Every Sunday night Alan “AG” Lafley holds a meeting in his home. The house resembles a Tuscan villa and overlooks the Ohio River and downtown Cincinnati. Not that the chief executive of consumer goods giant Procter & Gamble spends his time taking in the view. Lafley likes to end his weekend studying reports on the company’s top 200 executives with his head of human resources.
Lafley, who joined P&G in 1979, is a company man to the core — even his house was bought from former chief executive John Smale. The wallpaper in his home office is decorated with a red elephant motif, a reference to his days running P&G’s Asian operations. On the wall is a picture of a samurai caught in a spider’s web.
Many of his rivals will recognise the allusion. P&G is the world’s biggest brands company and owns household names including Daz, Bold, Crest, Fairy, Max Factor and Pampers. But despite its size P&G, along with its rivals including Britain’s Unilever, has watched its power wane as global retailers demand ever lower prices and launch copy-cat products that eat away at sales. The balance of power, once held by the consumer-goods companies, has increasingly shifted to the retailers.
Wal-Mart, the world’s biggest retailer and owner of Asda, accounts for a fifth of all P&G’s sales. When Wal-Mart wants lower prices, it gets them. But Lafley has bucked the trend. Last week he made the biggest gamble of his career, buying rival Gillette for $57 billion (£30 billion) in a bid to maintain that lead.
In the late 1990s P&G was in trouble. Durk Jager had made a divisive attempt to rip apart P&G’s insular culture. Some of Jager’s supporters even wore badges reading “Old World/New World” to express their disdain for P&G’s past. The new world proved a disappointment and Lafley was appointed in 2000 after Jager was ousted in a boardroom coup.
An insider through and through, Lafley might have been expected to take a conservative approach to running the company. The 57-year-old has a taste for jargon, slogans and clichés. His speeches are peppered with key phrases including “the consumer is boss”, “reframing the brands” and “connect and develop”. Lafley loves a “moment of truth”.
His actions have proved far more radical than his words. His primary focus has been to get the company back on track, selling its famous brands. But behind that traditional facade Lafley has outsourced manufacturing, slashed jobs, cut $1.7 billion of costs and made acquisitions. P&G has made an aggressive push into the women’s beauty business buying Clairol and Wella.
The $57 billion all-stock merger with Gillette is a deal of a different order. The hefty price tag adds Gillette razors, Duracell batteries, Oral-B toothbrushes, Right Guard deodorant and Waterman pens to P&G’s roster of products. Gillette’s chief executive, James Kilts, has the distinction of being appointed with the approval of the world’s most successful investor, Warren Buffett, the company’s major shareholder. Kilts was appointed in 2001 when the company faced monumental challenges: growth was anaemic and while it remains the king of razor blades, the rest of the company was suffering the death of a thousand cuts. Kilts pulled off a turnround at Nabisco three years ago. Now he has done it again.
Bob McDonald, vice chairman of P&G’s global operations, said the deal was “a marriage made in heaven”. Kilts added: “It brings together two companies that are complementary in their strengths, cultures and vision.” He will join the P&G board and continue at the helm of Gillette.
At least Buffett is impressed. His vehicle, Berkshire Hathaway, owns 9.7% of Gillette, or about 96m shares — a stake equivalent to 93.6m P&G shares. Buffett called the combination “a dream deal” and said he plans to buy another 6.4m P&G shares to reach 100m by late this year when the sale is expected to close.
The deal underscores a solid revival in the mergers and acquisitions market after the fallow years that followed the collapse of the technology boom. But for the consumer-goods industry, it adds further pressure to a sector reeling from changes in the retailing landscape and consumer buying habits.
CONSUMER-GOODS companies are fighting what appears to be a losing battle with their customers and the retailers who sell their goods. When it comes to shoes and shirts, people are willing to shell out for Prada and Gucci, but increasingly the labels on their soaps and shampoos read Tesco and Asda. When they do buy branded goods, they want bargain prices.
Once able to hold the supermarkets to ransom, suppliers have found the boot is now on the other foot.
“People always say the customer is king but in the UK until recently that just wasn’t true,” said Richard Hyman, chairman of the Verdict retail consultancy. As retailers like Tesco have got bigger, competition has increased and prices have got lower. “It’s a massive battle and the customer is the biggest winner,” said Hyman.
The war has been waged for some time. Three years ago at Tesco’s biannual suppliers conference the retailer “named and shamed” leading suppliers he claimed had offered rival retailers lower prices. Unilever and Mars were among more than a handful of international suppliers not only outed, but also berated, by the supermarket giant.
The attack was a further demonstration of the growing power of a new breed of “super-supermarkets” — like Wal-Mart, Carrefour and Tesco — which now operate around the world.
Just a decade ago global manufacturers like P&G and Unilever held the balance of power — they were in charge, dictating to the supermarkets exactly how they wanted their products and promotional material displayed.
But as the dominance of supermarkets has grown (Tesco now accounts for £1 in every £8 spent on the high street) the influence of the likes of P&G and Unilever has diminished.
In the UK the ever-increasing power of supermarkets is demonstrated by the growth of own-label products, goods manufactured with the supermarkets’ own brands. According to grocery sales monitor IGD, in 1980 just 21.5% of products on supermarket shelves were own-label, by 2000 it was 38.9%. As own-label has grown, brands have been squeezed off the supermarket shelves.
The proposed merger of P&G and Gillette is the biggest sign to date of how the tables have turned.
Many observers also expect the deal to lead to further consolidation in the sector. Shares in both Bic and Reckitt Benckiser rose on Friday on the back of takeover speculation.
In the UK, attention will focus on Unilever: but the Dove to Lipton tea group has a number of issues to grapple with before it can even think about acquisitions.
In 11 days’ time Patrick Cescau, the newly appointed co-chairman of Unilever, will announce full-year results. But with Cescau expected to set out his vision and update the City and investors on his strategy, analysts and observers will pay little attention to the numbers.
P&G’s ground-breaking acquisition has hardly helped Unilever, a company that increasingly looks to be struggling in the turning tide.
FOUNDED by William Procter, an English candlemaker, and James Gamble, an Irish soap manufacturer, in 1837, P&G has spent much of its life working out ways to charge more for its branded goods. Life has changed. “We have a mantra in P&G,” said McDonald. “Better and cheaper — not just better.”
The reality for today’s consumer-goods companies is that it is increasingly difficult to persuade customers or retailers to shell out for a product they can buy cheaper elsewhere.
P&G’s survival strategy is to grow the company by cutting its costs and expanding the reach of its brands. For example Crest, P&G’s top-selling toothpaste, has expanded into Crest Whitestrips that bleach teeth. The development is now worth $300m a year. There is also a Crest SpinBrush toothbrush that now has sales of $160m-plus. When P&G bought Iams, a pet-food manufacturer, six years ago, its distribution system allowed it to double the product’s reach overnight. Now Iams is moving into pet care and pet insurance.
The company prides itself on what it calls “technology transfer”, combining one brand’s properties with another. With the Gillette deal P&G could potentially apply some of its Olay skin-care range to Gillette’s women’s razors.
As well as offering new product combinations, the deal will also shave costs. In 2001 a memo leaked out from P&G’s Cincinnati HQ arguing that the company could operate with 25,000 people — a quarter of its current size.
P&G said it expects to achieve revenue and cost synergies of about $14 billion to $16 billion with the Gillette deal. It anticipates reductions of about 6,000 employees, or about 4% of the combined workforce of 140,000. Outsourcing of manufacturing and pressure on costs is likely to lead to bigger job cuts in the long run.
But will a bigger P&G really have more clout with the world’s top retailers? “The short answer is no,” said Al Ehrbar, chairman of Brand Economics, a New York-based consultancy.
Ehrbar said Lafley was one of the most impressive chief executives working today and that both P&G and Gillette’s brands were among the strongest in the world. “But I’m highly sceptical that sellers banding together will do any good,” he said. A combined company will be bigger, he said, but not necessarily better.
Ehrbar is currently working on a report looking at brand values across the globe. “Our preliminary evidence suggests brand values have been eroding in recent years,” he said. “There are simply too many of them and they cannot attract the margins that they once did.”
Along with pressure from the supermarkets, consumer-goods companies now face customers who have access to the internet and as a result know all about their products and rival brands. The net also allows people to surf the web looking for bargains.
“Brands that stand out still have a lot of power, but building that sort of equity is becoming harder and harder to achieve,” said Ehrbar. Even for those companies with top brands, pressure on prices from retailers like Tesco and WalMart will continue.
Integrating the two companies may also prove difficult. A P&G spokeswoman said: “We are very optimistic about the merger or we wouldn’t have gone ahead with it.” But P&G has a notoriously insular culture and has never taken on a merger of this size.
“There would be a clear advantage if Gillette was a poorly run company, but it’s not,” said Ehrbar.
The merger is almost bound to start another round of talks between P&G’s rivals. As for the forces that really drove Lafley to pick up his razor, Ehrbar said it was business as usual. “Nobody’s going to be cowed by a bigger P&G.”
A MARRIAGE OF GIANTS
