-By Bob Phillips

In today's challenging economic environment, one is hard-pressed to find any kind of "feel-good" story to report on. And yet, for a little bit of good news, one need look only as far as the natural and organic sections that have become prevalent in most mainstream supermarkets. The reason is simple: Even with a shrinking pot of disposable income, consumers are cutting back in other areas while continuing to invest in higher-quality foods and beverages in an ongoing effort to feel good.

According to data provided by The Nielsen Company, retail dollars in the natural cereal segment were up 4.3 percent for the 52-week period ending Nov. 29, 2008, and organic cereals were up 4.6 percent. That compares with just a 1.7 percent gain in dollars for the overall cereal category.

Consumption, meanwhile, continues to grow in the "healthy" segments (0.2 percent growth for natural cereal and 2.6 percent for organic) while declining 2.1 percent for the total cereal category. The reasons that organic and natural cereals are growing both in terms of dollars and volume are many.

"We saw [higher prices] in cereals just because of the price of corn," notes Chuck Alwine, owner of Grapevine Natural Foods, a grocery store offering natural and organic products in the Philadelphia suburb of Newtown, Pa., for the past 20 years. With a footprint of about 2,000 square feet, Grapevine does in excess of $1 million in annual sales. Prior to launching Grapevine, Alwine spent six years studying the trade at Food Lion.

However, there's evidence suggesting that the party might already be over. Data provided by SPINS, the information service monitoring the natural products industry, reveals healthy gains in retail dollars among natural and organic cold cereals for the 52-week period ending Nov. 29, 2008 (7.1 percent in conventional supermarkets, and 7.6 percent in the natural channel). That growth slowed to a crawl beginning in the third quarter and went into decline during the four weeks that ended that reporting period.

"That would definitely jibe with what I'm seeing here -- no question about it," says Alwine. "There was a day when I would floor-stack a couple of different cereals and have deals on them, but I don't do it anymore. It's not worth it. Because it's such a dated product, I find it's really easy to get burned."

Not everyone agrees that the increase in retail dollars is down to the costs of raw products, however.

"I don't think it's solely because of increased costs," says Maria Emmer-Aanes, director of marketing and communications for Nature's Path, the Richmond, British Columbia-based maker of organic grain products, including cereals, breads, waffles and snacks. "We've been priced at a premium, but not such a premium that presents a major barrier for consumers."

Besides, consumers seem to be willing to spend more on what they perceive to be healthy products for themselves and their families.

"This [last] year alone, we've had a lot of different issues in terms of food safety, and one of the value-adds in the organic category is safety," continues Emmer-Aanes. "Cereal is a fairly inexpensive, healthy option, especially when people are deciding not to eat out."

Gluten-free products -- cereals included -- are one of the hot-button attributes driving growth in the natural/organic section. At Grapevine, Alwine tries to cross-merchandise his gluten-free cereals with his other natural and organic offerings.

"We have a fairly big gluten-free section, but I don't have the room to put everything that's gluten-free there," he says. "So, with my cereals, I try and put half in the gluten-free section, and half in the cereal section. And there are quite a few gluten-free SKUs. It's a continuing hot category."

Cross-merchandising RTE cereals has always been a challenge, since the most logical department in which to pair the products -- the chilled dairy case -- is off-limits to most retailers who strictly adhere to clean-floor policies in the perimeter. Emmer-Aanes is hoping the slumping economy will change some of that thinking.

"We're hoping to get cereal stack displays in front of a chilled dairy case, which will bring more consumers into the organic cereal category, just because of placement," she says. "What makes more sense than merchandising cereal and milk together?

"Retailers are really beginning to rethink their clean-floor policies because consumers are pushing them to offer more value-adds," she continues. "You can't do that if you're not working with the manufacturers to open up some of those merchandising rules that have been set in stone for so long."

Grapevine Natural Foods feels the space crunch. With a modest footprint, there just isn't enough space to realistically have aisle stacks in the chilled aisle. But that doesn't preclude some creative cross-merchandising executions between RTE cereals and shelf-stable nondairy milk substitutes.

"We display the brands that we have on promotion in our custom fliers on end caps with a couple of shelves of cereal, and then perhaps some rice milk as an alternative to regular milk or soy milk," says Alwine.

Granola is another hot segment that offers cross-merchandising opportunities with cold cereals. "It's becoming a virtual cereal option," continues Alwine. "It's definitely got legs, and I'm trying to pay attention to it. I'm also seeing many customers trending toward unsweetened products."

In general, sugar content in the RTE cereal and granola category can be rather steep -- in some cases, 11 or 12 grams per serving. "That's not a lot, compared to many conventional cereals that are laden with sugar," says Emmer-Aanes. "And the sugar content of our products is all-natural, with absolutely no high-fructose corn syrup."

Perhaps so, but with so much attention being paid to childhood obesity and type 2 diabetes, many consumers are looking at other options. "Like corn puffs, rice puffs, unsweetened shredded wheat," says Alwine. "We're also seeing interest in exotic grains like spelt and amaranth."

Preparing for Recovery
Even though the natural/organic market remains relatively strong, it would be foolhardy to suggest that there are any guarantees as the economy struggles to find a bottom before it inevitably reverses course and begins to trend back upward. "It's going to be a pretty tough year, but we've got the gross domestic product sliding back into the positive toward the back end of 2009 -- but not by very much," observes Kaumil S. Gajrawala, an analyst for UBS Investment Bank in New York.

Still, after what will by then be two years of decline, any reversal is a good thing.

"It's a very good thing," continues Gajrawala, adding that he foresees the capital and credit markets also turning around and starting to recover slowly by the fourth quarter of '09. Until then, retailers will continue to need to be flexible and creative in their category management and merchandising strategies, to position themselves for recovery.

"Reality is reality," says Alwine. "Prices go up, and you just can't eat everything. You're in business to make a profit. It's a balancing act. It really is."

Alwine receives a volume discount on commodity items -- such as cereal, juice, spring water, oils and nondairy beverages -- from his wholesaler, Dayville, Conn.-based United Natural Foods, and tries to pass much of those savings along to his customers, sometimes offering his RTE cereals below suggested retail price. "Then I try and make it up somewhere else," he says. "That way, at least you're giving your shoppers the message that you're doing everything in your power to give them a fair price."

Rather, Alwine looks for vitamins, supplements, and health and beauty products to make up for whatever margins he might need to sacrifice in RTE cereals or other food and beverage segments at any given time.

"I'm really trying to increase dollars on that side because that's where the profit margins are," he continues. "We saw a huge growth in that category in '08. If we're going to be flat or off in '09, I at least want to see growth in that area so we can offset some of the shrinking margins elsewhere. I'm trying to be creative with what we do here."

Even though Alwine does business in a fairly affluent area, he can take nothing for granted in today's market.

"I've adopted a different buying strategy over the past few years," he says. "I like to spread my dollars out and create more selection for my customers, as opposed to having less selection and putting it into five floor stacks."

Competitive Pricing
A prime driver continues to be the ongoing trend toward healthy consumption. And compared with many natural/organic segments that demand a much higher premium than their nonorganic or natural counterparts, the price differentiation in the RTE cereal category is minimal.

"I've always been surprised by the retail price points on cereal when I walk into a mainstream grocer," observes Lisa DeLima, VP grocery at My Organic Markets (MOM's), a five-store organic grocery chain based in Rockville, Md. "We play a little bit harder on retail prices to come under our natural/organic competition [primarily Whole Foods], but I've always been surprised at how high the mainstream prices are in the category. We sell comparable natural/organic products for practically the same price. It's strange."

The core natural and organic consumer defies categorization. The group includes empty nesters with more disposable income and maturing families in their 30s and 40s, as well as young families in their 20s.

"Families in their 30s and 40s are my core consumers," observes Alwine. "They're committed to a healthy lifestyle, and in terms of choices, we're going to be the last thing to go. They'll cut back on electronics and a new car and eating at fancy restaurants first."

And don't underestimate the number of young people coming into the organic/natural segment and willing to sacrifice in other areas to safeguard their families' health and develop good habits among their offspring.

"Younger families have had the privilege of being educated about all these planetary issues at the right time," observes Denise Sirovatka, senior brand manager for Boulder, Colo.-based Arrowhead Mills, a Hain Celestial Group division and maker of the Health Valley and Arrowhead Mills organic cereal lines. "Now they're starting to have kids, and they just will not make those compromises."

However, Sirovatka has seen a pattern of consumers trading down over the past quarter, from the highest-priced organic products to the lower-priced all-natural segment and, in some cases, even going back to the regular cereal category. "Trends in '09 are dependent on the depth of the recession," she continues. "The longer the recession continues, the more likely trade-offs will be made because of home budget cuts."

Which makes creative pricing and merchandising all the more important.

"You're always going to depend on the 80 percent or 90 percent of shoppers that are your core consumers," notes Alwine. "They're the ones that keep you in business. But it's that fringe 10 percent to 20 percent that delivers much of your profits. If you get a steep drop-off there, well, that's not a good thing. It's amazing what a $5 sale here or a $10 sale there does for your bottom line."