer brand traverses each of these facets and investing early enough on a company’s growth trajectory can contribute to significant total shareholder returns over a long-term investment horizon.

*Source: Bloomberg, 31 July 2022 unless otherwise stated

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