For much of the 1980s, food and packaged goods companies could do no wrong. Merely to take part in the industry seemed to guarantee stellar financial performance. Between 1981 and 1990, the top quartile of the industry generated shareholder returns of over 30 percent per year. Even the laggards in the bottom quartile turned in a compound annual return of 26 percent. Understandably, it wasn’t easy for companies achieving annual shareholder returns of over 20 percent to come to grips with the fact that they were at the bottom of the barrel.

Back down to earth

More recently, however, industry performance has come crashing back to earth. Top quartile returns to shareholders so far this decade are well below the bottom quartile returns of the 1980s (Exhibit 1).

The reasons for this slump are legion. In the early to mid 1980s, tremendous margin expansion swept the industry. The nominal cost of ingredients fell; manufacturers realized customers were prepared to pay a good deal more for quality branded products; and general inflation was higher than food inflation, making it easy to pass real price increases on to consumers.

But when conditions deteriorated in the late 1980s and early 1990s, food...