Hanson_Ch14 243677 0170186288

User Manual: 243677

Open the PDF directly: View PDF .
Page Count: 204 [warning: Documents this large are best viewed by clicking the View PDF Link!]

Hanson2e_cases_00
Hanson2e_cases_01
Hanson2e_cases_02
Hanson2e_cases_03
Hanson2e_cases_04
Hanson2e_cases_05
Hanson2e_cases_06
Hanson2e_cases_07
Hanson2e_cases_08
Hanson2e_cases_09
Hanson2e_cases_10
Hanson2e_cases_11
Hanson2e_cases_12
Hanson2e_cases_13

Case studies

Introduction A summary of the case

analysis process C-2

Preparing an effective

case analysis – the full

story C-5

Case 1 Hearing with the aid of

implanted technology: The

case of Cochlear™, an

Australian high-technology

leader C-19

Case 2 The Australian retail wars:

Coles Myer and Woolworths

battle for brand value C-26

Case 3 eBay.com: Proﬁtably

managing growth from

start-up to 2000 C-32

Case 4 Gillette and the men’s

wet-shaving market C-50

Case 5 Gunns and the greens:

Governance issues in

Tasmania C-70

Case 6 Growth at Hubbard’s

Foods? C-79

Case 7 Incat Tasmania’s race for

international success:

Blue-riband strategies C-89

Case 8 The Golden Arches in

India: A case of strategic

adaptation C-95

Case 9 Monsanto: Better

living through genetic

engineering? C-106

Case 10 Nucor Corporation and the

US steel industry C-121

Case 11 Philip Condit and the

Boeing 777: From design and

development to production

and sales C-152

Case 12 Resene Paints C-168

Case 13 Sony Corporation: The vision

of tomorrow C-184

C-2

Introduction

A summary of the case

analysis process

Dallas Hanson

University of Tasmania

Case analysis is an essential part of a strategic man-

agement course and is also perhaps the most enter-

taining part of such a course. The ‘full story’ that

follows this summary gives you considerable detail

about how to go about a case analysis, but for now

here is a brief account.

Before we start, a word about attitude: make it a

real exercise; you have a set of historical facts and use

a rigorous system to work out what strategies should

be followed. All the cases are about real companies,

and one of the entertaining bits of the analysis pro-

cess is to compare what you have said they should do

with what they really have done. So, it is best not to

check the Net to see current strategies until you have

completed your analysis.

What follows is one analytical system, a fairly

tight one that you may want to adapt according to

how much time you have and the style of the case.

External analysis

Step 1 What industry is it?

You must decide on this early. This is an important

step, because it changes the analysis – for example,

your industry analysis will yield different conclusions

depending on what industry you determine.

Step 2 General environment analysis

Analyse the six generic elements – economic, socio-

cultural, global, technological, political/legal and

demographic – and work out what the important

facts are. There may be many issues and facts in each

element, but you put down only the important ones.

It is also important to avoid the common error of over-

emphasis on the ﬁrm in question. So, assuming the

ﬁrm operates in the Australian ice-cream industry,

the demographic analysis may have this comment: ‘A

large baby boomer generation is now becoming more

health-conscious. This presents opportunities in health

foods and healthy alternatives for conventional foods.

It also presents opportunities for low-fat ice creams.’

Or, in analysing the demographics of the Cochlear™

ﬁrm, you may conclude that there is a global market of

1.8 million profoundly deaf people and that this pro-

vides a huge undeveloped market for the implantable

hearing devices industry.

Step 3 The industry environment

Analyse the ﬁve forces (that is, supplier power, buyer

power, potential entrants, substitute products and

rivalry among competitors) and explain brieﬂy what

is signiﬁcant for each. For example, what are the

issues involved in new entrants into the industry? For

Introduction • A summary of the case analysis process C-3

the implantable hearing devices industry, these may

include the need for understanding of intricate new

technology, possession of a reputation in the global

deaf community for safe and effective product devel-

opment, and links to research institutions. This makes

the industry hard to enter. Each force needs a brief dis-

cussion followed by a short conclusion.

One extra consideration before you pull the anal-

ysis together and work out if this is an attractive

industry (the main conclusion) is: Is there a key force

or forces in your industry? Porter argues that there is

a key force in any industry, one that exerts more inﬂu-

ence than the other forces.

Now, is it an attractive industry? You need to

explain, brieﬂy, why or why not. Bear in mind that

it is often not a clear decision because the forces are

mixed – for example, there may be little concern about

new entrants, suppliers or substitutes, but buyers may

be ﬁckle and rivalry high. In such cases, the key force

analysis is very important

Remember: it is the industry you analyse, not the

ﬁrm.

Step 4 Competitive environment

Is there a strategic group that you need to take account

of? What is the rivalry like in this group? What capa-

bilities do the relevant ﬁrms have? What strategies do

they follow? What threats do they represent?

Step 5 You now have material about

opportunities and threats

It is easy to pull this together from the four steps you

have now completed.

Internal analysis

Step 6 The ﬁrm’s resources, tangible and

intangible

List all relevant resources. It is useful to distinguish

between tangible and intangible resources. Remem-

ber: ﬁrms have many resources.

At this point, if you have the skills and time, you

can analyse the ﬁnancial information that almost all

cases provide. This provides material for a ﬁnancial

resources paragraph.

Step 7 Capabilities identiﬁcation

Here you make a list of capabilities. Capabilities tell

you what the ﬁrm can do.

Remember: each ﬁrm may have a dozen or more

capabilities, so include some that are very unlikely to

be core competencies. This is a difﬁcult step, because

you must explain the capabilities carefully to indicate

what the ﬁrm really does. For example, Cochlear has

a capability for research in cochlear-related technol-

ogy. It does not have a generic research capability.

Step 8 Core competency analysis

For each capability, indicate which of the four tests

for a core competency it meets. An easy way to do this

is through use of a table. For example:

Rare? Valuable?

Costly to

imitate?

Non-

substitutable

Logistics

management

in cochlear

technologies Yes Y

es No No

Research

knowledge and

skill in cochlear-

related areas Yes Yes Yes Yes

Etc.

This is an important step, because the core compe-

tencies are fundamental in the strategies you suggest

– ﬁrms use their core competencies.

Step 9 Weaknesses

What major weaknesses does the ﬁrm have – for

example, old technology, very limited ﬁnance and poor

cash ﬂow, no succession planning?

Step 10 Pulling it together

You now have all the material for an excellent

SWOT (strengths/weaknesses, opportunities/threats)

analysis. Pull together the earlier identiﬁcation of

opportunities and threats (step 5) with the internal

analysis you have done. This resources-based, theory-

oriented system gives you a powerful vocabulary

to describe what simpler systems call ‘strengths’,

and the other elements of the system allow you to

systematically identify other signiﬁcant factors in

the mix.

C-4 Introduction • A summary of the case analysis process

Step 11 Current strategies

Work out the ﬁrm’s current strategies.

Step 12 Strategies

Here you take advantage of opportunities and handle

threats. You should be able to make use of core com-

petencies to do this.

You may need strategies at the business level, cor-

porate level and international level (but it depends on

the industry and on whether all are required). Also,

bear in mind that you may need to specify functional-

level strategies to ﬁt the generic strategies at the

business level. For example, if your ice-cream compa-

ny adopts a differentiation strategy, you must specify

how it is differentiated (on what grounds – low fat?)

and there must be associated innovation and market-

ing strategies (or, in the corporate-level strategy, a

supporting acquisition strategy may be used to handle

the innovation issue).

Make a list of alternative possibilities and use

the external and internal analyses that you have con-

ducted to assess them. Choose one set of alternatives.

How do these differ from current strategies?

Make sure the strategies chosen ﬁt in with your

earlier analysis. Use all the conclusions in the earlier

analysis. For example (and bear in mind that this is

simpliﬁed to make the idea clearer), if you are in a

rivalrous industry which has good growth prospects

because of useful demographic change and you have

good ﬁnancial resources, you may argue for expan-

sion into the new segment using available resources.

If the ﬁnances were not there, this strategy would be

difﬁcult to support.

Using the Cochlear™ case

as a training case

This case analysis process is easy to use once you have

learned it, and the best way to learn is to try it out. The

Cochlear™ case in this book is designed as a training

case to help you do this. Don’t be concerned if you get

a slightly different analysis to other people: one of the

glories of case analysis is that they are never ‘right’;

some are, however, more plausible than others.

C-5

Preparing an effective case

analysis – the full story

In most strategic management courses, cases are used

extensively as a teaching tool.1 A key reason is that

cases provide active learners with opportunities to

use the strategic management process to identify and

solve organisational problems. Thus, by analysing

situations that are described in cases and presenting

the results, active learners (that is, students) become

skilled at effectively using the tools, techniques and

concepts that combine to form the strategic manage-

ment process.

The cases that follow are concerned with actual

companies. Presented within the cases are problems

and situations that managers and those with whom

they work must analyse and resolve. As you will see,

a strategic management case can focus on an entire

industry, a single organisation, or a business unit of

a large, diversiﬁed ﬁrm. The strategic management

issues facing not-for-proﬁt organisations also can be

examined using the case analysis method.

Basically, the case analysis method calls for a care-

ful diagnosis of an organisation’s current conditions

(as manifested by its external and internal environ-

ments) so that appropriate strategic actions can be

recommended in light of the ﬁrm’s strategic intent and

strategic mission. Strategic actions are taken to devel-

op and then use a ﬁrm’s core competencies to select

and implement different strategies, including business-

level, corporate-level, acquisition and restructuring,

international and cooperative strategies. Thus, appro-

priate strategic actions help the ﬁrm to survive in the

long run as it creates and uses competitive advantages

as the foundation for achieving strategic competitive-

ness and earning above-average returns. The case

method that we are recommending to you has a rich

heritage as a pedagogical approach to the study and

understanding of managerial effectiveness.2

As an active learner, your preparation is critical

to successful use of the case analysis method. With-

out careful study and analysis, active learners lack the

insights required to participate fully in the discussion

of a ﬁrm’s situation and the strategic actions that are

appropriate.

Instructors adopt different approaches in their

application of the case analysis method. Some require

active learners/students to use a speciﬁc analytical

procedure to examine an organisation; others pro-

vide less structure, expecting students to learn by

developing their own unique analytical method. Still

other instructors believe that a moderately structured

framework should be used to analyse a ﬁrm’s situa-

tion and make appropriate recommendations. Your

lecturer or tutor will determine the speciﬁc approach

you take. The approach we are presenting to you is a

moderately structured framework.

We divide our discussion of a moderately struc-

tured case analysis method framework into four

sections. First, we describe the importance of under-

standing the skills active learners can acquire through

effective use of the case analysis method. In the sec-

ond section, we provide you with a process-oriented

framework. This framework can be of value in your

efforts to analyse cases and then present the results of

your work. Using this framework in a classroom set-

ting yields valuable experiences that can, in turn, help

you to successfully complete assignments that you

will receive from your employer. The third section

C-6

is where we describe brieﬂy what you can expect to

occur during in-class case discussions. As this descrip-

tion shows, the relationship and interactions between

instructors and active learners/students during case

discussions are different than they are during lectures.

In the ﬁnal section, we present a moderately struc-

tured framework that we believe can help you to pre-

pare effective oral and written presentations. Written

and oral communication skills also are valued highly

in many organisational settings; hence, their develop-

ment today can serve you well in the future.

Skills gained through use of

the case analysis method

The case analysis method is based on a philosophy

that combines knowledge acquisition with signiﬁcant

involvement from students as active learners. In the

words of Alfred North Whitehead, this philosophy

‘rejects the doctrine that students had ﬁrst learned

passively, and then, having learned should apply

knowledge’.3 In contrast to this philosophy, the case

analysis method is based on principles that were elab-

orated upon by John Dewey:

Only by wrestling with the conditions of this

problem at hand, seeking and ﬁnding his own way

out, does [the student] think ... If he cannot devise

his own solution (not, of course, in isolation, but

in correspondence with the teacher and other

pupils) and ﬁnd his own way out he will not learn,

not even if he can recite some correct answer with

a hundred percent accuracy.4

The case analysis method brings reality into the

classroom. When developed and presented effectively,

with rich and interesting detail, cases keep conceptu-

al discussions grounded in reality. Experience shows

that simple ﬁctional accounts of situations and collec-

tions of actual organisational data and articles from

public sources are not as effective for learning as fully

developed cases. A comprehensive case presents you

with a partial clinical study of a real-life situation that

faced managers as well as other stakeholders, includ-

ing employees. A case presented in narrative form

provides motivation for involvement with and analy-

sis of a speciﬁc situation. By framing alternative stra-

tegic actions and by confronting the complexity and

ambiguity of the practical world, case analysis pro-

vides extraordinary power for your involvement with

a personal learning experience. Some of the poten-

tial consequences of using the case method are sum-

marised in Exhibit 1.

As Exhibit 1 suggests, the case analysis meth-

od can assist active learners in the development of

their analytical and judgement skills. Case analy-

sis also helps students to learn how to ask the right

questions. By this we mean questions that focus on

the core strategic issues that are included in a case.

Active learners/students with managerial aspirations

can improve their ability to identify underlying prob-

lems rather than focusing on superﬁcial symptoms as

they develop skills at asking probing, yet appropriate,

questions.

The collection of cases your instructor chooses to

assign can expose you to a wide variety of organisa-

tions and decision situations. This approach vicari-

ously broadens your experience base and provides

insights into many types of managerial situations,

Exhibit 1

1 Case analysis requires students to practise important managerial skills – diagnosing, making decisions, observing, listening and

persuading – while preparing for a case discussion.

2 Cases require students to relate analysis and action, to develop realistic and concrete actions despite the complexity and

partial knowledge characterising the situation being studied.

3 Students must confront the intractability of reality – complete with absence of needed information, an imbalance between

needs and available resources, and conﬂicts among competing objectives.

4 Students develop a general managerial point of view – where responsibility is sensitive to action in a diverse environmental

context.

Source: C.C. Lundberg and C. Enz, 1993, ‘A framework for student case preparation’, Case Research Journal, 13 (summer), p. 134.

Introduction • Preparing an effective case analysis

C-7

tasks and responsibilities. Such indirect experience

can help you to make a more informed career deci-

sion about the industry and managerial situation

you believe will prove to be challenging and satisfy-

ing. Finally, experience in analysing cases deﬁnitely

enhances your problem-solving skills, and research

indicates that the case method for this subject is better

than the lecture method.5

Furthermore, when your instructor requires oral

and written presentations, your communication skills

will be honed through use of the case method. Of

course, these added skills depend on your prepara-

tion as well as your instructor’s facilitation of learn-

ing. However, the primary responsibility for learning

is yours. The quality of case discussion is generally

acknowledged to require, at a minimum, a thorough

mastery of case facts and some independent analysis

of them. The case method therefore ﬁrst requires that

you read and think carefully about each case. Addi-

tional comments about the preparation you should

complete to successfully discuss a case appear in the

next section.

Student preparation for

case discussion

If you are inexperienced with the case method,

you may need to alter your study habits. A lecture-

oriented course may not require you to do intensive

preparation for each class period. In such a course,

you have the latitude to work through assigned read-

ings and review lecture notes according to your own

schedule. However, an assigned case requires signiﬁ-

cant and conscientious preparation before class. With-

out it, you will be unable to contribute meaningfully

to in-class discussion. Therefore, careful reading and

thinking about case facts, as well as reasoned anal-

yses and the development of alternative solutions to

case problems, are essential. Recommended alterna-

tives should ﬂow logically from core problems iden-

tiﬁed through study of the case. Exhibit 2 shows a

set of steps that can help you to familiarise yourself

with a case, identify problems and propose strategic

actions that increase the probability that a ﬁrm will

achieve strategic competitiveness and earn above-

average returns.

Exhibit 2

Step 1:

Gaining familiarity

a In general – determine who, what, how, where and when (the critical facts of the case).

b In detail – identify the places, persons, activities and contexts of the situation.

c Recognise the degree of certainty/uncertainty of acquired information.

Step 2:

Recognising symptoms

a List all indicators (including stated ‘problems’) that something is not as expected or as desired.

b Ensure that symptoms are not assumed to be the problem. (Symptoms should lead to

identiﬁcation of the problem.)

Step 3:

Identifying goals

a Identify critical statements by major parties (e.g. people, groups, the work unit, etc.).

b List all goals of the major parties that exist or can be reasonably inferred.

Step 4:

Conducting the analysis

a Decide which ideas, models and theories seem useful.

b Apply these conceptual tools to the situation.

c As new information is revealed, cycle back to sub-steps (a) and (b).

Step 5:

Making the diagnosis

a Identify predicaments (goal inconsistencies).

b Identify problems (discrepancies between goals and performance).

c Prioritise predicaments/problems regarding timing, importance, etc.

Step 6:

Doing the action planning

a Specify and prioritise the criteria used to choose action alternatives.

b Discover or invent feasible action alternatives.

c Examine the probable consequences of action alternatives.

d Select a course of action.

e Design an implementation plan/schedule.

f Create a plan for assessing the action to be implemented.

Source: C. C. Lundberg and C. Enz, 1993, ‘A framework for student case preparation’, Case Research Journal, 13 (summer), p. 144.

Introduction • Preparing an effective case analysis

C-8

Gaining familiarity

The ﬁrst step of an effective case analysis process calls

for you to become familiar with the facts featured in

the case and the focal ﬁrm’s situation. Initially, you

should become familiar with the focal ﬁrm’s general

situation (for example, who, what, how, where and

when). Thorough familiarisation demands apprecia-

tion of the nuances, as well as the major issues, in

the case.

Gaining familiarity with a situation requires you to

study several situational levels, including interactions

between and among individuals within groups, busi-

ness units, the corporate ofﬁce, the local communi-

ty and the society at large. Recognising relationships

within and among levels facilitates a more thorough

understanding of the speciﬁc case situation.

It is also important that you evaluate information

on a continuum of certainty. Information that is

veriﬁable by several sources and judged along similar

dimensions can be classiﬁed as a fact. Information

representing someone’s perceptual judgement of a par-

ticular situation is referred to as an inference. Infor-

mation gleaned from a situation that is not veriﬁable

is classiﬁed as speculation. Finally, information that is

independent of veriﬁable sources and arises through

individual or group discussion is an assumption.

Obviously, case analysts and organisational decision

makers prefer having access to facts over inferences,

speculations and assumptions.

Personal feelings, judgements and opinions evolve

when you are analysing a case. It is important to be

aware of your own feelings about the case and to

evaluate the accuracy of perceived ‘facts’ to ensure

that the objectivity of your work is maximised.

Recognising symptoms

Recognition of symptoms is the second step of an

effective case analysis process. A symptom is an indi-

cation that something is not as you or someone else

thinks it should be. You may be tempted to correct the

symptoms instead of searching for true problems. True

problems are the conditions or situations requiring

solution before the performance of an organisation,

business unit or individual can improve. Identifying

and listing symptoms early in the case analysis process

tends to reduce the temptation to label symptoms as

problems. The focus of your analysis should be on the

actual causes of a problem, rather than on its symptoms.

Thus, it is important to remember that symptoms are

indicators of problems; subsequent work facilitates

discovery of critical causes of problems that your case

recommendations must address.

Identifying goals

The third step of effective case analysis calls for

you to identify the goals of the major organisations,

business units and/or individuals in a case. As appro-

priate, you should also identify each ﬁrm’s strategic

intent and strategic mission. Typically, these direc-

tion-setting statements (goals, strategic intents and

strategic missions) are derived from comments made

by central characters in the organisation, business

unit or top management team as described in the

case and/or from public documents (for example, an

annual report).

Completing this step successfully can sometimes be

difﬁcult. Nonetheless, the outcomes you attain from

this step are essential to an effective case analysis

because identifying goals, intent and mission helps

you to clarify the main problems featured in a case

and to evaluate alternative solutions to those problems.

Direction-setting statements are not always stated

publicly or prepared in written format. When this

occurs, you must infer goals from other available fac-

tual data and information.

Conducting the analysis

The fourth step of effective case analysis is concerned

with acquiring a systematic understanding of a situ-

ation. Occasionally, cases are analysed in a less-than-

thorough manner. Such analyses may be a product of

a busy schedule or of the difﬁculty and complexity of

the issues described in a particular case. Sometimes

you will face pressures on your limited amounts of

time and may believe that you can understand the sit-

uation described in a case without systematic analy-

sis of all the facts. However, experience shows that

familiarity with a case’s facts is a necessary, but insuf-

ﬁcient, step in the development of effective solutions

– solutions that can enhance a ﬁrm’s strategic com-

petitiveness. In fact, a less-than-thorough analysis

typically results in an emphasis on symptoms, rather

than on problems and their causes. To analyse a case

Introduction • Preparing an effective case analysis

C-9

effectively, you should be sceptical of quick or easy

approaches and answers.

A systematic analysis helps you to understand

a situation and determine what can work and prob-

ably what will not work. Key linkages and under-

lying causal networks based on the history of the ﬁrm

become apparent. In this way, you can separate causal

networks from symptoms.

Also, because the quality of a case analysis depends

on applying appropriate tools, it is important that you

use the ideas, models and theories that seem to be use-

ful for evaluating and solving individual and unique

situations. As you consider facts and symptoms, a

useful theory may become apparent. Of course, hav-

ing familiarity with conceptual models may be impor-

tant in the effective analysis of a situation. Successful

students and successful organisational strategists add

to their intellectual tool kits on a continual basis.

Making the diagnosis

The ﬁfth step of effective case analysis – diagnosis – is

the process of identifying and clarifying the roots of

the problems by comparing goals with facts. In this

step, it is useful to search for predicaments. Predica-

ments are situations in which goals do not ﬁt with

known facts. When you evaluate the actual perfor-

mance of an organisation, business unit or individual,

you may identify over- or under-achievement (relative

to established goals). Of course, single-problem situa-

tions are rare. Accordingly, you should recognise that

the case situations you study probably will be com-

plex in nature.

Effective diagnosis requires you to determine

the problems affecting longer-term performance and

those requiring immediate handling. Understanding

these issues will aid your efforts to prioritise prob-

lems and predicaments, given available resources and

existing constraints.

Doing the action planning

The ﬁnal step of an effective case analysis process is

called action planning. Action planning is the process

of identifying appropriate alternative actions. In the

action planning step, you select the criteria you will

use to evaluate the identiﬁed alternatives. You may

derive these criteria from the analyses; typically, they

are related to key strategic situations facing the focal

organisation. Furthermore, it is important that you

prioritise these criteria to ensure a rational and effec-

tive evaluation of alternative courses of action.

Typically, managers ‘satisﬁce’ when selecting

courses of action; that is, they ﬁnd acceptable courses

of action that meet most of the chosen evaluation

criteria. A rule of thumb that has proved valuable to

strategic decision makers is to select an alternative

that leaves other plausible alternatives available if the

one selected fails.

Once you have selected the best alternative, you

must specify an implementation plan. Developing an

implementation plan serves as a reality check on the

feasibility of your alternatives. Thus, it is important

that you give thoughtful consideration to all issues

associated with the implementation of the selected

alternatives.

What to expect from

in-class case discussions

Classroom discussions of cases differ signiﬁcantly

from lectures. The case method calls for instructors to

guide the discussion, encourage student participation

and solicit alternative views. When alternative views

are not forthcoming, instructors typically adopt one

view so that students can be challenged to respond

to it thoughtfully. Often students’ work is evaluated

in terms of both the quantity and the quality of their

contributions to in-class case discussions. Students

beneﬁt by having their views judged against those of

their peers and by responding to challenges by other

class members and/or the instructor.

During case discussions, instructors listen, ques-

tion and probe to extend the analysis of case issues.

In the course of these actions, peers or the instructor

may challenge an individual’s views and the validity

of alternative perspectives that have been expressed.

These challenges are offered in a constructive man-

ner; their intent is to help students develop their ana-

lytical and communication skills. Instructors should

encourage students to be innovative and original in

the development and presentation of their ideas. Over

the course of an individual discussion, students can

develop a more complex view of the case, beneﬁting

from the diverse inputs of their peers and instructor.

Introduction • Preparing an effective case analysis

C-10

Among other beneﬁts, experience with multiple-case

discussions should help students to increase their

knowledge of the advantages and disadvantages of

group decision-making processes.

Student peers as well as the instructor value com-

ments that contribute to the discussion. To offer

relevant contributions, you are encouraged to use

independent thought and, through discussions with

your peers outside of class, to reﬁne your thinking. We

also encourage you to avoid using ‘I think’, ‘I believe’

and ‘I feel’ to discuss your inputs to a case analysis

process. Instead, consider using a less emotion-laden

phrase, such as ‘My analysis shows’. This highlights

the logical nature of the approach you have taken to

complete the six steps of an effective case analysis

process.

When preparing for an in-class case discussion,

you should plan to use the case data to explain your

assessment of the situation. Assume that your peers

and instructor know the case facts. In addition, it is

good practice to prepare notes before class discus-

sions and use them as you explain your view. Effective

notes signal to classmates and the instructor that you

are prepared to engage in a thorough discussion of a

case. Moreover, thorough notes eliminate the need for

you to memorise the facts and ﬁgures needed to dis-

cuss a case successfully.

The case analysis process just described can help

you prepare to effectively discuss a case during class

meetings. Adherence to this process results in consid-

eration of the issues required to identify a focal ﬁrm’s

problems and to propose strategic actions through

which the ﬁrm can increase the probability that it will

achieve strategic competitiveness.

In some instances, your instructor may ask

you to prepare either an oral or a written analysis

of a particular case. Typically, such an assignment

demands even more thorough study and analysis of

the case contents. At your instructor’s discretion, oral

and written analyses may be completed by individuals

or by groups of two or more people. The informat-

ion and insights gained through completing the six

steps shown in Exhibit 2 are often of value in the

development of an oral or written analysis. However,

when preparing an oral or written presentation, you

must consider the overall framework in which your

information and inputs will be presented. Such a

framework is the focus of the next section.

Preparing an oral/written

case strategic plan

Experience shows that two types of thinking are nec-

essary in order to develop an effective oral or written

presentation (see Exhibit 3). The upper part of the

model in Exhibit 3 outlines the analysis stage of case

preparation.

In the analysis stage, you should ﬁrst analyse the

general external environmental issues affecting the

ﬁrm. Next, your environmental analysis should focus

on the particular industry (or industries, in the case

of a diversiﬁed company) in which a ﬁrm operates.

Finally, you should examine the competitive environ-

ment of the focal ﬁrm. Through study of the three

levels of the external environment, you will be able to

identify a ﬁrm’s opportunities and threats. Following

the external environmental analysis is the analysis of

the ﬁrm’s internal environment, which results in the

identiﬁcation of the ﬁrm’s strengths and weaknesses.

As noted in Exhibit 3, you must then change the

focus from analysis to synthesis. Speciﬁcally, you

must synthesise information gained from your analy-

sis of the ﬁrm’s internal and external environments.

Synthesising information allows you to generate alter-

natives that can resolve the signiﬁcant problems or

challenges facing the focal ﬁrm. Once you identify a

best alternative, from an evaluation based on prede-

termined criteria and goals, you must explore imple-

mentation actions.

Exhibits 4 and 5 outline the sections that should

be included in either an oral or a written strategic

plan presentation: introduction (strategic intent and

mission), situation analysis, statements of strengths/

weaknesses and opportunities/threats, strategy for-

mulation and implementation plan. These sections,

which can be completed only through use of the two

types of thinking featured in Exhibit 3, are described

in the following discussion. Familiarity with the con-

tents of your textbook’s 13 chapters is helpful because

the general outline for an oral or a written strategic

plan shown in Exhibit 5 is based on an understand-

ing of the strategic management process detailed in

those chapters.

Introduction • Preparing an effective case analysis

C-11

External environment analysis

As shown in Exhibit 5, a general starting place for

completing a situation analysis is the external envi-

ronment. The external environment is composed of

outside conditions that affect a ﬁrm’s performance.

Your analysis of the environment should consider the

effects of the general environment on the focal ﬁrm.

Following that evaluation, you should analyse the

industry and competitor environmental trends.

These trends or conditions in the external environ-

ment shape the ﬁrm’s strategic intent and mission.

The external environment analysis essentially indi-

cates what a ﬁrm might choose to do. Often called an

environmental scan, an analysis of the external envi-

ronment allows a ﬁrm to identify key conditions that

are beyond its direct control. The purpose of studying

the external environment is to identify a ﬁrm’s oppor-

tunities and threats. Opportunities are conditions in

the external environment that appear to have the

potential to contribute to a ﬁrm’s success. In essence,

opportunities represent possibilities. Threats are

conditions in the external environment that appear

to have the potential to prevent a ﬁrm’s success. In

essence, threats represent potential constraints.

When studying the external environment, the

focus is on trying to predict the future (in terms of

local, regional, and international trends and issues)

and to predict the expected effects on a ﬁrm’s oper-

ations. The external environment features conditions

in the broader society and in the industry (area of

competition) that inﬂuence the ﬁrm’s possibilities

and constraints. Areas to be considered (to identify

opportunities and threats) when studying the general

environment are listed in Exhibit 6. Many of these

issues are explained more fully in Chapter 2.

Once you analyse the general environmental

trends, you should study their effect on the focal indus-

try. Often the same environmental trend may have a

signiﬁcantly different impact on separate industries,

or it may affect ﬁrms within the same industry differ-

ently. For instance, with deregulation of the airline

industry in the United States, older, established air-

lines had a signiﬁcant decrease in proﬁtability, while

many smaller airlines, such as Southwest Airlines,

Exhibit 3 Types of thinking in case preparation: Analysis and synthesis

ANALYSIS

External environment

General environment

Industry environment

Competitor environment

Internal environment

Statements of

strengths,

weaknesses,

opportunities

and threats

Alternatives

Evaluations of alternatives

Implementation

SYNTHESIS

Introduction • Preparing an effective case analysis

C-12

Exhibit 5 Strategic planning and its parts

• Strategic planning is a process through which a ﬁrm determines what it seeks to accomplish and the actions required to

achieve desired outcomes

✓ Strategic planning, then, is a process that we use to determine what (outcomes to be reached) and how (actions to be taken

to reach outcomes)

• The effective strategic plan for a ﬁrm would include statements and details about the following:

✓ Opportunities (possibilities) and threats (constraints)

✓ Strengths (what we do especially well) and weaknesses (deﬁciencies)

✓ Strategic intent (an indication of a ﬁrm’s ideal state)

✓ Strategic mission (purpose and scope of a ﬁrm’s operations in product and market terms)

✓ Key result areas (KRAs) (categories of activities where efforts must take place to reach the mission and intent)

✓ Strategies (actions for each KRA to be completed within one to ﬁve years)

✓ Objectives (speciﬁc statements detailing actions for each strategy that are to be completed in one year or less)

✓ Cost linkages (relationships between actions and ﬁnancial resources)

Exhibit 4 Strategic planning process

Strategic intent

Strategic mission

Strategies

• 1 to 5 years

• Cost linkages

Objectives

• 1 year or less

• Cost linkages

Key result areas

• Required efforts

• Cost linkages

External environment

• Opportunities (possibilities)

• Threats (constraints)

Internal environment

• Strengths

• Weaknesses

Introduction • Preparing an effective case analysis

C-13

with lower cost structures and greater ﬂexibility, were

able to aggressively enter new markets.

Porter’s ﬁve forces model is a useful tool for ana-

lysing the speciﬁc industry (see Chapter 2). Careful

study of how the ﬁve competitive forces (that is, sup-

plier power, buyer power, potential entrants, substi-

tute products and rivalry among competitors) affect

a ﬁrm’s strategy is important. These forces may cre-

ate threats or opportunities relative to the speciﬁc

business-level strategies (that is, differentiation, cost

leadership, focus) being implemented. Often a stra-

tegic group’s analysis reveals how different environ-

mental trends are affecting industry competitors.

Strategic group analysis is useful for understanding

the industry’s competitive structures and ﬁrm con-

straints and possibilities within those structures.

Firms also need to analyse each of their primary

competitors. This analysis should identify their com-

petitors’ current strategies, strategic intent, strategic

mission, capabilities, core competencies and compet-

itive response proﬁle. This information is useful to

the focal ﬁrm in formulating an appropriate strategic

intent and mission.

Internal environment analysis

The internal environment is composed of strengths

and weaknesses internal to a ﬁrm that inﬂuence its

strategic competitiveness. The purpose of completing

an analysis of a ﬁrm’s internal environment is to iden-

tify its strengths and weaknesses. The strengths and

weaknesses in a ﬁrm’s internal environment shape

the strategic intent and strategic mission. The inter-

nal environment essentially indicates what a ﬁrm

Exhibit 6 Sample general environmental categories

Technology • Information technology continues to become cheaper and have more practical

applications

• Database technology allows organisation of complex data and distribution of information

• Telecommunications technology and networks increasingly provide fast transmission of all

sources of data, including voice, written communications and video information

Demographic trends • Computerised design and manufacturing technologies continue to facilitate quality and

ﬂexibility

• Regional changes in population due to migration

• Changing ethnic composition of the population

• Ageing of the population

• Ageing of the baby boomer generation

Economic trends • Interest rates

• Inﬂation rates

• Savings rates

• Trade deﬁcits

• Budget deﬁcits

• Exchange rates

Political/legal environment • Antitrust enforcement

• Tax policy changes

• Environmental protection laws

• Extent of regulation/deregulation

• Developing countries privatising state monopolies

• State-owned industries

Socio-cultural environment • Increasing proportion of women in the workforce

• Awareness of health and ﬁtness issues

• Concern for the environment

• Concern for customers

Global environment • Currency exchange rates

• Free trade agreements

• Trade deﬁcits

• New or developing markets

Introduction • Preparing an effective case analysis

C-14

can do. Capabilities or skills that allow a ﬁrm to do

something that others cannot do or that allow a ﬁrm

to do something better than others do it are called

strengths. Strengths can be categorised as something

that a ﬁrm does especially well. Strengths help a ﬁrm

to take advantage of external opportunities or over-

come external threats. Capabilities or skill deﬁcien-

cies that prevent a ﬁrm from completing an important

activity as well as others do it are called weaknesses.

Weaknesses have the potential to prevent a ﬁrm from

taking advantage of external opportunities or suc-

ceeding in efforts to overcome external threats. Thus,

weaknesses can be thought of as something the ﬁrm

needs to improve.

Analysis of the primary and support activities of

the value chain provides opportunities to understand

how external environmental trends affect the spe-

ciﬁc activities of a ﬁrm. Such analysis helps to high-

light strengths and weaknesses. (See Chapter 3 for an

explanation of the value chain.) For the purposes of

preparing an oral or written presentation, it is impor-

tant to note that strengths are internal resources and

capabilities that have the potential to be core com-

petencies. Weaknesses, on the other hand, have the

potential to place a ﬁrm at a competitive disadvantage

in relation to its rivals.

When evaluating the internal characteristics of

the ﬁrm, your analysis of the functional activities

emphasised is critical. For example, if the strategy of

the ﬁrm is primarily technology-driven, it is important

to evaluate the ﬁrm’s R&D activities. If the strategy

is market-driven, marketing functional activities are

of paramount importance. If a ﬁrm has ﬁnancial difﬁ-

culties, critical ﬁnancial ratios would require careful

evaluation. In fact, because of the importance of

ﬁnancial health, most cases require ﬁnancial analysis.

The appendix lists and operationally deﬁnes several

common ﬁnancial ratios. Included are exhibits des-

cribing proﬁtability, liquidity, leverage, activity and

shareholders’ return ratios. Other ﬁrm characteristics

that should be examined to study the internal environ-

ment effectively include leadership, organisational

culture, structure and control systems.

Identiﬁcation of strategic intent

and mission

Strategic intent is associated with a mind-set that

managers seek to imbue within the company. Essen-

tially, a mind-set captures how we view the world

and our intended role in it. Strategic intent reﬂects

or identiﬁes a ﬁrm’s ideal state. Strategic intent ﬂows

from a ﬁrm’s opportunities, threats, strengths and

weaknesses. However, the main inﬂuence on strate-

gic intent is a ﬁrm’s strengths. Strategic intent should

reﬂect a ﬁrm’s intended character and a commitment

to ‘stretch’ available resources and strengths in order

to reach strategies and objectives. Examples of strate-

gic intent include:

• The relentless pursuit of perfection (Lexus).

• To be the top performer in everything that we do

(Phillips Petroleum).

• We are dedicated to being the world’s best at

bringing people together (AT&T).

The strategic mission ﬂows from a ﬁrm’s strate-

gic intent; it is a statement used to describe a ﬁrm’s

unique intent and the scope of its operations in prod-

uct and market terms. In its most basic form, the stra-

tegic mission indicates to stakeholders what a ﬁrm

seeks to accomplish. An effective strategic mission

reﬂects a ﬁrm’s individuality and reveals its leader-

ship’s predisposition(s). The useful strategic mission

shows how a ﬁrm differs from others and deﬁnes

boundaries within which the ﬁrm intends to operate.

For example:

• Cochlear’s mission is to have ‘clinical teams and

recipients embrace Cochlear as their partner in

hearing for life’.

• Coca-Cola Amatil’s mission is to have market

leadership in every territory.

Hints for presenting an

effective strategic plan

There may be a temptation to spend most of your

oral or written case analysis on the results from the

analysis. It is important, however, that the analysis

of a case should not be over-emphasised relative to

Introduction • Preparing an effective case analysis

C-15

the synthesis of results gained from your analytical

efforts – what does the analysis mean for the organi-

sation (see Exhibit 3)?

Strategy formulation: Choosing key

result areas

Once you have identiﬁed strengths and weaknesses,

determined the ﬁrm’s core competencies (if any), and

formulated a strategic intent and mission, you have a

picture of what the ﬁrm is and what challenges and

threats it faces.

You can now determine alternative key result

areas (KRAs). Each of these is a category of activi-

ties that helps to accomplish the strategic intent of the

ﬁrm. For example, KRAs for Cochlear may include

to remain a leader in hearing implant technology and

to build links with hearing clinicians in Southeast

Asia. Each alternative should be feasible (that is, it

should match the ﬁrm’s strengths, capabilities and,

especially, core competencies), and feasibility should

be demonstrated. In addition, you should show how

each alternative takes advantage of the environmental

opportunity or avoids/buffers against environmental

threats. Developing carefully thought-out alternatives

requires synthesis of your analyses and creates greater

credibility in oral and written case presentations.

Once you develop a strong set of alternative

KRAs, you must evaluate the set to choose the best

ones. Your choice should be defensible and provide

beneﬁts over the other alternatives. Thus, it is impor-

tant that both the alternative development and evalu-

ation of alternatives be thorough. The choice of the

best alternative should be explained and defended.

For the two Cochlear KRAs presented earlier, the

strategies are clear and in both cases they take advan-

tage of competencies within the company and oppor-

tunities in the external environment.

Key result area implementation

After selecting the most appropriate KRAs (that is,

those with the highest probability of enhancing a

ﬁrm’s strategic competitiveness), you must consider

effective implementation. Effective synthesis is impor-

tant to ensure that you have considered and evaluated

all critical implementation issues. Issues you might

consider include the structural changes necessary to

implement the new strategies and objectives associ-

ated with each KRA. In addition, leadership changes

and new controls or incentives may be necessary to

implement these strategic actions. The implementa-

tion actions you recommend should be explicit and

thoroughly explained. Occasionally, careful evalua-

tion of implementation actions may show the strat-

egy to be less favourable than you originally thought.

(You may ﬁnd that the capabilities required to imple-

ment the strategy are absent and unobtainable.) A

strategy is only as good as the ﬁrm’s ability to imple-

ment it effectively. Therefore, expending the effort to

determine effective implementation is important.

Process issues

You should ensure that your presentation (either oral

or written) has logical consistency throughout. For

example, if your presentation identiﬁes one purpose,

but your analysis focuses on issues that differ from

the stated purpose, the logical inconsistency will be

apparent. Likewise, your alternatives should ﬂow

from the conﬁguration of strengths, weaknesses,

opportunities and threats you identiﬁed through the

internal and external analyses.

Thoroughness and clarity also are critical to an

effective presentation. Thoroughness is represented

by the comprehensiveness of the analysis and alterna-

tive generation. Furthermore, clarity in the results of

the analyses, selection of the best alternative KRAs

and strategies, and design of implementation actions

are important. For example, your statement of the

strengths and weaknesses should ﬂow clearly and

logically from the internal analyses presented, and

these should be reﬂected in KRAs and strategies.

Presentations (oral or written) that show logi-

cal consistency, thoroughness and clarity of purpose,

effective analyses, and feasible recommendations are

more effective and will receive more positive evalua-

tions. Being able to withstand tough questions from

peers after your presentation will build credibility for

your strategic plan presentation. Furthermore, devel-

oping the skills necessary to make such presentations

will enhance your future job performance and career

success.

Introduction • Preparing an effective case analysis

C-16

Appendix: Financial analysis in case studies

Exhibit A-1 Proﬁtability ratios

Ratio Formula What it shows

1 Return on total assets Proﬁts after taxes

Total assets

The net return on total investment

of the ﬁrm

or or

Proﬁts after taxes + interest

Total assets

The return on both creditors’ and

shareholders’ investments

2 Return on shareholders’ equity

(or return on net worth)

Proﬁts after taxes

Total shareholders’ equity

How effectively the company is

utilising shareholders’ funds

3 Return on ordinary equity Proﬁt after taxes – preference share dividends

Total shareholders’ equity – par value of

preference shares

The net return to ordinary

shareholders

4 Operating proﬁt margin

(or return on sales)

Proﬁts before taxes and before interest

Sales

The ﬁrm’s proﬁtability from

regular operations

5 Net proﬁt margin

(or net return on sales)

Proﬁts after taxes

Sales

The ﬁrm’s net proﬁt as a

percentage of total sales

Exhibit A-2 Liquidity ratios

Ratio Formula What it shows

1 Current ratio Current assets

Current liabilities

The ﬁrm’s ability to meet its current ﬁnancial

liabilities

2 Quick ratio (or acid-test ratio) Current assets – inventory

Current liabilities

The ﬁrm’s ability to pay off short-term

obligations without relying on sales of

inventory

3 Inventory to net working capital Inventory

Current assets – current liabilities

The extent to which the ﬁrm’s working capital

is tied up in inventory

Introduction • Preparing an effective case analysis

C-17

Exhibit A-3 Leverage ratios

Ratio Formula What it shows

1 Debt-to-assets Total debt

Total assets

Total borrowed funds as a percentage of total

assets

2 Debt-to-equity Total debt

Total shareholders’ equity

Borrowed funds versus the funds provided by

shareholders

3 Long-term debt-to-equity Long-term debt

Total shareholders’ equity

Leverage used by the ﬁrm

4 Times-interest-earned

(or coverage ratio)

Proﬁts before interest and taxes

Total interest charges

The ﬁrm’s ability to meet all interest payments

5 Fixed charge coverage Proﬁts before taxes and interest

+ lease obligations

Total interest charges

+ lease obligations

The ﬁrm’s ability to meet all ﬁxed-charge

obligations, including lease payments

Exhibit A-4 Activity ratios

Ratio Formula What it shows

1 Inventory turnover Sales

Inventory of ﬁnished goods

The effectiveness of the ﬁrm in employing

inventory

2 Fixed assets turnover Sales

Fixed assets

The effectiveness of the ﬁrm in utilising plant

and equipment

3 Total assets turnover Sales

Total assets

The effectiveness of the ﬁrm in utilising total

assets

4 Accounts receivable turnover Annual credit sales

Accounts receivable

How many times the total receivables have

been collected during the accounting period

5 Average collection period Accounts receivable

Average daily sales

The average length of time the ﬁrm waits to

collect payments after sales

Introduction • Preparing an effective case analysis

C-18

Exhibit A-5 Shareholders’ return ratios

Ratio Formula What it shows

1 Dividend yield on ordinary

Annual dividends per share

Current market price per share

A measure of return to ordinary shareholders

in the form of dividends

2 Price–earnings ratio Current market price per share

After-tax earnings per share

An indication of market perception of the ﬁrm.

Usually, the faster-growing or less risky ﬁrms

tend to have higher PE ratios than the slower-

growing or more risky ﬁrms

3 Dividend payout ratio Annual dividends per share

After-tax earnings per share

An indication of dividends paid out as a

percentage of proﬁts

4 Cash ﬂow per share After-tax proﬁts + depreciation

Number of ordinary shares outstanding

A measure of total cash per share available for

use by the ﬁrm

Notes

1 M. A. Lundberg, B. B. Levin and H. I. Harrington, 2000, Who

Learns What from Cases and How? The Research Base for Teaching

and Learning with Cases (Englewood Cliffs, NJ: Lawrence Erlbaum

Associates).

2 L. B. Barnes, A. J. Nelson and C. R. Christensen, 1994, Teaching

and the Case Method: Text, Cases and Readings (Boston: Harvard

Business School Press); C. C. Lundberg, 1993, ‘Introduction to

the case method’, in C. M. Vance (ed.), Mastering Management

Education (Newbury Park, Calif.: Sage); C. Christensen, 1989,

Teaching and the Case Method (Boston: Harvard Business School

Publishing Division).

3 C. C. Lundberg and E. Enz, 1993, ‘A framework for student

case preparation’, Case Research Journal, 13 (summer), p. 133.

4 J. Solitis, 1971, ‘John Dewey’, in L. E. Deighton (ed.), Encyclopedia

of Education (New York: Macmillan and The Free Press).

5 F. Bocker, 1987, ‘Is case teaching more effective than lecture

teaching in business administration? An exploratory analysis’,

Interfaces, 17(5), pp. 64–71.

Introduction • Preparing an effective case analysis

C-19

Case 1

Hearing with the aid of

implanted technology:

The case of Cochlear™, an Australian

high-technology leader

Dallas Hanson Mark Wickham

University of Tasmania University of Tasmania

The Cochlear company of

Australia: The situation

Cochlear™ is a leading Australian company specialis-

ing in cochlear devices – that is, implantable hearing

devices. It is the world leader in this market and a pro-

minent innovator in the high-technology niche within

which it operates. Cochlear originated in Australia

but now sells globally in an increasingly competitive

market.

There are several problems currently facing the

company. Within the global deaf community there is

a serious debate about the use of technology to aid

hearing in the profoundly deaf, and this obviously

threatens the market. Second, and more signiﬁcantly,

in 2002 there was a major issue when the US Food

and Drug Administration (FDA) issued a notiﬁcation

that it had received news of possible associations

between cochlear implants and meningitis. In late

2003 a new CEO, Chris Roberts, took over. What are

his options?

The Cochlear implant technology

A cochlear implant is a small electronic device that

helps a profoundly (completely) deaf person to have

a sense of sound. It is different from a hearing aid

because it helps to compensate for damaged or non-

functional parts of the ear, while a hearing aid ampli-

ﬁes sound. The implant has four parts:

• a tiny but sensitive microphone that picks up

sound

• a speech processor that selects and arranges

useful sounds

• a transmitter and receiver that turns these

sounds into electrical impulses

• a series of electrodes that are surgically

implanted in the inner ear, which pick up the

receiver’s impulses and transmit them to the

brain. (This process is analogous to how hearing

people hear sounds.)

The cochlear implant technology is getting more

sophisticated all the time. It is a fast-moving technol-

ogy, and changes are further enhancing the capacity

C-20 Case 1 • Hearing with the aid of implanted technology: Cochlear

of the devices as well as making them smaller and

therefore more socially acceptable.

Implanting the devices is a surgical procedure that

has some risks. It is also expensive because it requires

an experienced surgeon. Exhibit 1 is a diagrammatic

representation of the device.

A recent Cochlear company annual report out-

lines the details of this technology and indicates its

intricacy:

Introduction to the Nucleus® 3 system

The unique features of the Nucleus® 3 system

include:

Longest battery life on the market: The ESPrit™

3G speech processor is the only processor on the

market with a battery life that lasts up to three

days. Few interruptions and clear sound means

better hearing.

Unique Whisper setting provides more sound:

The ESPrit 3G is the only speech processor on the

market that features a special Whisper setting

designed to make soft sounds more audible –

like rain falling or a person calling from another

room.

Wireless FM and in-built telecoil: An in-built

telecoil allows you to use the telephone with no

additional attachments. The wireless FM provides

access to sound in a variety of settings including

cinemas, museums, meetings, classrooms, and

wherever an FM system is in place for hearing-

impaired participants. No additional cables are

necessary.

The only pre-curved (contoured) electrode

array on the market: The Nucleus® 24 Contour™

implant is the ﬁrst implant choice for surgeons.

It features a pre-curved electrode array, which

has two important beneﬁts: 1) The curve of the

array puts the electrodes as close as possible to

the hearing ﬁbers in the cochlea to allow for the

distinct sound. 2) The pre-curved shape of the

array matches the shape of the cochlea, which

helps to protect its delicate structure.

Titanium implant casing for best reliability:

Nucleus® implants are durable and reliable and

are made from Titanium. The Nucleus 24 Contour

has never fractured on impact. Nucleus is built for

a lifetime of use.

Removable magnet for safe MRI: Nucleus is the

ﬁrst implant to feature the removable magnet for

MRI. This allows recipients to have a full-strength

MRI if they require one.1

Exhibit 1 How the Nucleus® 3 system works

1 A directional microphone picks up sound.

2 Sound is sent from the microphone to the speech processor.

3 The speech processor analyses and digitises the sound into coded

signals.

4 Coded signals are sent to the transmitter via radio frequency.

5 The transmitter sends the code across the skin to the internal

implant.

6 The internal implant converts the code to electrical signals.

7 The signals are sent to the electrodes to stimulate the remaining

nerve ﬁbres.

8 The signals are recognised as sounds by the brain, producing a

hearing sensation.

Case 1 • Hearing with the aid of implanted technology: Cochlear C-21

Cochlear, the company

The history of Cochlear’s Nucleus® device goes back to

1967, when Graeme Clark started research on multi-

channel cochlear implants. In 1978, Professor Clark

implanted Rodney Saunders with a multi-channel

cochlear device, and by 1982 a 22-channel device

was implanted in Graham Carrick. (The more chan-

nels, basically, the better the hearing.) In 1985 the

22-channel Nucleus device was approved by the FDA

for use in adults, and in 1990 for use in children. By

1998, 10 000 children had been implanted, and by

2001 more than 36 000 adults and children had been

implanted.2

Cochlear’s technology has kept improving, and

each component improvement improves the overall

system. In 2003 the company announced a further

signiﬁcant improvement to its basic product: the

Nucleus® 24 Contour Advance™ was designed to

minimise trauma to the delicate cochlear structures

during implant surgery. It also developed a new Micro-

Link Adaptor for use with the speech processor and

receiver. (This was a product of the alliance Cochlear

has with European technology ﬁrm Phonok AG.) In

recent years the company has continually enhanced

the capacity, and further minimised the size, of its

Nucleus devices. Cochlear has won many awards for

innovation – for example, the Medical Design Excel-

lence Award in 2001 (an internationally prestigious

achievement).

The 2002/03 ﬁnancial year also included a record

result ﬁnancially. Proﬁt after tax increased by 45 per

cent to A$58.2 million and earnings per share were

up 44 per cent. There were also record unit sales, up

Exhibit 2 Statement of ﬁnancial performance

Cochlear Limited and its controlled entities for the year ended 30 June 2003

Consolidated Company

2003

$000

2002

$000

2003

$000

2002

$000

Revenue from ordinary activities 290 045 256 201 205 044 187 752

Expenses 209 239 204 021 131 110 136 448

Borrowing costs 796 1 150 153 195

Proﬁt from ordinary activities before related income tax expense 80 010 51 030 73 781 51 109

Income tax expense relating to ordinary activities 21 797 10 920 19 892 11 952

Net proﬁt attributable to members of the parent entity 58 213 40 110 53 889 39 157

Non-owner transaction changes in equity

ranslation adjustment in general reserve (8) 3 – –

Net (decrease)/increase in retained proﬁts on the initial adoption of:

Revised AASB 1028, ‘Employee Beneﬁts’ (116) – (90) –

AASB 1044, ‘Provisions, Contingent Liabilities and Contingent Assets’ 311 – 2 411 –

Net exchange difference relating to self-sustaining foreign operations (4 737) 2 507 – –

Total changes in equity from non-owner related transactions

attributable to the members of the parent entity 53 663 42 620 56 210 39 157

Basic earnings per share (cents)

Ordinary shares 110.0 76.6

Diluted earnings per share (cents)

Ordinary shares 110.0 76.6

C-22 Case 1 • Hearing with the aid of implanted technology: Cochlear

19 per cent on the previous year. Sales in the United

States were strong; in Europe they were steady; and

in Asia there was strong growth before the SARS out-

break of 2002 affected the market. Some 9328 devices

were sold during the ﬁnancial year, and at A$50 000

for lifetime care this indicated a very good year. It

took Cochlear 20 years to sell 30 000 systems, but in

the last couple of years it has sold another 20 000.3

Exhibit 2 shows the statement of ﬁnancial perfor-

mance for the 2002/03 ﬁnancial year.

Cochlear’s manufacturing facilities are world class

and have had repeated upgrades in order to maintain

this status.

The ﬁrm is very focused on R&D and devotes

15 per cent of total revenue to research. As well as

220 research staff, it has major long-term research

links with the CRC (Co-operative Research Centre)

for Cochlear Implant and Hearing Aid Innovation in

Melbourne, as well as with the University of Melb-

ourne itself. In addition, Cochlear has collaborative

research arrangements with 90 other partners in 35

countries.4

The organisation is very determined to maintain

excellent links with implant recipients and the sur-

geons and audiologists that work with them. In 2002,

70 surgeons attended the Sydney facility through

Cochlear’s ongoing visiting surgeon program.

Cochlear has 630 staff in 70 countries. It has an

excellent training system for new staff. For exam-

ple, in 2002, 43 new staff attended the Sydney head-

quarters for intensive training in the technology of

implants and all aspects of the implantation process,

including surgery. Cochlear is proud of the ethnic

diversity of its staff – the Sydney ofﬁce includes staff

from 60 nations.

The board is made up of eight independent non-

executive directors, the CEO, and one other execu-

tive director. Cochlear has a great committee system

and all meetings are well documented. In September

2002, Cochlear was named in the top three Australian

companies for best corporate governance by Investor

Relations Magazine.

The external world for the

industry

Hearing impairment

Hearing impairment ranges from mild to profound,

and some people can hear some frequencies but not

others. Mild hearing loss means that people can hear

in quiet, one-to-one, situations but have problems in

noisy environments such as cafés and bars. At the

moderate level of loss, people ﬁnd difﬁculty in hear-

ing normal speech at any distance over a metre and

are unlikely to hear well in crowded social situations.

Profound hearing loss means that a person cannot

hear a normal speaking voice or normal sounds. They

may be helped by hearing aids, but tend to rely heav-

ily on speech reading or sign language. Those with

high-frequency loss (often caused by exposure to loud

noises) can hear the person speaking but have difﬁ-

culty hearing all the sounds. For example, the higher-

pitched consonants such as P, S, F and CH may be

confused, so ‘sun’ may be heard as ‘fun’ or ‘pat’ heard

as ‘sat’.5

The market for cochlear devices is the pro-

foundly deaf. The number of such people is difﬁ-

cult to determine. The UK National Deaf Children’s

Society (NDCS) suggests that one in 1000 children

are born with severe/profound hearing problems.6

The (Australian) Bionic Ear Institute estimates the

potential market in the West plus Japan as 3 million

devices. In China, there are possibly 35 000 people

born each year who would beneﬁt from the device.7

Even when discounted for unwillingness to risk the

operation or lack of money, the numbers are huge.

The companies competing in the industry concen-

trate on the United States and European markets and

have barely penetrated the wider global market.

The political/legal environment

The cochlear industry is part of the general medical

technology industry. Regulation is therefore signiﬁ-

cant and the US Food and Drug Administration is

Case 1 • Hearing with the aid of implanted technology: Cochlear C-23

the most signiﬁcant regulator because its ﬁndings

have weight worldwide. The FDA must approve new

devices before they can be sold in the United States.

The FDA was also the initiator of the 2002 meningitis

scare, which affected the whole industry.

The global aspect

The cochlear market has gradually expanded beyond

Australia, the United States and Europe. Cochlear

itself established its European ofﬁces in 1987 and

an ofﬁce in Japan and Hong Kong in the 1990s,

while China was a major target in 2001. Cochlear

devices are now sold in more than 60 nations. Given

that profound deafness is a problem globally, it can

be expected that the global market will continue to

expand.

Economics and cochlear devices

Cochlear devices cost around A$50 000 for a life-

time service.8 Demand worldwide therefore comes

from relatively afﬂuent individuals, medical insur-

ance companies and government organisations. It is

possibly limited in poorer nations. However, within

the OECD the middle to upper income groups are

increasingly prosperous and these people are a poten-

tial market without government help. On the other

hand, medical and insurance systems are gradually

coming under increasing pressure as government tax

incomes struggle to cope with competing demands for

health, education and welfare services.9

In 2003 the global economy was expected to take

an upturn, while Australia continued a phase of con-

tinued prosperity and Europe and the United States

were basically stable in economic terms.

The meningitis crisis in the

Cochlear implant industry

On 24 July 2002 the FDA issued a notiﬁcation that it

had reports of a link between cochlear implants and

bacterial meningitis (a potentially fatal infection of

the lining of the surface of the brain). There were 43

such cases and 11 people died. There were reports that

implants had been withdrawn from sale in Germany,

France and Spain. On 25 July the FDA updated its

warning and said it had now learned of 118 cases.10

Cochlear responded to the crisis quickly. Graeme

Clark claimed that the infection was related to a

design change by their competitor, Advanced Bionics,

that created ‘dead space’ within the ear, thus provid-

ing a home for bacteria. Professor Clark commented

that, ‘It is a very great problem of engineers per se

designing something without due recourse to biolo-

gists and medical people.’11 Advanced Bionics tempo-

rarily withdrew its product from sale.

The neuro-technology industry (the generic

industry for implantable devices) bulletin commented

on this scare: ‘One side beneﬁt of the relative lack

of media exposure that the neural prosthesis industry

receives is that this crisis has not gained the inten-

sive public scrutiny that has greeted other industries

when confronted with unﬂattering data or allega-

tions.’12 The scare nevertheless received signiﬁcant

media attention and Cochlear’s share price dropped

sharply. Advanced Bionics advanced a reputation for

crisis management with its suspension from sales and

detailed explanations of problems to its stakeholders.

The meningitis scare has had a long-term ripple

effect on the industry, and doubt remains despite a

climb in share prices to those similar to levels prior

to the scare. The deaf community and the medical

profession have an ongoing debate about cochlear

implants. For example, Blake Papsin, the director of

the Cochlear implant program in Toronto, Canada,

in early 2003, said:

In coming to terms with the relation between

cochlear implants and meningitis, we should not

lose sight of the beneﬁt of this technology. For

many children, the cochlear implant is a marvel

that has allowed them to attain or regain hearing

and speech. The growing number of candidates

for cochlear implants, at least in Canada centres,

reﬂects a conservative application of this technology

based on the responsible evaluation of outcomes.13

This debate simmers in deaf culture. It is made

more complex by advances in other areas of neuro-

technology that are leading to useful devices such

C-24 Case 1 • Hearing with the aid of implanted technology: Cochlear

as artiﬁcial sight. In addition, the increasing accep-

tance of altered body technology may impact on the

cochlear industry: many now feel it is normal to alter

body parts by surgery – for example, with pectoral

enhancement or breast enlargement – and this could

affect the ‘normality’ of a cochlear implant in the

wider (as distinct from deaf) culture.

Debate about the idea of

Cochlear implants in the

deaf community

The background to a vigorous debate about the

active beneﬁts of a cochlear implant is encapsulated

in a 2002 letter from Robert Adam, President of the

Australian Association of the Deaf:

The truth is obvious: a cochlear implant is not a

cure for deafness. Let me expand on this a little.

The Royal Institute for the deaf in the UK has a

fact sheet which mirrors the Australian Association

of the Deaf’s view succinctly: A child with an

implant will still be profoundly deaf when not

wearing the implant. When wearing the implant,

the child will be considered hard of hearing, or

severely deaf, in the sense that a person with a

hearing aid is described as hard of hearing.

The deaf culture is not just about a language

– it is also about community, history and art. Like

many minority cultures, there is a strong tradition

of stories and folklore that is passed on from one

generation to the next. There have been many

captivating and moving stories about the way deaf

people lived in the past and about how deaf culture

has endured despite attempts to ‘cure’ deafness.14

In 2000 in the United States the debate was high-

lighted by a ﬁlm documentary called Sound and Fury,

which portrayed the Artinian family. The father,

Pete, is deaf and has three deaf children. His family

includes brother Chris and his wife Mari. They had a

deaf baby and decided to have an implant. Pete and his

wife Nita, leading anti-implant campaigners, object-

ed but were then astonished when their own daughter

requested an implant. Pete and Nita were afraid that

their daughter would lose contact with deaf culture if

she had an implant, so they decided to move to a more

deaf-culture-oriented community. This complex fam-

ily drama appealed to the US media, and the idea of a

deaf culture contrasted with the beneﬁts of cochlear

implants became a subject of general debate.

In 2003 the tenor of the debate in the United States

changed with the entry of Miss USA 1995, Heather

Whitestone McCallum. She became profoundly deaf

in infancy and had an implant in 2002. She then

sprang into action, lobbying federal politicians for the

industry, appearing on top-rating television shows,

such as Good Morning America, and appearing in

print media such as the bestselling USA Today. She

has been credited with helping to change the US gov-

ernment’s mind on cochlear support: the government

had been talking in 2002 of reducing funding for the

implant procedure but ended up increasing it.15

Competitors in the

industry

Advanced Bionics is a private US company founded

in 1993, which is dedicated to the development of

neuron-stimulation products – implantable devices

that direct electrical impulses to nerves and muscles.

The chairman, Alfred Mann, says the company aims

to ‘enable the deaf to hear, the blind to see, and the

lame to walk’. The company originated when Dr

Robert Schindler from the University of California’s

San Francisco cochlear program approached Mann

for funding. Mann was already highly successful in

implantable devices, the founder of a major heart

pacemaker company (Pacemaker Systems) and high-

tech wearable insulin-delivering pumps (MiniMed).

In 2003 the Alfred Mann Foundation (Mann’s phil-

anthropic research organisation) was working with

Robert Greenberg, the CEO of Mann’s company

Second Sight, a company devoted to the development

of implants to enable vision. The implants would

enable people with retinal disintegration to see.

Greenberg claimed in 2003 that three people have

been implanted and that the results were ‘pleasing’.16

Advanced Bioniocs has developed and sold the Clar-

ion cochlear implant. This had, in 2002, about 15 per

cent of the US market.

Case 1 • Hearing with the aid of implanted technology: Cochlear C-25

AllHear Inc. Designs

This company manufactures and sells cochlear

implants. The founder, Dr William House, produced

a cochlear device in 1984 in conjunction with the 3M

Corporation, one of the world’s leading innovation-

driven corporations. The AllHear cochlear implant

is unique because it uses a single short electrode that

apparently does not destroy residue of hearing.17 In

2003, AllHear’s cochlear implants were not approved

by the FDA for general sale in the United States.

Med-El

Med-El produces the COMBI-40+ cochlear implant

system. It has collaborative arrangements with a

range of universities. Med-El has eight subsidiaries

and nine service centres throughout the world. It is a

ﬁerce competitor.

Back to Cochlear, the

company

The previous CEO, Jack Mahoney, was a successful

leader after succeeding the well-known Catherine Liv-

ingstone in 2001. He delivered on ambitious growth

and proﬁt targets in 2002/03. He received a pack-

age in 2002 worth $1.8 million, including a $416 845

performance-based bonus and had $100 000 in stock

options, which remained unaffected by the new plan.

In late 2003 he announced his resignation and

a new CEO, Chris Roberts, took over in February

2004. Roberts faced the classic challenges of the new

CEO of a reasonably successful company – how to

continue a record of advancing sales, proﬁts and inno-

vation. In addition, he must cope with the competi-

tion and the social and medical issues that threaten

the industry. Roberts had been CEO of ResMed, an

Australian company that makes and innovates in sleep

apnoea products. (Sleep apnoea is a condition where

a person’s airways become blocked, often as a result

of being overweight, causing them to wake up, some-

times many times a night. It is a good area for busi-

ness, as cases of apnoea are on the increase. ResMed

is number one in Europe for these products.

Soon after Roberts took over at Cochlear, the

share price dropped by 30 per cent. The European

markets were worse than expected, and the American

market was tight because the federal health budget

was tighter, and the major competitor in the United

States, Advanced Bionics, had been rejuvenated.

Cochlear is still the market leader, but its competitors

are coming on strong.18

What strategies do you suggest CEO Chris Roberts

use to achieve his aims?

Notes

1 www.cochlear.com.

2 Ibid.

3 N. Gluyas, ‘Cochlear’, The Australian, 1 December 2003.

4 www.cochlear.com.

5 Australian Association of the Deaf, 2003.

6 NDCS, 2003.

7 Gluyas, ‘Cochlear’.

8 Ibid.

9 OECD, 2002.

10 www.lieffcabrasser.com/cochlear.htm.

11 Quoted in ibid.

12 Neurotech Business Report, August 2003.

13 MAT, accessed on www.cmaj.ca.

14 Herald-Sun, 26 March 2002.

15 Australian Financial Review, 20 August 2003.

16 www.healthyhearing.com.

17 Ibid.; www.allhear.com.

18 B. Foley, 2004, ‘Cochlear needs a good doctor’, Australian

Financial Review, 4 February, p. 21.

C-26

Case 2

The Australian retail wars:

Coles Myer and Woolworths battle for

brand value

Mark Wickham Dallas Hanson

University of Tasmania University of Tasmania

Introduction

Throughout the 1990s, the chronic poor performance

of Australia’s largest ‘food’ and ‘general merchan-

dise’ retail ﬁrms, Coles Myer and Woolworths, led

analysts and investors alike to abandon their shares

in droves. Both chains were dogged by underperform-

ing divisions, global economic uncertainty, and a

lack of strategic vision perceived as endemic to the

sector. Since 2000, however, both companies have

managed to implement signiﬁcant strategic changes

to their business operations, and by 2003 had once

again found favour with the investment community.

The strategic changes have included diversiﬁcation

into new retailing sectors such as petrol and credit

cards, the restructuring of their supply chain logis-

tics, and the advancement of their information tech-

nology capabilities. Each move has been greeted with

increased earnings and the associated investor opti-

mism, although the question remains as to how Coles

Myer and Woolworths can continue to deliver the

outstanding results of 2003 in an uncertain economic

future.

The Australian ‘food’ and

‘general merchandise’

retail sectors, 1996–2002

Despite the global economic decline experienced since

the Asian ﬁnancial crisis of 1997/98, and the economic

and social shocks of the World Trade Center attacks in

2001, the Australian retailing sector has experienced

robust year-on-year growth since 1995/96. Exhibit 1

indicates the robust nature of Australian retail spend-

ing during this period. The strength of Australia’s

retail spending has been attributed to relatively high

consumer and business conﬁdence, relatively low ofﬁ-

cial interest rates and stable employment levels.1 The

food and general merchandise retail sectors have con-

tributed signiﬁcantly to Australia’s retailing success

story, and closely reﬂect the success, and dominance,

of Coles Myer’s and Woolworths’ branding strategies

since 2000. Coles Myer’s and Woolworths’ domina-

tion of the food and general merchandise sectors is

reﬂected by their combined revenues, which in the

ﬁnancial year ended 2003 accounted for close to 80

per cent of the sector’s total.2

Case 2 • The Australian retail wars: Coles Myer and Woolworths C-27

Exhibit 1 Australian retail sales ﬁgures, 1995/96–2001/02

Food

retailing

General

merchandise

Clothing

and soft

goods

retailing

Household

goods

retailing

Recreational

goods

retailing

Other

retailing

Hospitality

and services Total

$mn $mn $mn $mn $mn $mn $mn $mn

1995/96 57 996 12 315 8 882 12 591 7 623 12 307 25 002 135 885

1996/97 58 406 12 241 8 758 13 795 7 251 12 742 23 603 136 411

1997/98 60 453 12 593 8 989 14 314 7 391 13 835 23 965 141 220

1998 /99 61 482 12 994 10 068 14 717 7 492 14 639 26 007 147 081

1999/00 62 218 13 768 10 781 17 344 7 612 15 863 27 363 154 884

2000 /01 62 004 13 140 10 213 17 972 7 310 17 020 27 563 155 222

2001/02 63 340 13 714 11 005 20 554 7 393 18 785 25 584 163 374

Source: Commsec.

The best of times: A tale of

two retailers

The Australian food retailing industry consists of

a virtual duopoly between Coles Myer and Wool-

worths. The combined sales of the two retail giants

exceed A$55 billion, and provide employment for

some 300 000 workers.3 The Coles Myer empire was

established in 1985 with Coles’ acquisition of Grace

Brothers, and by 2003 consisted of 14 distinct busi-

ness units spanning both the food and general mer-

chandise retailing sectors. In its food division are the

Coles Supermarket chain of stores, its Bi-Lo discount

supermarkets, and the Internet-based Coles Online

and Shopfast Online. In its general merchandise divi-

sion are the Myer’s Grace Brothers department store,

the Megamart chain of electrical and furniture retail-

ers, the Target department stores, Kmart’s cut-price

department store, the OfﬁceWorks chain and Harris

Technology. Recently, the company also launched its

Coles Express stores, which merchandise a limited

range of grocery items from selected petrol stations

in Victoria.4

In 2003, the Woolworths retailing empire con-

sisted of three food and four general merchandise

businesses. Woolworths’ food businesses included

their Woolworths and Safeway supermarkets, and the

BWS (Beer, Wines and Spirits) chain of liquor outlets.

Its general merchandise businesses include the Big W

chain of discount department stores, the Dick Smith

chain of electronic equipment stores, the Tandy chain

of electrical merchandise stores, and the Plus Petrol

service stations.5

Despite the fact that Coles Myer remains the coun-

try’s largest food retailer, its growth year on year lags

behind that of Woolworths, which has delivered 22

per cent increases in its earnings for the period 2000

to 2002. Coles Myer, on the other hand, has achieved

growth rates that are commensurate with CPI increas-

es, and has tended to play ‘catch-up retailing’ on

everything from supply chain management to fuel dis-

counts. One strategy that Coles Myer uses that acts as

a real point of difference in the supermarket game is

its concentration on the development of house brands

(that is, its Coles, Reliance and Farmland brands).

Currently, house brands account for approximately

8 per cent of Coles Myer’s store-keeping units (SKUs),

with the company planning to increase these to 15

per cent over the next three years. Woolworths, on

the other hand, is concentrating on the promotion of

everyday low price (EDLP) points for well-established

national brands, a strategy that it borrowed heavi-

ly from the success of the Wal-Mart chain of stores

in the United States.6 By taking on the demonstra-

bly successful aspects of Wal-Mart’s EDLP strategy,

Woolworths has turned around its loss-making gen-

eral merchandise operations and has streaked ahead

of its major competitors.7 In particular, Woolworths’

EDLP has worked well in its Big W chain, where it has

C-28 Case 2 • The Australian retail wars: Coles Myer and Woolworths

proven to be a competitive advantage against Coles’

Kmart and Target divisions, which maintained a

‘high–low’ pricing strategy.8

A question of leadership

and strategy

Despite the multi-point competition that exists

between the two companies, their leadership could

not be any more divergent. In September 2001, and

without any prior experience in the industry, John

Fletcher was appointed as the chief executive ofﬁcer

of Australia’s largest retailer, Coles Myer Ltd. Before

his appointment at Coles Myer, Fletcher spent almost

his entire professional career at Brambles Industries,

a resource sector ﬁrm that supplied on- and off-site

logistics for mining companies operating in Austra-

lia.9 Early in his career, Fletcher was charged with

accounting responsibilities at Brambles, but his man-

agerial skills were soon recognised and developed by

the company, who promoted him to CEO in 1993. By

comparison, Roger Corbett, the CEO of Woolworths

Ltd, has been involved in the Australian retail indus-

try for more than 30 years, initially working as a ser-

vice assistant for Grace Brothers in the 1960s, which,

ironically, became part of the Coles Myer empire in

1985. Corbett has also been heavily involved with the

management of the Wal-Mart chain of supermarket

and general merchandise stores in the United States,

where he has attended annual general meetings and

other pivotal strategy meetings. It was from this inter-

action that Corbett adopted the Australian version of

the EDLP strategy that has to date been highly valu-

able for the Woolworths business.10

Fletcher assumed the CEO position at Coles Myer

during a very interesting time for the company. Aside

from its supermarket division, which had experi-

enced strong growth since Dennis Eck took control

in the mid-1990s, the remainder of the group was

dogged by well-documented, and seemingly chronic,

underperformance. In addition, Fletcher’s arrival was

met with a series of boardroom upheavals and the

culmination of years of shareholder discontent.11 The

eight years’ experience at the helm of one of Australia’s

largest resource companies between 1993 and 2001,

however, did little to prepare him for the tumultuous

period that he would endure at Coles Myer during

2002, a year that he was to describe as ‘as tough as

any year that I have had in my professional life’. At the

same time, Roger Corbett was enjoying a third consec-

utive year-on-year proﬁt growth of approximately 10

per cent, and had plans to acquire the Franklins’ chain

of supermarkets to further its growth ambitions. The

source of Woolworths’ much-heralded performance

has been attributed to Corbett’s implementation of

a strategy named ‘Project Refresh’ in 1999. Project

Refresh sought to restructure the company’s supply

chain, and to introduce new technology and the new

EDLP structure to its supermarkets. Added to this

was its successful foray into the petrol-retailing sector

in 1997 (a strategy that drew no competitive response

from Coles Myer at the time), which resulted in Wool-

worths capturing valuable market share points from

Coles Supermarkets between 1999 and 2002. By the

end of 2002, the Australian food and general mer-

chandise retail sectors were valued at approximately

$75 billion, and Woolworths had managed to cap-

ture 40 per cent compared with Coles’ 36 per cent, a

fact reﬂected in Woolworths’ share price which had

grown from $4.20 in 1999 to $13 in 2002. Coles’

share price during the same period had fallen from

$9 to $6.

2003: The Coles Myer

empire strikes back

After indications that the Coles Myer empire might be

broken into its constituent ‘parts’ due to the chronic

underperformance of a number of its divisions,12 John

Fletcher instead announced a bold plan to confront

Woolworths head-on in the war for corporate brand

value in early 2003. The corporate brand ‘battles’ had

been comprehensively won by Woolworths between

1997 and 2002, with the company achieving 400 per

cent sales growth on their multi-point direct compe-

tition items during this time. Woolworths had also

managed to position itself as The Fresh Food People

during this period, a marketing triumph not matched

by the Coles Myer food retailers. In response to Coles

Myer’s relatively poor performance and its ‘second

mover’ status in the food and general merchandise

sectors, Fletcher promised his shareholders that by

Case 2 • The Australian retail wars: Coles Myer and Woolworths C-29

2007, Coles Myer would become the leaders of retail-

market innovation and value, and double the com-

pany’s proﬁt levels achieved in 2003. The ﬁrst broad-

side in this ‘battle of the brands’ was to occur early

in 2003 in the liquor segment of the food-retailing

sector.

In April 2003, Coles Myer announced that it had

acquired the Theo’s chain of ‘premium’ liquor out-

lets located in Sydney and Melbourne. Woolworths

had already been in control of the Cheaper Liquor

Company in various states, but had not been involved

with this premium end of the market. Almost imme-

diately, Woolworths undertook a similar acquisition

of the Dan Murphy’s franchise (for a reported $260

million), also located in Sydney and Melbourne.13 The

move almost immediately resulted in the reduction

of prices charged by both outlets. Coles Myer had

acquired Theo’s as a real point of difference between

the two companies’ offerings; however, Woolworths’

implementation of its EDLP strategy forced Coles

Myer to similarly cut its prices as a competitive neces-

sity. Woolworths’ ability to minimise its supply chain

costs (a beneﬁt of the four-year-old Project Refresh

strategy) enabled the company to maintain greater

margins in this price war than Coles Myer could man-

age, a fact reﬂected in the two companies’ 2002/03

ﬁnancial reports (see Exhibit 2 later in this case).

In May 2003, some six years after Woolworths’

initial foray into the retail petrol sector had seen it

capture 11 per cent of the market, Coles Myer agreed

to pay $94 million to Shell Petroleum for the right to

operate its own petrol discount chain in 584 of Shell’s

service stations. The alliance between the two compa-

nies was negotiated on the understanding that the

relationship would last for 20 years. Up until this

point, Coles Myer had undertaken a token competi-

tive response to Woolworths’ 1997 Plus Petrol scheme

by offering its customers discount vouchers to the

Mobil chain of petrol retailers. The problem with this

initial response was that, unlike Woolworths’ Plus

Petrol stations, which were located in close proximity

to its stores, the Coles–Mobil discount offer did not

allow the customer to ‘cash in’ on the value-adding

offer at the point of purchase. Of the company’s even-

tual strategic move into retail petrol, Fletcher stated:

‘Coles [does] not want a price war, but will react to

Woolworths’ pricing in this market.’14 In response to

this competitive action, Woolworths reversed its long-

running ‘house-brand’ fuel strategy by unveiling an

equity joint venture with the Caltex franchise of petrol

retailers in August 2003 – a move that closely

mimicked Coles Myer’s alliance with Shell. The equi-

ty joint venture was the company’s response to the

Coles–Shell alliance, a move that the company had

widely criticised at its launch in July 2003.15 In line

with the announcement was a commitment by the

company to wind down its home brand Plus Petrol

service stations in favour of re-branding them as

Caltex service stations.16 The deal with Caltex was to

add an additional 180 retail petrol outlets to Wool-

worths’ existing 287 Plus Petrol outlets. Essentially,

this move ensured that Woolworths would have 450

outlets in head-to-head competition with Coles Myer’s

580 outlets nation-wide.17 Roger Corbett claimed that

the joint venture with Caltex had nothing to do with

Coles Myer’s alliance with Shell, instead stating that

the strategy overcame the difﬁculties the company

was having in ﬁnding new retail outlet sites for its

growing Plus Petrol division.18

The new ﬁnancial year 2003/04 began with two

important announcements from Fletcher. The ﬁrst

concerned a Coles Myer alliance with the Nation-

al Australia Bank to revamp the company’s long-

running Fly Buys reward program. The second was

the introduction of a major cost-cutting strategy that

mirrored Woolworths’ Project Refresh launched some

four years earlier. In July 2003, Coles Myer and the

National Australia Bank announced that they had

signed an agreement to revamp the Fly Buys loyalty

program to include a credit card facility. Jon Wood,

a senior Coles Myer executive, said that the enhance-

ment of the Fly Buys card was an important part of

Coles Myer’s strategy to provide a comprehensive and

valuable offer for all of its customers, especially given

the announcement that the company’s famous share-

holder discount card was to be discontinued. Of the

Fly Buys strategy, Wood stated: ‘Fly Buys is Austra-

lia’s largest loyalty program and we are moving to

put more value into the program for our customers.

Together with our partners at the National [Australia

Bank], we will be revamping the program to offer

more points, better rewards and other beneﬁts.’19

The replacement card was to be known as the Source

card, and included a credit facility that represented

C-30 Case 2 • The Australian retail wars: Coles Myer and Woolworths

Exhibit 2 Financial results for Woolworths Limited and Coles Myer Limited, 2001/02 and 2002/03

Woolworths ﬁnancials

28 Coles Myer ﬁnancials29

(A$ million) 2001/02 2002/03 2001/02 2002/03

Sales 25 239.4 26 321.4 25 688.7 27 016.6

Pre-tax proﬁt 782.2 (3%) 906.0 (3.4%) 491.0 (1.9%) 617.2 (2.3%)

Net proﬁt 564.4 (2.2%) 650.6 (2.5%) 353.8 (1.4%) 429.5 (1.6%)

EPS 50.2 58.1 26.1 32.2

Dividend 15.0 18.0 25.5 26.0

Sources: Commsec Securities Home Page, www.commsec.com.au.

Coles Myer’s initial foray into Australia’s $100 bil-

lion Capital Card Market (that is, credit cards). Coles

Myer already operates a loyalty card program that con-

sists of 1.7 million Coles Myer Card holders (a chain-

speciﬁc line of credit) but did not have the ‘universal

usage capability’. The company’s new Source credit

card meant that Coles Myer could differentiate itself

from Woolworths by offering a full credit card capa-

bility alongside a long-standing and valued rewards

program and a private label store credit card.

Fletcher’s second announcement was his inten-

tion to emulate the success of Woolworths’ Project

Refresh, a plan that would entail major cost-cutting

strategies within the company.20 Fletcher planned to

save up to $1 billion by making its 65 000 suppliers

shoulder more of its supply chain costs in a program

designed to close the performance gap with Wool-

worths. Fletcher intended to change the way Coles

Myer buys its $18 billion of merchandise by cutting

its stock on hand and by forcing its suppliers to move

to a just-in-time approach to delivery. The company

ﬂagged to its employees that it intends to cut the num-

ber of its distribution centres from 41 to 24, and will

use improved technology to reduce costs and stream-

line deliveries to stores.21 Also part of this strategy

are plans to pressure its suppliers to adopt the same

IT systems that it uses in its warehouses and stores so

that it can build a more efﬁcient e-trading platform.

Fletcher said that the company would invest between

$800 million and $900 million over the next ﬁve years

as part of this cost-cutting strategy that is expected to

deliver beneﬁts of $425 million a year from 2007/08

onwards.22

By August 2003, there was already some evidence

that Coles Myer’s strategies were bearing fruit for

Fletcher’s shareholders. Sales in the group lifted by

a substantial 6.1 per cent at $27 billion, marginally

ahead of Woolworths’ $26.3 billion. The stock mar-

ket also responded well to Fletcher’s performance,

with Coles Myer shares rising 29 per cent during the

year, while Woolworths’ shares remained steady.23

Still a concern for the company was the food and

liquor sales, which grew by only 1.5 per cent, as

opposed to Woolworths’ 5.4 per cent.24 The statistics

served to underline the competitive advantage that

Woolworths had over the Coles Myer empire. Exhibit

2 presents the economic results for both ﬁrms dur-

ing the 2002/03 ﬁnancial year. Despite the appar-

ent success of Coles Myer’s strategies in address-

ing its performance gap with Woolworths, Corbett

was conﬁdent that Woolworths would continue to

achieve its recent double-digit proﬁt growth. Indeed,

despite Coles Myer’s seemingly effective strategis-

ing, the ﬁnancial year ended 2003 witnessed Wool-

worths notching up its best annual result in ﬁve

years. The company’s 16.5 per cent increase in proﬁt

to $610 million was powered by higher margins in

its supermarket, liquor, petrol and general merchan-

dise operations.25 Corbett also revealed that its cost

savings program, Project Refresh, had delivered the

promised savings to the company of some $1.7 billion

over the previous four years.26 Corbett announced

that the company would maintain its proﬁt growth

forecasts of between 10 and 15 per cent for the

2003/04 ﬁnancial year, despite the uncertain outlook

for the food and liquor divisions, and the increased

competition from Coles and the German outﬁt,

Aldi.27 Corbett stated that Woolworths’ strategy to

remain differentiated from Coles Myer while adding

greater value to their customers’ shopping experience

Case 2 • The Australian retail wars: Coles Myer and Woolworths C-31

was of utmost importance in Australia’s retailing

industry, and ﬂagged a possible diversiﬁcation into

the pharmaceutical market. In November 2003,

Corbett solidiﬁed this by announcing that Wool-

worths planned to open a number of fully stocked

pharmacies and ‘health and beauty stores’ in its super-

market chain.30

The challenge for both Fletcher and Corbett in

2004 centres on their ability to continue to add value

to their customers’ shopping experience while simul-

taneously maintaining shareholder returns. The ques-

tion, therefore, is how the two men might best strat-

egise for this result given the increasing market power

of the two dominant ﬁrms, and the multi-point com-

petitiveness inherent to their operations.

Notes

1 L. Schmidt and S. Lloyd, 2003, ‘Monsters of retail’, Business

Review Weekly, 13–19 November, p. 38.

2 Ibid.

3 P. Switzer, 2003, ‘Call for codes to curb growth of retail giants’,

The Australian, 2 September, p. 29.

4 ‘Our brands’, 2003, Coles Myer Home Page, 10 November,

www.coles.com.au.

5 ‘Our brands’, 2003, Woolworths Home Page, 10 November,

www.woolworths.com.au.

6 ‘Woolies and Coles both forging ahead’, Australian Financial

Review, 15 August, p. 76.

7 S. Mitchell, 2003, ‘Roger Corbett’s other BIG W’, BOSS

Magazine, October.

8 N. Shoebridge, 2003, ‘Woolies stands by its low-price strategy’,

Australian Financial Review, 18 August, p. 45.

9 S. Evans, 2003, ‘Coles targets $1 billion squeeze on suppliers’,

Australian Financial Review, September, p. 1.

10 Mitchell, ’Roger Corbett’s other Big W’.

11 S. Long, 2002, ‘Mayhem in the Coles-Myer boardroom’, ABC

PM, 10 September.

12 R. Gluyas, 2002, ‘Coles Myer break-up looms’, The Australian,

7 June, p. 19.

13 M. Westﬁeld, 2003, ‘Woolies squeezes rivals, suppliers’, The

Australian, 25 March, p. 19.

14 K. Jiminez, 2003, ‘Coles in discount fuel link’, The Australian,

28 May, p. 21.

15 G. Elliott, 2003, ‘Woolies ties up Caltex deal’, The Australian,

22 August, p. 17.

16 T. Hardcourt, 2003, ‘Woolies changes tack – and to Caltex’,

Australian Financial Review, 22 August, p. 56.

17 Elliott, ‘Woolies ties up Caltex deal’.

18 I. Howar th and S. Mitchell, 2003, ‘Corbett defends petrol

strategy’, Australian Financial Review, 25 August, p. 14.

19 ‘Coles Myer and National increase Fly Buys commitment’,

2003, National Australia Bank Home Page, 1 July, 11 November,

www.national.com.au.

20 ‘Woolies and Coles both forging ahead’, p. 76.

21 CNN News Service, 2003, ‘Australia’s biggest retailer Coles

Myer says a transformation of its supply chain will help its

proﬁt goal of Aust. $ 800 million ($536 million) by 2006’,

25 September.

22 Ibid.

23 S. Mitchell, 2003, ‘Woolies vows to beat Coles threat’,

Australian Financial Review, 26 August, p. 1.

24 S. Evans, 2003, ‘Sales rise lifts Coles proﬁt’, Australian Financial

Review, 15 August, p. 55.

25 Mitchell, ‘Woolies vows to beat Coles threat’, p. 1.

26 Ibid.

27 Ibid.

28 Woolworths Home Page, www.woolworths.com.au.

29 ‘Corporate Report 2002–03’, 2003, Coles Myer Home Page,

10 November, http://corporate.colesmyer.com.au.

30 Schmidt and Lloyd, ‘Monsters of retail’, p. 38.

C-32

Case 3

eBay.com*:

Proﬁtably managing growth from

start-up to 2000

Dale Pudney Marius van der Merwe Gary J. Stockport

University of Cape Town University of Cape Town University of Western Australia

* This case study was written by Dale Pudney and Marius van der Merwe, MBA students at the University of Cape Town, under the supervision of

Professor Gary J. Stockport, Graduate School of Management, University of Western Australia. It is intended to be used as the basis for class discussion

rather than to illustrate either effective or ineffective handling of a management situation.

This case was compiled from published sources.

Introduction

It was 21 November 2000, and Meg Whitman was

considering the events of the last few days. As the

chief executive ofﬁcer (CEO), she had led eBay.com

to its position as the world’s largest person-to-person

(P2P) trading community, but the share price had just

fallen 20 per cent to US$34.75 when eBay’s share was

downgraded from a ‘buy’ to a ‘neutral’ by Lehman

Brothers, a global investment bank, because of con-

cerns over eBay’s aggressive sales forecasts. The pre-

vious day, eBay had announced the launch of a new

product, application programming interface software

that would enable other web companies to display

eBay auctions on their sites.

The company had experienced explosive growth

from start-up when the founder and current chair-

man, Pierre Omidyar, launched eBay in September

1995. While most e-commerce companies were mak-

ing signiﬁcant losses by spending aggressively to build

their customer and revenue bases, eBay had remained

proﬁtable since the beginning. In the three-month

period to September 2000, US$1.4 billion worth of

goods were transacted on eBay, with items listed in

more than 4320 categories. The company had 18.9

million registered users at the end of the period and

had captured over 80 per cent of the on-line auction

market with its closest competitors being Yahoo! and

Amazon.com.

Background to eBay

Pierre Omidyar

Pierre Omidyar was born in Paris, France in 1967 and

moved to Washington, DC in the United States with

his parents at the age of six. From an early age he was

interested in computers and he wrote a program to

print catalogue cards for the school library at the age

of 14. In 1988, he graduated with a Bachelor’s degree

in Computer Science from Tufts University. He ini-

tially worked as a developer of consumer application

Case 3 • eBay.com C-33

software such as MacDraw, for Claris, a software

subsidiary of Apple Computer. In 1991, he was one of

the founders of Ink Development, which later became

eShop, an early e-commerce site that was bought by

Microsoft in 1996.

Person-to-person (P2P) trading

prior to 1995

In traditional P2P trading forums, it is sometimes dif-

ﬁcult for buyers to ﬁnd pricing benchmarks to ensure

that the prices that they pay correspond to the proper

value of the item. It was estimated that in 1995,

US$100 billion was traded annually in the following

forums:

• Newspaper classiﬁeds: Users listed items that

were for sale or wanted, normally in locally

distributed newspapers. The classiﬁeds

typically generated more than 50 per cent of

local newspapers’ revenues from listing fees.

The buyers usually inspected the items before

purchasing and may have collected and paid

for the items in person. As a consequence of the

proximity of buyers and sellers, the items could

have been larger items that were difﬁcult to

transport over long distances.

• Flea markets and garage sales: Sellers stocked

items for sale either at their homes or at

organised markets. Buyers were typically

looking for bargains or interesting artefacts. The

buyers were able to inspect the items and needed

to pay for them before they could collect.

• Auction houses: Sellers took items that were

for sale to auction houses where buyers could

inspect them before the auction. Buyers needed

to pay a registration fee in order to bid and were

required to be at the auction or have a proxy

bidder. The highest bidder won the auction and

normally paid the auction house. The auction

house typically deducted a percentage of the sale

price and paid the balance to the seller.

The opportunity

In the early 1990s, Silicon Valley was quickly turning

its attention away from electronics manufacturers

towards new Internet-based start-ups that married

existing technology to new business models. Internet

usage growth and the provision of the infrastructure

required to ensure acceptable data transmission speeds

were, however, uncertain. Analysts were also unsure

whether people would purchase goods of value from

distant strangers without seeing them beforehand.

Omidyar was writing code for communications-

software maker General Magic in 1995 when he

started to think about the possibility of on-line

auctions. He said the following about his idea:

I had been thinking about how to create an

efﬁ cient marketplace – a level playing ﬁeld, where

everyone had access to the same information and

could compete on the same terms as everyone else.

Not just a site where big corporations sold stuff

to consumers and bombarded them with ads, but

rather one where people ‘traded’ with each other

… I thought, if you could bring enough people

together and let them pay whatever they thought

something was worth … real values could be

realised and it could ultimately be a fairer system

– a win-win for buyers and sellers.1

Start-up in 1995

eBay (then AuctionWeb) was launched on Labour

Day, 1 September 1995, using a website that was

hosted by Omidyar’s US$30 per month Internet ser-

vice provider (ISP). The site was located at www.ebay.

com. The company operated from Omidyar’s apart-

ment with only the website, a ﬁling cabinet, an old

school desk and a laptop computer. The site was not

much more than a simple marketplace where sellers

listed items and buyers bid for them. Omidyar made

no guarantees about the goods being sold, took no

responsibility and settled no disputes. There were no

fees, no registration, no search engine and, for the

ﬁrst month, no customers.

Omidyar’s only attempt at marketing was to list

eBay on the National Center for Supercomputing

Applications’ What’s Cool site. Despite this, so many

people visited the site that by February 1996 Omidyar

had to institute a fee of 10 cents per listing to recoup

the ISP costs which by then had risen to US$250 per

month. By the end of March 1996, eBay showed a

proﬁt. Omidyar had kept his day job at General

Magic, but the trafﬁc to the site became so intense

that he had to concentrate on eBay full-time and the

C-34 Case 3 • eBay.com

ISP asked him to take the site elsewhere. He there-

fore bought his own web server and installed it in his

apartment.

Omidyar developed software that was capable

of supporting a robust scalable website and transac-

tion processing system to provide real-time reporting

on the current auctions. The system was scalable to

reduce the initial investment but enabled expansions

when an increasing number of auctions demanded it.

By July 1996, Omidyar needed to move the

operation to a one-room ofﬁce and hire a part-time

employee. The risks that the business faced at that

stage were substantial and with barriers to entry

being low there was nothing to stop the large Internet

players such as America Online (AOL) (ISP and Inter-

net portal), Amazon.com (on-line book retailer) and

Yahoo! (search engine and Internet portal) from

stealing the opportunity. As the business was based

on collectors’ items, changes in the current fads could

have affected the revenues signiﬁcantly. At one stage,

trading of Beanie Babies generated 7 per cent of eBay’s

revenues.

The business concept

Omidyar asked one of his friends, Jeff Skoll, to join the

company as its ﬁrst president in August 1996 and his

role was to turn the concept into a business. He had

a Master’s in Business Administration (MBA) degree

Exhibit 1 Quarterly ﬁnancial results and statistics

1998 1999 2000

Q1 Q2 Q3 Q4 Q1 Q2 Q3 Q4 Q1 Q2 Q3

Financial data

Revenue

(’000) 13 998 19 480 21 731 30 930 42 801 49 479 58 525 73 919 85 753 97 399 113 377

Gross proﬁt

(’000) 16 194 17 364 24 980 34 824 38 534 41 444 52 334 62 481 73 756 89 465

Gross margin

(%) 83.1 79.9 80.8 81.4 77.9 70.8 72.9 75.7 78.9

Operating

expenses (’000) 11 996 15 504 21 365 27 063 43 166 46 478 51 883 62 029 65 026 75 149

Net income

(’000) 2 279 461 2 639 3 765 816 1 186 4 895 6 288 11 590 15 211

Net proﬁtability

(’000) 14.0 2.1 8.5 8.8 1.6 2.0 6.6 7.3 11.9 13.4

Registered users

(mn) 0.85 1.3 2.2 3.8 5.6 7.7 10.0 12.6 15.8 18.9

No. of auctions

(mn) 6.6 9.2 13.6 22.9 29.3 36.2 41.0 53.6 62.5 68.5

Growth (%)

Revenue (per

quarter) 39 12 42 38 16 18 26 16 14 16

Net income –83 472 43 –78 45 313 28 84 31

Registered users 53 69 73 47 38 30 26 25 20

No. of auctions 39 48 68 28 24 13 31 17 10

Auctions/

registered user 7.1 6.2 6.0 5.2 4.7 4.1 4.3 4.0 3.6

Revenue/auction 2.95 2.36 2.27 1.87 1.69 1.62 1.80 1.60 1.56 1.66

Notes: All ﬁgures in US dollars. Source: eBay ﬁnancial statements.

The registered users ﬁgures include everyone who had ever registered on the site and does not reﬂect currently active users.

Growth ﬁgures are growth per quarter.

Revenue ﬁgures exclude refunds to sellers due to site outages.

Case 3 • eBay.com C-35

from Stanford University and had wide experience in

managing distribution channels of on-line news infor-

mation, computer consulting and computer rentals.

The business concept was to provide P2P auctions

on the Internet. Using the Internet, buyers and sellers

could access a larger market, which was important for

those collectors who could not ﬁnd people with simi-

lar interests in their areas. By providing a marketplace

for buyers and sellers to trade their collectibles on the

Internet in an auction format, the buyers set the price

for items based on demand. When more potential

buyers bid on the items, sellers received higher prices.

As the buyers and sellers may be from different parts

of the United States and even the world, the items that

were sold were typically collectibles that were easy to

deliver long distances.

The eBay process was simple and easy to under-

stand. Sellers could list items for sale and pay a small

listing fee, which depended on where and how the

listing was presented and whether the seller required

a reserve price. The seller chose the auction duration

during which buyers could bid for the item. At the

end of the auction, eBay notiﬁed the seller and the

winning bidder, following which they made their own

arrangements for payment and delivery of the goods.

The seller was also charged a percentage of the ﬁnal

value of the transaction. Over time, eBay added ser-

vices to this simple model to improve the user experi-

ence and thereby increase user loyalty and retention.

eBay has been proﬁtable from start-up and although

its business was seasonal with volatile revenues, the

company had maintained high gross margins of about

70–80 per cent (see Exhibit 1). The only costs of goods

sold were computing infrastructure and customer ser-

vice expenses. eBay’s business model did not require

it to keep any inventory, establish an extensive distri-

bution network or have a large staff complement. Its

product range was also determined by the size of its

community and their listings and not by eBay’s prod-

uct development staff.

The listing fees and ﬁnal value fees charged by

eBay are shown in Exhibits 2 and 3. For example, if

a seller listed a collection of rare stamps on eBay and

the maximum bid is US$24, they would have paid a

50 cent insertion fee when they listed the item, assum-

ing that the listing was not emphasised in any way.

They would also have paid 5 per cent of the ﬁnal sale

price if the item was sold. eBay would have received

Exhibit 2 Fee to place an item listing

Opening value or reserve price Insertion fee

$0.01 – $9.99 $0.25

$10.00 – $24.99 $0.50

$25.00 – $49.99 $1.00

$50.00 and up $2.00

Real estate and automotive categories $50.00

Reserve price less than $25.00 $0.50

Reserve price of $25.00 or more $1.00

Notes: Source: www.eBay.com, November 2000.

1 All prices in US dollars.

2 Additional fees are charged for enhancing the listing in any way.

Exhibit 3 Additional fee if the item sells

Closing value Final value fee

$0 – $25.00 5% of the closing value

$25.01 – $1000 5% of the initial $25.00 ($1.25), plus 2.5% of the remaining closing balance

Over $1000 5% of the initial $25.00 ($1.25), plus 2.5% of the initial $25 – $1000 ($24.38),

plus 1.25% of the remaining closing value balance

Notes: Source: www.eBay.com, November 2000.

1 All prices in US dollars.

2 There is no ﬁnal value fee for the real estate and automotive categories.

3 Sellers may have the ﬁnal value fee refunded if the high bidder does not pay.

C-36 Case 3 • eBay.com

US$1.60 for the listing if the auction closed. If the

seller had a reserve price of US$24.50 on the item, the

auction would not have closed, so eBay would have

received the insertion fee and a 50 cent fee for the

reserve price which was only payable if the item did

not sell.

Building the team

In June 1997, Omidyar and Skoll realised that they

would need capital and management expertise if eBay

was to realise its full potential. They approached

venture capitalists Benchmark Capital who invested

US$5 million for shares and warrants worth 22 per

cent of the company. Bob Kagle, a partner at Bench-

mark Capital, became a board member of eBay.

This money was never used, but the agreement gave

them access to Benchmark’s network of potential

CEOs, marketing gurus, consultants and bankers.

eBay needed this to help them build the business and

recruit talented management. One of the ﬁrst mem-

bers of the management team was Gary Bengier,

who was hired in November 1997 as the chief ﬁnan-

cial ofﬁcer (CFO). He was responsible for develop-

ing the ﬁnancial strategy and vision of the company

and maintaining a corporate culture of ﬁnancial dis-

cipline and prudence, and for equipping eBay for an

eventual public offering of its shares.

Benchmark persuaded Meg Whitman to leave her

job as general manager of Hasbro’s pre-school divi-

sion to become president and CEO of eBay. She was

a strong and decisive executive without the need-to-

dominate personality, which meant that there was a

good ﬁt with eBay’s existing culture of being open

to the voices of customers and employees. Whitman

was impressed by the fact that eBay was doing some-

thing that could not be done effectively off-line and

by the emotional connection between the eBay users

and the service. Whitman brought global marketing

and brand management experience with her when she

joined in February 1998. Her previous work included

being a vice president at Bain & Company and devel-

oping Stride Rite’s Internet strategy. She had an MBA

from Harvard Business School and a BA in Econom-

ics from Princeton.

Whitman recognised the need for other advis-

ers on the board who understood the challenges of

expanding into new markets and could provide advice

and feedback. Again, Benchmark was instrumental

in ﬁnding people such as Howard Schultz, chairman

and CEO of Starbucks, and Scott Cook, chairman of

Intuit. Whitman also went on to build her manage-

ment team, and details of the other top-level manage-

ment at eBay are given in Exhibit 4.

Building the community of

users

Many of eBay’s early customers were the result of

referrals. eBay’s loyal customers performed the mar-

keting and sales function through word of mouth to

bring new customers to the community. eBay under-

took limited marketing but had entered into cross-

promotional agreements with the following:

• Banner advertisement on web portals such as

Netscape, Excite and Yahoo!.

• America Online (AOL) – provided an auction

service for AOL’s classiﬁed section which gave

eBay access to AOL’s more than 10 million users.

• ZAuction, a vendor-sourced auction site, which

was a leading provider of computer products,

electronic equipment and other brand name

consumer goods.

Omidyar created a platform where ‘anybody could

sell anything’ and did not interfere in the user trans-

actions. Most of eBay’s sellers were serious collectors

and small traders who used eBay as their storefront to

access a large market across the United States and the

world. eBay provided a facility whereby users could

interact with each other through the use of discussion

boards and later through a chat room called the eBay

Café. The eBay Café was similar to a traditional cof-

fee shop where users could relax, catch up on news

and hearsay, and exchange information. It brought

users back to the site every day and they sometimes

communicated directly with each other. One frequent

user of the eBay Café described it as follows:

At the eBay Café you will meet a bunch of caring

and friendly folks talking, helping, laughing, and

at times even complaining about varied subjects. I

have found and met some great folks here. If you

ever need help with almost ANYTHING, if you

have some tips, tricks or a good story or two to

share … the Café is the place.2

Case 3 • eBay.com C-37

When eBay tried to impose changes on users, such

as pricing changes, the users expressed their disap-

pointment through these discussion forums. eBay

trusted its users’ suggestions for improving the site,

and by giving its customers what they wanted, eBay

was improving both customer retention and loyal-

ty. One analyst commented that eBay’s community

was critical for attracting and retaining buyers and

sellers:

eBay has found a natural feedback loop where

creating a critical mass of bidders increases the

price obtained by sellers, which increases the

number of sellers, which attracts more bidders, et

cetera.3

Initially, there was no way to ensure that what

was being bought was real or that the goods would

be paid for. The anonymity and physical distance

between buyers and sellers on the Internet encour-

aged counterfeiting and fraud. In message-board post-

ings to Omidyar, the eBay users suggested that he set

up a system for buyers and sellers to rate each other.

This became known as the Feedback Forum and was

a peer-review reporting system. Buyers and sellers

rate each other and comment on how their business

Exhibit 4 Summary of eBay management at November 2000

Pierre Omidyar (33), founder and chairman, oversees strategic direction and growth, model and site development, and community

advocacy. He has a BS in Computer Science from Tufts University. His previous jobs include founder, Ink Development Corp.,

developer of consumer applications for Claris, a subsidiary of Apple Computer, and General Magic.

Meg Whitman (43), president and CEO, is responsible for building a successful business while delivering on customer needs and

expectations. Her focus is on the user experience, creating a fun, efﬁcient and safe forum for on-line person-to-person trading.

She develops the work ethic and culture of eBay as a fun, open and trusting environment and keeps the organisation focused

on the big picture objectives and key priorities. She has an MBA from Harvard and a BA in Economics from Princeton. Previous

jobs include general manager for Hasbro Inc.’s pre-school division, global marketing of Playskool and Mr. Potato Head brands;

president and CEO of Florists Transworld Delivery; president of Stride Rite and executive vice president at Keds Division; senior

vice president of marketing for the Walt Disney Company’s consumer products; vice president at Bain & Company; and brand

manager at Procter & Gamble.

Gary Bengier (45), chief ﬁnancial ofﬁcer, is responsible for developing the ﬁnancial strategy and vision as well as maintaining a

corporate culture of ﬁnancial discipline and prudence for eBay. He has an MBA from Harvard and a BBA in Computer Science

and Operations Research, Kent State University. Previous jobs include CFO, Vxtreme, ﬁnancial ofﬁcer at Compass Design

Automation, and senior ﬁnancial posts at Kenetech Corp. and Qume Corp.

Brian Swette (45), chief operating ofﬁcer, helps to build the eBay community as well as creating an environment for trade by

responding to the community and introducing new categories. He has a BA in Economics from Arizona State University. His

previous jobs include executive vice president and chief marketing ofﬁcer, Pepsi-Cola Company, responsible for worldwide

marketing and advertising efforts for Pepsi, and brand manager at Procter & Gamble.

Maynard Webb (43), president, eBay Technologies, oversees eBay’s technology strategies, engineering, architecture and site

operations. He has a BA from Florida Atlantic University. Previous jobs include senior vice president and CIO at Gateway, Inc.

Mike Wilson, chief scientist, is responsible for site architecture. Previous jobs include chief architect and project manager at Ink

Development Corp.

Jeff Skoll (35), vice president, strategic planning and analysis, is responsible for competitive analysis, new business planning and

incubation, as well as overall strategic direction. He has an MBA from Stanford University and a BS in Electrical Engineering from

the University of Toronto. His previous jobs include manager of the distribution channels of on-line news information for Knight-

Ridder Information and founder of Skoll Engineering.

Steve Westly, senior vice president, international and general manager of premium services, is responsible for business development,

corporate communications, mergers, acquisitions and partnerships. He has an MBA and a BA from Stanford University. Previous

jobs include vice president, WhoWhere?

Jeff Jordan, vice president and general manager of regionals and services, oversees eBay’s regional business and end-to-end services

which has the goal of making it easier to trade on the site. He has an MBA from Stanford University and a BA in Political Science

and Psychology from Amherst College. Previous jobs include president of Reel.com.

Source: www.eBay.com, November 2000.

C-38 Case 3 • eBay.com

together went. When launching this, Omidyar laid

out eBay’s guiding philosophy:

eBay wouldn’t exist if it wasn’t for our community

… At eBay, our customer experience is based on

how our customers deal with our other customers.

They rarely deal directly with the company. So

how do you control the customer-to-customer

experience? We can’t control how one person

treats another … The only thing we can do is

to inﬂuence customer behaviour by encouraging

them to adopt certain values. And those values are

to assume that people are basically good, to give

people the beneﬁt of the doubt, and to treat people

with respect.4

Company values

Omidyar hoped that his auction community would

reﬂect the values of honesty, openness, equality,

empowerment, trust, mutual respect and mutual

responsibility. eBay’s Mission Statement says:

eBay was founded with the belief that people are

honest and trustworthy. We believe that each

of our customers, whether a buyer or a seller, is

an individual who deserves to be treated with

respect.5

To instil these values into the community, Omidyar

maintained that they had to be embraced by the com-

pany and its employees because everything that the

company did, such as the website, press releases and

strategic partnerships, indirectly inﬂuenced the com-

munity. When Meg Whitman joined eBay, her chal-

lenge was to develop the work ethic and culture of

eBay as a fun, open and trusting environment and

keep the organisation focused on the big-picture

objectives and key priorities. eBay had a ‘no penal-

ty’ operating culture where there were no penalties

for making mistakes or being on the wrong side of

an issue which could muzzle employees or suppress

new ideas. Whitman met with all new recruits and

other staff on Mondays to tell them about the culture

and make sure that they knew what was expected of

them. eBay also brought some of its customers to the

head ofﬁces regularly to talk to employees about their

experiences.

Coping with customer service

By the end of 1997, more than 3 million items worth

US$94 million had been sold on eBay, resulting in total

revenues of US$5.7 million and US$900 000 proﬁt.

eBay had achieved these results with only 76 employ-

ees. The average value of each item sold was about

US$31, with 6 per cent of this going to eBay’s reve-

nues. The number of auctions per day had increased

from 1500 at the end of 1996 to about 150 000 at the

end of 1997. As the number of users increased, eBay

started to ﬁnd it difﬁcult to provide customer service

to the members of the community. Simple questions

such as ‘How do I list an item?’ or ‘How do I buy

an item?’ were answered using a self-service on-line

help function which had prominent links from the

eBay home page. Other queries were more difﬁcult

and needed knowledgeable users or service agents to

answer. Users placed queries on bulletin boards dedi-

cated to the discussion of speciﬁc issues of the busi-

ness, such as help, registration, listing and shipping,

which were sometimes answered by other members

of the community and at other times by eBay. As part

of building their on-line community, eBay had con-

tracted active, enthusiastic and knowledgeable users

of the site to respond to requests for help. These inde-

pendent contractors worked from home to answer

emailed questions and those that were posted on the

bulletin boards. eBay also decided to employ and

supervise the customer service representatives directly

to better understand customers’ problems and control

the quality of customer service. Nevertheless, not all

of the users were satisﬁed with the customer service

that eBay offered.

Building trust and loyalty

To work with the community to improve the services

that were offered and develop trust and loyalty, eBay

launched SafeHarbor in February 1998. SafeHarbor

included the following elements:

• Veriﬁed User Program: eBay veriﬁed user

information during registration and had

partnered with Equifax to provide a higher level

of veriﬁcation if required.

• Feedback Forum: buyers and sellers rated their

experience with each other as positive, neutral

or negative. The user proﬁle followed the user

Case 3 • eBay.com C-39

everywhere on eBay. Estimates suggested that

users were willing to pay up to 30 per cent more

in certain markets for items sold by someone

with a high feedback rating.

• Insurance: Lloyds of London provided insurance

for users with a net non-negative feedback rating

on their auctions up to US$200 subject to an

excess of US$25.

• Shill Bidding Policy: suspended users who bid

on an item with the intent to drive up the price

without buying it.

• Non-paying Bidder Policy: non-paying bidders

were warned and then suspended.

eBay’s policies and service had helped them to

develop a loyal community of buyers and sellers. One

user described the eBay experience as follows.

I visit eBay to transact auction business because

it has a superior universe of sellers and bidders

and quality and quantity of listings. The people

visiting eBay are generally loyalists, while the

average person visiting Amazon.com is there to

buy a book, but I’d hazard a guess that he isn’t

going to stick around for an hour.6

eBay also provided facilities that users could per-

sonalise, such as the ‘My eBay’ and ‘About Me’ sec-

tions. ‘My eBay’ was a tool that users could person-

alise to keep track of their favourite categories, view

items they were selling or bidding on, check their

recent account balance and feedback, or update their

contact information. An ‘About Me’ page could be set

up by users to tell other eBay users about themselves

and their feedback rating, which helped to improve

the credibility and trust among the users. Not all

users were happy with the services, however, and this

can be seen in the following message taken from the

discussion boards.

Am I the only one that thinks the ‘Watch This

Item’ link in auctions is driving sellers to the

poorhouse? Geez … Bidding is bad enough without

encouraging bidders not to bid.7

Brand building

In a company that had always disdained advertis-

ing, Whitman employed Pepsi’s head of marketing,

Brian Swette, as senior vice president of marketing

in October 1998 to oversee international expansion,

marketing and customer support efforts for eBay. He

had worldwide brand-building experience with both

the Pepsi-Cola Company and Procter & Gamble. His

focus was on increasing brand awareness both nation-

ally and internationally and on making eBay one of

the most accessible and successful e-commerce sites

on the Internet.

eBay found that small traders and serious collec-

tors were the most active site users. Many of the trad-

ers were small businesses who had used eBay as their

storefront or as a supplement to their existing stores.

These users contributed 80 per cent of the total reve-

nues but only constituted 20 per cent of the registered

users. As a result, eBay decided to reduce its presence

in broadband portals and concentrate its marketing

and brand-building resources on these users. This

included advertising in many niche publications read

by serious collectors and exhibiting at collectors’ trade

shows. eBay subsequently launched its ﬁrst national

print and broadcast advertising campaign in October

1998 in order to increase awareness of the compa-

ny’s brand with The Acme Idea Company, a strategic

and creative consultancy committed exclusively to the

building of brands. The national radio campaign was

aired on more than 12 000 stations across the Unit-

ed States for ﬁve weeks. The print campaign includ-

ed adverts in Parade, People, Entertainment Weekly,

Newsweek and Sports Illustrated and over 70 distinct

collecting publications, reaching people who had an

active passion – for example, for coins, stamps, dolls

or photography.

eBay also instituted the PowerSellers program to

beneﬁt the bulk sellers. The program was designed to

meet the needs of users who were running a full-time

on-line trading business on eBay with beneﬁts and

privileges designed to make selling easier and more

proﬁtable. There were three different program levels,

– namely: Bronze, Silver and Gold – which were

achieved with minimum monthly sales on eBay of

US$2000, US$10 000 and US$25 000, respectively.

eBay offered these users additional services depend-

ing upon the level that they had achieved. These ben-

eﬁts included the PowerSellers logo to distinguish

users on the site, dedicated email customer support,

participation in the eBay Success Stories program (to

be proﬁled for use in press-related events), invitations

C-40 Case 3 • eBay.com

to special events, specialist customer phone support,

dedicated account managers and support hotlines.

A member of the PowerSellers customer-service

program complained that her email and phone calls

regularly went unanswered: ‘I feel like I’m in a co-

dependent relationship. I write to them, I get no

response. I e-mail them, nothing. I’m being abused.’8

On 25 March 1999, eBay and AOL expanded

their existing relationship and announced a four-year

strategic alliance to expand person-to-person com-

merce and community building on AOL and its fam-

ily of brands. The agreement gave eBay prominent

presence across the domestic and international AOL

family of brands, including AOL, AOL.com, Com-

puServe, Netscape’s Netcenter, ICQ and Digital City.

According to the agreement, eBay was to pay AOL

US$75 million over the term of the agreement and

AOL was entitled to all advertising revenues gener-

ated by the co-branded sites and to act as the exclusive

third-party advertising sales force for advertising sold

on eBay’s website. They created customised and co-

branded sites for AOL’s multiple brands that included

comprehensive listings, feedback and ratings, message

boards and select content from eBay. eBay was to pro-

mote AOL as its preferred Internet ISP and enable its

users to download ICQ (communication software that

enables chat, voice, message board, data conferenc-

ing, ﬁle transfer or games on the Internet) on its web-

site as well as to integrate AOL’s ‘My News’ feature

into its ‘My eBay’ feature. AOL, in return, undertook

to promote eBay to its member community of over 16

million. As a part of the agreement, the companies

were to work together to facilitate eBay’s expansion

into international markets, and AOL helped to launch

eBay’s expansion into regional markets through the

promotion of eBay on Digital City, a complete guide

to activities in the US’s largest cities.

The challenges of growth

Exhibit 1 contains eBay’s key quarterly ﬁnancial

results from the beginning of 1998 to the third quar-

ter of 2000, indicating its growth and proﬁtability

during this period. eBay never had any formal plan

to develop the business, but rather took advantage of

opportunities as they arose. Opportunistic behaviour

was bound by a clear goal to be ‘the world’s largest

P2P online auction company’ and a focused strategy

with ﬁve elements:

• strengthening the eBay brand

• expanding the user base

• broadening the trading platform by increasing

product categories and promoting new ones

• fostering community afﬁnity

• enhancing site features and functionality.

International expansion

While the Internet was available to users around the

world, trading goods across borders involved difﬁ-

culties such as currency conversions, different duties,

taxes and regulations, as well as high delivery costs.

To build their user base and access the users in other

countries, eBay needed to open country-speciﬁc sites.

It started to expand into the international markets

early in 1999. The company identiﬁed the following

possible strategies to enter these new markets:

• building a new user community

• acquiring a company that was already in the

local trading market

• partnering with strong local companies.

eBay started its international expansion in the UK

and Canada (www.ca.ebay.com). eBay’s community

in the UK (www.ebay.co.uk) was built from the grass-

roots by local management with on-line marketing

and local events. eBay rolled this service out to Aus-

tralia (www.ebay.com.au), Japan (www.ebayjapan.

co.jp) and France (www.fr.ebay.com).

In March 1999, some German entrepreneurs cop-

ied eBay’s source code and set up a mirror-image of

the eBay site under the name of Alando.de in Germa-

ny. The site quickly established itself as the leading

on-line trading company among Germany’s 10 mil-

lion Internet users and soon attracted eBay’s atten-

tion. When it acquired Alando on 22 June 1999, it

had 50 000 registered users and 80 000 items listed

in 500 categories. The site was later renamed www.

ebay.de, which gave German users access to eBay’s

worldwide community of active buyers and sellers.

eBay launched its local site in Australia in October

1999 in a joint venture with a leading Internet media

company in Australia, PBL Online. To promote the

launch of the website, eBay Australia waived all list-

ing fees for a limited period and this provided sell-

ers with an even greater reason to list their items on

Case 3 • eBay.com C-41

www.ebay.com.au. In February 2000, eBay Japan

was launched as a joint venture with NEC. The deal

brought together eBay’s unrivalled trading presence

and NEC, one of the world’s most innovative technol-

ogy companies with a commanding presence in the

Japanese market. As part of the agreement, NEC took

an equity stake in eBay Japan and promoted the site

in many ways, including through its BIGLOBE ISP,

personal computer products and off-line marketing

campaigns. The international sites contain:

• country-speciﬁc categories and content,

reﬂecting popular local collectibles

• the ability to trade local items in the local

currency with content in the local language

• access to a worldwide community of traders.

International sellers can list their item so that

it can be viewed from any eBay site, and buyers

can view items listed anywhere in the world,

with items denominated in the local currency

and in US dollars

• local discussion boards that allow the country’s

community to get the most out of the website

and a country-speciﬁc chat room.

Amazon.com enters the

on-line auction market

New competitors in the on-line auction market were

surfacing every day, encouraged by the low barriers to

entry and eBay’s success. The ﬁrst major competitor

was Onsale, which was already an established B2C

site. Yahoo!, Lycos, Excite, Microsoft’s MSN and

many smaller niche competitors followed, but all of

them found that attracting buyers and sellers was dif-

ﬁcult. Exhibit 5 compares a few of the major on-line

auctions sites as at October 2000 by their inventory of

listed items, bidding activity, services and fees, design

and functionality, customer support and the commu-

nity.

In April 1999, Amazon.com launched its auction

site which was remarkably similar to eBay’s and made

it easy for buyers and sellers to move across to Ama-

zon. Amazon did not charge any fees for the ﬁrst few

months and offered additional services such as cross-

promotion to relevant Amazon retail sites, credit card

payments and buyer guarantees by underwriting the

risks of a seller failing to send an item or where the

item is ‘materially different’ from the description.

Amazon achieved 100 000 auctions per day within a

few months, but the number of listings started to fall

when Amazon introduced charges. While the services

it offered were superior to eBay’s, it was not able to

break into the market that was already dominated by

eBay. One of the sellers summarised his reasons for

staying with eBay:

I’ve posted auctions on just about every site you

can imagine (but) I pretty much stick with eBay.

The buyers are there. I’m established there. My

feedback rating establishes me as an upstanding

member of the community. I don’t have those

ratings on other sites because I don’t do much

business on any of them. I’d rather stay where I’m

known.9

By being the ﬁrst on-line auction to be able to

scale up and acquire a critical mass of buyers and sell-

ers in its community of users, eBay was able to suc-

cessfully fend off attacks from Internet brands that

were better recognised and offered better services.

eBay’s community of buyers meant that sellers were

less likely to move to competitor sites.

Improved customer service

required

Following Amazon’s launch with superior services,

eBay launched services to assist its community with

shipping (April 1999), credit card payments, escrow

services, electronic stamps and a customer support

centre (May 1999). These services were offered by

entering into alliances with the following:

• iShip.com provided information to e-merchants

and buyers regarding shipping costs and options.

• MBE provided the bricks-and-mortar support

for packing and shipping.

• Billpoint facilitated person-to-person credit card

payments on the Internet.

• iEscrow enabled buyers to pay an escrow service

when they bought an item. This was when a

buyer placed money in the custody of a trusted

escrow service. The money was then paid to the

seller once a speciﬁed set of conditions was met,

such as the buyer receiving and approving the

goods.

C-42 Case 3 • eBay.com

Exhibit 5 Auction site competitor comparisons

Auction site Inventory

Bidding

activity

Services &

fees

Customer

support

Design &

functionality Community

321Gone ● ●

Amazon.com ■ ■ ● ■

AuctionAddict.com •● ●

Auctions.com ● ● ● ● •

Bid.com • • ● ● N/A

Bidbay.com •● ●

BoxLot ● ● ●

CityAuction ● ● ●

CNET Auctions ● ● •

Collecting Nation ● ● ●

Comic Exchange ● ● ●

Dell Auction ● ● ● •

eBay ■ ● ● ● ■

edeal ● ● ●

eHammer ● ■ ● ● •

eOrbis.com •● ■ ● •

eRock.net •● ●

eWanted.com ● ● ●

Excite Auctions ■ ● •

First Auction ● ● ● N/A

Gavelnet.com •● ●

GoAuction ● ● ● ● •

Gold’s Auction •■ ● ● ●

Go Network Auction •● ● ●

Haggle Online ●

Lycos Auctions ● ■ ●

MSN Auctions ● ● ●

Musichotbid.com ●•■•

Onsale ● ● ● N/A

Popula ● ● ● ●

Pottery Auction ● ■ ●

Sothebys.com ■ ● ● ● ● N/A

SportsAuction ●N/A ● ● N/A

Teletrade N/A ● ● N/A

uBid ● ● ● ■ ● N/A

Up4Sale ● ●

Wantads.com ● ● ● •

Xoom.com Auctions ● ● ● ●

Yahoo Auctions ■ ● ● •■

Yahoo Store ●N/A ● ■ N/A

ZDNet Auction ●●●

Excellent = ■, good = ●, average = , below average = •. Source: www.auctionwatch.com/awdaily/reviews/ratings.html, November 2000.

Case 3 • eBay.com C-43

• e-Stamp allowed people to buy and print postage

on-line to avoid queues at post ofﬁces where

sellers needed to hand letters that weigh more

than 16 ounces directly to a postal clerk.

eBay established its ﬁrst remote customer support

centre in Salt Lake City in order to stay ahead of the

needs of the on-line community. Its main responsibil-

ity was to interact via email with the eBay community

on a 24-hour basis and provide live customer support

on eBay’s customer support bulletin boards, such as

the ‘Support Q&A Board’, ‘Support Q&A For New

Users’ and ‘Help with Images and HTML’. One user

described his experience of eBay’s customer support.

I think we should spread the word for people to

start using Amazon.com. Maybe then eBay will

increase their customer service and see to it that

their system is working instead of pissing people

off. No wonder they are offering Billpoint for free.

You can’t count on it. eBay is not there to help. At

least not readily. I have sent 3 emails to support

and have heard NOTHING.10

eBay still did not have its customer support up to

the level of its competitors and this remained a prob-

lem for the users.

eBay acquires bricks-and-mortar

businesses

With the on-line auction market being so competitive,

eBay found it difﬁcult to increase its fees. The only

way to increase its revenues was to improve the trafﬁc

volumes by deepening the penetration into the North

American market, expand internationally and raise

the average price of goods sold. On 26 April 1999,

eBay announced that it had agreed to acquire San

Francisco-based Butterﬁeld & Butterﬁeld (B&B), one

of the world’s largest and most prestigious auction

houses. This acquisition enabled eBay to accelerate

its penetration into higher-priced items on a global

basis because of B&B’s expertise in premium mar-

kets and extensive relationships with dealers, auction

houses and individuals throughout North America,

Europe and Asia. B&B had begun providing auctions

over the Internet through its relationship with a local

company, but ended the arrangement three weeks

prior to the announcement in order to work with

eBay. eBay used this acquisition to start its ‘great col-

lections’ speciality site and other antique categories.

Prior to this acquisition, eBay’s average auction closed

at only about US$47, of which eBay’s fee was about

US$3. The average B&B auction closed at US$1400,

of which the house’s fee was almost US$400. Buy-

ing into the high-end auction business might not have

increased the amount of interaction on the discus-

sion boards or chat rooms, but it promised to boost

eBay’s revenues. Shortly afterwards, on 18 May 1999,

eBay announced that it had acquired Kruse Interna-

tional, one of the world’s most respected and well-

established brands in the collector automobile mar-

ket. This strategic acquisition enabled eBay to move

into this market and continue to offer higher-priced

items to its community. Kruse participated in approx-

imately 40 car auctions each year and had held events

in 46 US states, the United Kingdom and Japan. eBay

used expertise gained through this acquisition and

other alliances with CarClub.com and Autotrader.

com to introduce a new automotive section on the

eBay site for collectable and other used cars and offer

users related additional services.

eBay introduces local sites

To further increase eBay’s penetration into higher-

priced goods, eBay accessed the market for goods that

were difﬁcult to ship long distances, such as cars and

large appliances that would have normally been sold

through the local newspaper classiﬁeds owing to their

size or fragile nature. Late in 1999, eBay launched

‘eBay: Go Local’ with a campaign called ‘from our

homepage to your hometown’ whereby eBay toured

30 communities across the United States, and intro-

duced a pilot site in Los Angeles. At the end of 1999,

there was a local site for 63 cities in the US and others

internationally, with a regional ﬂavour in order to

connect local buyers and sellers. Buyers could also

inspect the goods before they bid. The separate local

sites were accessible through the ‘Go Local’ area on

the eBay home page.

eBay Local featured local categories and allowed

members to browse through and trade items of local

interest, such as memorabilia from popular regional

sports teams, political collectibles and antique post-

cards celebrating the region’s heritage. The local site

was completely integrated into eBay’s worldwide

C-44 Case 3 • eBay.com

listings so sellers could list locally while everyone on

eBay could see the item.

Computing infrastructure

The aggressive marketing and expansion during late

1998 and early 1999 resulted in rapid increases in

demand upon the computing infrastructure that sup-

ported the on-line auctions. By the end of June 1999,

eBay had 5.6 million registered users and had con-

ducted 29.4 million auctions (about 250 000 per day)

with gross merchandise sales of US$622 million dur-

ing the previous three-month period. The increas-

ing trafﬁc to the website required constant expan-

sion and upgrading of the technology. Frequent site

outages and downtime for maintenance was a seri-

ous problem for the growing company. A number of

the small traders, who depended on eBay for a living,

attributed the ‘downs’ in their business to site crashes,

pages not loading, system slowdowns and slow end-

of-auction notices. During June 1999, eBay experi-

enced a three-day string of outages because of prob-

lems with its server operating system software which

corrupted their databases. A report of the event even

appeared on the front page of the New York Times

and it was estimated that these outages cost the com-

pany US$3–5 million in refunds to sellers. The share

price fell by 25 per cent and the web page viewing ﬁg-

ures halved for the week after the outage. Other costs

that could not be quantiﬁed were the lost revenues

from those customers who got frustrated with the site

and defected to competitors’ sites. eBay instituted an

automatic auction extension policy which meant that

any outage lasting for two hours or more resulted in

an automatic lengthening in the time allowed to place

bids. As a result of the outages, Whitman decided to

build excess capacity, but she decided that the addi-

tional cost would be small when compared to the cost

of outages and poor site performance. She set the goal

of building the infrastructure to 10 times the required

capacity.

In October 1999, eBay outsourced its back-end

Internet technology to AboveNet Communications

and Exodus Communications. It outsourced its web

servers, database servers and Internet routers, and

relied on the companies to provide increased network

bandwidth for its millions of active buyers and sell-

ers. These companies had front-end web servers that

were linked to eBay’s proprietary database and appli-

cation servers and were all located at AboveNet’s and

Exodus’s locations. The servers were located in tem-

perature-controlled facilities with superior ﬁre con-

trol, security and redundant power systems, and were

housed in seismically braced racks. These companies

were also the primary service provider for Yahoo!,

Lycos and other major on-line companies.

Expanding the product range

As of August 1999, eBay’s brand was recognised by

91 million US adults, compared to 118 million for

Amazon.com. eBay’s challenge, however, was to turn

this awareness of its brand into registered users (7.7

million at the time) and revenues. This was becoming

more difﬁcult as new competition was entering the

market all the time. In September 1999, FairMarket.

com announced that it would form an auction net-

work including Microsoft’s MSN, Excite@Home and

Lycos. Alta Vista, Xoom.com, Outpost.com, ZDNet,

CompUSA and Ticketmaster soon joined the net-

work. Each of the networked sites accessed a single

database, so any auction that was listed on one of the

sites was automatically listed on all of the other part-

ner sites which increased the number of buyers that

was available for each member. The FairMarket net-

work was intended to appeal to the big brand names

that did not want their items listed next to collect-

ibles and other ‘junk’. The eBay share price dropped

7 per cent on the news. Amazon had also launched its

zshops whereby merchants could retail their goods in

a ﬁxed-price format which competed with the many

small traders who used eBay as their storefront but

did not require the sale to be in an auction format.

In order to increase its revenues with this increased

competition, eBay acquired Half.com in June 1999,

a ﬁxed-price, person-to-person trading marketplace

to broaden the buying and selling choices for eBay’s

trading community and expand eBay’s trading plat-

form. Half.com had created an efﬁcient, user-friendly

marketplace where buyers and sellers could trade

used books, CDs, movies and video games at ﬁxed

prices that were at least half of the list price. In the

ﬁrst quarter of 2000, eBay also launched its Business

Exchange site, which was to enable small businesses

to trade with each other in business-related categories

such as computer and industrial equipment, power

Case 3 • eBay.com C-45

tools, ofﬁce furniture, and consumables such as print-

er toner. While some business-to-business trading had

always taken place on the site, the intention of this site

was to expand this and further increase eBay’s reach

into higher-priced goods.

On 8 February 2000, eBay and the Walt Disney

Corporation announced a comprehensive four-year

agreement in which eBay would ultimately become

the on-line trading service across all of Disney’s Inter-

net properties, including the GO Network portal.

The companies intended to develop, implement and

promote a co-branded person-to-person trading site

for the GO Network at www.ebay.go.com. In addi-

tion, the companies collaborated on the development

of several merchant-to-person trading sites in an auc-

tion format for Disney.com, ESPN.com and ABC.

com that showcase unique, exclusive and authenticat-

ed products, props and memorabilia from throughout

The Walt Disney Company, including Walt Disney

Studios, Disneyland and Walt Disney World, ESPN

Cable Networks and ABC Television.

On 20 November 2000, eBay launched its Appli-

cation Programming Interface (API) that would allow

other companies to display eBay auctions on their

independent websites. Companies would be able to

subscribe to speciﬁc auction and ﬁxed-price catego-

ries on the eBay site. eBay had developed the software

itself and the software made it easier for program-

mers to create software applications without having

to write all the code for basic features such as screen

menus and printing capabilities. eBay executives

believed that the syndicated listings would appeal to

other Internet commerce and media sites that wanted

to give users more shopping options without build-

ing their own stores. Websites that wanted eBay list-

ings would not receive any fees of transactions exe-

cuted through their site unless they owned the listed

items. The company believed that it would eventually

be able to persuade some sites that already sold goods

to replace their in-house e-commerce systems with

eBay’s technology.

eBay at the end of 2000

eBay had created a convenient, efﬁcient and enter-

taining marketplace where buyers and sellers could

list, bid for and trade goods. eBay was the intermedi-

ary and only provided the marketspace for buyers and

sellers to trade and did not take any responsibility for

the actual transaction. To attract and retain buyers

and sellers, eBay gave users access to value-added ser-

vices that made the transaction simpler. To improve

loyalty to the site, eBay had also developed an on-line

community where collectors and other users could

interact. The site created excitement for buyers who

searched for and bid on items that they hoped would

be bargain buys. As one customer noted:

I’d recommend eBay Auction services to everyone!

I attend many estate auctions on a regular basis in

the Kentucky area. I have found the same thrills on

eBay as I do at the real estate public auctions.11

Most trading took place in an auction format

where the trade took place between the seller and the

highest bidder, if the bid was above the reserve price

(where applicable). More details of the different auc-

tion formats are contained in Exhibit 6. eBay did not

take any ownership in or agency for the goods. Its

neutrality eliminates some of the concerns that face

other businesses, such as sourcing and supplying

goods, inventory, responsibility, payment collections

or shipping. This was important for eBay to maintain,

as implementing systems to perform these functions

would have signiﬁcant costs associated with them and

would require additional resources.

Auction aggregators introduce a

new threat

At the end of 1999, auction aggregators such as Auc-

tionWatch.com started to pose a threat to individ-

ual on-line auctions such as eBay. These sites acted

as a portal and they collected data on the auctions

that were available on the individual auction sites

and displayed similar items from the competing sites

together. Buyers could therefore see all of the required

items at one time and compare prices. This was a sig-

niﬁcant threat to eBay, whose success in the past was

due to its established community of buyers and sellers

choosing eBay over other competitors. eBay installed

technical measures to try to block AuctionWatch

servers from accessing its website. This only worked

for about a month, until AuctionWatch designed soft-

ware to get through the security features. eBay con-

sequently threatened legal action, claiming that these

C-46 Case 3 • eBay.com

sites were illegally accessing its site, making unautho-

rised copies of its content, and displaying the content

in incomplete and confusing ways. While the users

provided most of the content on its site, such as item

descriptions and photographs, eBay maintained that

the content that it generated (number of bids, length

of the auction, etc.) was its property.

Counterfeit, illegal and other

questionable listings

While on-line publishers are responsible for the con-

tent of their sites as an on-line venue, eBay was not,

according to the Digital Millennium Copyright Act

(DMCA) of 1998. People were, however, selling ille-

gal items such as human kidneys, marijuana and

counterfeit software, and controversial items such as

Nazi memorabilia and pornographic material. While

eBay had adopted a hands-off approach to what its

customers sold on the site, Shultz advised the board

that these items affected the character of the com-

pany. eBay consequently changed its description to a

‘venue where anybody can sell practically anything on

earth’ and issued a list of items that were restricted on

the site.

eBay had faced several lawsuits questioning the

eBay business model where people claimed that eBay

should take responsibility for the authenticity of items

sold on the site. An example of this was where eBay

was sued by someone who bought a collector’s base-

ball card that turned out to be a fake. Checking every

item that is listed on the site would have required

an army of content checkers, and if eBay had tried

to verify the legality of all of the items it probably

would have been liable for those items that slipped

through its inspections. On 21 November 2000, a

French judge ordered Yahoo! to block French users

from visiting websites that sold Nazi memorabilia.

This ruling meant that all websites would be subject

to the laws and norms of all other countries in the

world, which was a move away from the US-inspired

openness and freedom ethos. Critics suspected that

this ruling may have prompted other governments to

police websites in an attempt to get them to comply

with their local laws.

Exhibit 6 Comparison of auction formats

Dutch auction: The seller places one or more identical items on sale for a minimum price for a set time. When the auction ends,

the highest bidder wins the item(s) at their bid price. Remaining items are sold to other bidders in order of price, quality and

time.

Reserve price: The seller lists a ‘reserve bid price’. Buyers are allowed to place bids for any amount above or below the reserve

price, but the seller has the option to disregard any of the bids below the reserve price. The bidders do not normally know

the reserve price.

Express auction: Short timed auctions generally lasting between one-half to one hour. The quick turn-around offers a heightened

auction experience.

Reverse auction: The seller and not the buyer bears the risk of not being successful. The buyer lists what is required at the

price they are willing to pay for it. Sellers bid for the business. The bidder can remain anonymous, and a maximum price can

be established to maintain the price within a budget. This type of auction format is not offered by eBay. Priceline.com is well

known for offering reverse auctions.

Sealed bid auctions: Bidders are only aware of the reserve price and bid without knowing the amounts of other incoming bids.

All bids are automatically opened at the end date of the auction and the highest bidder wins.

Sniping: Placing a bid in the closing minutes or seconds of an auction. Any bid placed before the auction ends is allowed on eBay

but not on some other sites.

Proxy bidding: Placing a proxy bid at the maximum limit users are willing to bid for an item will result in the system bidding on

the bidder’s behalf each time a new bidder places a bid. The system will ensure that the proxy bidder’s bid is one increment

higher than the previous bid until the user’s maximum limit is reached.

Source: Various.

Case 3 • eBay.com C-47

Exhibit 8 Comparison of ﬁnancial performance of dotcoms

Performance measure eBay Yahoo! Priceline Amazon

Revenues1 (mn) 113.4 295.5 341.3 637.9

Net income1 (mn) 15.2 47.7 (191.9) (240.5)

Gross margin2 (%) 74.58 85.45 15.40 21.06

Operating margin2 (%) 2.35 27.46 –97.04 –33.08

Proﬁt margin2 (%) 7.50 21.33 –96.18 –35.79

Recent share price336.94 40.88 2.53 28.94

Market capitalisation3 (mn) 9 895.62 22 825.54 426.50 10 306.96

Number of employees4138 1 992 373 7 600

Notes: Source: www.marketguide.com, November 2000.

1 All amounts in US dollars.

2 Revenue and net income for three months to 30 September 2000.

3 Margins for 12 months to 30 September 2000.

4 Share price as at 24 November 2000.

5 Employees as at 31 December 1999.

Exhibit 7 Websites’ audiences and average time per month

Ranking Website Unique audience (’000)

Time per person

(hrs:min:sec)

1 AOL Websites 64 744 00:43:29

2 Yahoo! 63 720 01:41:00

3 MSN 51 424 01:19:37

4 Microsoft 34 614 00:12:31

5 Lycos Network 33 708 00:21:28

6 Excite@Home 32 085 00:35:09

7 Walt Disney Internet Group 27 076 00:33:41

8 Time Warner 23 250 00:24:14

9 About the Human Internet 22 262 00:10:45

10 Amazon 21 837 00:16:06

11 AltaVista 18 560 00:21:41

12 CNET Networks 18 525 00:16:06

13 NBC Internet 18 423 00:14:51

14 eBay 17 010 02:10:49

15 eUniverse Network 16 003 00:18:01

16 LookSmart 15 840 00:07:39

17 Ask Jeeves 14 671 00:10:30

18 Real Network 12 265 00:06:46

19 American Greetings 11 856 00:11:49

20 Earthlink 11 602 00:17:15

21 AT&T 11 196 00:15:45

22 Uproar 11 113 00:42:35

23 The Go2Net Network 10 752 00:13:25

24 GoTo.com 10 564 00:04:15

25 Viacom International 10 178 00:14:21

Source: Nielsen NetRatings.

C-48 Case 3 • eBay.com

The future

In the third quarter of 2000, US$1.4 billion worth

of goods were traded on eBay in 68.5 million auc-

tions, which generated US$113.4 million of revenue

and US$15.2 million in net proﬁt for the company.

At the end of September 2000, eBay had 18.9 million

registered users. When releasing these results, eBay

announced a revenue goal of US$3 billion in 2005,

with sites in 25 countries, representing the majority of

the world’s Internet users. Exhibit 7 gives the Nielsen

NetRatings of the top 25 websites for October 2000

(combined at-home and at-work data), where eBay

received 17 million unique visitors who spent an aver-

age of 2 hours 10 minutes on the site for the month.

What was important to Whitman was the fact that

eBay was making a proﬁt, while many other e-com-

merce companies were making signiﬁcant losses while

building their user base and establishing distribution

networks (see Exhibit 8).

However, on 20 November 2000, Lehman

Brothers downgraded eBay’s share from a ‘buy’ to a

‘neutral’, citing eBay’s ‘aggressive 2005 sales projec-

tion’ as a concern. The share price fell 20 per cent on

the news. The analyst at Lehman Brothers said that

eBay’s core business was slowing down and that the

new business initiatives were more costly than initial

estimates. The staff complement had increased with

the growth, which meant that the company was being

challenged to maintain the culture and values among

the new recruits. Whitman knew that her greatest

challenge would be to keep eBay focused while grow-

ing the company. Considering the share downgrade,

Whitman was sure that the analyst was over-reacting

on the forecasts. Over the past ﬁve years, eBay had

been an example of e-commerce success for Internet

and bricks-and-mortar companies alike. It had trans-

formed the auction business, which had allowed it to

become the world’s largest P2P on-line auction com-

pany, achieving a higher value than many established

Fortune 500 companies. Overcoming challenges was

an everyday part of the environment, for which eBay

had set the example. But the future may bring as many

threats as previously there were opportunities.

Exhibit 9 A brief history of auctions

The auction format of selling emerged almost from the beginning of time, when people ﬁrst began to barter trade with each

other. The word ‘auction’ is derived from a Latin word, which means a gradual increase.

The earliest record of an organised auction was of the annual marriage market of Babylon in about 500 BC. Once a year the

men of Babylon would gather around while a herald (auctioneer) would accept bids for maidens. The herald would begin the

auction with the most ‘beautiful’ girls and work his way through to the ‘ugliest’. Ancient Romans also auctioned goods. One of

the most astonishing auctions in history occurred in the year AD 193 when no less than the entire Roman Empire was ‘tossed

on the block’ by the Praetorian Guard. First they killed Pertinax, the emperor, and then they announced that the highest

bidder could claim the empire. As the Roman Empire came to an end, there were fewer and fewer auctions.

The earliest reference to the auction as practised in Great Britain is from 1595, but there are no more references until the

end of the 17th century. At that time, auctions were held in taverns and coffee houses to sell art. At the beginning of the 17th

century, four types of auctions developed which shaped how current auctions are conducted today. The four types were:

1 Auctions using a ‘hammer’ as we know it today.

2 Hourglass auctions: Bids were accepted until the last grain of sand was left at the top of the hourglass. The last bid called

before the glass was empty, won.

3 Candle auction: The same idea as the hourglass auction.

4 Dutch auction: This is when the auctioneer begins at a higher price and quotes smaller and smaller bids until there

is a buyer.

Sotheby’s and Christies were founded in 1744 and 1766, respectively.

Sources: www.bendisauctions.com/orgin.htm; http://iml.jou.uﬂ.edu/projects/Spring2000/McKenzie/History.html; www.webcom.com/agorics/

auctions/auction9.html.

Case 3 • eBay.com C-49

References

The Australian eBay site can be explored at www.ebay.com.au. Users

can search for items in Australia or worldwide, and can set up the

‘My eBay’ function to track auctions.

Alsop. S., 1999, ‘Contemplating eBay’s funeral’, Fortune Magazine,

139(11).

Amazon.com Auctions, 2000, www.amazon.com.

AuctionGuide.com., 2000, www.auctionguide.com.

AuctionWatch, 2000, www.auctionwatch.com.

Bloomberg News, 1999, ‘eBay founders give up billions to repay

loans’, Cnet.com, June, viewed 23 September 2000, www.cnet.

com.

Butterﬁeld & Butterﬁeld, 2000, www.butterﬁelds.com.

CiscoWorld, 2000, Case Study: ‘Keeping outages at bay at eBay’,

5 October, www.ciscoworldmagazine.com.

Clampet, E., 1999, ‘eBay enhances services with acquisitions’, May,

viewed 23 September 2000, www.internews.com.

Cohen, A., 1999, ‘The eBay revolution: How the online auctioneer

triggered a revolution of its own’, Time Magazine, viewed

16 October 2000, www.time.com.

Dayal, S., H. Landesberg and M. Zeisser, 2000, ‘Building digital brands’,

The McKinsey Quarterly 2, pp. 42–51.

eBay Annual Report, 1999, Form 10-K: Annual Report for eBay Inc. for

fiscal year ended December 31, 1998.

eBay Annual Report, 2000, Form 10-K: Annual Report for eBay Inc. for

fiscal year ended December 31, 1999.

eBay Quar terly Financial Statements, 2000, Form 10-Q: Quarterly

Report for eBay Inc. for the quarterly period ended June 30, 2000.

eBay Quarterly Financial Statements, 2000, Form 10-Q: Quarterly Report

for eBay Inc. for the quarterly period ended March 31, 2000.

eBay Quar terly Financial Statements, 2000, Form 10-Q: Quarterly

Report for eBay Inc. for the quarterly period ended September 30,

2000.

eBay.com, 2000, www.ca.ebay.com (Canada).

eBay.com, 2000, www.ebay.co.uk (United Kingdom).

eBay.com, 2000, www.ebay.com.au (Australia).

eBay.com, 2000, www.ebayjapan.co.jp (Japan).

eBay.com, 2000, www.fr.ebay.com (France).

Ellington, D., D. Ficeli, P. Jaturaputpaibul and K. Kellam, 1999, Issues

Facing Consumer-Oriented Online Auctions (MBA, Owen Graduate

School of Management, Vanderbilt University), 17 October

2000, http://mba99.vanderbilt.edu.

Forrester Research, 2000, ‘Forrester ﬁndings: Internet commerce’,

17 September, www.forrester.com.

Fortune, 2000, ‘America’s forty under 40’, Fortune Magazine, June,

viewed 23 October, www.fortune.com.

Fortune, 1999, e50, Company Index, 29 September 2000, www.

fortune.com.

Himelstein, L., 1999, ‘Q&A with Meg Whitman: What’s behind the

boom at eBay’, Business Week, www.businessweek.com.

Interagency Government Asset Sales Team (IGAST), 2000, ‘The

vendor pilot asset sales and auction’, US Chief Financial

Ofﬁcer’s Council Auction White Paper, 13 October, www.

ﬁnancenet.gov.

InternetNews Staff, 1998, ‘eBay gets personal’, InterNews.com,

October, viewed 23 September 2000, www.internews.com.

InternetNews Staff, 1998, ‘eBay launches national adver tising

campaign’, InterNews.com, October, viewed 23 September

2000, www.internews.com.

Jannarkar, S., 1999, ‘eBay buys Butterﬁeld & Butterﬁeld’, Cnet.com,

April, viewed 26 September 2000, www.cnet.com.

Kruse International, 2000, www.kruseinternational.com.

Lee, J., 1998, ‘Why eBay is ﬂying’, Fortune Magazine, 138(11).

Moran, S., 1999, ‘The pro: Meg Whitman’, Business 2.0, June, viewed

2 October 2000, www.business2.com.

Nielsen/NetRatings Global Internet Index, 2000, ‘Top 25 web sites

by proper ty’, October, viewed 28 November 2000, www.

nielsen-netratings.com.

Reichheld, F. R and P. Schefter, 2000, ‘E-Loyalty: Your secret weapon

on the web’, Harvard Business Review, July–August, pp. 105–13.

Roberts, L., 2000, ‘eBay thinks global, big-time’, 25 September, www.

marketwatch.com.

Roth, D., 1999, ‘Meg muscles eBay uptown’, Fortune Magazine,

140(1).

Sellers, P., 1999, ‘Powerful women: These women rule’, Fortune

Magazine, 140(8).

Silicon Valley, 1999, ‘Return to 1st person: Pierre Omidyar’,

Siliconvalley.com, 23 September 2000, www.sv.com.

Street, D., 1999’, Amazon.com: From start-up to the new millennium

(MBA Research Report, University of Cape Town).

Tedeschi, R., 1999, ‘Using discounts to build a client base’, New York

Times, 31 May.

The Standard, 1999, ‘Proﬁle: Pierre Omidyar’, 15 September 2000,

www.thestandard.com.

Wall Street Journal, 2000, ‘Stocks declined, dragged down by analyst

downgrades, election’, Wall Street Journal, 20 November, www.

wsj.com.

Wingﬁeld, N., 2000, ‘eBay aims to be operating system for all

e-commerce on the Internet’, Wall Street Journal, 20 November,

www.wsj.com.

Yahoo! Auctions, 2000, auctions.yahoo.com.

Notes

1 D. Bunnell, 2000, The eBay Phenomenon: Business Secrets Behind

the World’s Hottest Internet (New York: John Wiley & Sons,

Inc.). Copyright John Wiley & Sons Limited. Reproduced by

permission.

2 Ibid.

3 Ibid.

4 Ibid.

5 Various, 2000, Epinions.com – Reviews of eBay, 21 November,

www.epinions.com.

6 K. Harrod, 1999, ‘Amazon.com vs. eBay’, Letter to Fortune, 5 July

1999, viewed 23 October 2000, www.fortune.com.

7 Bunnell, The eBay Phenomenon.

8 Ibid.

9 Ibid.

10 www.ebay.com.

11 Various, 2000, Epinions.com – Reviews of eBay.

C-50

Case 4

Gillette and the men’s

wet-shaving market

Lew G. Brown Jennifer M. Hart

University of North Carolina at Greensboro University of North Carolina at Greensboro

SAN FRANCISCO

On a spring morning in 1989, Michael Johnson dried

himself and stepped from the shower in his San Fran-

cisco Marina District condominium. He moved to the

sink and started to slide open the drawer in the cabi-

net beneath the sink. Then he remembered that he had

thrown away his last Atra blade yesterday. He heard

his wife, Susan, walk past the bathroom.

‘Hey, Susan, did you remember to pick up some blades

for me yesterday?’

‘Yes, I think I put them in your drawer.’

‘Oh, okay, here they are.’ Michael saw the bottom of

the blade package and pulled the drawer open.

‘Oh, no! These are Trac II blades, Susan, I use an

Atra.’

‘I’m sorry. I looked at all the packages at the drug-

store, but I couldn’t remember which type of razor

you have. Can’t you use the Trac II blades on your

razor?’

‘No. They don’t ﬁt.’

‘Well, I bought some disposable razors. Just use one

of those.’

‘Well, where are they?’

‘Look below the sink. They’re in a big bag.’

‘I see them. Wow, 10 razors for $1.97! Must have been

on sale.’

‘I guess so. I usually look for the best deal. Seems to

me that all those razors are the same, and the drug-

store usually has one brand or another on sale.’

‘Why don’t you buy some of those shavers made for

women?’

‘I’ve tried those, but it seems that they’re just like the

ones made for men, only they’ve dyed the plastic pink

or some pastel colour. Why should I pay more for

colour?’

‘Why don’t you just use disposables?’ Susan contin-

ued. ‘They are simpler to buy, and you just throw

them away. And you can’t beat the price.’

‘Well, the few times I’ve tried them they didn’t seem

to shave as well as a regular razor. Perhaps they’ve

improved. Do they work for you?’

‘Yes, they work ﬁne. And they sure are better than the

heavy razors if you drop one on your foot while you’re

in the shower!’

‘Never thought about that. I see your point. Well, I’ll

give the disposable a try.’

Case 4 • Gillette and the men’s wet-shaving market C-51

History of shaving

Anthropologists do not know exactly when or even

why men began to shave. Researchers do know that

prehistoric cave drawings clearly present men who

were beardless. Apparently these men shaved with

clamshells or sharpened animal teeth. As society

developed, primitive men learned to sharpen ﬂint

implements. Members of the early Egyptian dynas-

ties as far back as 7000 years ago shaved their faces

and heads, probably to deny their enemies anything

to grab during hand-to-hand combat. Egyptians later

fashioned copper razors and, in time, bronze blades.

Craftsmen formed these early razors as crescent-

shaped knife blades, like hatchets or meat cleavers, or

even as circular blades with a handle extending from

the centre. By the Iron Age, craftsmen were able to

fashion blades that were considerably more efﬁcient

than the early ﬂint, copper and bronze versions.

Before the introduction of the safety razor, men

used a straight-edged, hook-type razor and found

shaving a tedious, difﬁcult and time-consuming task.

The typical man struggled through shaving twice a

week at most. The shaver had to sharpen the blade

(a process called stropping) before each use and had

to have an expert cutler hone the blade each month.

As a result, men often cut themselves while shaving;

and few men had the patience and acquired the nec-

essary skill to become good shavers. Most men in the

1800s agreed with the old Russian proverb: ‘It is eas-

ier to bear a child once a year than to shave every

day.’ Only the rich could afford a daily barber shave,

which also often had its disadvantages because many

barbers were unclean.

Before King C. Gillette of Boston invented the

safety razor in 1895, he tinkered with other inventions

in pursuit of a product which, once used, would be

thrown away. The customer would have to buy more,

and the business would build a long-term stream of

sales and proﬁts with each new customer.

‘On one particular morning when I started to

shave,’ wrote Gillette about the dawn of his inven-

tion, ‘I found my razor dull, and it was not only dull

but beyond the point of successful stropping and it

needed honing, for which it must be taken to a bar-

ber or cutler. As I stood there with the razor in my

hand, my eyes resting on it as lightly as a bird settling

down on its nest, the Gillette razor was born.’ Gillette

immediately wrote to his wife, who was visiting rela-

tives, ‘I’ve got it; our fortune is made.’

Gillette had envisioned a ‘permanent’ razor han-

dle on to which the shaver placed a thin, razor ‘blade’

with two sharpened edges. The shaver would place a

top over the blade and attach it to the handle so that

only the sharpened edges of the blade were exposed,

thus producing a ‘safe’ shave. A man would shave

with the blade until it became dull and then would

simply throw the used blade away and replace it. Gil-

lette knew his concept would revolutionise the process

of shaving; however, he had no idea that his creation

would permanently change men’s shaving habits.

Shaving in the 1980s

Following the invention of the safety razor, the men’s

shaving industry in the United States grew slowly but

surely through the First World War. A period of rapid

growth followed, and the industry saw many product

innovations. By 1989, US domestic razor and blade

sales (the wet-shave market) had grown to a US$770

million industry. A man could use three types of wet

shavers to remove facial hair. Most men used the dis-

posable razor – a cheap, plastic-handled razor that

lasted for eight to 10 shaves on average. Permanent

razors, called blade and razor systems, were also pop-

ular. These razors required new blades every 11 to

14 shaves. Customers could purchase razor handles

and blade cartridges together, or they could purchase

packages of blade cartridges as reﬁlls. The third cate-

gory of wet shavers included injector and double-edge

razors and accounted for a small share of the razor

market. Between 1980 and 1988, disposable razors

had risen from a 22 per cent to a 41.5 per cent market

share of dollar sales. During the same period, cartridge

systems had fallen from 50 per cent to 45.8 per cent

and injector and double-edge types had fallen from

28 per cent to 12.7 per cent. In addition, the develop-

ment of the electric razor had spawned the dry-shave

market, which accounted for about US$250 million

in sales by 1988.

Despite the popularity of disposable razors,

manufacturers found that the razors were expen-

sive to make and generated very little proﬁt. In 1988,

some industry analysts estimated that manufacturers

C-52 Case 4 • Gillette and the men’s wet-shaving market

earned three times more on a razor and blade system

than on a disposable razor. Also, retailers preferred

to sell razor systems because they took up less room

on display racks and the retailers made more mon-

ey on reﬁll sales. However, retailers liked to promote

disposable razors to generate trafﬁc. As a result, US

retailers allocated 55 per cent of their blade and razor

stock to disposable razors, 40 per cent to systems and

5 per cent to double-edge razors.

Electric razors also posed a threat to razor and

blade systems. Unit sales of electric razors jumped

from 6.2 million in 1981 to 8.8 million in 1987. Low-

priced imports from the Far East drove demand for

electric razors up and prices down during this period.

Nonetheless, fewer than 30 per cent of men used elec-

tric razors, and most of these also used wet-shaving

systems.

Industry analysts predicted that manufacturers’

sales of personal care products would continue to

grow. However, the slowing of the overall US econo-

my in the late 1980s meant that sales increases result-

ing from an expanding market would be minimal and

companies would have to ﬁght for market share to

continue to increase sales.

By 1988 the Gillette Company dominated the wet-

shave market with a 60 per cent share of worldwide

razor market revenue and a 61.9 per cent share of the

US market. Gillette also had a stake in the dry-shave

business through its Braun subsidiary. The other play-

ers in the wet-shave market were Schick with 16.2 per

cent of market revenues, BIC with 9.3 per cent, and

others, including Wilkinson Sword, with the remain-

ing 12.6 per cent.

The Gillette Company

King Gillette took eight years to perfect his safety

razor. In 1903, the ﬁrst year of marketing, the Amer-

ican Safety Razor Company sold 51 razors and 168

blades. Gillette promoted the safety razor as a saver

of both time and money. Early ads proclaimed that

the razor would save US$52 and 15 days’ shaving

time each year and that the blades required no strop-

ping or honing. During its second year, Gillette sold

90 884 razors and 123 648 blades. By its third year,

razor sales were rising at a rate of 400 per cent per

year, and blade sales were booming at an annual rate

of 1000 per cent. In that year, the company opened its

ﬁrst overseas branch in London.

Such success attracted much attention, and com-

petition quickly developed. By 1906, consumers had

at least a dozen safety razors from which to choose.

The Gillette razor sold for US$5, as did the Zinn

razor made by the Gem Cutlery Company. Others,

such as the Ever Ready, Gem Junior and Enders, sold

for as little as US$1.

With the beneﬁt of a 17-year patent, Gillette found

himself in a very advantageous position. However, it

was not until the First World War that the safety razor

gained wide consumer acceptance. One day in 1917,

King Gillette had a visionary idea: have the govern-

ment present a Gillette razor to every soldier, sailor

and marine. In this way, millions of men just entering

the shaving age would adopt the self-shaving habit. By

March 1918, Gillette had booked orders from the US

military for 519 750 razors, more than it had sold in

any single year in its history. During the First World

War, the government bought 4 180 000 Gillette razors

as well as smaller quantities of competitive models.

Although King Gillette believed in the quality of

his product, he realised that marketing, especially dis-

tribution and advertising, would be the key to suc-

cess. From the beginning, Gillette set aside 25 cents

per razor for advertising and by 1905 had increased

the amount to 50 cents. Over the years, Gillette used

cartoon ads, radio shows, musical slogans and theme

songs, prizes, contests and cross-promotions to push

its products. Perhaps, however, consumers best remem-

ber Gillette for its Cavalcade of Sports programs that

began in 1939 with the company’s sponsorship of the

World Series. Millions of men soon came to know

Sharpie the Parrot and the tag line, ‘Look Sharp! Feel

Sharp! Be Sharp!’

Gillette had always been an industry innovator.

In 1932, Gillette introduced the Gillette Blue Blade,

which was the premier men’s razor for many years.

In 1938, the company introduced the Gillette Thin

Blade; in 1946, it introduced the ﬁrst blade dispenser

that eliminated the need to unwrap individual blades;

in 1959, it introduced the ﬁrst silicone-coated blade,

the Super Blue Blade. The success of the Super Blue

Blade caused Gillette to close 1961 with a command-

ing 70 per cent share of the overall razor and blade

Case 4 • Gillette and the men’s wet-shaving market C-53

market and a 90 per cent share of the double-edge

market, the only market in which it competed.

In 1948, Gillette began to diversity into new mar-

kets through acquisition. The company purchased the

Toni Company to extend its reach into the women’s

grooming-aid market. In 1954, the company bought

Paper Mate, a leading marker of writing instruments.

In 1962, it acquired the Sterilon Corporation, which

manufactured disposable hospital supplies. As a result

of these moves, a marketing survey found that the

public associated Gillette with personal grooming as

much as, or more than, with blades and razors.

In 1988, the Gillette Company was a leading pro-

ducer of men’s and women’s grooming aids. Exhibit 1

lists the company’s major divisions. Exhibits 2 and 3

show the percentages and dollar volumes of net sales

Exhibit 1 Gillette product lines by company division, 1988

Blades and razors Stationery products

Toiletries and

cosmetics Oral B products Braun products

Trac II

Atra

Good News

Paper Mate

Liquid Paper

Flair

Waterman

Write Bros.

Adorn

oni

Right Guard

Silkience

Soft and Dri

Foamy

Dry Look

Dry Idea

White Rain

Lustrasilk

Oral B toothbrushes Electric razors

Lady Elegance

Clocks

Coffee grinders and

makers

Exhibit 2 Gillette’s sales and operating proﬁts by product line, 1986–88 (US$mn)

1988 1987 1986

Product line Sales Proﬁts Sales Proﬁts Sales Proﬁts

Blades and razors $1 147 $406 $1 031 $334 $903 $274

Toiletries and cosmetics 1 019 79 926 99 854 69

Stationery products 385 56 320 34 298 11

Braun products 824 85 703 72 657 63

Oral B 202 18 183 7 148 8

Other 5 (0.1) 4 2 48 (1)

Totals $3 582 $643 $3 167 $548 $2 908 $424

Source: Gillette Company Annual Reports, 1985–88.

Exhibit 3 Gillette’s net sales and proﬁt by business, 1984–88 (per cent)

Blades

and razors

Toiletries

and cosmetics

Stationery

products

Braun

products

Oral B

products

Year Sales Proﬁts Sales Proﬁts Sales Proﬁts Sales Proﬁts Sales Proﬁts

1988 32 61 28 14 11 9 23 13 6 3

1987 33 61 29 18 10 6 22 13 6 2

1986 32 64 30 16 11 3 20 15 5 2

1985 33 68 31 15 11 2 17 13 6 3

1984 34 69 30 15 12 3 17 12 3 2

Source: Gillette Company Annual Reports, 1985–88.

C-54 Case 4 • Gillette and the men’s wet-shaving market

and proﬁts from operations for each of the company’s

major business segments. Exhibits 4 and 5 present

income statements and balance sheets for 1986–88.

Despite its diversiﬁcation, Gillette continued to

realise the importance of blade and razor sales to the

company’s overall health. Gillette had a strong foot-

hold in the razor and blade market, and it intended

to use this dominance to help it achieve the compa-

ny’s goal – ‘sustained proﬁtable growth’. To reach this

goal, Gillette’s mission statement indicated that the

company should pursue ‘strong technical and market-

ing efforts to assure vitality in major existing prod-

uct lines; selective diversiﬁcation, both internally

and through acquisition; the elimination of product

and business areas with low growth or limited proﬁt

potential; and strict control over product costs, over-

head expenses, and working capital’.

Gillette introduced a number of innovative shav-

ing systems in the 1970s and 1980s as part of its

strategy to sustain growth. Gillette claimed that Trac

II, the ﬁrst twin-blade shaver, represented the most

revolutionary shaving advance ever. The develop-

ment of the twin-blade razor derived from shaving

researchers’ discovery that shaving causes whiskers to

be brieﬂy lifted up out of the follicle during shaving,

a process called ‘hysteresis’ by technicians. Gillette

invented the twin-blade system so that the ﬁrst blade

would cut the whisker and the second blade would

cut it again before it receded. This system produced a

closer shave than a traditional one-blade system. Gil-

lette also developed a clog-free, dual-blade cartridge

for the Trac II system.

Because consumer test data showed a 9-to-1

preference for Trac II over panellists’ current razors,

Gillette raced to get the product to market. Gillette

supported Trac II’s 1971 introduction, which was the

largest new product introduction in shaving history,

with a US$10 million advertising and promotion bud-

get. Gillette cut its advertising budgets for its other

brands drastically to support Trac II. The double-

edge portion of the advertising budget decreased from

47 per cent in 1971 to 11 per cent in 1972. Gillette

reasoned that growth must come at the expense of

other brands. Thus, it concentrated its advertising and

promotion on its newest shaving product and reduced

support for its established lines.

Gillette launched Trac II during a World Series

promotion and made it the most frequently advertised

shaving system in America during its introductory

period. Trac II users turned out to be predominantly

young, college-educated men who lived in metropoli-

tan and suburban areas and earned higher incomes.

Exhibit 4 Gillette income statements, 1986–88 (US$mn except for per share and stock price data)

1988 1987 1986

Net sales $3 581.2 $3 166.8 $2 818.3

Cost of sales 1 487.4 1 342.3 1 183.8

Other expenses 1 479.8 1 301.3 1 412.0

Operating income 614.0 523.2 222.5

Other income 37.2 30.9 38.2

Earnings before interest and tax 651.2 545.1 260.7

Interest expense 138.3 112.5 85.2

Non-operating expense 64.3 50.1 124.0

Earnings before tax 448.6 391.5 51.5

Tax 180.1 161.6 35.7

Earnings after tax 268.5 229.9 15.8

Earnings per share 2.45 2.00 0.12

Average common shares outstanding (000) 109 559 115 072 127 344

Dividends paid per share $0.86 $0.785 $0.68

Stock price range

High

Low

$49

$29 1/8

$45 7/8

$17 5/8

$34 1/2

$17 1/8

Source: Gillette Company Annual Reports, 1986–88.

Case 4 • Gillette and the men’s wet-shaving market C-55

As the fastest-growing shaving product on the market

for ﬁve years, Trac II drove the switch to twin blades.

The brand reached its peak in 1976 when consumers

purchased 485 million blades and 7 million razors.

Late in 1976, Gillette, apparently in response to

BIC’s pending entrance into the US market, launched

Good News!, the ﬁrst disposable razor for men sold

in the United States. In 1975, BIC had introduced the

ﬁrst disposable shaver in Europe; and by 1976 BIC

had begun to sell disposable razors in Canada. Gillette

realised that BIC would move its disposable razor into

the United States after its Canadian introduction, so

it promptly brought out a new blue plastic disposable

shaver with a twin-blade head. By year’s end, Gillette

also made Good News! available in Austria, Canada,

France, Italy, Switzerland, Belgium, Greece, Germany

and Spain.

Unfortunately for Gillette, Good News! was real-

ly bad news. The disposable shaver delivered lower

proﬁt margins than razor and blade systems, and

it undercut sales of other Gillette products. Good

News! sold for much less than the retail price of a

Trac II cartridge. Gillette marketed Good News! on

price and convenience, not performance; but the com-

pany envisioned the product as a step-up item leading

to its traditional high-quality shaving systems.

This contain-and-switch strategy did not succeed.

Consumers liked the price and the convenience of dis-

posable razors, and millions of Trac II razors began

to gather dust in medicine chests across the country.

Many Trac II users ﬁgured out that for as little as

25 cents, they could get the same cartridge mounted

on a plastic handle that they had been buying for 56

cents to put on their Trac II handle. Further, dispos-

able razors created an opening for competitors in a

category that Gillette had long dominated.

Gillette felt sure, however, that disposable razors

would never gain more than a 7 per cent share of

the market. The disposable razor market share soon

soared past 10 per cent, forcing Gillette into continu-

al upward revisions of its estimates. In terms of units

sold, disposable razors reached a 22 per cent market

share by 1980 and a 50 per cent share by 1988.

BIC’s and Gillette’s successful introduction of

the disposable razor represented a watershed event in

‘commoditisation’ – the process of converting well-

differentiated products into commodities. Status,

quality and perceived value had always played prima-

ry roles in the marketing of personal care products.

But consumers were now showing that they would

forgo performance and prestige in a shaving product

– about as close and personal as one can get.

Exhibit 5 Gillette balance sheets, 1986–88 (US$mn)

1988 1987 1986

Assets Cash $156.4 $119.1 $94.8

Receivables 729.1 680.1 608.8

Inventories 653.4 594.5 603.1

Other current assets 200.8 184.5 183.0

Total current assets 1 739.7 1 578.2 1 489.7

Fixed assets, net 683.1 664.4 637.3

Other assets 445.1 448.6 412.5

Total assets 2 867.9 2 731.2 2 539.5

Liabilities and equity Current liabilities* 965.4 960.5 900.7

Long-term debt 1 675.2 839.6 915.2

Other long-term liabilities 311.9 331.7 262.8

Equity†$ (84.6) $ 599.4 $ 460.8

* Includes current portion of long-term debt: 1988 = $9.6, 1987 = $41.0, 1986 = $7.6. Source: Gillette Company Annual Reports, 1986–88.

† Includes retained earnings: 1988 = $1261.6, 1987 = $1 083.8, 1986 = $944.3.

C-56 Case 4 • Gillette and the men’s wet-shaving market

In 1977, Gillette introduced a new blade and razor

system at the expense of Trac II. It launched Atra

with a US$7 million advertising campaign and over

50 million US$2 rebate coupons. Atra (which stands

for Automatic Tracking Razor Action) was the ﬁrst

twin-blade shaving cartridge with a pivoting head.

Engineers had designed the head to follow a man’s

facial contours for a closer shave. Researchers began

developing the product in Gillette’s UK research and

development lab in 1970. They had established a goal

of improving the high-performance standards of twin-

blade shaving and speciﬁcally enhancing the Trac II

effect. The company’s scientists discovered that mov-

ing the hand and face was not the most effective way

to achieve the best blade–face shaving angle. The

razor head itself produced a better shave if it pivoted

so as to maintain the most effective shaving angle.

Marketers selected the name ‘Atra’ after two years of

extensive consumer testing.

Atra quickly achieved a 7 per cent share of the

blade market and about one-third of the razor mar-

ket. The company introduced Atra in Europe a year

later under the brand name ‘Contour’. Although Atra

increased Gillette’s share of the razor market, 40

per cent of Trac II users switched to Atra in the ﬁrst

year.

In the early 1980s, Gillette introduced most of

the new disposable razors and product enhance-

ments. Both Swivel (launched in 1980) and Good

News! Pivot (1984) were disposable razors featur-

ing movable heads. Gillette announced Atra Plus (the

ﬁrst razor with the patented Lubra-smooth lubricat-

ing strip) in 1985 just as BIC began to move into the

United States from Canada with the BIC shaver for

sensitive skin. A few months later, Gillette ushered in

Micro Trac – the ﬁrst disposable razor with an ultra-

slim head. Gillette priced the Micro Trac lower than

any other Gillette disposable razor. The company

claimed to have designed a state-of-the-art manufac-

turing process for Micro Trac. The process required

less plastic, thus minimising bulk and reducing man-

ufacturing costs. Analysts claimed that Gillette was

trying to bracket the market with Atra Plus (with a

retail price of US$3.99 to US$4.95) and Micro Trac

(US$0.99), and protect its market share with prod-

ucts on both ends of the price and usage scale. Gillette

also teased Wall Street with hints that, by the end

of 1986, it would be introducing yet another state-

of-the-art shaving system that could revolutionise the

shaving business.

Despite these product innovations and intro-

ductions in the early 1980s, Gillette primarily focused

its energies on its global markets and strategies. By

1985, it was marketing 800 products in more than

200 countries. The company felt a need at this time to

coordinate its marketing efforts, ﬁrst regionally and

then globally.

Unfortunately for Gillette’s management team,

others noticed its strong international capabilities.

Ronald Perelman, chairman of the Revlon Group,

attempted an unfriendly takeover in November 1986.

To fend off the takeover, Gillette bought back 9.2

million shares of its stock from Perelman and sad-

dled itself with additional long-term debt to ﬁnance

the stock repurchase. Gillette’s payment to Perelman

increased the company’s debt load from US$827 mil-

lion to US$1.1 billion, and put its debt-to-equity ratio

at 70 per cent. Gillette and Perelman signed an agree-

ment preventing Perelman from attempting another

takeover until 1996.

In 1988, just as Gillette returned its attention

to new product development and global marketing,

Coniston Partners, after obtaining 6 per cent of Gil-

lette’s stock, engaged the company in a proxy bat-

tle for four seats on its 12-person board. Coniston’s

interest had been piqued by the Gillette–Perelman

US$549 million stock buyback and its payment of

US$9 million in expenses to Perelman. Coniston and

some shareholders felt Gillette’s board and manage-

ment had repeatedly taken actions that prohibited its

shareholders from realising their shares’ full value.

When the balloting concluded, Gillette’s management

won by a narrow margin – 52 to 48 per cent. Coniston

made US$13 million in the stock buyback program

that Gillette offered to all shareholders, but Conis-

ton agreed not to make another run at Gillette until

1991. This second takeover attempt forced Gillette to

increase its debt load to US$2 billion and pushed its

total equity negative to (US$84.6 million).

More importantly, both takeover battles forced

Gillette to ‘wake up’. Gillette closed or sold its Jafra

Cosmetics operations in 11 countries and jettisoned

weak operations such as Misco, Inc. (a computer sup-

plies business), and S.T. Dupont (a luxury lighter,

Case 4 • Gillette and the men’s wet-shaving market C-57

clock and watchmaker). The company also thinned

its workforce in many divisions, such as its 15 per cent

staff reduction at the Paper Mate pen unit. Despite

this pruning, Gillette’s sales for 1988 grew 13 per cent

to US$3.6 billion, and proﬁts soared 17 per cent to

US$268 million.

Despite Gillette’s concentration on fending off

takeover attempts, it continued to enhance its razor

and blade products. In 1986, it introduced the Con-

tour Plus in its ﬁrst pan-European razor launch. The

company marketed Contour Plus with one identity

and one strategy. In 1988, the company introduced

Trac II Plus, Good News! Pivot Plus and Daisy Plus

– versions of its existing products with the Lubra-

smooth lubricating strip.

Schick

Warner-Lambert’s Schick served as the second major

competitor in the wet-shaving business. Warner-Lam-

bert, incorporated in 1920 under the name William

R. Warner & Company, manufactured chemicals and

pharmaceuticals. Numerous mergers and acquisitions

over 70 years resulted in Warner-Lambert’s involve-

ment in developing, manufacturing and marketing

a widely diversiﬁed line of beauty, health and well-

being products. The company also became a major

producer of mints and chewing gums, such as Den-

tyne, Sticklets and Trident. Exhibit 6 presents a list of

Warner-Lambert’s products by division as of 1988.

Warner-Lambert entered the wet-shaving busi-

ness through a merger with Eversharp in 1970. Ever-

sharp, a long-time competitor in the wet-shave indus-

try, owned the Schick trademark and had owned the

Paper Mate Pen Company prior to selling it to Gillette

in 1955. Schick’s razors and blades produced US$180

million in revenue in 1987, or 5.2 per cent of Warner-

Lambert’s worldwide sales. (Refer to Exhibit 7 for

operating results by division, and Exhibits 8 and 9

for income statement and balance sheet data.)

In 1989, Schick held approximately a 16.2 per

cent US market share, down from its 1980 share

of 23.8 per cent. Schick’s market share was broken

down as follows: blade systems, 8.8 per cent; dispos-

able razors, 4.1 per cent; and double-edged blades

and injectors, 3.3 per cent.

Schick’s loss of market share in the 1980s occurred

for two reasons. First, even though Schick pioneered

the injector razor system (it controlled 80 per cent of

this market by 1979), it did not market a disposable

razor until mid-1984 – eight years after the ﬁrst dis-

posable razors appeared. Second, for years Warner-

Lambert had been channelling Schick’s cash ﬂow to

its research and development in drugs.

In 1986, the company changed its philosophy: it

allocated US$70 million to Schick for a three-year

Exhibit 6 Warner-Lambert product lines by company division, 1988

Ethical pharmaceuticals Gums and mints

Non-prescription

products Other products

Parke-Davis drugs Dentyne

Sticklets

Beemans

Trident

Freshen-up

Bubblicious

Chiclets

Clorets

Certs

Dynamints

Junior Mints

Sugar Daddy

Sugar Babies

Charleston Chew

Rascals

Benadryl

Caladryl

Rolaids

Sinutab

Listerex

Lubraderm

Anusol

Tucks

Halls

Benylin

Listerine

Listermint

Efferdent

Effergrip

Schick razors

Ultrex razors

Personal

Touch

Tetra Aquarium

Source: Moody’s Industrial Manual.

C-58 Case 4 • Gillette and the men’s wet-shaving market

Exhibit 7 Warner-Lambert’s net sales and operating proﬁt by division, 1985–88 (US$mn)

Net sales Operating proﬁt/(loss)

Division 1988 1987 1986 1985 1988 1987 1986 1985

Healthcare Ethical products $1 213 $1 093 $ 964 $ 880 $ 420 $ 351 $ 246 $ 224

Non-prescription

products 1 296 1 195 1 077 992 305 256 176 177

otal healthcare 2 509 2 288 2 041 1 872 725 607 422 401

Gums and mints 918 777 678 626 187 173 122 138

Other products* 481 420 384 334 92 86 61 72

Divested businesses (464)

R&D (259) (232) (202) (208)

Net sales and

operating proﬁt 3 908 3 485 3 103 3 200 745 634 599 (61)

* Other products include Schick razors, which accounted for US$180 million in revenue in 1987.

Source: Warner-Lambert Company Annual Report, 1987; Moody’s Industrial Manual.

Exhibit 8 Warner-Lambert income statements, 1986–88 (US$000)

1988 1987 1986

Net sales $3 908 400 $3 484 700 $3 102 918

Cost of sales 1 351 700 1 169 700 1 052 781

Other expenses 2 012 100 1 819 800 1 616 323

Operating income 544 600 495 200 433 814

Other income 61 900 58 500 69 611

Earnings before interest and tax 606 500 553 700 503 425

Interest expense 68 200 60 900 66 544

Earnings before tax 538 300 492 800 436 881

Tax 198 000 197 000 136 297

Non-recurring item – – 8 400

Earnings after tax 340 000 295 800 308 984

Retained earnings 1 577 400 1 384 100 1 023 218

Earnings per share 5.00 4.15 4.18

Average common shares outstanding (000) 68 035 71 355 73 985

Dividends paid per share 2.16 1.77 1.59

Stock price range

High

Low

$79 1/2

$59 7/8

$87 1/2

$48 1/4

$63 1/8

$45

Source: Moody’s Industrial Manual.

period and granted Schick its own sales force. In spite

of Schick’s loss of market share, company execu-

tives felt they had room to play catch-up, especially

by exploiting new technologies. In late 1988, Schick

revealed that it planned to conduct ‘guerrilla war-

fare’ by throwing its marketing resources and efforts

into new technological advances in disposable razors.

As a result, Warner-Lambert planned to allocate the

bulk of its US$8 million razor advertising budget to

marketing its narrow-headed disposable razor, Slim

Twin, which it introduced in August 1988.

Schick believed that the US unit demand for dis-

posable razors would increase to 55 per cent of the

market by the early 1990s from its 50 per cent share

in 1988. Schick executives based this belief on their

feeling that men would rather pay 30 cents for a

Case 4 • Gillette and the men’s wet-shaving market C-59

disposable razor than 75 cents for a reﬁll blade. In

1988, Schick held an estimated 9.9 per cent share of

dollar sales in the disposable razor market.

Schick generated approximately 67 per cent of its

revenues overseas. Also, it earned higher proﬁt mar-

gins on its non-domestic sales – 20 per cent versus

its 15 per cent domestic margin. Europe and Japan

represented the bulk of Schick’s international busi-

ness, accounting for 38 per cent and 52 per cent,

respectively, of 1988’s overseas sales. Schick’s Euro-

pean business consisted of 70 per cent systems and 29

per cent disposable razors, but Gillette’s systems and

disposable razor sales were 4.5 and 6 times larger,

respectively.

However, Schick dominated in Japan. Warner-

Lambert held over 60 per cent of Japan’s wet-shave

market. Although Japan had typically been an electric

shaver market (55 per cent of Japanese shavers use elec-

tric razors), Schick achieved an excellent record and

reputation in Japan. Both Schick and Gillette entered

the Japanese market in 1962; and their vigorous com-

petition eventually drove Japanese competitors from

the industry, which by 1988 generated US$190 mil-

lion in sales. Gillette’s attempt to crack the market

ﬂopped because it tried to sell razors using its own

salespeople, a strategy that failed because Gillette

did not have the distribution network available to

Japanese companies. Schick, meanwhile, chose to

leave the distribution to Seiko Corporation. Seiko

imported razors from the United States and then sold

them to wholesalers nationwide. By 1988, Schick gen-

erated roughly 40 per cent of its sales and 35 per cent

of its proﬁts in Japan. Disposable razors accounted

for almost 80 per cent of those ﬁgures.

BIC Corporation

The roots of the BIC Corporation, which was founded

by Marcel Bich in the United States in 1958, were in

France. In 1945, Bich, who had been the production

manager for a French ink manufacturer, bought a

factory outside Paris to produce parts for fountain

pens and mechanical lead pencils. In his new busi-

ness, Bich became one of the ﬁrst manufacturers

to purchase presses to work with plastics. With his

knowledge of inks and experience with plastics and

moulding machines, Bich set himself up to become

the largest pen manufacturer in the world. In 1949,

Bich introduced his version of the modern ballpoint

pen, originally invented in 1939, which he called

‘BIC’, a shortened, easy-to-remember version of his

own name. He supported the pen with memorable,

effective advertising; and its sales surpassed even his

own expectations.

Realising that a mass-produced disposable

ballpoint pen had universal appeal, Bich turned his

Exhibit 9 Warner-Lambert balance sheets, 1986–88 (US$000)

1988 1987 1986

Assets Cash $176 000 $24 100 $26 791

Receivables 525 200 469 900 445 743

Inventories 381 400 379 000 317 212

Other current assets 181 300 379 600 720 322

Total current assets 1 264 500 1 252 600 1 510 068

Fixed assets, net 1 053 000 959 800 819 291

Other assets 385 300 263 500 186 564

Total assets 2 702 800 2 475 900 2 515 923

Liabilities and equity Current liabilities* 1 025 200 974 300 969 806

Current portion of long-term

debt 7 100 4 200 143 259

Long-term debt 318 200 293 800 342 112

Equity $ 998 600 $ 874 400 $ 907 322

* Includes current portion of long-term debt. Source: Moody’s Industrial Manual.

C-60 Case 4 • Gillette and the men’s wet-shaving market

attention to the US market. In 1958, he purchased

the Waterman Pen Company of Connecticut and then

incorporated as Waterman-BIC Pen Corporation.

The company changed its name to BIC Pen in 1971

and ﬁnally adopted the name BIC Corporation for the

publicly owned corporation in 1982.

After establishing itself as the country’s largest

pen maker, BIC attacked another market – the dispos-

able lighter market. When BIC introduced its lighter

in 1973, the total disposable lighter market stood at

only 50 million units. By 1984, BIC had become so

successful at manufacturing and marketing its dis-

posable lighters that Gillette, its primary competitor,

abandoned the lighter market. Gillette sold its Crick-

et division to Swedish Match, Stockholm, the man-

ufacturer of Wilkinson razors. By 1989, the dispos-

able lighter market had grown to nearly 500 million

units, and BIC lighters accounted for 60 per cent of

the market.

Not content to compete just in the writing and

lighting markets, BIC decided to enter the US shav-

ing market in 1976. A year earlier, the company had

launched the BIC Shaver in Europe and Canada.

BIC’s entrance into the US razor market started an

intense rivalry with Gillette. Admittedly, the compa-

nies were not strangers to each other – for years they

had competed for market share in the pen and lighter

industries. Despite the fact that razors were Gillette’s

primary business and an area where the company had

no intention of relinquishing market share, BIC estab-

lished a niche in the US disposable-razor market.

BIC, like Gillette, frequently introduced new razor

products and product enhancements. In January

1985, following a successful Canadian test in 1984,

BIC announced the BIC Shaver for Sensitive Skin. BIC

claimed that 42 per cent of the men surveyed reported

that they had sensitive skin, while 51 per cent of those

who had heavy beards reported that they had sensi-

tive skin. Thus, BIC felt there was a clear need for a

shaver that addressed this special shaving problem.

The US$10 million ad campaign for the BIC Shaver

for Sensitive Skin featured John McEnroe, a highly

ranked and well-known tennis professional, discuss-

ing good and bad backhands and normal and sen-

sitive skin. BIC repositioned the original BIC white

shaver as the shaver men with normal skin should use,

while it promoted the new BIC Orange as the razor

for sensitive skin.

BIC also tried its commodity strategy on sail-

boards, car-top carriers and perfume. In 1982, BIC

introduced a sailboard model at about half the price

of existing products. The product generated nothing

but red ink. In April 1989, the company launched BIC

perfumes with US$15 million in advertising support.

BIC’s foray into fragrances was as disappointing as its

sailboard attempt. Throughout the year, Parfum BIC

lost money, forcing management to concentrate its

efforts on reformulating its selling theme, advertising,

packaging and price points. Many retailers rejected

the product, sticking BIC with expensive manufac-

turing facilities in Europe. BIC found that consumers’

perceptions of commodities did not translate equally

into every category. For example, many women cut

corners elsewhere just to spend lavishly on their per-

fume. The last thing they wanted to see was their

favourite scent being hawked to the masses.

Despite these failures, BIC Corporation was the

undisputed king of the commoditisers. BIC’s success

with pens and razors demonstrated the upside poten-

tial of commoditisation, while its failures with sail-

boards and perfumes illustrated the limitations. BIC

concentrated its efforts on designing, manufacturing

and delivering the ‘best’ quality products at the lowest

possible prices. And although the company produced

large quantities of disposable products (for example,

over 1 million pens a day), it claimed that each prod-

uct was invested with the BIC philosophy: ‘maximum

service, minimum price’.

One of BIC’s greatest assets was its retail distribu-

tion strength. The high proﬁle the company enjoyed at

supermarkets and drugstores enabled it to win loca-

tions in the aisles and display space at the checkout

– the best positioning.

Even though BIC controlled only the number three

spot in the wet-shaving market by 1989, it had exert-

ed quite an inﬂuence since its razors ﬁrst entered the

US market in 1976. In 1988, BIC’s razors generated

US$52 million in sales with a net income of US$9.4

million; BIC held a 22.4 per cent share of dollar sales

in the disposable razor market. Exhibit 10 presents

operating data by product line, and Exhibits 11 and

12 give income statement and balance sheet data.

Case 4 • Gillette and the men’s wet-shaving market C-61

The introduction of the disposable razor revo-

lutionised the industry and cut into system razor

proﬁts. However, despite the low proﬁt margins in

disposable razors and the fact that the industry lead-

er, Gillette, emphasised razor and blade systems, BIC

remained bullish on the disposable razor market. In

1989, a spokesperson for BIC claimed that BIC ‘was

going to stick to what consumers liked’. The com-

pany planned to continue marketing only single-

blade, disposable shavers. BIC stated that it planned

to maintain its strategy of underpricing competi-

tors, but it would also introduce improvements such

as the patented metal guard in its BIC Metal Shaver.

Research revealed that the BIC Metal Shaver provided

some incremental, rather than substitute, sales for its

shaver product line. BIC executives believed that the

BIC Metal Shaver would reach a 5–8 per cent market

share by 1990.

Exhibit 10 BIC Corporation’s net sales and income before taxes, 1986–88 (US$mn)

1988 1987 1986

Net sales Writing instruments $118.5 $106.7 $91.7

Lighters 113.9 120.0 115.0

Shavers 51.9 47.1 49.6

Sport 10.6 16.8 11.3

Total 294.9 290.6 267.6

Proﬁt/(loss) before taxes Writing instruments 16.7 17.5 15.0

Lighters 22.9 28.2 28.5

Shavers 9.4 8.5 8.0

Sport (4.7) (3.5) (3.6)

Totals 44.3 50.7 47.9

Source: BIC Corporation, Annual Reports, 1986–88.

Exhibit 11 BIC Corporation consolidated income statements, 1986–88 (US$000)

1988 1987 1986

Net sales $294 878 $290 616 $267 624

Cost of sales 172 542 165 705 147 602

Other expenses 81 023 73 785 67 697

Operating income 41 313 51 126 52 325

Other income 4 119 1 836 7 534

Earnings before interest and tax 45 432 52 962 59 859

Interest expense 1 097 2 301 11 982

Earnings before tax 44 335 50 661 47 877

Tax 17 573 21 944 24 170

Extraordinary credit – – 2 486*

Utilisation of operating loss carry forward 2 800 – –

Earnings after tax 29 562 28 717 26 193

Retained earnings 159 942 142 501 121 784

Earnings per share 2.44 2.37 2.16

Average common shares outstanding (000) 12 121 12 121 12 121

Dividends paid per share 0.75 0.66 0.48

Stock price range

High

Low

$30 3/8

$24 3/8

$34 7/8

$16 1/2

$35

$23 1/4

* Gain from elimination of debt. Source: Moody’s Industrial Manual; BIC Annual Reports.

C-62 Case 4 • Gillette and the men’s wet-shaving market

Wilkinson Sword

Swedish Match Holding Incorporated’s subsidiary,

Wilkinson Sword, came in as the fourth player in the

US market. Swedish Match Holding was a wholly

owned subsidiary of Swedish Match AB, Stockholm,

Sweden. The parent company owned subsidiaries in

the United States that imported and sold doors, pro-

duced resilient and wood ﬂooring, and manufactured

branded razors, blades, self-sharpening scissors and

gourmet kitchen knives. (Exhibits 13 and 14 present

income statement and balance sheet data on Swedish

Match AB.)

A group of swordsmiths founded Wilkinson in

1772. Soldiers used Wilkinson swords at Waterloo,

at the charge of the Light Brigade and in the Boer

War. However, as the sword declined as a combat

weapon, Wilkinson retreated to producing presen-

tation and ceremonial swords. By 1890, Wilkinson’s

cutlers had begun to produce straight razors, and by

1898 it was producing safety razors similar to King

Gillette’s. When Gillette’s blades became popular in

England, Wilkinson made stroppers to resharpen used

blades. Wilkinson failed in the razor market, however,

and dropped out during the Second World War.

By 1954, Wilkinson decided to look again at the

shaving market. Manufacturers used carbon steel to

make most razor blades at that time, and such blades

lost their serviceability rapidly due to mechanical and

chemical damage. Gillette and other ﬁrms had experi-

mented with stainless steel blades; but they had found

that despite their longer-lasting nature, the blades did

not sharpen well. But some men liked the durability;

and a few small companies produced stainless steel

blades.

Wilkinson purchased one small German compa-

ny and put Wilkinson Sword blades on the market in

1956. Wilkinson developed a coating for the stainless

blades (in the same fashion that Gillette had coated

the Super Blue Blade) that masked their rough edges,

allowing the blades to give a comfortable shave and to

last two to ﬁve times longer than conventional blades.

Wilkinson called the new blade the Super Sword-

Edge. Wilkinson introduced the blades in England

in 1961 and in the United States in 1962, and they

became a phenomenon. Schick and American Safety

Razor followed a year later with their own stainless

steel blades, the Krona-Plus and Personna. Gillette

ﬁnally responded in late 1963 with its own stainless

steel blade; and by early 1964 Gillette’s blades were

outselling Wilkinson, Schick and Personna combined.

Wilkinson, however, had forever changed the nature

of the razor blade.

Exhibit 12 BIC Corporation balance sheets, 1986–88 (US$000)

1988 1987 1986

Assets Cash $5 314 $4 673 $5 047

Certiﬁcates of deposit 3 117 803 6 401

Receivables, net 43 629 41 704 32 960

Inventories 70 930 59 779 50 058

Other current assets 37 603 47 385 34 898

Deferred income taxes 7 939 6 691 5 622

Total current assets 168 532 161 035 134 986

Fixed assets, net 74 973 62 797 58 385

Total assets 243 505 223 832 193 371

Liabilities and equity Current liabilities* 55 031 54 034 45 104

Current portion of long-term debt 157 247 287

Long-term debt 1 521 1 511 1 789

Equity $181 194 $164 068 $142 848

* Includes current portion of long-term debt. Source: Moody’s Industrial Manual.

Case 4 • Gillette and the men’s wet-shaving market C-63

In 1988, Wilkinson Sword claimed to have a 4

per cent share of the US wet-shave market; and it was

predicting a 6 per cent share by mid-1990. Industry

analysts, however, did not conﬁrm even the 4 per cent

share; they projected Wilkinson’s share to be closer

to 1 per cent. Wilkinson introduced many new prod-

ucts over the years, but they generally proved to be

short-lived. The company never really developed its

US franchise.

However, in late 1988, Wilkinson boasted that it

was going to challenge the wet-shave category leader

by introducing Ultra-Glide, its ﬁrst lubricating shav-

ing system. Wilkinson designed Ultra-Glide to go

head-to-head with Gillette’s Atra Plus and Schick’s

Super II Plus and Ultrex Plus. Wilkinson claimed that

Ultra-Glide represented a breakthrough in shaving

technology because of an ingredient, hydromer, in its

patented lubricating strip. According to Wilkinson,

the Ultra-Glide strip left less residue on the face and

provided a smoother, more comfortable shave by cre-

ating a cushion of moisture between the razor and

the skin.

Wilkinson introduced Ultra-Glide in March 1989

and supported it with a US$5 million advertising and

promotional campaign (versus the Atra Plus US$80

million multimedia investment in the United States).

Wilkinson priced Ultra-Glide 5–8 per cent less than

Atra Plus. Wilkinson was undaunted by Gillette’s

heavier advertising investment, and it expected to cash

in on its rival’s strong marketing muscle. Wilkinson

Exhibit 13 Swedish Match AB income statements, 1986–88 (US$000)

1988 1987 1986

Net sales $2 814 662 $2 505 047 $1 529 704

Cost of sales N/A N/A N/A

Operating expenses 2 541 128 2 291 023 1 387 360

Other expenses 108 206 95 420 48 711

Earnings before interest 165 328 118 604 93 633

Interest expense 5 386 19 084 21 618

Earnings before tax 159 942 99 520 72 015

Tax 57 612 29 996 39 165

Earnings after tax 102 330 69 554 32 850

Dividends paid per share 0.53 0.51 1.75

Stock price range

High

Low

22.53

$15.00

19.65

$11.06

66.75

$22.00

Source: Moody’s Industrial Manual.

Exhibit 14 Swedish Match AB balance sheets, 1986–88 (US$000)

1988 1987 1986

Assets Cash and securities $ 159 616 $ 117 027 $323 993

Receivables 611 372 561 479 297 321

Inventories 421 563 415 116 258 858

Total current assets 1 192 551 1 093 622 880 172

Fixed assets, net 707 664 671 409 397 411

Other assets 161 085 132 799 93 211

Total assets 2 061 300 1 897 830 370 794

Liabilities and equity Current liabilities 996 214 905 778 576 534

Current portion long-term debt

Long-term debt 298 505 316 542 244 118

Equity

Source: Moody’s Industrial Manual.

C-64 Case 4 • Gillette and the men’s wet-shaving market

did not expect to overtake Gillette but felt its drive

should help it capture a double-digit US market share

within two to three years.

Many were sceptical about Wilkinson’s self-

predicted market share growth. One industry analyst

stated, ‘Gillette dominates this business. Some upstart

won’t do anything.’ One Gillette ofﬁcial claimed his

company was unfazed by Wilkinson. In fact, he was

quoted as saying, in late 1988, ‘They [Wilkinson]

don’t have a business in the US; they don’t exist.’

Nonetheless, Gillette became enraged and ﬁled

legal challenges when Wilkinson’s television ads for

Ultra-Glide broke in May 1989. The ads stated that

Ultra-Glide’s lubricating strip was six times smoother

than Gillette’s strip and that men preferred it to the

industry leader’s. All three major networks had reser-

vations about continuing to air the comparison com-

mercials. CBS and NBC stated that they were going

to delay airing the company’s ads until Wilkinson

responded to questions they had about its ad claims.

In an 11th-hour counterattack, Wilkinson accused

Gillette of false advertising and of trying to monopo-

lise the wet-shave market.

GILLETTE’S SOUTH BOSTON PLANT

Robert Squires left his work station in the facilities

engineering section of Gillette’s South Boston manu-

facturing facility and headed for the shave test lab. He

entered the lab area and walked down a narrow hall.

On his right were a series of small cubicles Gillette had

designed to resemble the sink area of a typical bath-

room. Robert opened the door of his assigned cubicle

precisely at his scheduled 10 a.m. time. He removed

his dress shirt and tie, hanging them on a hook beside

the sink. Sliding the mirror up as one would a window,

Robert looked into the lab area. Rose McCluskey, a

lab assistant, greeted him.

‘Morning, Robert. See you’re right on time as usual.

I’ve got your things all ready for you.’ Rose reached

into a recessed area on her side of the cubicle’s wall

and handed Robert his razor, shave cream, aftershave

lotion and a clean towel.

‘Thanks, Rose. Hope you’re having a good day. Any-

thing new you’ve got me trying today?’

‘You know I can’t tell you that. It might spoil your

objectivity. Here’s your card.’ Rose handed Robert a

shaving evaluation card (see Exhibit 15).

Robert Squires had been shaving at the South

Boston Plant off and on for all of his 25 years with

Gillette. He was one of 200 men who shaved every

work day at the plant. Gillette used these shavers to

compare its products’ effectiveness with competitors’

products. The shavers also conducted R&D testing of

new products and quality control testing for manu-

facturing. An additional seven to eight panels of 250

Exhibit 15 Gillette shaving evaluation card

NUMB. CODE STA TEST # NAME EMP. # DATE

IN-PLANT SHAVE TEST SCORECARD

INSTRUCTIONS: Please check one box in each column

Overall

evaluation of

shave

Freedom

from nicks

and cuts Caution Closeness Smoothness Comfort

❏ Excellent

❏ Very good

❏ Good

❏ Fair

❏ Poor

❏ Excellent

❏ Very good

❏ Good

❏ Fair

❏ Poor

❏ Exceptionally

safe

❏ Unusually safe

❏ Average

❏ Slight caution

needed

❏ Excessive

caution needed

❏ Exceptionally

❏ Very close

❏ Average

❏ Fair

❏ Poor

❏ Exceptionally

smooth

❏ Very smooth

❏ Average

❏ Slight pull

❏ Excessive pull

❏ Exceptionally

comfortable

❏ Very

comfortable

❏ Average comfort

smoothness

❏ Slight irritation

❏ Excessive

irritation

Source: The Gillette Company.

Case 4 • Gillette and the men’s wet-shaving market C-65

men each shaved every day in their homes around the

country, primarily conducting R&D shave testing.

Like Robert, each shaver completed a shave eval-

uation card following every shave. Lab assistants

like Rose entered data from the evaluations to allow

Gillette researchers to analyse the performance of each

shaving device. If a product passed R&D hurdles, it

became the responsibility of the marketing research

staff to conduct consumer-use testing. Such consum-

er testing employed 2000 to 3000 men who tested

products in their homes.

From its research, Gillette had learned that the

average man had 30 000 whiskers on his face that

grew at the rate of half an inch (1.3 centimetres) per

month. He shaved 5.8 times a week and spent three

to four minutes shaving each time. A man with a life

span of 70 years would shave more than 20 000 times,

spending 3350 hours (130 days) removing 27.5 feet

(8.4 metres) of facial hair. Yet, despite all the time

and effort involved in shaving, surveys found that if a

cream were available that would eliminate facial hair

and shaving, most men would not use it.

Robert ﬁnished shaving and rinsed his face and shaver.

He glanced at the shaving head. A pretty good shave,

he thought. The cartridge had two blades, but it

seemed different. Robert marked his evaluation card

and slid it across the counter to Rose.

William Mazeroski, manager of the South Boston

shave test lab, walked into the lab area carrying com-

puter printouts with the statistical analysis of last

week’s shave test data.

Noticing Robert, William stopped. ‘Morning, Robert.

How was your shave?’

‘Pretty good. What am I using?’

‘Robert, you are always trying to get me to tell you

what we’re testing! We have control groups and exper-

imental groups. I can’t tell you which you are in, but

I was just looking at last week’s results, and I can tell

you that it looks like we are making progress. We’ve

been testing versions of a new product since 1979, and

I think we’re about to get it right. Of course, I don’t

know if we’ll introduce it or even if we can make it in

large quantities, but it looks good.’

‘Well, that’s interesting. At least I know I’m involved

in progress. And, if we do decide to produce a new

shaver, we’ll have to design and build the machines to

make it ourselves because there is nowhere to go to

purchase blade-making machinery. Well, I’ve got to

get back now; see you tomorrow.’

Thirty-seventh ﬂoor,

The Prudential Center

Paul Hankins leaned over the credenza in his 37th-

ﬂoor ofﬁce in Boston’s Prudential Center ofﬁce build-

ing and admired the beauty of the scene that spread

before him. Paul felt as though he was watching an

impressionistic painting in motion. Beyond the green

treetops and red brick buildings of Boston’s fashion-

able Back Bay area, the Charles River wound its way

towards Boston Harbor. Paul could see the buildings

on the campuses of Harvard, MIT and Boston Uni-

versity scattered along both sides of the river. Soon

the crew teams would be out practising. Paul loved to

watch the precision with which the well-coordinated

teams propelled the boats up and down the river. If

only, he thought, we could be as coordinated as those

crew teams.

Paul had returned to Boston in early 1988 when

Gillette created the North Atlantic Group by com-

bining what had been the North American and the

European operations. Originally from Boston, he had

attended Columbia University and earned an MBA at

Dartmouth’s Tuck School. He had been with Gillette

for 19 years. Prior to 1988, he had served as market-

ing director for Gillette Europe from 1983 to 1984, as

the country manager for Holland from 1985 to 1986,

and ﬁnally as manager of Holland and the Scandina-

vian countries.

During this 1983–87 period, Paul had worked for

Jim Pear, vice president of Gillette Europe, to imple-

ment a pan-European strategy. Prior to 1983, Gillette

had organised and managed Europe as a classic

decentralised market. To meet the perceived cultural

nuances within each area, the company had treat-

ed each country as a separate market. For example,

Gillette offered the same products under a variety of

sub-brand names. The company sold its Good News!

disposable razors under the name ‘Blue II’ in the Unit-

ed Kingdom, ‘Parat’ in Germany, ‘Gillette’ in France

and Spain, ‘Radi e Getta’ (shave and throw) in Italy,

and ‘Economy’ in other European markets.

C-66 Case 4 • Gillette and the men’s wet-shaving market

Jim Pear believed that in the future Gillette would

have to organise across country lines, and he had

developed the pan-European idea. He felt that shav-

ing was a universal act and that Gillette’s razors were

a perfect archetype for a ‘global’ product.

Gillette had launched Contour Plus, the European

version of Atra Plus, in 1985/86 and had experienced

greater success than the US launch which took place

at the same time. The pan-European strategy seemed

to be both more efﬁcient and more effective. Colman

Mockler, Gillette’s chairman, noticed the European

success and asked Pear to come to Boston to head the

new North Atlantic Group. Paul had come with him

as vice president of marketing for the Shaving and

Personal Care Group.

Paul turned from the window as he heard people

approaching. Sarah Kale, vice president of marketing

research; Brian Mullins, vice president of marketing,

Shaving and Personal Care Group; and Scott Fried-

man, business director, Blades and Razors, were at

his door.

‘Ready for our meeting?’ Scott asked.

‘Sure, come on in. I was just admiring the view.’

‘The purpose of this meeting,’ Paul began, ‘is to

begin formulating a new strategy for Gillette North

Atlantic, speciﬁcally for our shaving products. I’m

interested in your general thoughts and analysis. I

want to begin to identify options and select a strategy

to pursue. What have you found out?’

‘Well, here are the market share numbers you

asked me to develop,’ Scott observed as he handed

each person copies of tables he had produced (see

Exhibits 16 and 17). Like Paul, Scott had earned

an MBA from the Tuck School and had been with

Gillette for 17 years.

‘These are our US share numbers through 1988.

As you can see, Atra blades seem to have levelled off

and Trac II blades are declining. Disposable razors

now account for over 41 per cent of the market, in

dollars, and for over 50 per cent of the market in

terms of units. In fact, our projections indicate that

disposable razors will approach 100 per cent of the

market by the mid- to late 1990s given current trends.

Although we have 56 per cent of the blade market

and 58 per cent of the disposable razor market, our

share of the disposable razor market has fallen. Fur-

ther, you are aware that every 1 per cent switch from

our system razors to our disposable razors represents

a loss of US$10 million on the bottom line.’

‘I don’t think any of this should surprise us,’ Sarah

Kale interjected. Sarah had joined Gillette after grad-

uating from Simmons College in Boston and had been

with the ﬁrm for 14 years. ‘If you look back over the

1980s, you’ll see that we helped cause this problem.’

‘What do you mean by that?’ asked Paul.

‘Well, as market leader, we never believed that the

use of disposable razors would grow as it has. We

went along with the trend, but we kept prices low

on our disposable razors, which made proﬁtability

worse for both us and our competition because they

had to take our price into consideration in setting

their prices. Then, to compensate for the impact on

our proﬁtability from the growth of the disposable

razor market, we were raising the prices on our sys-

tem razors. This made disposable razors even more

attractive for price-sensitive users and further fuelled

the growth of disposable razors. This has occurred

despite the fact that our market research shows that

men rate system shavers signiﬁcantly better than dis-

posable razors. We ﬁnd that the weight and balance

Exhibit 16 Gillette market share of dollar sales, 1981–88 (per cent)

Product or category 1981 1982 1983 1984 1985 1986 1987 1988

Atra blades 15.4 17.3 19.4 18.7 20.2 20.9 20.0 20.5

Trac II blades 17.5 16.4 15.2 14.6 14.1 13.5 11.8 11.4

Gillette blades 47.3 48.9 52.1 54.2 55.8 57.1 54.1 56.0

Gillette disposables 14.3 15.4 17.4 20.0 21.1 22.7 22.2 24.0

All disposables 23.0 23.2 27.0 30.6 32.7 34.9 38.5 41.1

Gillette disposables as % of

all disposables 67.9 66.9 64.7 65.7 64.6 64.2 57.6 58.4

Gillette razors 50.3 52.5 54.9 58.8 62.2 67.6 64.1 61.0

Source: Prudential-Bache Securities.

Case 4 • Gillette and the men’s wet-shaving market C-67

contributed by the permanent handle used with the

cartridge contributes to a better shave.’

‘Yes, but every time I tell someone that,’ Paul add-

ed, ‘they just look at me as if they wonder if I really

believe that or if it is just Gillette’s party line.’

‘There’s one other thing we’ve done,’ Scott added.

‘Look at this graph of our advertising expenditures in

the US over the 1980s [see Exhibit 18]. In fact, in

constant 1987 dollars, our advertising spending has

fallen from US$61 million in 1975 to about US$15

million in 1987. We seem to have just spent what was

left over on advertising. We are now spending about

one-half of our advertising on Atra and one-half on

Good News!. Tentative plans call for us to increase

the share going to Good News!. Our media budget

for 1988 was about US$43 million. Further, we’ve

tried three or four themes, but we haven’t stuck with

any one for very long. We’re using the current theme,

“The Essence of Shaving”, for both system and dispos-

able products. Our advertising has been about 90 per

cent product-based and 10 per cent image-based.’

‘Well, Scott’s right,’ Sarah noted, ‘but although

share of voice is important, share of mind is what

counts. Our most recent research shows a signiﬁcant

difference in how we are perceived by male consum-

ers based on their age. Men over 40 still remember

Gillette, despite our reduced advertising, from their

youth. They remember Gillette’s sponsorship of ath-

letic events, like the Saturday Baseball Game of the

Week and the Cavalcade of Sports. They remember

“Look Sharp! Feel Sharp! Be Sharp” and Sharpie the

Parrot. They remember their fathers loaning them

their Gillette razors when they started shaving. There

is still a strong connection between Gillette and the

male image of shaving.’

‘How about with younger men?’ asked Brian.

Brian had joined Gillette in 1975 after graduating

from Washington and Lee University and earning a

master’s degree in administration from George Wash-

ington University.

‘Younger men’s views can be summed up simply

– twin blade, blue and plastic,’ Sarah reported.

‘Just like our disposable razors!’ Paul exclaimed.

‘Precisely,’ Sarah answered. ‘As I say, we’ve done

this to ourselves. We have a “steel” man and “plas-

tic” man. In fact, for males between 15 and 19, BIC

is better known than Gillette with respect to shav-

ing. Younger men in general – those under 30, these

“plastic” men – feel all shavers are the same. Older

men and system users feel there is a difference.’

‘Yes,’ Paul interjected, ‘and I’ve noticed something

else interesting. Look at our logos. We use the Gillette

brand name as our corporate name, and the brand

name is done in thin, block letters. I’m not sure it has

Exhibit 17 Gillette system cartridges, 1971–88 (dollar share of US blade market)

Source: The Gillette Company; Prudential-Bache Securities.

76 77

Year

TRAC II

ATRA

82 83

Percent share

C-68 Case 4 • Gillette and the men’s wet-shaving market

the impact and masculine image we want. On top of

that, look at these razor packages. We have become

so product-focused and brand-manager-driven that

we’ve lost focus on the brand name. Our brands look

tired: there’s nothing special about our retail packag-

ing and display.’

‘Speaking of the male image of shaving, Sarah,

what does your research show about our image with

women?’ asked Brian.

‘Well, we’ve always had a male focus and women

identify the Gillette name with men and shaving, even

those who use our products marketed to women. You

know that there are more women wet-shavers than

men in the US market, about 62 million versus 55

million. However, due to seasonability and lower fre-

quency of women’s shaving, the unit volume used by

women is only about one-third that of the volume

used by men. Women use about eight to 12 blades a

year versus 25 to 30 for men. It is still very consistent

for us to focus on men.’

‘Well, we’ve got plenty of problems on the mar-

keting side, but we also have to remember that we are

part of a larger corporation with its own set of prob-

lems,’ Brian suggested. ‘We’re only 30 per cent or so

of sales but we are 60 per cent of proﬁts. And, given

the takeover battles, there is going to be increased

pressure on the company to maintain and improve

proﬁtability. That pressure has always been on us, but

now it will be more intense. If we want to develop

some bold, new strategy, we are going to have to ﬁg-

ure out where to get the money to ﬁnance it. I’m sure

the rest of the corporation will continue to look to us

to throw off cash to support diversiﬁcation.’

‘This can get depressing,’ Paul muttered as he

looked back at the window. ‘I can sense the low

morale inside the company. People sense the inevita-

bility of disposability. We see BIC as the enemy even

though it is so much smaller than Gillette. We’ve got

to come up with a new strategy. What do you think

our options are, Scott?’

‘Well, I think we’re agreed that the “do-nothing”

option is out. If we simply continue to do business

as usual, we will see the erosion of the shaving mar-

ket’s proﬁtability as disposable razors take more and

more share. We could accept the transition to dispos-

able razors and begin to try to segment the dispos-

able razor market based on performance. You might

call this the “give up” strategy. We would be admit-

ting that disposable razors are the wave of the future.

There will obviously continue to be shavers who buy

based on price only, but there will also be shavers who

will pay more for disposable razors with additional

beneﬁts, such as lubricating strips or movable heads.

In Italy, for example, we have done a lot of image

Exhibit 18 Blade and razor media spending, United States, 1975–87

75 76

61.4

15.1

(Constant 1987 media dollars)

77 78 79 80 81 82 83 84 85 86 87

Year

SMM

Source: The Gillette Company.

Case 4 • Gillette and the men’s wet-shaving market C-69

building and focused on quality. Now, Italian men

seem to perceive that our disposable razors have val-

ue despite their price. In other words, we could try to

protect the category’s proﬁtability by segmenting the

market and offering value to those segments willing

to pay for it. We would de-emphasise system razors.

‘Or, we could try to turn the whole thing around.

We could develop a strategy to slow the growth of

disposable razors and to reinvigorate the system razor

market.’

‘How does the new razor system ﬁt into all this?’

Paul asked.

‘I’m pleased that we have continued to invest in

R&D despite our problems and the takeover battles,’

Brian answered. ‘Reports from R&D indicate that the

new shaver is doing well in tests. But it will be expen-

sive to take to market and to support with advertising.

Further, it doesn’t make any sense to launch it unless

it ﬁts in with the broader strategy. For example, if

we decide to focus on disposable razors, it makes

no sense to launch a new system razor and devote

resources to that.’

‘What’s the consumer testing indicating?’ asked

Scott.

‘We’re still conducting tests,’ Sarah answered,

‘but so far the results are very positive. Men rate the

shave superior to both Atra or Trac II and superior to

our competition. In fact, I think we’ll see that con-

sumers rate the new shaver as much as 25 per cent

better on average. The independently spring-mount-

ed twin blades deliver a better shave, but you know

we’ve never introduced a product until it was clearly

superior in consumer testing on every dimension.’

‘Okay. Here’s what I’d like to do,’ Paul concluded.

‘I’d like for each of us to devote some time to devel-

oping a broad outline of a strategy to present at our

next meeting. We’ll try to identify and shape a broad

strategy then that we can begin to develop in detail

over the next several months. Let’s get together in a

week, same time. Thanks for your time.’

References

Adams, R. B. Jr, 1978, King Gillette: The Man and His Wonderful Shaving

Device (Boston: Little, Brown).

BIC Annual Report, 1989.

Caminiti, S., 1989, ‘Gillette gets sharp’, Fortune, 8 May, p. 84.

Dewhurst, P., 1981, ‘BICH = BIC’, Made in France International, Spring,

pp. 38–41.

Dunkin, A., L. Baum and L. Therrein, 1986, ‘This takeover artist

wants to be a makeover artist, too’, Business Week, 1 December,

pp. 106, 110.

Dun’s Million Dollar Directory, 1989.

Fahey, A. and P. Sloan, 1988, ‘Gillette: $80M to rebuild image’,

Advertising Age, 31 October, pp. 1, 62.

Fahey, A. and P. Sloan, 1988, ‘Wilkinson cuts in’, Advertising Age,

28 November, p. 48.

Fahey, A. and P. Sloan, 1989, ‘Kiam gets some help: Grey sharpens

Remington ads’, Advertising Age, 13 November, p. 94.

Gillette Annual Corporate Reports, 1985–88.

Hammonds, K., 1987, ‘How Ron Perelman scared Gillette into shape’,

Business Week, 12 October, pp. 40–1.

Hammonds, K., 1989, ‘At Gillette disposable is a dirty word’, Business

Week, 29 May, pp. 54–5.

Jervey, G., 1984, ‘New blade weapons for Gillette-BIC war’, Advertising

Age, 5 November, pp. 1, 96.

Jervey, G., 1985, ‘Gillette and BIC spots taking on sensitive subject’,

Advertising Age, 18 March, p. 53.

Jervey, G., 1985, ‘Gillette, Wilkinson heat up disposable duel’,

Advertising Age, 10 June, p. 12.

Kiam V., 1987, ‘Remington’s marketing and manufacturing strategies’,

Management Review, February, pp. 43–5.

Kiam V., 1989, ‘Growth strategies at Remington’, Journal of Business

Strategy, January/February, pp. 22–6.

Kummel, C. M. and Klompmaker, J. E., 1980, ‘The Gillette Company

– Safety Razor Division’, in D. W. Cravens and C. W. Lamb

(eds), Strategic Marketing: Cases and Applications (Homewood,

Ill.: Irwin), pp. 324–45.

McGeehan, P., 1988, ‘Gillette sharpens its global strategy’, Advertising

Age, 25 April, pp. 2, 93.

Newpor t, J. P., 1988, ‘The stalking of Gillette’, Fortune, 23 May,

pp. 99–101.

North American Philips Corporation Annual Report, 1987.

Pereira, J., 1988, ‘Gillette’s next-generation blade to seek new edge

in ﬂat market’, The Wall Street Journal, 7 April, p. 34.

Raissman, R., 1984, ‘Gillette pitches new throwaway’, Advertising Age,

9 July, p. 12.

‘Razors and blades’, 1989, Consumer Reports, May, pp. 300–4.

Rothman, A., 1988, ‘Gillette, in a shift, to emphasize cartridge blades

over disposables’, The Wall Street Journal, 18 November, p. B6.

Sacharow, S., 1982, Symbols of Trade (New York: Art Direction Book

Company).

Shore, A., 1989, Gillette Report (New York: Shearson Lehman Hutton),

19 October.

Shore, A., 1990, Gillette Company Update (New York: Prudential-

Bache Securities), May 18.

Sloan, P., 1985, ‘Marschalk brains land Braun’, Advertising Age, 18 March,

p. 53.

Sloan, P., 1988, ‘Remington gets the edge on Gillette’, Advertising Age,

16 May, pp. 3, 89.

Sutor, R., 1988, ‘Household personal care products’, Financial World,

27 December.

The Europa World Year Book 1990, vol. II.

Trachtenberg, J. A., 1986, ‘Styling for the masses’, Forbes, 10 March,

pp. 152–3.

Warner-Lambert Annual Corporate Report, 1987.

Weiss, G., 1986, ‘Razor sharp: Gillette to snap back from a dull

stretch’, Barron’s, 25 August, pp. 15, 37.

C-70

Case 5

Gunns and the greens:

Governance issues in Tasmania

Dallas Hanson Colin Winkler

University of Tasmania University of Tasmania

Introduction

Gunns Limited is a listed Australian forestry com-

pany that operates in the tourism-oriented island

state of Tasmania, 40 degrees south of the equator.

In a sluggish economy, Gunns has been a spectacu-

lar performer for a decade. In 2001 the share price

was $3.50 and in late 2003 it was $13. It is the ﬁrst

Tasmanian company to be worth $1 billion. Despite

this success it remains controversial, a target for green

activists and a common topic for critical discussion

in Tasmanian homes. In September 2003, Gunns

was forced by a section of its shareholding to hold an

extraordinary general meeting (EGM) to discuss for-

estry practices.

This case is about the company and the EGM.

The key issues are these: is it possible for a compa-

ny operating in a hostile social environment to pres-

ent as a good corporate citizen? And, how does such

a company best handle a mix of proﬁt-oriented and

green-oriented investors? Finally, are its practices sus-

tainable? To make sense of these issues requires some

background to be explained, and the ﬁrst sections of

the case thus provide a brief description of Tasmania

and the ongoing forestry debate. This is followed by

a history of Gunns. The EGM is then described and

the issues discussed.

Tasmania, the island state,

and the forestry debate

Tasmania is the smallest Australian state, just 315

kilometres across its greatest width. The middle of

the island is mountainous and features scattered lakes

and alpine vegetation, while the west faces the Indian

Ocean and is rainswept, with much of it covered in

impenetrable ‘vertical scrub’. The east coast is much

dryer and has golden beaches; the north-west coast

has deep soils and a climate suited to vegetable grow-

ing and dairying; and the south, and a plain next to

the mountains (the midlands), is dry and a wool-

growing area that achieves some of the highest prices

for ﬁne wool in the world. The government branch

of Parks and Wildlife manages 354 reserves covering

over one-third of the state, and the Forestry Commis-

sion, a state government authority, controls still more.

Almost 1.4 million hectares of this is World Heritage

listed. In this small place the world traveller can ﬁnd

the equivalents of the burnished hills of southern

California, the hills of the grape districts of the South

of France, Wordsworthian English countrysides (both

his Lake District feel and the mannered and pretty

countryside of the green south of England), and the

golden beaches that are stereotypically Australian.

The variety of vegetation and unique wildlife are the

lures that attract tourists.

Case 5 • Gunns and the greens C-71

This is a pleasant land with a temperate climate

ﬁrst settled by Europeans in 1802. The new settlers

set about clearing the land for agriculture, displacing

the indigenous inhabitants while setting up a wool/

wheat/cattle system modelled on England, complete

with hawthorn, oaks, rabbits and much other exotic

material. There was a thriving timber industry har-

vesting an apparently inexhaustible resource, and

successive Tasmania governments sought to attract

foreign investment into it.

There were occasional outbursts from

conservation-minded people, but the pattern of

cutting/burning/clearing continued relatively quietly

until 1972 when the post-war transition to hydro-

electriﬁcation of industry via damming of major

rivers collided with the nascent green movement.

Damming policy was led by the Hydro Electric Corpo-

ration (HEC), at the time a virtual government with-

in the government; one long-time post-war premier

was popularly known as ‘Electric Eric’. The focus of

debate was the damming of the south-west’s Gordon

River and ﬂooding of Lake Pedder, a big remote lake

with an unusual large, sandy beach. This led to the

formation of the United Tasmania Group, the world’s

ﬁrst formal green party.1 In 1976 the debate heated up

with another major dam proposal and the formation

of the Tasmanian Wilderness Society. A major cam-

paign resulted. This was a world event – ‘No dams’

was the cry in big street marches all over Australia,

and all levels of government and the High Court of

Australia were involved before the HEC was blocked

and the Franklin saved. Green debate was by then a

staple of café conversation.

Meanwhile, export woodchipping had begun,

mainly sourced from ‘charismatic’ old-growth euca-

lypts. Yehudi Menuhin, the great violinist and human-

ist, said of this: ‘I can’t begin to tell you the beauty of

those forests … the forest of Tasmania is yet unsul-

lied and unpolluted by our kind of civilization. That

we should have to defend them is something quite

unbelievable …’2

His sentiments have been shared by a genera-

tion of Tasmanians who continue to contribute to an

ongoing forestry debate on radio, in newspapers and

on the streets. The issue is in the faces of the people of

the capital city because the main log-route to the chip-

ping place is the highway that passes through the city

centre, past the Treasury building. Every day, scores

of trucks go through with apparently excellent build-

ing/furniture timber on board in the form of long,

solid logs. In 2002, a government-sponsored survey

that was part of a ‘Tasmania Together’ process led

by the government found that a signiﬁcant majority

of Tasmanians wanted an end to old-growth logging:

the opinion crosses conventional political lines.3 The

green side of the debate is led by green parliamen-

tarians, (there are four in the 25-seat lower house),

the Wilderness Society, the Tasmanian Conservation

Trust and the Australian Conservation Foundation.

On the other side, the government is solidly pro-

forestry (it is a conservative union-inﬂuenced Labor

government), and the pro-forestry Forest Protection

Society (and there is no evident intention of irony in

the name) is a vocal pressure group.

Gunns: A company with

connections

The two brothers Gunn started a building business in

northern Tasmania in 1877 and soon turned to mill-

ing their own timber. They prospered and quickly

became leading sawmillers. The industry was reli-

ant on ‘crown-logs’, those cut off government land

under licence, and Gunns had good access to this

resource. The industry grew, as did Gunns, which, in

the 1950s, initiated a policy of buying smaller saw-

millers, private forests and rights to crown-logs. This

process gathered pace after 1970 when it became evi-

dent that the supply of crown-logs was limited. From

1982, led by John Gay, Gunns also sought to consoli-

date its existing markets and expand into the growing

export market for hardwood.

In 1986 the company was ﬂoated on the Australian

Stock Exchange, with Gay as the CEO. The board

at that time included as chairman Peter Wade, CEO

of the mining and pulp and paper giant, North Bro-

ken Hill; Edmund Rouse, the chair of a northern

Tasmanian media ﬁrm; Mr Clements of the Tasma-

nian ﬁrm Clements and Marshall; and two mem-

bers from HMA, major investors in Gunns. (In later

moves, Wade was replaced by David McQuestin, a

Rouse connection, and still later, a former premier,

Robin Gray, was appointed.)

C-72 Case 5 • Gunns and the greens

This was an era in which the external environ-

ment of Gunns was also undergoing crucial changes,

especially politically. Liberal premier Robin Gray

called a state election in 1989 only to lose his major-

ity. Labor and the Independents (as the greens had

been identiﬁed) combined to become the Labor Green

Accord (LGA) to prevent the Liberals remaining as a

minority government. This upset the forest industry,

which campaigned for a second election before the

LGA could take power. The campaign collapsed when

Edmund Rouse was imprisoned for attempting to

bribe Labor MP Jim Cox to cross the ﬂoor to prevent

the LGA from taking power. A Royal Commission

also implicated McQuestin (another latter-day board

member of Gunns), then managing director of Exam-

iner National Television (ENT) of which Rouse was

a substantial shareholder.4 McQuestin was cleared

of being unlawfully involved as a principal offend-

er in Rouse’s bribery charges, though the investiga-

tion acknowledged that his acquiescence with Rouse’s

direction was highly improper. During the investiga-

tion into these bribery charges, it was revealed that

the campaign for a second election actually stemmed

from Gray’s ofﬁce, although it was funded by the for-

est industry.5

The Labor Green Accord eventually came to

power and, in a (failed) endeavour to settle the forest

industry–conservation debate, the Forest and Forest

Industry Council (FFIC) was established. However,

before long, the FFIC shifted ground to become more

concerned with preserving the forest industry, and

proposed Resource Security legislation that would

give the forest industry guaranteed access to the for-

ests. At the same time, the publicly owned Forestry

Commission became a government business enter-

prise, and was given exemption from freedom of

information legislation. Labor’s attempt to pass the

Resource Security legislation caused the downfall of

the LGA coalition because it outraged the greens, and

Labor was compelled to call an election in 1991 that

returned the Liberals to power under Ray Groom’s

premiership.

Meanwhile, Gunns had positioned itself in the

early 1990s to undertake the bulk of the seasoned

hardwood milling, moulding and veneers in the north

and north-west of the state, leaving only a handful

of signiﬁcant, independent, locally-owned family

businesses remaining in this sector of the forests

industry in that part of the state. In reaching this posi-

tion, the company defended two High Court appeals

against the issue of licences to cut timber.

This strategic positioning continued through the

late 1990s and beyond, illustrated by Gunns’ buyout

of Boral’s Tasmanian woodchipping interests and the

acquisition (aided by the ANZ Bank) of North Forest

Products – owners of major tree holdings, including a

120 000-hectare tree farm. This saw Gunns become

Tasmania’s only woodchipping company, exporting

5.5 million tonnes of woodchips from the state each

year. A signiﬁcant proportion of this came from

old-growth forests, including the Styx Valley of the

Giants (as it is called by the Wilderness Society) – the

location of the world’s tallest ﬂowering eucalypts.

During this time, there was an additional pressure

on Gunns and the government over tree plantations.

The movement towards turning agricultural land into

trees had grown over a decade, and the difﬁculties

of other agricultural practices meant that a growing

number of farmers were selling out to tree farmers

– and Gunns is the biggest. This annoyed the near-

by landowners because of the loss of sun, it annoyed

the greens because the tree farms are usually quick-

growing species that do not provide a habitat for

wildlife, and it annoyed tourism operators because it

presents an ugly face to the world with chemical clear-

ing of sites before planting and clear felling. Gunns

had a direct and highly public dispute over chemi-

cal clearing in 2003 that further hindered its public

image when an organic farmer near a new Gunns tree

farm objected to the land clearing.6

Pressuring the institutional

shareholders

The opening years of the 21st century saw one of

Gunns’ major shareholders, the Commonwealth

Bank, targeted by the Wilderness Society, the soci-

ety exhorting the bank’s shareholders to pressure its

board to use the bank’s shareholding in Gunns (at the

time, just over 17 per cent) to force the company to

move out of the old-growth forests.

Other Australian banks came under pressure

from various quarters, the ANZ Banking Group Ltd

indicating that it did not hold a stake in Gunns but

did have a banking relationship. Charles Goode, the

Case 5 • Gunns and the greens C-73

chairman of ANZ, said that the bank takes environ-

mental issues seriously. ‘We are prepared to enter into

dialogue with community groups such as the Wilder-

ness Society,’ Mr Goode said. In 2003, the board had

a half-day strategy meeting on environmental issues

and, as forecast in The Examiner on 14 December

2002, the chairman and some executives visited the

Gunns forestry sites in Tasmania in February 2003.

Gunns’ managing director, John Gay, contended that

the company had issued invitations to all the major

banking institutions that had been targeted by the

Wilderness Society with what he termed ‘misinfor-

mation’.7

(At this point, an indication of the signiﬁcance of

these institutionals and some that follow is necessary:

the ANZ, Westpac, Commonwealth and National

Australia banks are Australia’s biggest banks, and the

AMP and Perpetual Trustees are the major insurance

companies in the nation, while Bankers Trust (BT) is

a major investment ﬁrm.)

Corporate intransigence

A group of 100 Gunns Ltd shareholders who opposed

the ﬁrm’s logging practices took the step of request-

ing an EGM of the company in February 2003. The

group – coordinated by the Wilderness Society, but

including shareholders from outside the society –

relied upon the new Corporations Law governing cor-

porate regulation in Australia which became effective

on 15 July 2001. This scheme provides that the direc-

tors of a company must call and arrange to hold a gen-

eral meeting on the request of:

• members with at least 5 per cent of the votes

that may be cast at the general meeting

• at least 100 members who are entitled to vote at

the general meeting.

Gunns Ltd initially refused to hold the special

meeting. Executive chairman John Gay was report-

ed as saying that the directors considered the Wilder-

ness Society’s demand was not valid under existing

regulations, and had decided that convening a special

meeting to consider the issues raised by the society

would be an inappropriate use of company funds.8

(The company maintained that the special meet-

ing sought would cost tens of thousands of dollars.)

The Tasmanian president of the Directors Institute,

Gerald Loughran (who had a business in the north

of the state), said that legislation to change the 100-

person rule to a 5 per cent rule was before the Senate

and he hoped it would soon be resolved.9 However,

Loughran seemingly ignored the fact that the 100-

person rule did apply at the time the request for a

meeting was made.

Gunns maintained that the requisition notic-

es were invalid, and that the shareholders who had

called for an EGM had ‘clearly not abided by the

articles of association of the company’, although the

company did not given the actual reason that the req-

uisition was deemed to be invalid. Executive chair-

man John Gay said that because of the Privacy Act

he could not say exactly what was wrong with the

requisition.10 He objected strongly and the Wilder-

ness Society rethought its tactics.

The Wilderness Society then resubmitted a mod-

iﬁed resolution calling for an EGM of Gunns Ltd.

Campaigner Leanne Minshull indicated that the soci-

ety would take the issue to court if Gunns refused to

call a meeting a second time. The meeting was duly

called.

Extraordinary general

meeting, 29 August 2003

In the lead-up to the August EGM at Gunns, helpful

corporate professionals entered the fray on the green

side:

• Fund managers showed the Wilderness Society

how to draft better resolutions.

• Lawyers gave pro bono advice on procedural

matters, secondary boycotts and defamation

issues.

• Naomi Edwards (retired partner of Deloitte

Touche Tohmatsu and former director of

Trowbridge Consulting) crunched numbers for

the Wilderness Society to back its claim that the

company could refrain from logging old-growth

forests without losing money.

• An international business strategist used by

some of Australia’s biggest companies provided

advice on the campaign in Japan. (Most of

the Gunns woodchips are exported to Japan

C-74 Case 5 • Gunns and the greens

and China, where they are used in paper

production.)

• A 1980s corporate raider gave tips on tactics for

dealing with corporations and hosted private

lunches in Sydney to put activists in touch with

senior executives.

Minshull did not ‘name names’, but she con-

ﬁrmed meetings with AMP, BT Financial Group,

Commonwealth Bank, local and federal government

superannuation schemes, National Australia Bank

and Perpetual Trustees. Perpetual’s John Sevior said

it was the ﬁrst time he had experienced a campaign

of this kind, and that it could be the ﬁrst of many.

‘The world is getting more determined in a lot of

ways,’ he said.11 One of the Sydney fund managers

with whom Minshull had talks put up a proposal for

a memorandum of understanding between Gunns,

the Wilderness Society and institutional investors.

Minshull believes that such cooperation is feasible,

although the provisos she stipulated were uncompro-

mising ‘… as long as the institutions tell Gunns to

stop developing clear felling, selectively logging, or

accepting product from certain forest areas’.12

The campaign seemed at the time to have had

some effect. Westpac-owned BT Financial Group,

which has a small undisclosed stake in Gunns, indi-

cated its intention to abstain from voting, citing insuf-

ﬁcient information on which to make a decision. The

ﬁnancial house said it recognised the sensitive nature

of environmental issues, and that it believed there

was a lack of adequate data or information on the

possible effects of adopting the resolution.13 There

was an international dimension to this campaign: as

reported in The Age, Minshull indicated that a loose

coalition of activist organisations around the world,

including Friends of the Earth International, Britain’s

WWF (World Wide Fund for Nature), Greenpeace

and the Rainforest Action Network, helped on the

Gunns campaign by lobbying institutional sharehold-

ers in Britain.14

In the end, no one really expected the Wilderness

Society to get its way at the EGM. Gunns said that the

shareholder activists controlled fewer than 250 000

shares, or about 0.3 per cent of the stock, and Mins-

hull conceded that the resolution was unlikely to get

anywhere near the 75 per cent needed. Gay accused

the environmentalists of wasting shareholders’ money

on what amounted to a protest meeting. ‘That is dis-

gusting,’ he said. ‘They conceded they haven’t got a

hope in hell but they are taking this company through

the pain.’ Gay indicated that there was no prospect

of Gunns working with the activists, because the

company operates within state laws and Tasmania is

a signatory to the 1997 Regional Forest Agreement

between the state and federal governments. ‘If I reject-

ed (the opportunity) to take some logs, they would just

issue them to someone else. They can keep coming but

we don’t make the decisions. They are just damaging

the shareholders of Gunns and the superannuation

funds of Australia by harassing Gunns for a decision

that Gunns doesn’t make. That’s how stupid it is.’15

FIAT (the Forest Industries Association of Tas-

mania) weighed into the EGM issue by publishing

half-page advertisements in all major newspapers, the

text of which ran:

NOTICE TO

GUNNS SHAREHOLDERS

THE GUNNS EXTRAORDINARY GENERAL

MEETING THREATENS THE LIVELIHOOD OF

THOUSANDS OF TASMANIANS EMPLOYED IN

OUR SAWMILL AND VENEER INDUSTRIES

• Closing down more high-yielding forest will

take away the resource needed to supply

our sawmill and veneer industries that add

high value to out timber;

• 40% of our forests are already reserved

– 4 times the international standard;

• mature timbers that supply our higher-

value-adding industries are not available in

regrowth or plantation forests;

• less than 1% of old-growth forest has been

harvested in the last 5 years.

SUPPORT FOR THE WILDERNESS SOCIETY

MOTION IS SUPPORT FOR A LOW-VALUE,

WOODCHIP-DRIVEN FUTURE FOR

TASMANIA’S FOREST INDUSTRY

VOTE NO

TO PROTECT THOUSANDS OF

TASMANIAN JOBS

Forest Industries Association of Tasmania

Source: The Saturday Mercury, 23 August 2003, p. 21.

Case 5 • Gunns and the greens C-75

AMP Henderson indicated that it would vote

against the Wilderness Society resolution at the EGM

for Gunns to cease accessing logged old-growth forest

timber from the so-called Tasmania Together region

under Tasmania’s Regional Forest Agreement. AMP’s

substantial shareholder notice in June 2003 stated that

it owned 7.2 per cent of Gunns shares on issue. AMP

Henderson’s chief investment ofﬁcer, Merv Peacock,

said that AMP had long discussions with a range of

parties, including Gunns and Forestry Tasmania. He

concluded that the resolution would have a material

negative impact on the company’s proﬁts and believed

that the impact would be greater than that contained

in analysis by actuary and Gunns shareholder, Naomi

Edwards.16

Overall, a trend towards an ‘abstain’ or ‘against’

vote at the EGM emerged, as institutional sharehold-

ers balanced the risk of a consumer backlash with their

ﬁduciary obligation to investors. UniSuper, the univer-

sity employees’ superannuation fund, announced that

it would abstain, saying that a vote was ‘premature’,17

and the large Commonwealth government employee

fund, PSS/CSS, decided to vote against the resolution.

Perpetual Trustees and Colonial First State would not

disclose their voting intentions, and the SIRIS Proxy

Voting Service also declined to say how it advised its

clients to vote at the meeting. No institutional share-

holder went on record as supporting the Wilderness

Society-led resolution. Dean Paatsch, director of

SIRIS Governance Services Unit, said his consider-

ations varied depending on whether the client had an

environmental policy as part of its investment pro-

cess. Paatsch said he believed that most institutions

would abstain because of their concern for ‘reputa-

tion risk’.

The lead-up to the EGM drew in crusading con-

tributions from both sides of the debate, highlighted

by the Wilderness Society’s own advertisements under

the headline:

Tell Gunns to stop logging

our oldgrowth forests

Join us outside the Gunns

special meeting on oldgrowth

Source: The Examiner, 23 August 2003, p. 37.

The press also carried letters covering aspects

of the situation. The following extracts from The

Examiner on 24 August are representative of the

range of the debate:

Woodchips on a platter

Those who see Paul Lennon as a hard man should

have a look at his Forest Practices Amendment

Bill 2003, currently before Parliament.

For the third time since 1998, the Forest

Practices Board is being given an amnesty for

any previous violations of planning regulations

and its own rules regarding them.

As in FPA Amendment 48 of 1998, there is a

bonus on top of forgiveness … the FPB has been

empowered to overrule the state’s premier appel-

late planning body, the Resource Management

and Planning Appeals Tribunal, when that body

has found forestry to be inappropriate.

Forest system is world class

Tasmania’s Regional Forest Agreement is fast

approaching its sixth anniversary.

This 20-year vision for our forests established

a comprehensive, adequate and representative

reserve system … it is a pity that green activists,

who are a small group, refuse to accept (the)

massive conservation gains from this landmark

agreement.

The campaign also included Timber Communi-

ties Australia’s half-page advertisements in major

newspapers on 27 August under the banner:

We are all proud members

of Tasmania’s forest

industry family.

Our forest industry supports

one in every 20 Tasmanian jobs

C-76 Case 5 • Gunns and the greens

These advertisements, such as that in The Exam-

iner on 27 August 2003, bore testimonials from a

variety of ‘typical Tasmanians’ whose jobs in some

way depended on the forest industry. On the day of

the EGM itself, a large ‘open letter’ on behalf of 3000

employees and contractors of Gunns was published in

The Examiner calling on Gunns’ board to reject out-

right the motion requiring the company ‘to ban pro-

cessing of timber from a signiﬁcant portion of Tasma-

nia’s multiple use forests’.

The day before the EGM, Gunns released the com-

pany’s ﬁnancial results, announcing its record $74

million after-tax proﬁt for 2002/03. The 39 per cent

proﬁt increase was a result of strong demand across

each of the company’s key markets. Total group turn-

over rose by 17 per cent to $610 million, with oper-

ating cash ﬂow also up 17 per cent to $104 million.

The meeting: Green ﬁzzer

and fountain of commercial

rationality?

The EGM was held at 10 a.m. on 29 August at 110

Lindsay Street in Launceston, a city of about 60 000

people. More than 200 pro- and anti-logging dem-

onstrators gathered outside Gunns’ ofﬁces, and log

trucks lined the street in a show of strength for the

industry. The resolution called on Gunns not to source

any timber from the ‘Tasmania Together’ forests,

which include the Styx, Tarkine, Great Western Tiers,

Southern Forests, Tasman Peninsula, North-East

Highlands, Eastern Tiers and proposed extensions

to the Ben Lomond National Park.18 The Wilderness

Society had encouraged shareholders to attend the

EGM and vote for the resolution, had sought proxy

voting rights, and, in the lead-up to the EGM, had

run stalls outside many Commonwealth Banks pro-

viding information and pro forma letters for people

to send to the bank.

Some 20 speakers addressed the 90-minute meet-

ing, and shareholders voted overwhelmingly against

the resolution calling for Gunns to withdraw from

240 000 hectares of old-growth forest, the resolution

being lost by 54.8 million to 248 000 votes. Institutions

representing some 1.5 million votes abstained.19 Gay

said the vote demonstrated clear support for the

board. ‘This whole action was nothing more than a

publicity stunt by the Wilderness Society, staged for

political purposes in a futile attempt to attack a well-

performing and legitimate Tasmanian business.’20

The resolution was easily defeated with 98 per cent

of votes against. But most disappointing for green

groups and activists was that only 2.6 per cent of

voters abstained – the usual form of protest for insti-

tutional investors. So, Perpetual with 10.17 per cent,

the Commonwealth Bank with 8.6 per cent, and AMP

with 7.21 per cent were effectively saying they were in

favour of logging old-growth forests – a stance that

could cause them some grief at their coming annual

meetings given the high level of activism on the issue.

Despite always having the numbers, John Gay didn’t

want too much debate from the ﬂoor. At one point he

told the Wilderness Society’s Leanne Minshull to ‘sit

down, young lady’.21

What does the future hold

for Gunns?

There are some recurring themes in Tasmanian pol-

itics, the latest one of signiﬁcance being that of a

world-class pulp mill to value add the woodchip

resource. There was a strong sense of déjà vu about

the revelation in June 2003 that Gay and then Deputy

Premier (now Premier) Lennon (the chief government

supporter of forestry industry) discussed the possi-

bility of a pulp mill. Lennon maintained that there

was no pulp mill proposal before the government and

that such a mill was only one of several downstream

processing options discussed with Gay, who him-

self said that while he would like to see a pulp mill

established in Tasmania, it would require a ﬁnancial

investment of an order of magnitude possibly beyond

Gunns’ resources.

Case 5 • Gunns and the greens C-77

The company is still beset by campaigners. It does

not seem to be able to appear as a good corporate

citizen despite its ﬁnancial success and despite the

failure of the greens at the EGM. The paper of record

on 14 November 2003 displays the problem: sharing

the front page were Lennon putting forward a pulp

mill and guaranteeing Gunns ‘front running’, and

‘Hector the Protector’, a forest activist who has decid-

ed to go to gaol for 51 days rather than pay a $5000

ﬁne for perching in a tree for 12 days in protest at log-

ging. Hector (his standard name is Smith) was accom-

panied at court by a noisy band of placard-holding

protesters. Perhaps Gunns must face the reality that a

forestry ﬁrm, despite being law-abiding and popular

with the institutional shareholders and government,

cannot please the majority of the people. It is well

protected by legislation that guarantees access to the

critical wood resource and has a dedicated workforce,

but it would be nice to be well regarded. And will

the institutional investors continue to support it? The

next phase of activism will not be targeted at Gunns

but at its investors. How much heat will a bank take

for the sake of what is, for it, a minor investment? Is

a concession to green thinking required? But, is that

enough? The green agenda is not about compromise

but full achievement of goals; compromise is for poli-

ticians and corporations. Sustainability of forests in

Tasmania is a hot issue without clear winners so far.

References

Australian Society of Archivists, 2003, ‘North Broken Hill Ltd (1912–

1988)’, Guide to Australian Business Records, www.archivists.org.

Burbury, S. C., 1945, ‘Investigation into alleged irregularities in the

Forestry Department, in Tasmania, 1944–1945, Journals and

Printed Papers of the Parliament of Tasmania, 133(20).

Gee, H., 2001, For the Forests (Hobart: The Wilderness Society).

Graeme-Evans, A., 1995, Against the Odds: Risbys – Tasmanian Timber

Pioneers 1826-1995 (Hobart: Tasbook Publishers).

Kessell, S. L., 1944, ‘Preliminary report on the forests and forestry

administration of Tasmania, in Tasmania, 1944–1945’, Journals

and Printed Papers of the Parliament of Tasmania, 131(45).

Kessell, S. L., 1945, ‘Report on the forests and forestry administration

of Tasmania, in Tasmania, 1944–1945’, Journals and Printed Papers

of the Parliament of Tasmania, 132(42).

Lyons, B., 1998, All Gunns Blazing: J. & T. Gunn and the Development

of Launceston, 1871–1997 (Launceston: self-published). (The

background material in this case study owes much to this source,

quite apart from the attributions in speciﬁc references.)

Perrin, G. S., 1898, ‘Forests of Tasmania: Their conservation and

future management’, PP 48/1898. (An earlier report by Perrin

on ‘The systematic conservation of the woods and forests of

Tasmania’ is known to draw attention to the need for more

positive forestry activity; however the whereabouts of this

report are unknown.)

Pritchett, S., 2001, ‘Environmentalism, politicians, Gunns and money’,

1 September, www.aushomepage.com.au.

Rodway, L., 1898–99; ‘Forestry for Tasmania’, in Papers and Proceedings

of the Royal Society of Tasmania.

Steane, S. W., 1947, ‘The evolution of state forest policy and

administration up to 1947’ (a study by a former Conservator

of Forests, in the ofﬁcial records of Forestry Tasmania, File

No. 9633).

Tasmania, 1945–46, ‘Report (Parts I and II) of the Royal Commissioner

on Forestry Administration’, Journals and Printed Papers of the

Parliament of Tasmania, 133(39).

Tasmania, 1946, ‘Report (Par ts III, IV, V, and VI) of the Royal

Commissioner on Forestry Administration’, Journals and Printed

Papers of the Parliament of Tasmania, 135(1).

Tasmania Together, 2002 (Hobart: Tasmanian Government Printer).

Walsh, M., 2003, ‘AMP to vote no at Gunns EGM’, 27 August, www.

ethicalinvestor.com.au.

Wettenhall, R. L., 1968, A Guide to Tasmanian Government Administration

(Hobart: Platypus Press).

Media reference sources

ABC Online

Australian Financial Review

The Advocate

The Age

The Examiner

The Mercury

The Saturday Mercury

The Sunday Examiner

Notes

1 H. Gee, 2001, For the Forests (Hobart: The Wilderness

Society).

2 Ibid.

3 Tasmania Together, 2002 (Hobart: Tasmanian Government

Printer).

4 S. Pritchett, 2001, ‘Environmentalism, politicians, Gunns and

money’, 1 September 2003, www.aushomepage.com.au.

5 Ibid.

C-78 Case 5 • Gunns and the greens

6 www.wilderness.org.au.

7 The Sunday Examiner, 15 December 2002.

8 The Examiner, 19 March 2003.

9 The Advocate, 25 February 2003.

10 The Mercury, 20 March 2003.

11 The Age, 23 August 2003, ‘Business’, p. 1.

12 Ibid.

13 Ibid.

14 Ibid.

15 Ibid.

16 www.ethicalinvestor.com.au.

17 www.investordaily.com.

18 The Age, 30 August 2003, ‘Business’, p. 2.

Ibid.

20 The Saturday Mercury, 30 August 2003, p. 9.

21 The Australian Financial Review, 1 September 2003, p. 44.

C-79

Case 6

Growth at Hubbard’s

Foods?*

Jodyanne Kirkwood Diane Ruwhiu

University of Otago University of Otago

Dick Hubbard paused for a minute from the notes

he was writing for his company newsletter to reﬂect

on the recent changes he had initiated in the com-

pany. He thought back to the early days of the busi-

ness, when he did everything in the company single-

handedly, including making the breakfast cereals. He

looked out into the company car park and saw that it

was almost full. He suddenly realised he was respon-

sible for the livelihoods of many people other than

himself. Should he take the next step and expand

the company further? Dick contemplated the various

scenarios and considered what they would mean for

his business …

Background

Hubbard’s produces a range of 23 breakfast cereals

that are targeted towards the mid–high price ranges

in the cereal market. A recent extension to the prod-

uct range was an organic muesli that is in the very

high price range. Hubbard’s cereals are distinctive due

to their use of New Zealand and tropical fruits and

using fruit ﬂavouring to bake the cereals in. Exhibit

1 provides a schematic that represents the elements

that inﬂuence its operation. For a full description of

manufacturing processes and the supply chain, see

the appendix.

Products

Hubbard’s products are aimed at both the high price

range and low end of the cereal market. The high-

end products have such innovative names as ‘Berry

Berry Nice’ and ‘Yours Fruitfully’ (refer to Exhibit 2

for ingredient lists). While the main output from the

operation is high-quality cereals under the Hubbard’s

brand, the company also manufactures some product

lines for a range of supermarket private labels. These

private labels are typically at the lower end of the price

range for cereal, such as rice puffs and cornﬂakes.

Demand for breakfast cereal products has a slight

seasonal variation. In summer months, consumption

is approximately 10 per cent higher than in win-

ter months. The breakfast cereal industry has been

undergoing rapid change in the past two or three

years, including an increase in the muesli-style cereals

that Hubbard’s popularised, an increase in supermar-

ket own brands, as well as the huge growth in cereal

bars and muesli bars (which Hubbard’s does not

produce). Exact growth ﬁgures are not available as

* An earlier version of this case was presented at the North American Case Research Association conference in Banff, Canada, 3–5 October 2002.

This case is part of a series of cases on Hubbard’s Foods. Refer to the reference list for full details of published cases in the series.

C-80 Case 6 • Growth at Hubbard’s Foods?

the cereal industry is highly competitive. In 2000/01,

Hubbard’s exported 14.4 per cent of its production,

mainly to Australia, but a small amount was exported

to the United Kingdom, Singapore and Hong Kong.

Financial information for the company is shown in

Exhibit 3.

Competitors

Hubbard’s has an 18.5 per cent share of the cereal

market in New Zealand, which makes them the third-

largest player in the market. (Exact market share for

the competitors is not known.) There are three strong

direct competitors to Hubbard’s in the New Zealand

market: Sanitarium, Uncle Tobys and Kellogg’s.

Sanitarium is a New Zealand-owned company

that is located in a nearby suburb of Auckland. If

either Sanatarium or Hubbard’s runs out of an ingre-

dient, the other will supply it if they have it available.

A Seventh Day Adventist baker, whose philosophies

were strong on healthy living and vegetarianism,

started Sanitarium Health Foods over 100 years ago.

Sanitarium continues to market their cereals using

these philosophies, and has quite a strong focus on

sponsoring events and charities, as well as promot-

ing healthy living. Sanitarium’s main breakfast cereal

products are Weetbix and Cornﬂakes, and they have

entered the cereal bar market as well as the breakfast-

in-a-drink market.

Uncle Tobys is part of the Goodman Fielder chain,

which is Australasia’s largest food manufacturer,

employing around 16 000 people. Goodman Fielder

produces such food items as bread, potato crisps,

sauces and baking products. The Uncle Tobys brand

specialises in breakfast cereals and has a strong pres-

ence in the cereal bar market. Cereal products include

Weeties and Fruit Feast.

Kellogg’s is an international brand that was estab-

lished in Australia in the 1920s. Products were export-

ed from the Australian factory to New Zealand, and

Kellogg’s has a strong inﬂuence in the New Zealand

market with brands such as Coco Pops, Nutri-Grain

and Special K. Kellogg’s employs around 485 people

in Australia and New Zealand, and also has a pres-

ence in the cereal bar market.

There is also an increasing trend in New Zealand

for individual supermarkets to have their own ‘no

frills’ or ‘budget’ brands which are also in competi-

tion with Hubbard’s. However, the Hubbard’s brand

generally does not compete with this sector of the

market, although it has recently launched a cornﬂake

product under the Hubbard’s brand name. The mid-

range segment of the market is not an area the com-

pany has chosen to target.

Business start-up

From humble beginnings, Dick has created a success-

ful business. After being turned down for a scholar-

ship to Massey University, he self-ﬁnanced his degree.

Dick then worked as a food technologist for many

years, gaining valuable experience managing a tropi-

cal fruit factory in Niue for three years. On his return

to New Zealand, he was appointed general manager

of a local food manufacturer. He also went on a team-

work and conﬁdence building course called Outward

Exhibit 1 New Zealand business environment

Economy

LocationTechnology Political/regulatory

Suppliers

Cereal industry Customers

Inputs: ingredients,

equipment, staff,

office equipment

Manufacturing

processes, research

and development

Outputs:

cereal

products

Hubbard's Foods Ltd

Case 6 • Growth at Hubbard’s Foods? C-81

Bound, which Dick attributes with having assisted

him immensely, and he lists the completion of the

course as one of his life successes.

After several years of contemplating what to do

with his life, Dick decided to start his own business.

The company was started in 1988 with the grand total

of four employees, under the name Winner Foods,

changing its name to Hubbard’s two years later. During

the early years of start-up and growth the company

experienced tough times and at one stage was within

three weeks of going into receivership. Dick had to

take the drastic action of asking his employees to go

home on an extended holiday because he could not

afford to pay them. He also made changes in his own

life – for example, on occasion he walked to work to

save petrol.

Those early days of hardship have not been for-

gotten and Hubbard’s is managed under principles of

Exhibit 2 Examples of Hubbard’s products

Product name Description of product Ingredients

‘Berry Berry Nice’ ‘This toasted muesli

is full of berry ﬂavour

– because the oats and

other muesli ingredients

are all soaked in berry

juice before they are baked.

Freeze-dried strawberries

and blackberries, as well

as yoghurt coated raisins

complete the distinctly

Hubbard’s ﬁnishing touch.’

rolled oats, raspberry juice,

honey, brown sugar, vegetable

oil, yoghurt raisins (yoghurt

powder, raisins), freeze dried

strawberry pieces, freeze

dried blackberries, sesame

seed, coconut, salt, natural

berryfruit ﬂavour.

‘Yours Fruitfully’ ‘This natural muesli combines

the grains, nuts and seeds

you would expect with some

distinctly New Zealand fruits

– the kiwi and the apricot.

YCR’s, hazelnuts and oatbran

“sticks” give Yours Fruitfully a

distinctly different taste, that

has certainly won favour.’

rolled oats, ﬂaked wheat,

raisins, apricot nuggets,

brown sugar, oatbran, honey,

wheatgerm, yoghurt coated

raisins (raisins, vegetable fat,

yoghurt powder, sugar, milk

powder, lecithin), coconut,

sunﬂower seeds, hazelnuts,

skim milk powder, sesame

seeds, soya oil, freeze dried

kiwifruit.

Source: www.hubbards.co.nz.

Exhibit 3 Financial information, 1998–2001

April 1998 –

March 1999

April 1999 –

March 2000

April 2000 –

March 2001

Sales $21 297 245 $22 686 163 $24 321 789

Sales increase on previous year 23.05% 6.5% 7.2%

Export sales as % of total sales 7.7% 9.6% 14.4%

Net proﬁt before tax $608 829 $1 029 210 $978 052

Return on shareholders’ funds – after tax 10.26% 20.32% 17.12%

Staff proﬁt share paid N/A N/A $94 172

Company tax paid $240 114 $316 021 $249 373

Hubbard’s Foods market share 17.4% 18.1% 18.5%

Source: Triple Bottom Line (TBL) report, 2000/01.

C-82 Case 6 • Growth at Hubbard’s Foods?

minimum waste and minimum fuss; there is very little

excess at Hubbard’s, with no expensive furniture or

company car ﬂeets to be seen. Dick ﬁrmly believes the

early sacriﬁces made by him and his employees helped

the company to get established.

The business did falter for some time as Dick

diversiﬁed into roasting nuts and making items for

bulk bins in supermarkets. The decision to diversi-

fy further into a broader product range was made in

order to generate some cash ﬂow. An oat bran muesli

was launched as an in-house supermarket brand and

was very successful. Dick used this foundation, as

well as the extensive knowledge gained of the cereal

markets, to launch his own brand.

Business growth

By 1993, the business was growing quickly and Dick

realised he had to make changes to the way he man-

aged the company. Until this time, he had managed it

by himself, including tasks such as human resources

management, purchasing, marketing and quality

management. To address the changing situation and

to alleviate some of the day-to-day administrative

decision making required by him, he employed an

assistant and additional ofﬁce staff to help him man-

age the business.

As a direct result of the strong growth in demand,

decisions were made about the original factory, as it

became too small. A new factory in Mangere, Auck-

land was purpose built for Hubbard’s. Mangere is

on the outskirts of Auckland in a low-income, high-

unemployment area where the population is largely

made up of Maori and Paciﬁc Islanders. This larger

factory operates 24 hours a day, ﬁve days a week, and

in busy times it operates seven days a week. Now the

factory is working to almost 100 per cent capacity

and is again becoming too small for the growing

company.

Since Dick established the company, it has grown

steadily in staff numbers. The company is now out-

growing the deﬁnition of a small–medium enterprise

(SME), which in New Zealand is a company that

employs fewer than 100 employees. Hubbard’s now

employs approximately 120 staff at any one time.

In response to the positive growth of the company,

Dick and his wife Diana, who were the company’s

owners, appointed a new formal board of directors

in 2001. A primary reason behind this move was to

ensure that all stakeholder interests were being con-

sidered in the company’s growth and the recognition

of the increasing number of stakeholders’ livelihoods

involved.

This has been a total shift for Hubbard’s, from

Dick operating in an owner/CEO role, to a new struc-

ture which gives some of the decision-making respon-

sibility and strategy development to a high-level board

of directors. Dick will remain as CEO of Hubbard’s.

The board consists of six members, and to help main-

tain an objective and effective inﬂuence, a profes-

sional company director chairs the board. Exhibit 4

shows the membership of the board.

Company philosophies

and vision

Dick believes there are a number of key stakeholders

who have an interest in the business, including

Exhibit 4 Hubbard’s board of directors

Source: TBL report, 2000/01.

Dick Hubbard

CEO

Diana Hubbard

Wife of CEO

Hubbard’s

operations manager

Hubbard’s

marketing manager

Former CEO

of Watties Ltd

Professional director

Case 6 • Growth at Hubbard’s Foods? C-83

shareholders (Dick and Diana), employees, custom-

ers, suppliers and the community. He has a strong

vision for the business that bears his name and uses a

food metaphor to outline their aim in the Triple Bot-

tom Line (TBL)1 report, which is to ‘provide suste-

nance for the “mind, body and soul”’ of everyone who

has contact with the company (TBL report, 2000/01).

This simple statement exempliﬁes Hubbard’s commit-

ment to being a socially responsible organisation.

Dick has a distinctive and simple no-nonsense

style of management. Before entering the premises,

you notice a large sign in front of the main doors. It

states:

‘This is a “no nonsense” management zone. No

management excesses, corporate ego trips, committee

decisions, inter-company memos, buck passing, back

stabbing, or any other dubious management decisions

allowed on these premises.’

An illustration of Dick’s no-nonsense approach to

managing staff has become folklore at Hubbard’s. The

story is told of how one employee told Dick she was

intimidated by him wearing a tie. Dick immediately

took off the tie and cut it up. The tie is now framed in

the ofﬁces at Hubbard’s and is a strong visual state-

ment of Dick’s commitment to his philosophy of man-

agement.

Dick makes an effort to ensure that he provides a

family culture at the factory. This works well for the

business as the majority of staff at Hubbard’s are Paciﬁc

Islanders, and a signiﬁcant aspect of many Paciﬁc

Island cultures is based around the importance of the

family. Therefore, Dick’s management style offers an

extension of a family atmosphere into the workplace.

Along similar lines, there is no documented manage-

ment structure at Hubbard’s, illustrating his philoso-

phy of a non-hierarchical business.

Many of the manufacturing processes at Hub-

bard’s are manual, such as mixing of cereals. In con-

trast, a number of the larger competitors manufac-

ture cereal in a more equipment-intensive manner

than Hubbard’s and therefore tend to have a much

lower stafﬁng ratio. However, Dick believes in cre-

ating employment and will not replace people with

machinery unless absolutely necessary.

Key stakeholders

Employees

Staff are a vital stakeholder in the business. Dick sums

up his philosophy to staff as being ‘based around the

concept of “a group of people”. As such, our people

within the company are to be treated with respect,

dignity and an over-riding acknowledgement that,

ﬁrst and foremost, they are people’ (TBL report,

2000/01). Exhibit 5 outlines ﬁgures regarding staff

and remuneration.

Dick fosters an atmosphere of camaraderie among

employees and management. He encourages open

communication and allows for all staff (including

himself) to be on a ﬁrst-name basis with each other.

A particularly informal approach to communication

allows Dick to practise a hands-on approach to man-

agement by meeting with employees once every three

months. Ten employees at a time visit his ofﬁce for a

lunch of takeaways to discuss what is happening in

the factory. Also, all managers are expected to be in

the factory on a regular basis, and every six months

spend an entire shift on the factory ﬂoor.

Exhibit 5 Employee information

April 2000 – March 2001

Number of souls on board (employees) 116

Remuneration $3 969 603

Average remuneration $31 820

Proﬁt share paid out $94 172

Staff employed from WINZ (Work and Income New Zealand) or employment courses 17 of the 30 new employees

(57% of new employees)

Production personnel 4.65 staff/$million turnover

Source: TBL report, 2000/01.

C-84 Case 6 • Growth at Hubbard’s Foods?

The company experiences very little absentee-

ism and staff turnover is low. This may be indicative

of the way employees embrace and show commit-

ment to Dick’s management philosophy. He strong-

ly believes this approach to running his business is

going to become more popular as employees look

beyond pay rates. Increasingly, potential employees

are taking into account the culture of the company in

their employment decision.

Dick believes in sharing his company’s suc-

cess with his employees and achieves this by taking

employees on trips. Dick is well known for taking all

100 Hubbard’s staff to Samoa, in the South Paciﬁc,

for a long weekend in 1998. At a total cost of approxi-

mately $170 000, Dick chartered a plane to celebrate

Hubbard’s 10-year anniversary. The trip was a trib-

ute to the Paciﬁc Island workforce’s culture and heri-

tage. This added to the family culture at Hubbard’s,

as many of the employees had not been back to their

homeland for years. In subsequent years, other trips

have occurred within New Zealand. In 2000, Dick

and the entire staff met the prime minister, Helen

Clark, to celebrate 10 years of the Hubbard’s brand

being in business. Exhibit 6 shows the trips taken by

staff over the past few years.

Recently the company has implemented a proﬁt-

sharing scheme for employees. The scheme distributes

10 per cent of Hubbard’s pre-tax proﬁt as a ‘dividend’

to employees every six months. This proﬁt-sharing

scheme works according to a formula that is based

entirely on length of service. There is absolutely no

recognition made of seniority or existing salary/wage

rates.

One staff member’s story is illustrated below:

I came to Hubbard’s as a storeman starting rate $9

an hour – I thought, pardon not another one! As I

was picking orders I came across orders saying NO

CHARGE. This surprised me because I have been

a storeman a long time and never come across NO

CHARGE – always money wanted.

One day Dick was in the storeroom so I

approached Dick and I said, ‘Some of the orders

say NO CHARGE.’

He says, ‘Yes.’

‘How do you make money?’ I said.

He said ‘Son’ and touched my arm and told

me he believed that a company needs to make a

proﬁt but he also believes in giving some – you

will reap plenty. He really believes in giving and

sharing. It really touched me. All my life as a

worker I just came to make money. That point was

a turning point. Before Dick talked to me I felt

cheated because I felt I should earn more. Now I

am motivated to work hard. I learned to succeed

you have to go the extra mile.

Now I am deputy supervisor.

Staff at Hubbard’s are paid a relatively mid-

range rate of pay, and this is almost entirely due to

Dick’s desire to be socially responsible. Dick prefers

to hire the long-term unemployed and works with

the Work and Income New Zealand ofﬁces to create

Exhibit 6 Staff trips taken by Hubbard’s

1997: Day trip to Rotorua

1998: Long weekend to Samoa

1999: Day trip to Rotorua

2000: Day trip to Waingaro Hot Springs

Source: TBL report, 2000/01.

Case 6 • Growth at Hubbard’s Foods? C-85

employment. The staff survey results show employees’

levels of satisfaction with a range of issues regarding

their employment. Exhibit 7 reports on two of these

issues.

Dick has consistently built a culture around caring

for others, creating employment and being socially

responsible, in addition to the more usual ﬁnancial

results. However, his philosophy on creating employ-

ment has created some problems. In 2000, an indus-

trial dispute arose that led to a picket over wage and

meal allowances. This dispute was partially due to

pay rates. This industrial issue was resolved quick-

ly by increasing pay and allowances, and through

increased communication between management, the

union and employees.

Shareholders

Although focusing on being a socially responsible

company, ﬁnancial success is vital to Hubbard’s con-

tinuing success. Dick realises that in order to main-

tain employment levels and achieve his broader social

goals, the company must be ﬁnancially viable. The

company is founded on Dick’s vision, combined with

commitment and loyalty from employees. There is

great importance placed on running the company in

a ﬁscally appropriate and responsible manner. The

success and growth of the company has required

ﬁnancial discipline and sound proﬁtability. Dick

believes this to be important and puts considerable

emphasis on appropriate management practices to

ensure positive growth for the company. Decision

making at Hubbard’s combines both a human-

centred and economic approach to ensure an appro-

priate degree of proﬁtability is maintained to allow

for all stakeholder interests to be looked after.

Community

Dick also believes in sharing his ﬁnancial success with

those outside the company. For over 10 years, Hub-

bard’s has supported Outward Bound, the outdoor

pursuits organisation. A donation of 50 cents from

every packet of the ‘Outward Bound’ cereal sold is

made to Outward Bound. This results in a donation

of in excess of $100 000 per year, and stems from

Dick’s personal experience of going on an Outward

Bound course. Other sponsorships include World

Vision’s Kids for Kids concert, which is a children’s

charity that beneﬁted by $21 000 from Hubbard’s in

2001. Other local community projects with schools

include support for local high schools of cash scholar-

ships and motivational prizes ($5000). A donation of

$5000 was also made to the New Zealand Businesses

for Social Responsibility, and $1500 was provided for

a student scholarship.

Exhibit 7 Staff satisfaction survey results

Source: TBL report, 2000/01, as at March 2001.

% of respondents

Very

badly

Badly Okay

How Hubbard's rates

(a) Remuneration

Good Very

good

% of respondents

Very

badly

Badly Okay

How Hubbard's rates

(b) Job training

Good Very

good

C-86 Case 6 • Growth at Hubbard’s Foods?

In addition to sharing his ﬁnancial success, Dick is

very open to sharing his story with others. His back-

ground shows hardship, and New Zealanders enjoy

hearing about his rise from being a micro-business

into one of the most famous companies and business-

men in New Zealand. Dick was also invited by the

government to help direct New Zealand businesses

towards the future. He is an inspiration to people

starting their own business and is undoubtedly a role

model for many people.

Hubbard’s has also reported on another fac-

tor in their Triple Bottom Line report: ‘inﬂuencing’.

Hubbard’s does this by producing the Clipboard

newsletter (refer to Exhibit 8). In order to promote

social responsibility by businesses, Dick founded

the New Zealand Business for Social Responsibility

(NZBSR) in 1998, and membership has now risen to

180 members.

The company is a member of the New Zea-

land Business Council for Sustainable Development

(NZBCSD) and Dick is on its executive board. The

NZBCSD is a branch of the World Business Council

for Sustainable Development, and exists to promote

the concept of sustainable development within New

Zealand. Hubbard’s follows a campaign of reduc-

ing or eliminating waste, informing and educating

customers, and producing innovative products that

conform to the precepts of sustainable development.

Hubbard’s currently recycles paper and cardboard,

plastic shrink wrap which comes on inward pallet,

aluminium and plastic containers, raw material con-

tainers and toner cartridges.

Customers

Traditionally, Hubbard’s has not utilised any forms

of advertising, other than the newsletter, which is

included in each cereal box. Dick is realistic and does

not try to pretend that the business is 100 per cent

trouble-free, and wrote about the past labour dispute.

The Clipboard enables customers to feel they know

Dick, his family and even his dog.

Hubbard’s has never believed in heavy adver-

tising for brand or products. This was not merely a

cost-saving measure, but evidence of Dick’s personal

philosophy regarding the social ‘pollution’ caused by

too much advertising. He preferred to create goodwill

and public knowledge of his products through word-

of-mouth and his many ‘good deeds’ of corporate

Exhibit 8

Case 6 • Growth at Hubbard’s Foods? C-87

responsibility that appeared regularly in national

headlines. This exposure is extremely valuable to the

company and the vast majority of the articles show

the company in a very positive light.

In recent times, however, Dick has released lim-

ited advertising, which uses the following guidelines

that have been presented in the Triple Bottom Line

report.

Our advertising will be aimed to inform and not to

create unrealistic or irrelevant images.

Our advertising will not play on anyone’s con-

science, fear, weakness or worries.

We will not advertise directly to children and we

will not invoke ‘pester-power’.

Our advertising will not use ‘continual repetition’,

or ‘irritation’ as a technique.

Our advertising will not promote the concept of

‘instant gratiﬁcation’ or ‘instant ﬁx’.

Our advertising will not denigrate our opposition

and we will not undertake ‘comparative advertising’

as seen in the USA and now in Australia.

Our advertising will respect your values and we

recognise that they could be different to ours.

We will spend consumers’ money wisely and

responsibly.

Source: TBL report.

By keeping customers informed (via the Clipboard)

and doing what they say they will do, Hubbard’s has

developed and maintained a good relationship with

customers. The company is not afraid to publish

complaints from customers, and operates as an

honest and socially responsible company with regard

to customers.

The future?

Until now, Hubbard’s has grown with Dick as a hands-

on owner and CEO, while maintaining his strong

desire to operate his company in a socially responsible

way. The result of this socially responsible stance is a

company that is highly respected in New Zealand as

well as being proﬁtable. The question Dick now faces

is whether he should expand the business further and

capture some of the untapped markets he is sure are

out there. Dick now has to weigh up the positives and

negatives associated with growing his business.

Note

1 Triple bottom line reporting aims to extend traditional company

reporting, which focused on ﬁnancial information, to a more

inclusive reporting system, which adds people and the environment

to the report.

Appendix: Manufacturing

processes

Many of the manufacturing processes are manual,

with mixing of cereals with fruit being done by hand.

Dick acknowledges the company is falling behind on

the information technology front and will be invest-

ing a substantial amount of money into this in the

near future. The production process has become more

complicated, because of the large number of products

and various packaging requirements. One generic

product may need to be packaged in six different ways

for each customer.

Work ﬂow

The factory has expanded as new technology has

been implemented. A production line approach was

not working, so machines have been separated and

redesigned. One product may require to work on

Machines A, D, G and H, and another product may

require D, F, J and S. This means there is no standard

ﬂow through the factory and can mean that work in

process backs up behind machinery while waiting for

spare capacity. This also causes problems for the pro-

duction planner and scheduler.

Schedules

Schedules are based on sales reports from which

trends are able to be gauged. Twelve monthly sales

analyses are viewed, and seasonal patterns are taken

into account. Some areas such as Invercargill (situ-

ated in the lower South Island) experience a much

C-88 Case 6 • Growth at Hubbard’s Foods?

greater drop in sales in winter (up to 50 per cent) than

Auckland does, so the market is very much depen-

dent on climate. However, a seasonal pattern also

emerges because of the Christmas shutdown of many

companies in New Zealand. Therefore, many of Hub-

bard’s customers purchase large volumes of product

in December, resulting in low January sales.

Purchasing

Purchasing is the responsibility of one staff member

and is integrated with production planning, so all pro-

cesses are operating with the same information and

targets. It is considered to be a strategic activity and a

recent analysis was conducted to ensure that the com-

pany is providing adequate resources and support to

purchasing. The purchasing decision is facilitated by

regular stocktakes and visual observation, which is

common practice for a business of this size. Approxi-

mately six weeks’ supply of raw materials is stored in

the on-site warehouse, totalling almost NZ$3 million

in value.

The types of orders range from bulk to small-

sized orders. The bulk orders are for common ingre-

dients, such as sugar or oats where the average order

equates to 1000 tonnes. Bulk orders also tend to have

long lead times, in some cases two to three months,

because they come from overseas suppliers. A domes-

tic supplier usually supplies smaller orders, such as a

few litres of ﬂavouring. Some are delivered on a just-

in-time (JIT) basis, where an order is placed in the

morning, and will be delivered by that afternoon.

Hubbard’s purchases approximately 400 lines of

raw materials, many of which are imported, either

direct from the supplier or through a New Zealand

agent. Purchases are made based on quality as oppos-

ed to cost, because in this industry cheaper sup-

pliers usually mean lower quality. Hubbard’s can-

not afford to purchase inferior raw materials because

it is renowned for being a high-quality producer.

Suppliers are evaluated under Hubbard’s HACCP

(Hazard Analysis Critical Control Point) program.

This requires speciﬁcations and inward checks on

raw materials and packaging. A fairly recent activity

encourages key suppliers to evaluate Hubbard’s per-

formance, giving suppliers the opportunity to provide

input into areas for improvement.

Suppliers

Suplliers are important to Hubbard’s and essential

in maintaining the company’s drive for high qual-

ity standards. The nature of the product makes the

quality of raw materials vital and therefore long-term

relationships with key suppliers are viewed as being

essential to success and are actively sought. Packag-

ing is an input into Hubbard’s operation that adds a

great deal of value to the products, as the packaging

adds to the innovative nature of the product. Dick

maintains a collaborative relationship with the main

packaging supplier, as Hubbard’s accounts for 60 per

cent of the total sales of the packaging company. This

supplier visits Hubbard’s regularly to discuss speciﬁ-

cations and any new innovations.

C-89

Case 7

Incat Tasmania’s race for

international success:

Blue-riband strategies

Mark Wickham Dallas Hanson

University of Tasmania University of Tasmania

In 1999, Robert Clifford (aged 56) entered the Busi-

ness Review Weekly’s ‘Richest 200 Australians’ for

the ﬁrst time, qualifying for the elite group with an

estimated net worth of some $150 million.1 Clifford is

the founder and chairman of Incat Tasmania, a highly

successful catamaran manufacturer in Hobart. His

far-sightedness as a shipbuilder, alongside his ability

to manage innovation, enabled his small boat-build-

ing business (and river-ferry operation) to become

a world force in the high-speed catamaran market,

exporting to Europe, Asia and the Americas. So suc-

cessful has the Incat operation been, that in 2000, it

directly employed over 1000 people, generated $250

million in revenue, and accounted for approximately

23 per cent of Tasmania’s total export earnings.2

Clifford and Clifford

Incorporated: Don’t pay

the ferrymen ...

Despite the worldwide success of their aluminium

catamaran range, the family business did not origi-

nally set out to build state-of-the-art vessels for the

international passenger ferry market. Instead, the

Clifford family business sought to reintroduce a

trans-Derwent ferry service in the early 1970s, one

that would predominantly serve Tasmania’s tourist

population.3 The application to undertake the ferry

operation was granted by the state government of

the day, and in late 1972 the newly formed Sullivan’s

Cove Ferry Company launched the ﬁrst of its ‘bush-

ranger’ ﬂeet, the Matthew Brady. Business proved to

be good in the early stages, with both tourists and

locals taking advantage of the novel Derwent River

ferry service.

The Clifford family’s decision to begin a ferry ser-

vice across the Derwent River appeared to be rather

fortuitous, given the tragic chance event that occurred

early in 1975. On 5 January, at 9.27 p.m., the bulk ore

carrier Lake Illawarra crashed into the 19th pier of

the Tasman Bridge, claiming 12 lives, and severing

the Eastern Shore’s link with Hobart by knocking

out an 80-metre section of the bridge.4 Many tens of

thousands of motorists and cyclists were now unable

to travel easily to their required destinations, be it

for work or pleasure. Bob Clifford found himself in

the enviable position of being in the right place at the

right time.

C-90 Case 7 • Incat Tasmania’s race for international success

... ’til they get you to the

other side – Transportation

returns to Van Diemen’s

Land

Due to the increase in demand for the ferry service, the

Sullivan’s Cove Ferry Service increased its bushranger

ﬂeet to four with the James McCabe, Martin Cash and

Lawrence Kavanagh. These vessels were built in near

record time, and given the lessons learned from pre-

vious efforts, they were more advanced, being built

‘as the plans were being drawn up’.5 The four bush-

rangers were to serve as the west–east link for some

three years while repairs to the Tasman Bridge were

under way. In this time, Clifford’s ferries transported

in excess of nine million paying passengers.

Despite the successful launch of the additional

bushranger vessels, demand for the ferry service still

outweighed Clifford’s supply. In order to improve

customer service and increase the business’s rev-

enues, Clifford hired a new British-built ‘fast ferry’,

the Michael Howe. The Howe was twice as fast and

twice as comfortable as the bushranger ﬂeet owned

by Clifford, and was an instant success with the

public. Unfortunately, the Michael Howe was also a

maintenance-intensive investment, with 75 per cent

of all company maintenance expenditure spent on

the new ‘hired hand’. Clifford was understandably

unimpressed with the boat’s design and maintenance

requirements, despite the public’s obvious delight with

the faster service. The ﬂaws that Clifford observed in

the boat’s design and structure (the mechanics were

far too complicated and labour-intensive to be viable

in the long term) once again reignited his innovative

ﬂair. ‘If the English can sell 34 heaps of rubbish like

this [around the world], how many properly engi-

neered fast ships could we sell from Tasmania?6 And

with this marketing opportunity well in his grasp, the

Clifford business began its initial foray into the inter-

national fast-ferry industry.

Clifford, Bob Clifford:

Licensed to keel

During the following 20-year period, Bob Clifford

utilised his entrepreneurial ﬂair, and the help of some

of his close shipbuilding friends, to design and build a

succession of innovative catamarans. Of utmost con-

cern for Clifford was the need to lighten the weight

of his new catamaran designs, which had tradition-

ally been built using either steel or iron. A revela-

tion occurred in 1979, when Clifford decided to try

something that no one else had been able to achieve

throughout the history of shipbuilding – the use of

aluminium in the construction of the ship’s hull. Alu-

minium welding had not hitherto been considered a

viable option for ship construction, as the metal is

prone to bursting into ﬂame at the high temperatures

associated with the welding process. After a consider-

able amount of trial-and-error experimentation with

his network of shipbuilding friends, Clifford per-

fected the aluminium welding techniques that were

to propel his brand of fast ferry into the highly lucra-

tive international markets.

Incat Tasmania: Eighty

metres and beyond

By 1995, the world market for high-speed ferries had

grown to generate sales revenues of just under $1.6

billion annually.7 Not surprisingly, a signiﬁcant num-

ber of businesses had entered the international cat-

amaran industry to gain a share of this substantial

revenue opportunity. By 1995, Clifford was faced

with direct, and intensifying, competition, both from

domestic ﬁrms (such as Austal Limited, Sea Wind,

Venturer, Commercial Catamarans and Aussie Cat)

and UK- and US-based ﬁrms (such as the ‘US Cat-

amaran’ Company and Prout Catamarans). Each of

the domestic ﬁrms, and Austal Limited in particu-

lar, had also perfected the aluminium welding tech-

nologies, and were similarly able to compete in the

same markets as Incat. Over the next ﬁve years, for

instance, Austal Limited would mirror Incat’s foray

Case 7 • Incat Tasmania’s race for international success C-91

into passenger and cargo vessels, luxury passenger

vessels, and craft suitable for military operations. The

international competitors, however, were not able to

mirror the Australian success with the aluminium

welding technologies, and still based their vessels on

the traditional steel-based hulls.

Of greatest concern to Incat was the fact that each

of these competitors was also a newly ‘internation-

alising ﬁrm’, with access to similar resources (that

is, revenues from international markets, raw materi-

als and trained staff), and had likewise based their

growth on the manufacture of innovative high-speed

vessels. A number of Incat’s competitors had also tar-

geted the potentially lucrative Chinese market for fast

ferries, somewhat threatening Clifford’s most imme-

diate and highly prioritised ‘internationalising strat-

egy’. It would appear that Incat Tasmania no longer

had a monopoly in the world’s high-speed catamaran

market, nor the innovation and expertise required for

success therein.

Clifford was well aware of the need to maintain

Incat’s revenue growth, and protect its market share,

in the face of this increasingly competitive industry.

As had been the case in the past, Clifford once again

returned to the drawing board to design a ‘new and

improved catamaran’ for the world’s markets. The

result was Incat’s (and, indeed, the world’s) ﬁrst 80-

metre-plus catamaran, the Condor 12. The innova-

tive changes introduced by Clifford this time around

would focus on passenger and crew safety, an impor-

tant point of differentiation, given the spate of ferry

disasters occurring in Europe at the time.8

The Condor 12 was equipped with four of the

world’s most advanced safety systems (known as the

Marine Evacuation System [MES]). The MES ensures

that the entire passenger population of the Condor 12

(some 700 people) can be evacuated in an emergency

in less than 12 minutes, a time signiﬁcantly less than

that required by the peak international marine safe-

ty body (the International Maritime Organisation).

In addition to the MES, the Condor 12 was also ﬁt-

ted with an advanced and lightweight ﬁre protec-

tion. Also installed upon the vessel were single-leafed

hinged ﬁre doors, single and double sliding ﬁre doors,

engine room ﬁre-dampers, ﬁre hatches and smoke

bafﬂes. These new features, combined with structural

ﬁre protection, formed the best ﬁre protection sys-

tem available for a high-speed aluminium craft. The

safety features were well received by the new owners

of the boat, which in 1996 was to serve as a major

transport vessel for passengers crossing the English

Channel.

The success of the Condor 12 was once again evi-

dent to those in the market that provide a fast ferry

service. In the period 1996 to 1998, Incat was to pro-

duce a number of 80-metre-plus catamarans for the

European market. As was the Incat tradition, the

new catamarans became larger, with greater levels of

comfort and safety, and saw the adoption of new and

innovative technologies. The completed catamarans

during this period are as follows:

Stena Lynx 3 81 metres, English Channel

ferry

Holyman Express 81 metres, England–Belgium

run

Condor Express 86 metres, UK, 800-passenger,

200-car capacity

Sicilia Jet 86 metres, Mediterranean Sea

vessel

Condor Vitesse 86 metres, UK, summer season

ferry carrier

Incat 045 86 metres, Bass Strait carrier

Cat-Link V 91 metres, Scandinavia

Catalonia 91 metres, Spain

During this period, Incat averaged the construc-

tion and launch of one catamaran every 10 weeks.

The most notable boat of the latest generation was

the Catalonia, a 91-metre wave-piercing catama-

ran destined for Spain. Although the Catalonia was

completed over-schedule (due to the inability of the

company to physically perform the tasks required

given the workload), it remained very much the lat-

est ‘showpiece’ of the Incat Empire. Unlike previous

efforts, the Catalonia was ﬁtted out with a duty-free

shop, and a number of extra luxurious features (stair-

cases, plush carpeting, and so on). The more luxuri-

ous ﬁt-out meant that it was noticeably heavier than

C-92 Case 7 • Incat Tasmania’s race for international success

other similarly sized catamarans. However, the Cata-

lonia remained capable of travelling at a respectable

48 knots as a lightship, and at 43 knots fully load-

ed. Despite the Catalonia’s size and weight, Clifford

was conﬁdent that the craft was faster than the Hover

Speed Great Britain, with which he had won the Hales

Trophy (a ‘Blue Riband’ award) in 1990. (The ‘Blue

Riband’ Hales Trophy is awarded to the commer-

cial vessel that undertakes the fastest crossing of the

Atlantic Ocean, a record that in 1990 was held by

the liner the SS United States before Clifford won the

trophy and the attention of the world’s media.) With

this thought in mind, as well as the implications for

marketing and sales growth, Clifford decided to use

the Catalonia to secure a second ‘Blue Riband vessel’

for the company.

During the same time, Incat’s major competitor,

Austal Limited, diversiﬁed away from its reliance on

luxury aluminium-hulled passenger vessels, in favour

of a multi-domestic-based business focusing on yachts,

pleasure craft and cargo vessels. The company, unlike

Incat, decided to list on the stock exchange and form

alliances with other ﬁrms internationally in order

to form an Austal group of companies based in the

United States, Europe and Asia. By 1998, the Austral

group of companies included Austral Limited (based

in Australia), Austal USA (a joint venture partner-

ship with leading US shipbuilder Bender Shipbuilding

& Repair), Oceanfast (a yacht manufacturer), Image

Marine (a pleasure craft manufacturer) and Austal

Service (a maintenance company).9

Incat’s Hales Trophy

Defence: Catalonia and the

Atlantic Ocean crossing

In mid-May of 1998, the Catalonia left Hobart,

bound for New York from where the latest record

attempt would begin. On Saturday, 6 June 6, the Cat-

alonia hauled its anchor and set sail for the UK in an

attempt to set a new record for the Hales Trophy, as

well as a new record for the greatest distance trav-

elled by a ship in a given 24-hour period. Once again,

the mass media were on hand to witness the great

feats undertaken by Clifford and his Incat team. Once

again the media, and the rest of the interested world,

were treated to a triumph. The Catalonia had, in only

its second international voyage, managed to become

the ﬁrst boat in history to cover in excess of 1000 nau-

tical miles in a 24-hour period. She had also crossed

the Atlantic faster than any commercial vessel before

her, establishing a new world record for Clifford and

Incat.

While this journey was under way, the Incat man-

ufacturing plant was putting the ﬁnishing touches on

a new 91-metre catamaran named the Cat-Link V.

Built for the Scandinavian company Scandlines, the

boat was also to undertake a record-breaking attempt

for the Atlantic Ocean crossing. Within weeks of

the Catalonia’s efforts, the Cat-Link V successfully

rewrote the record books and claimed the Hales Tro-

phy and ‘Blue Riband’ certiﬁcation. What was most

important for Clifford was the fact that now three

Incat vessels had managed to break the speed records

once held by a US vessel for 50 years, and do it in

absolute comfort.

Strong demand for Incat’s wave-piercing catama-

rans resulted in the development of an important joint

venture agreement with Afai Ships of Hong Kong.

The joint venture was important, as it provided Incat

with an initial foray into the high-potential Chinese

market, as well as helped the company to keep up

with the huge global demand for its vessels. The Chi-

nese yard started work on its ﬁrst vessel early in 1998,

under the supervision of Graeme Freeman, an Incat

manager. Most of the materials for the ships were

supplied through the Tasmanian yard, and a constant

team of Incat personnel and sub-contractors travelled

to Hong Kong to supervise each stage of construc-

tion.10 The joint venture proved successful, with the

ﬁrst ship completed by May of 1988, with a second

ship’s construction already under way. As with any

licensing agreement, a major risk for Incat lies in the

potential theft of its intellectual property, and there-

fore potentially the company’s core competency of

innovative catamaran design. Perhaps indications of

the innovative drive within the company, Incat man-

agement said of such a concern that: ‘We haven’t real-

ly worried too much about the theft of our intellec-

tual property. We work on the theory that whatever

our licensees are stealing, they are stealing yesterday’s

work anyway.’11

Case 7 • Incat Tasmania’s race for international success C-93

Growth into the future:

Incat and the continued

internationalisation of a

Tasmanian icon

The main issue facing Bob Clifford and his team at

Incat mid-decade is ensuring the continued growth of

the company through innovation, diversiﬁcation and

globalisation in the face of increasing competition and

‘tough global economic times’. The history of success-

ful marketing exercises, the constant ﬂow of innova-

tion throughout the organisation, and the ability of

Incat to foster international relationships have, at least

to date, seen the company rise from obscurity to a

global leader in boating excellence. While there seems

to be little change to the strength of global demand

for high-speed vessels, cash ﬂow problems did arise in

early 2001 when a number of ships built by the com-

pany remained unsold for an extended period. The

amount of money tied up in the idle ships equated to

a substantial cutting back in employee overtime and

other ‘non-essential company expenditure’.

This cutback in ‘non-essential’ expenditure, unfor-

tunately for Incat’s workforce, apparently extended to

include a 15 per cent pay-rise claim by the two main

unions operating in the shipyard (the Australian Man-

ufacturing Workers Union and the Construction, For-

estry, Mining and Energy Union). Clifford’s response

to the pay claim was to dismiss it entirely, stating that

pay increases at Incat will only result from an increase

in catamaran sales. Given the state of the company’s

sales at the time (having completed, but as yet unsold

vessels on the books), the pay claim appeared to be

doomed to failure. In response to Clifford’s statement

that it would be easier for the union to ‘get blood from

a stone’ than a pay rise based merely upon a ‘cost-of-

living’ adjustment, industrial action was undertaken

by some 650 workers in the form of a 24-hour strike.

Clifford was forewarned of this imminent industrial

action, and acted immediately to release a statement

to this sector of his workforce that branded some as

‘donkeys with not enough brains to make their heads

ache’.12 He continued to suggest that ‘as “intelligent

leaders” in tough economic times, Incat has no choice

but to “cull the donkey population” for the good of

the majority, and in doing so get rid of “the weakest

links”.’13

Unfortunately, the culling of employees was to no

avail, with the ﬁrm’s ﬁnancer, the National Australia

Bank (NAB), appointing a receiver management team

to the company in mid-2001. The receiver managers

were appointed largely to control the ﬁrm’s perceived

expenditure issues, and to enforce the cessation of the

continued construction of otherwise unwanted ves-

sels. It was stated by representatives of the NAB that

it had no wish to dismantle the company, but rather

protect its loans to the ﬁrm by taking closer control

of its ﬁnancial management. Again, a tragic event

heralded a new period of growth for the company.

On 11 September 2001, the ﬁnancial centre of the US

economy, the Twin Towers of the World Trade Cen-

ter, suffered a horriﬁc terrorist attack that destroyed

the capitalist symbols and killed approximately 3000

people. Although the economic damage resulted in

a major share price slump in the short term, it also

sparked a major increase in defence spending around

the globe, spending that would directly beneﬁt the

struggling Incat Tasmania. It was lauded that the US

government had a potential A$20 billion to spend

on new ‘tactical response’ vehicles, vehicles the ser-

vice lacked for quick response to situations of armed

conﬂict. Incat, rather fortuitously, had provided the

Australian defence force with use of a catamaran (the

HMAS Jervis Bay) for such duties in the East Timor

peacekeeping mission, and was therefore well posi-

tioned to bid for the US contract.

The US government’s response to the ‘9/11’ terror-

ist attacks, the so-called War on Terror in Afghanistan

and Iraq, freed up substantial monetary resources for

the invasion of these countries. During 2002, Incat

managed to win a major US contract that resulted in

the NAB removing its receiver management team. The

contract allowed the company to again innovate its

designs (both in terms of vessels and ﬁnancial man-

agement strategies) to accommodate the speciﬁc needs

of the US military, as well as once again to license out

its manufacturing processes to an overseas construc-

tion company.14

The business of building fast ferries remains a

relatively new one and, as such, there is consider-

able scope for still further market development (con-

tinued catamaran-based construction) and market

C-94 Case 7 • Incat Tasmania’s race for international success

diversiﬁcation (that is, new product lines). As Clif-

ford himself states:

There are always problems to be solved that will

require the design of both new and innovative

products. It is coming up with ideas that is

essential, and for that you need people with their

brains in gear. Likewise, new markets will emerge

to be served, and our team is constantly working

to ‘improve the breed’. If there is one thing that I’m

proud of, it is [Incat’s] ability to solve problems

and expand our horizons.15

Although this ability seems to have always existed

at Incat under Clifford’s leadership, the question aris-

es as to whether it will provide a continued source of

competitive advantage into the future.

Notes

1 T. Thomas, 1999, ‘ “Dunce” leaves the rest in his wake’, Business

Review Weekly, 28 May.

2 T. Skotnicki, 2000, ‘Exports: Full throttle’, Business Review Weekly,

18 August.

3 R. Clifford, 1998, Incat – The First 40 Years (Victoria: Baird

Publications); Thomas, ‘ “Dunce” leaves the rest in his wake’.

4 Clarence City Home Page, 2001, ‘The Tasman Bridge disaster’,

16 March, www.ccc.tas.gov.au.

5 Clifford, Incat.

Ibid., p. 22.

Austal Limited information memorandum, 2000.

Clifford, Incat.

Austal Home Page, 2003, ‘Company overview’, 20 August www.

austal.com.

10 S. L. McCaughey, P. W. Liesch and D. Poulson, 2000, ‘An unconven-

tional approach to intellectual proper ty protection: The case

of an Australian ﬁrm transferring shipbuilding technologies to

China’, Journal of World Business, 35(1), pp. 1–22.

11 Ibid.

12 M. Haley, 2001, ‘Incat’s “cull” star ts with strike’, The Mercury,

4 April

13 R. Clifford, 2001, ‘The intelligent worker’: An address to staff at

Incat Tasmania, 3 April.

14 Clifford, Incat.

15 Ibid.

C-95

Case 8

The Golden Arches in India:

A case of strategic adaptation

Nitin Pangarkar Saroja Subrahmanyan

National University of Singapore St Mary’s College

Background

In March 2003, the McDonald’s Corporation’s

Indian operation was at a critical juncture in its evo-

lution. Between 1995 (the year its joint ventures were

formed) and December 2002, the company and its

joint venture partners had opened 46 restaurants.

According to the earlier plans (June 2000), the com-

pany was aiming to have 80 outlets in India by the end

of the year.1 Since the investment to open each out-

let amounted to Rs 20 to 30 million (approximately,

US$417 000 to US$626 000 based on a 1 January

2003 exchange rate of Rs 47.92 = US$1)2 excluding

real-estate costs,3 the rapid expansion would mean

more than doubling of its investments, which (accord-

ing to some estimates) stood at a level of Rs 3.5 bil-

lion in June 2000.4 Some recent reports, however,

had hinted that, due to the recent lacklustre ﬁnancial

performance of the parent corporation, McDonald’s

might scale back its number of planned outlets by as

much as 20 per cent to 64. The scaling back would be

part of a wider decision to restructure operations in

emerging markets, including closure of 250 outlets.5

Though the management of McDonald’s India had

denied these reports, the pace of expansion seemed to

have slowed down over the past year.6 Since the com-

pany was not required to release its ﬁnancial ﬁgures,

it was not clear whether it was on track to achieve its

original objective of breakeven by the year 2003.7 In

fact, reducing the number of planned outlets would

postpone the date for achieving breakeven since con-

siderable ﬁxed costs had been incurred in developing

a supply chain, creating brand name recognition and

inducing trial among potential customers.

McDonald’s: The global

fast-food powerhouse

McDonald’s was, by far, the world’s biggest marketer

of fast food. In 2003, it operated more than 31 000

restaurants and served 46 million customers each

day in 118 countries. For the ﬁnancial year 2002, the

company had attained US$41.5 billion in system-wide

sales (out of which US$25.7 billion was accounted for

by franchised restaurants), US$2.1 billion in operat-

ing proﬁts and US$893 million in net proﬁts. It also

C-96 Case 8 • The Golden Arches in India

had US$24.0 billion in assets. (See Exhibit 1 for a

geographic analysis of McDonald’s operations.) It

was also, routinely, cited by the business press as

being a savvy marketer. In June 1999, with a value of

US$26.231 billion, the McDonald’s brand was rated

as being the eighth most valuable brand in the world,

ahead of well-known brands such as Sony, Nokia and

Toyota.8

McDonald’s had a long history in Asia. It entered

the Japanese market in 1971, which was followed

by entry into other newly industrialising economies

(such as Singapore and Hong Kong, among others)

in Asia. Entry into China occurred only in 1990.

McDonald’s entered India in 1996. (See Exhibit 2 for

McDonald’s start-up dates in East Asian and South

Asian countries.) The late entry could be attributed

to several factors, such as the fact that a signiﬁcant

percentage of India’s population was vegetarian, the

limited purchasing power of the population and the

closed nature of the economy.

The Indian market

India was a vast subcontinent with an area one-fourth

that of the United States, and a population almost

four times that large, at about 1 billion. The per cap-

ita GDP was quite low at US$400 (approximate).

However, after adjusting for purchasing power parity,

India’s economy exhibited a per capita GDP (2002) of

US$2540 and an aggregate GDP of US$2.66 trillion.

On this basis, it was ranked the ﬁfth-largest econ-

omy in the world (ranking above France, Italy, the

UK and Russia) with the third-largest GDP in Asia

behind Japan and China. (See Exhibit 3 for income

distribution in India.9) Among emerging economies,

India was often considered second only to China.

Despite the low per capita income levels, the sheer

size of the ‘eating out’ market in India was substan-

tial. According to one estimate, India’s food expen-

diture amounted to US$77 billion in 2000, out of a

total world food spending of US$4000 billion.10 The

Indian food market was, however, highly fragmented,

Exhibit 1 Geographic analysis of McDonald’s operations and performance (ﬁnancial year 2002)

Overall

Geographic breakdown

US Europe

Asia-

Paciﬁc

Latin

America Canada

Middle

East &

Africa

Partner

corporate

brands

Revenues (US$mn) 15 405.7 5 422.7 5 136.0 1 236.7 813.9 633.6 1 294 N/A

Operating income

(US$mn) 2 112.9 1 673.3 1 021.8 64.3 (133.4) 125.4 (66.8) (571.7)

Total assets (US$mn) 23 970.5 8 687.4 8 310.6 3 332.0 1 425.3 703.2 780.4 731.6

Capital expenditures

(US$mn) 2 003.8 752.7 579.4 230.4 119.9 111.6 190.4 19.4

Depreciation &

amortisation (US$mn) 1 050.8 383.4 334.9 141.7 59.6 35.6 40.3 55.3

Average annual sales per

restaurant (US$000) N/A 1 628 1 821 1 091 931 1395 N/A N/A

Margins in company-

operated restaurants

(%) 14.4 16.0 15.9 11.3 9.4 13.7 N/A

Margins in franchised

restaurants (%) 78.5 79.1 76.7 85.8 66.9 79.2 N/A N/A

Source: www.mcdonalds.com.

Case 8 • The Golden Arches in India C-97

with millions of roadside stalls collectively account-

ing for a large share of the market.

India’s economic diversity was matched by its

social diversity. There were more than 20 major spo-

ken languages and over 200 dialects. The Indian cur-

rency (Rupee) had its denomination spelt out not only

in English and Hindi (the national language), but also

in three other languages. About 50 per cent of the

population was considered to be illiterate, and adver-

tising reached them via billboards and audio-visual

means. For national launches, at least eight languages

were used. In addition, the country faced poor infra-

structure with frequent power outages even in New

Delhi (the capital city) and Bangalore (India’s Silicon

Valley).

In terms of political system, India was a democ-

racy. Since independence from the British in 1947, the

economic system had historically been modelled on

the socialist style. Under this system, the government

strictly controlled entry and exit of domestic as well

as multinational corporations (MNCs) into different

sectors. Multinational ﬁrms also faced a variety of

other restrictions. Since 1991, India had started

deregulating the economy. However, the socialist

mind-set could not be erased overnight. A member of

the parliament had the following comment regarding

the inﬂux of multinational ﬁrms in consumer sectors

such as packaged food: ‘We want computer chips and

not potato chips.’

The country also had a few anti-Western factions,

which opposed the entry of MNCs, in general. The

mistrust of MNCs could be at least partially attribut-

ed to the fact that the British rule of India was rooted

in the entry of the British East India Company (for

trading purposes) into the country. There were sev-

eral small but vocal groups of health activists and

environmentalists that were opposed speciﬁcally to

the entry of fast-food giants such as McDonald’s and

KFC. When KFC opened its restaurant in Bangalore

in 1995, local ofﬁcials found that KFC had excessive

levels of monosodium glutamate (MSG) in its food

and closed the outlet. The outlet soon reopened, how-

ever. Vandana Shiva, a vocal exponent of environ-

mental and animal welfare issues, made the following

comment in an audio interview with McSpotlight:

The McDonald’s experience, which is really the

experience of eating junk while thinking you are

in heaven, because of the golden arches, which is

supposed I guess to suggest that you enter heaven,

and the clown Ronald McDonald, are experiences

that the majority of the Indian population would

reject – I think our people are too earthy. First,

of all, it would be too expensive for the ordinary

Indian – for the peasant, or the person in the slums

Exhibit 2 Dates of McDonald’s entry into East and South Asian markets

Year of opening Country Restaurants in 2002 Restaurants in 1997

1971 Japan 3 891 2 437

1975 Hong Kong 216 140

1979 Singapore 130 105

1980 Philippines 236 157

1981 Malaysia 149 110

1984 Taiwan 350 233

1985 Thailand 100 61

1988 South Korea 357 114

1990 China (Shenzhen, Special Economic Zone) – –

1991 Indonesia 105 103

1992 China (Beijing) 546 184

1996 India 46 9

1998 Pakistan 20 0

1998 Sri Lanka 2 0

Sources: For start-up dates: James L. Watson (ed.), 1997, Golden Arches East (Stanford, CA: Stanford University Press), Table 2.

For number of restaurants: McDonald’s Corporation 2002 Annual Report, from www.mcdonalds.com.

C-98 Case 8 • The Golden Arches in India

– it’s an experience that a very tiny elite would

engage in, and most of that elite which knows

what good food is all about – would not fall for it.

McDonald’s is doing no good to people’s health,

and in a country like India where ﬁrst of all, we

are not a meat culture, and therefore our systems

are ill-adapted to meat in the ﬁrst place, and where

people are poorer – shifting to a diet like this will

have an enormous impact.11

Since 1991, when the Indian economy began open-

ing up to foreign investments, many multinationals

had rushed in – lured by the attraction of serving a

large middle class, estimated at 300 million. Howev-

er, even some of the well-known global brands failed

with their initial strategies and were forced to repo-

sition, including, in some cases, drastic reduction of

prices. Some multinationals (for example, Peugeot)

even had to close shop. Kellogg’s, which entered with

high-priced cereals (several orders of magnitude more

expensive than the traditional Indian breakfast), faced

a lack of demand. KFC initially failed to realise that

Indians were repulsed by chicken skin, which was vital

for the Colonel’s secret batter to stick. Thus, apart

from a lack of understanding about the local tastes, a

combination of circumstances, including overestima-

tion of the demand potential, rosy assumptions about

the dismantling of bureaucratic hurdles to doing busi-

ness, infrastructural inadequacies and, ﬁnally, inap-

propriate ﬁrm strategies (for example, pricing), led to

many failures and disappointments.

McDonald’s entry strategy

in India

McDonald’s India was incorporated as a wholly

owned subsidiary – McDonald’s India Pvt Ltd, or

MIPL, in 1993.12 In April 1995, the wholly owned

subsidiary entered into two 50:50 joint ventures: with

Connaught Plaza Restaurants (Mr Vikram Bakshi) to

own and operate the Delhi restaurants, and Hardcas-

tle Restaurants (Mr Amit Jatia) to own and operate

the Mumbai outlets.

Though McDonald’s had done product adapta-

tion to suit local tastes and cultures in several previ-

ous ventures, such as the McPork Burgers served with

Thai Basil in Thailand, the Teriyaki Burger in Japan,

rice dishes in Indonesia, McSpaghetti with Filipino

ham in the Philippines, McTempeh Burgers (ferment-

ed soyabean) in Indonesia and McLox Salmon sand-

wiches in Norway, the degree of adaptation required in

India was signiﬁcantly greater.13 McDonald’s replaced

its core product, Big Mac, with the Maharaja Mac.

The latter had a mutton patty (instead of the beef

patty in the Big Mac), to avoid offending the sensi-

bilities of Hindus (80 per cent of the population), who

consider killing the cow as sacrilegious, and Muslims

(12 per cent of the population), for whom pork was

taboo. In addition, since 40 per cent of the market

was estimated to be vegetarian, the menu includ-

ed the McAloo Burger (based on potato), a special

salad sandwich for vegetarians and the McChicken

kebab sandwich. It also offered spicier sauces such as

Exhibit 3 Income distribution in India

Classiﬁcation Number of people (mn) Households (mn) Income in US$

The Deprived 763 131 <600

The Aspirants 120 20 1000–3000

The Climbers 45 8 3000–6000

The Strivers 25 5 6000–12 500

The Rich (total) 2.18 0.3545 >12 500

The Near Rich 1.55 0.25 12 500–25 000

The Clear Rich 0.444 0.074 25 000–50 000

The Sheer Rich 0.144 0.024 50 000–125 000

The Super Rich 0.039 0.0065 >125 000

Income ﬁgures are approximate and based on the following two sources: Chaterjee Adite, 1998, ‘Marketing to the superrich’, Business Today, Living Media

India Ltd, 22 April; Warren Berryman and Jenni McManus, 1998, ‘India: Turning the Elephant Economy’, Independent Business Weekly, 24 June.

Case 8 • The Golden Arches in India C-99

McMasala and McImli (made from tamarind). Other

elements of the menu, such as chicken nuggets, ﬁllet

of ﬁsh sandwiches, fries, sodas and milk shakes, were

common with the rest of McDonald’s system.

In 1998, McDonald’s India set up a menu develop-

ment team to collect consumer feedback. The results

of the team’s research revealed that while Indian cus-

tomers didn’t want the company to entirely localise its

menu, they wanted a wider product range, more hot

food and lower entry-level prices for products.14 The

company subsequently introduced several new prod-

ucts, such as the Veg Pizza McPuff, that were priced

attractively and became top sellers in the menu. By

2001, almost 75 per cent of the menu in India was

localised versus 33 per cent for a typical Asian coun-

try. (See Exhibit 4 for the complete menu offered in

March 2003.15)

The adaptation of the strategy went well beyond

the menu, encompassing many aspects of the restau-

rant management system. Two different menu boards

were displayed in each restaurant – green for vegetar-

ian products and purple for non-vegetarian products.

Behind the counter, restaurant kitchens had separate,

dedicated preparation areas for the meat and non-meat

Exhibit 4 McDonald’s menu in India

Menu item Price (Rs) Menu item Price (Rs)

Burgers Happy Meals

(burger with regular drink and a toy)

Salad Sandwich 54.00

McAloo Tikki Burger 64.00

Salad Sandwich 18.00 Veg Pizza McPuff 54.00

Veg Pizza McPuff 17.00

McAloo Tikki Burger 28.00 Value Meals (burger with potato wedges/regular fries

McVeggie Burger 34.00 and regular drink)

Veg Surprise 18.00 McAloo Tikki Burger 49.00

Chicken McGrill 24.00 Salad Sandwich 39.00

McChicken Burger 46.00 Veg Surprise 44.00

Filet-O-Fish 46.00 Chicken McGrill 49.00

Chicken Maharaja Mac 55.00

Paneer Salsa Wrap 40.00 Meal combos

Chicken Mexican Wrap 49.00 (burger with medium fries and medium drink)

Fries Extra Cheese 6.50

Regular 20.00 Upsize to Burger with large fries and a large drink 10.00

Medium 26.00 McVeggie Combo 75.00

Large 33.00 McChicken Combo 89.00

Potato Wedges 20.00 Filet-O-Fish Combo 89.00

Beverages Paneer Salsa

Wrap Combo 82.00

Regular Coke/Fanta/Sprite 17.00 Chicken Mexican Wrap Combo 92.00

Medium Coke/Fanta/Sprite 21.00 Chicken Maharaja Mac Combo 94.00

Large Coke/Fanta/Sprite 25.00

Cappuccino 17.00 Desserts

Café Mocha 17.00 Soft serve: Pineapple/Hot Fudge Topping/ Vanilla 19.00

Espresso Black 12.00 Soft Serve: Cone 8.00

Elaichi Tea 17.00 Soft Serve: McSwirl 12.00

Tea 12.00 McShakes: Chocolate/Strawberry/Vanilla 30.00

Mineral Water (500 ml) 14.00 McShakes Regular: Chocolate/Strawberry/Vanilla 25.00

Quick bites McShakes Medium: Chocolate/Strawberry/Vanilla 35.00

Cappuccino + Wedges 25.00 McShakes Large: Chocolate/Strawberry/Vanilla 45.00

Cappuccino + Puff 29.00 Apple Pie 24.00

Source: www.mcdonaldsindia.com.

C-100 Case 8 • The Golden Arches in India

products. The kitchen crew (in charge of cooking) had

different uniforms to distinguish their roles and they

did not work at the vegetarian and non-vegetarian

stations on the same day, thus ensuring clear segrega-

tion.16 The wrapping of vegetarian and non-vegetarian

food took place separately. These extra steps were tak-

en to assure Indian customers of the wholesomeness

of both products and their preparation. To convince

Indian customers that the company would not serve

beef, and respect the culinary habits of its clientele,

McDonald’s printed brochures explaining all these

steps and took customers for kitchen tours.

McDonald’s positioned itself as a family restaur-

ant. The average price of a meal combo, which includ-

ed burger, medium fries and medium drink, varied

from Rs 75 for a vegetarian meal to Rs 94 for a Maha-

raja Mac meal. This could be compared with KFC

meal prices at Rs 59 (Crispy Burger, Regular Fries and

Large Pepsi) and Rs 79 (KFC Chicken, Colonel Burger

and Regular Pepsi). McDonald’s Happy Meal, which

included a complimentary toy, was priced between Rs

54 and Rs 64. The prices in India were lower than

in Sri Lanka or Pakistan, and even the price of the

Maharaja Mac was 50 per cent less than an equiva-

lent product in the United States.17 To ﬁght its premi-

um image among the public, the company undertook

selective price cutting and also ran some periodic

promotions. In March 2003, the company was offer-

ing value meals for as low as Rs 39 and Quick Bites

for as low as Rs 25. The company’s ice-cream offer-

ings were priced extremely attractively – starting at

Rs 8 for a soft serve cone. Apparently, even these low

prices afforded McDonald’s a healthy margin (40 per

cent for cones). As Vikram Bakshi, explained: ‘I will

never become unaffordable, as I will not then be able

to build up volumes.’18 The lower price could be attri-

buted to two key factors. First, pricing strategies of

MNC rivals as well as by mid-range local restaurants

inﬂuenced McDonald’s pricing strategies as well as

special promotions. For instance, in February 1999,

several competitors were running special promo-

tions, with KFC offering a meal inclusive of chicken,

rice and gravy for Rs 39. For Rs 350, Pizza Hut was

offering a whole family meal including two medium

pizzas, bread and Pepsi. Wimpy’s was offering mega

meals at Rs 35.19 Some analysts, however, were scep-

tical of McDonald’s loss-leaders (or price cutting on

selective items) strategy since they believed that cus-

tomers attracted purely by these low prices would

not pay repeat visits. The development of a local low-

cost supply chain was a second key enabling factor in

McDonald’s pricing strategy.

Advertising and promotion

Some elements of the McDonald’s promotional strat-

egy remained the same as in other parts of the world

– especially its emphasis on attracting children. A

Happy Meal ﬁlm had been consistently shown on the

Cartoon Network and Zee (a popular local channel)

Disney Hour. McDonald’s had also teamed up with

Delhi Trafﬁc Police and Delhi Fire service to highlight

safety issues, again trying to create goodwill among

schoolchildren.20 In late 2002, McDonald’s held a

children’s painting competition across all its outlets in

Delhi. As many as 5000 children participated in the

competition and a selection of 12 paintings (screened

by some of India’s noted artists) were printed and sold

as greeting cards. The proceeds from the sale of greet-

ing cards would go towards restoring vision, through

corrective surgeries, for needy children.21 The com-

pany embarked on its ﬁrst nationwide promotional

campaign in June 2000. The campaign, budgeted at

Rs 100 million, was expected to highlight (in phased

order) the brand (the experience: There is something

special about McDonald’s), food quality and variety.22

The company also ran special promotions during fes-

tivals and vegetarian days, and was even developing

garlic-free sauces to bring in ‘hard-core’ vegetarian

trafﬁc.23

In November 2000, McDonald’s launched a mas-

sive Get Lucky promotional scheme in collaboration

with MTV, Sony Music, Coca-Cola, Hungama.com

and General Motors. Under the scheme, customers

buying a large meal combo, priced at between Rs 69

and Rs 89, would receive a scratch card. Customers

could win giveaways such as caps, T-shirts, audiotapes

and CDs, Internet browsing cards, and free tickets to

a concert by Lucky Ali (a popular local singer). Pur-

chase of a second meal combo within the same month

would make customers eligible for lucky draws whose

prizes included a trip to New Zealand and an Opel

Corsa car. This was the ﬁrst high-proﬁle program

launched by the company for adults – speciﬁcally,

Case 8 • The Golden Arches in India C-101

young parents. In May, the company had launched

a promotional program for children coinciding with

summer vacations.24 The Get Lucky campaign devel-

oped some snags a few months later, since many of the

promised giveaways – such as trips to New Zealand,

Opel Corsa cars and even the Lucky Ali concert – had

not materialised.25

In March 2001, McDonald’s India increased

its advertising expenditure from Rs 150 million to

Rs 200 million. In June 2002, having induced trial

from a number of potential customers, McDonald’s

was aiming to generate repeat visits from customers.

It changed its advertising slogan to Let’s have McDon-

ald’s today (in Hindi: To Aaj McDonald’s ho jaaye)

versus the earlier theme of There is something special

about McDonald’s (in Hindi: McDonald’s main hain

kuch baat) launched in mid-2000. The objective of the

new campaign was to position McDonald’s as a com-

fort zone for young families. The company’s adver-

tising and promotional budget for 2002 was ﬁxed at

Rs 180 million.26

Community involvement

and citizenship behaviour

McDonald’s was involved in a variety of community

welfare projects, including the following:

• It maintained public parks in Delhi and had

taken up the responsibility for the maintenance

and upkeep of two trafﬁc triangles at a busy

trafﬁc junction in Mumbai.

• It was also helping in maintaining heritage

structures of historic importance.

• It was the ﬁrst fast-food restaurant chain in

Delhi to withdraw the use of polythene bags

in restaurants, replacing them with recyclable

paper bags.

• It was playing a leading role in a campaign to

detoxify one of India’s major rivers by installing

grease traps to separate oil from water before

discharging into the drainage system.

• It treated all efﬂuent material before disposal. It

also segregated plastic, paper and liquid wastes

into recycling versus discharge.

• It had participated in the Pulse Polio Awareness

rally by sponsoring food and drinks for the

volunteers. In 2001, it went a step further and

set up a vaccination booth outside its restaurant

in Pune.

Targeting markets

In terms of selection of cities, McDonald’s followed

the same strategy in India as in the rest of the world.

Its initial focus on Mumbai and Delhi was driven by

the following factors: these were the two largest cities

in India, their citizens enjoyed relatively high income

levels compared to the rest of the country, and they

were exposed to foreign food and culture. After estab-

lishing a presence in leading cities, it then moved to

smaller satellite towns, near the metropolitan cities

(for example, from Delhi to Gurgaon and Noida,

both suburbs of Delhi, and from Mumbai to Pune).

McDonald’s often found that there were positive

spillover effects, in terms of its reputation, from the

metropolitan cities to the satellite towns. In Jaipur,

the company was hoping to attract foreign tourists.

(See Exhibit 5 for a brief proﬁle of the key cities on

McDonald’s radar screen.)

Developing the supply chain

Even before it opened the ﬁrst restaurant, McDonald’s

spent as much as Rs 500 million (US$12.8 million)

to set up a supply network, distribution centres and

logistics support. By mid-2000, some estimates placed

the total investment in the supply chain at almost

Rs 3 billion.27 Local suppliers, distributors and joint

venture partners and employees had to match the res-

taurant chain’s quality and hygiene standards before

they became part of its system. McDonald’s experi-

ence in identifying and cultivating the supplier of let-

tuce provided an excellent illustration of the difﬁcul-

ties involved. In 1991, hardly any iceberg lettuce was

grown in India, except for a small quantity grown

around Delhi during the winter months. McDonald’s

identiﬁed a lettuce supplier (Mr Mangesh Kumar

from Ootacamund in Tamilnadu, a southern state)

and helped him in a broad range of activities from

seed selection to advice on farming practices. For sev-

eral other suppliers, such as Cremica Industries which

supplied the sesame seed buns, McDonald’s helped

them to gain access to foreign technology. In another

instance, it encouraged Dynamix, the supplier for

C-102 Case 8 • The Golden Arches in India

cheese, to establish a program for milk procurement

by investing in bulk milk collection and chilling cen-

tres. This, in turn, led to higher milk yields and over-

all collections, as well as an improvement in milk

quality. McDonald’s ended up with a geographically

diverse sourcing network with buns coming from

North India, chicken and cheese coming from West-

ern India, and lettuce and pickles coming from south-

ern India. By 1999, it was sourcing 98 per cent of

the ingredients and paper products from India. The

only exception was French fries, which were imported

from Indonesia.28 There were as many as 40 suppliers

in the company’s supply chain.29

A dedicated distribution system was established

to match the suppliers’ production and delivery sched-

ules with the restaurants’ needs. The ﬁrst two cen-

tralised distribution centres were set up near Mumbai

and at Cochin (in the southernmost part of India)

in joint ventures with two local retailers, both of

whom had to learn from international distributors of

McDonald’s products how the restaurant chain han-

dled distribution worldwide and particularly how to

enhance the quality of storage operations. The com-

pany estimated that each distribution centre could

service about 25 outlets.

McDonald’s strove to keep the storage volumes

of products high in order to exploit all possible econ-

omies of scale. The distribution centres were also

expected to maintain inventory records and interact

with suppliers and the logistics ﬁrm to make sure that

their freezers were well stocked. McDonald’s Qual-

ity Inspection Programme (QIP) carried out quality

checks at over 20 different points at various stages in

the movement of goods from farms to restaurants. It

Exhibit 5 Proﬁle of the Indian cities targeted by McDonald’s

Place

Population

Remarks State

Annual

per capita

income in Rs

(1997/98)1

Annual

per capita

income in Rs

(1997/98)2

1991 2001

Agra 892 1 076 Tourist attraction; home to

the T

aj Mahal

Uttar Pradesh 7 263 5 890

Jaipur 1 459 1 893 Major tourist attraction Rajasthan 9 356 7 694

Chandigarh 504 790 Capital city of two

northern states, Punjab and

Haryana

Punjab and

Haryana

19 500 14 457

Ahmedabad 2 955 3 823 Major business centre in

western India

Gujarat 16 251 13 709

Vadodara/

Baroda

1 031 1 454 Business centre Gujarat 16 251 13 709

Mumbai 9 926 12 903 Commercial capital of India Maharashtra 18 365 16 217

Pune 1 567 2 004 Satellite town of Mumbai;

manufacturing centre

Maharashtra 18 365 16 217

Ludhiana 1 043 1 482 Textile manufacturing

centre in North India

Punjab 19 500 14 457

Delhi 9 119 13 661 Capital city; seat of the

central government

Delhi 22 687 19 091

Bangalore 2 660 3 637 India’s Silicon Valley Karnataka 11 693 11 153

Notes: 1 Income data from Per Capita Income (State-wise) – Maps of India. The ﬁgures refer to the whole state and not the particular cities. Income levels for cities

are likely to be somewhat higher than the ﬁgures for the whole states.

2 Income data from The Associated Chambers of Commerce and Industry of India http://203.122.1.245/assocham/prels/04181.asp. The ﬁgures refer to the

whole state and not the particular cities. Income levels for cities are likely to be somewhat higher than the ﬁgures for the whole states.

Source: Population data from www.world-gazetteer.com/fr/fr_in.htm.

Case 8 • The Golden Arches in India C-103

had adopted Hazard Analysis Critical Control Point

(HACCP) – a systematic approach to food safety that

emphasised prevention within suppliers’ facilities and

restaurants rather than detection through inspection

of illness or presence of microbiological data. Mr

Amit Jatia had the following comment:

The most important part of our operations was

developing a cold chain (the process of procure-

ment, warehousing, transportation and retailing

of food products under controlled temperatures).

There is practically no need of knife in any rest-

aurant. All the chopping and food processing is

done in the plants. Only the actual cooking takes

place in the restaurants.30

Even with the suppliers and distribution system

in place, McDonald’s needed a distribution link to

move raw materials to its restaurants. Logistics

management was contracted out to AFL Logistics

– itself a 50:50 joint venture between Air Freight (a

Mumbai-based ﬁrm) and FX Coughlin of the United

States, McDonald’s international logistics provider.

AFL logistics was responsible for the temperature-

controlled movement of all products (by rail, road

or air, as appropriate) from individual suppliers to

regional distribution centres. McDonald’s had to

work extremely hard at inculcating a service orien-

tation in its employees, especially those involved in

physical logistics, since the freshness of the food was

at stake. The truck operators had to be explicitly

and clearly instructed not to switch off the trucks’

refrigeration system to save on fuel or electricity. The

corporation went to the extent of installing tracking

devices, which would show the temperature chart

through the entire journey.31

Since 1999, McDonald’s had started using India

as an export base for cheese, lettuce and other prod-

ucts that went into its burgers. Exports had already

begun to Sri Lanka where it had opened in October

1998, and trial shipments had commenced to Hong

Kong and the Middle East. The company was also

trying to export its products to Europe, Russia and

Southeast Asia. 32 Amit Jatia had the following com-

ment: ‘Things are becoming global in nature. Once

you set up a supply chain in a strategic location it can

service other countries as well.’33

Past performance and

planned strategies

During its ﬁrst 12 months of operations, McDonald’s

opened seven outlets (four in Delhi and three in Mum-

bai), had 6 million customer visits and had served up

350 000 Maharaja Macs. By the end of 1998, the

number of outlets had increased to 14, and, by mid-

2000, to 25 outlets, with an outlet in Pune and Jai-

pur in addition to 13 in Delhi and 10 in Mumbai. By

December 2000, it had opened another 21 outlets to

bring the total to 46.

McDonald’s success was especially notable in

view of the fact that KFC, which had entered the Indi-

an market at about the same time, had pulled out dur-

ing the year.34

According to one estimate, in June 2002, McDon-

ald’s 38 restaurants (operating at the time) averaged

about 4000 customer visits per day.35 Over the previ-

ous four years, the number of transactions had grown

at a 15 per cent annual rate.36 The spending per cus-

tomer visit at McDonald’s was estimated at around

Rs 45. One gratifying aspect of McDonald’s success

was the fact that, by mid-2000, it derived as much as

50 per cent of its revenues from vegetable food items,

thus disproving its critics – especially those who were

sceptical of its ability to serve food that suited Indi-

an palates. In 1997, McDonald’s food was classi-

ﬁed by consumers as being bland. Within three short

years, however, McDonald’s was being sought for its

unique taste.37 The vegetarian pizza McPuffs, which

combined pizza ingredients with samosas (an Indian

snack), and Chicken McGrill seasoned with mayon-

naise and extra-tangy Indian spices, had proved to

be particularly popular.38 It had also attracted some

loyal customers with its value pricing and localised

menu. One such customer said:

A normal kebab with all the trimmings, at a regular

restaurant would cost more than Rs 25 and if the

new McGrill is giving us a similar satisfaction with

its mint chutney (sauce), then we’d rather eat in a

lively McDonald’s outlet than sitting in a cramped

car on the road.

To exploit the opportunities created due to its

better brand awareness and customer acceptance,

C-104 Case 8 • The Golden Arches in India

McDonald’s was following several different strategies.

First, it was increasing the seating capacity in several

of its restaurants by adding birthday party areas as

well as expanding general seating areas. Initially, four

restaurants in Delhi had been expanded and more

would follow, depending on the results obtained.

The company was also trying to enter new cities

where there might be demand for McDonald’s fast

food. One outlet each had been opened in cities such

as Ludhiana (north India), Ahmedabad and Baroda

(western India). The secondary cities, typically, had

lower per capita income levels as well as population

density than Mumbai or Delhi, and residents were

also likely to be less open to Western food.

In addition to the traditional outlets in busy loca-

tions within key cities, McDonald’s was also trying

to open outlets in new locations including the follow-

ing:

• at the inter-state bus terminal in New Delhi (one

outlet)

• at airports and railway stations (for example, in

Mumbai and Jaipur)

• on busy highways and in petrol stations

• in malls, multiplexes and cinema halls.

One advantage of these outlets was that they

required lower investment per outlet versus a tradi-

tional format. A key concern, however, was wheth-

er the customer proﬁle would be appropriate. For

example, the highway travellers in India tended to be

mostly truck drivers and bus passengers, who were

not likely to go for the McDonald’s type of food. For

several other types of locations (for example, railways

stations), analysts were wondering whether McDon-

ald’s outlets would generate enough trafﬁc. The wide

variety of formats and the dispersed network of out-

lets would accentuate the problems in maintaining

quality and hygiene standards, as well as the infra-

structural inadequacies. As Clair Babrowski, presi-

dent of McDonald’s Asia-Paciﬁc operations, who was

very upbeat about the growth prospects in the Indian

market, had said: ‘Part of opening a store is ﬁguring

out who’s going to ﬁx the equipment and how the

deliveries will get there.’39

Analysts were also wondering whether the com-

pany was hasty in trying to expand too fast before

achieving breakeven. On the other hand, having suc-

ceeded in developing the supply chain and creating a

satisﬁed customer base, it seemed to be an opportune

time for the company to expand. In summary, the

pace and degree of expansion posed difﬁcult dilem-

mas and would most likely impact the company’s per-

formance over the next several years.

Notes

1 ‘McDonald’s India to invest Rs 7.5 billion’, http://biz.indiainfo.

com.

2 Approximate exchange rates on 31 December of each year

were as follows:

1997: US$1 = Rs 39.246

1998: US$1 = Rs 42.481

1999: US$1 = Rs 43.516

2000: US$1 = Rs 46.664

2001: US$1 = Rs 48.170

2002: US$1 = Rs 47.870

3 ‘Big Mac at a fast clip’, Business Line, 27 June 2002.

4 ‘McDonald’s plans major investments in India’, http://news.

sawaal.com.

5 ‘McDonald’s expansion plans under review’, Business Line,

2 August 2001.

6 For instance, in June 2002, McDonald’s was predicting that it

would have 54 outlets by the end of 2002. The company ended

the year with 46 outlets.

7 ‘Ronald McDonald to relive Indian dream’, Business Line, 9 March

2001.

8 Wall Street Journal, Europe, June 1999; reproduced at www.

branding-kaeuffer.com.

9 www.odci.gov/cia/publications/factbook/geos/in.html#Econ.

10 ‘Long way for India to go on the retail front’, Business Line,

6 December 2000.

11 ‘Vandana Shiva on McDonald’s exploitation and the global

economy’, www.mcspotlight.org.

12 ‘McDonald’s expansion plans under review.’

13 ‘Look who’s going native’, Far Eastern Economic Review, 1 February

2001.

14 ‘McDonald’s shifts to product-focused ads’, Business Line,

8 September 2000.

15 ‘Look who’s going native.’

16 ‘Happy birthday, Maharaja Mac! One year later: McDonald’s in

India’, www.media.mcdonalds.com.

17 ‘Of PPPs, Big Macs and exchange rates’, Business Line, 8 May

1999.

18 ‘McDonald’s reworks its menu’, www.india-today.com.

19 ‘Dinner on discount’, Business Line, 25 February 1999.

20 ‘McDonald’s readies expansion model – restaurants to come up

in Pune, Jaipur and Bangalore’, www.hindubusinessonline.com.

21 ‘Bestowing vision’, Business Line, 18 November 2002.

22 ‘McDonald’s goes for media splash’, Business Line, 3 April 2000.

Case 8 • The Golden Arches in India C-105

23 ‘McDonald’s readies expansion model.’

24 ‘McDonald’s to dish out mega promotions’, Business Line,

2 November 2000.

25 ‘India: Bic Mac: not a lucky promo’, Business Line, 20 March 2001.

26 ‘Big Mac at a fast clip.’

27 ‘McDonald’s readies expansion model.’

28 ‘McJatia tickles Bombay’s tastebuds, builds an empire, all in two

years, The Rediff Business Special’, www.rediff.com.

29 ‘Big Mac sets eyes on south’, Business Line, 24 February 2001.

30 ‘McJatia tickles Bombay’s tastebuds.’

31 ‘Jatia forayed into McDonald’s foodbiz by chance, The Rediff

Business Special’, www.rediff.com.

32 ‘McDonald’s to head south’, Business Line, 21 April 2002.

33 ‘India to be McDonald’s expor t base’, www.indianexpress.

com.

34 ‘Look who’s going native.’

35 Since each restaurant was designed with a seating capacity of

150, this meant a turnover of about 26 times during the course

of the day. ‘Big Mac at a fast clip.’

36 ‘Big Mac at a fast clip.’

37 ‘McDonald’s shifts to product-focused ads.’

38 ‘Look who’s going native’; ‘McDonald’s readies expansion

model.’

39 ‘Risky business’, Chain Leader, 7(11), November 2002,

pp. 63–7.

C-106

Case 9

Monsanto*:

Better living through genetic

engineering?

Seth Brooks Melissa Schilling John Scrofani

Early in the year 2000, Monsanto Company merged

with Pharmacia & Upjohn, forming Pharmacia Cor-

poration, and making Monsanto part of the third-

largest pharmaceutical company in the world. Later

that year, Monsanto raised cash through a partial (15

per cent) initial public offering. As of March 2001,

Monsanto employed 14 700 people, and at the helm

was the president and chief executive ofﬁcer, Hendrik

Verfaillie.

Verfaillie faced a number of interesting challenges.

Monsanto was a company that had, over the last

decade, dramatically reinvented itself. Throughout

the 20th century, Monsanto had acquired many com-

panies, expanding into a diverse range of business-

es. However, when Bob Shapiro had stepped into the

ofﬁce of CEO in 1993, he restructured the company

to be more focused on ‘life sciences’ – or the combi-

nation of science and technology to ﬁnd solutions for

growing global needs. Explosive innovation in bio-

technology had unleased a vast range of new potential

products and offered the allure of tapping new, fast-

growing markets. As of 2001, Monsanto had a new

capital structure, and a new portfolio focused entirely

on applying biotechnology to agriculture.

Though the company had pared down its

corporate portfolio in order to have more strategic

direction, Monsanto’s move towards life sciences was

not without its problems. One of the most successful

applications of biotechnology to Monsanto’s business

had been Roundup® – a popular agricultural herbi-

cide that worked in conjunction with genetically mod-

iﬁed crop seeds. The combination of a powerful her-

bicide and crop seeds that are genetically modiﬁed to

resist the herbicide had been a profound innovation,

and had dramatically increased crop yields. By 1996,

Roundup® accounted for 17 per cent of Monsanto’s

total annual sales.1 However, Monsanto’s patents on

Roundup® had begun to expire in several countries

in 1991, and expired in the United States in Septem-

ber 2000. To make matters worse, strong negative

consumer perceptions of genetically modiﬁed (GM)

foods began to surface towards the end of the decade,

severely retarding the company’s sales in Europe and

beginning to threaten Monsanto’s American markets

as well.

* This case has been prepared as the basis for class discussion rather than to illustrate either effective or ineffective handling of an administrative

situation.

Case 9 • Monsanto C-107

The science of life

Monsanto is an industry leader in the bioengineer-

ing of foods. ‘The term “biotechnology” refers to the

use of living organisms or their products to modify

human health and the human environment,’ accord-

ing to the National Health Museum’s website.2

For thousands of years, from the time human

communities began to settle in one place, cultivate

crops and farm the land, humans have manipulated

the genetic nature of the crops and animals they

raise. Crops have been bred to improve yields,

enhance taste and extend the growing season.

Each of the 15 major crop plants, which provide 90

percent of the globe’s food and energy intake, has

been extensively manipulated, hybridized, inter-

bred and modiﬁed over the millennia by countless

generations of farmers intent on producing crops

in the most effective and efﬁcient ways possible.3

Many scientists argue that genetic engineering is

simply a ‘… reﬁnement of the kinds of genetic modi-

ﬁcation that have long been used to enhance plants …

for food’.4 The science of genetics and the understand-

ing of why physical traits are passed from parent

to child began over a century ago. German scien-

tist Gregor Mendel conducted the ﬁrst experiments

aimed at understanding the science behind genetic

inheritance. Mendel used artiﬁcial hybridisation, the

fertilisation of the ﬂower of one species by the pollen

of another species, on thousands of plants, record-

ing the traits of the successive generations. In 1865

he published a paper about his work, ‘Versuche über

Pﬂanzen-Hybriden’ (Experiments in Plant Hybri-

disation).5 The idea that physical traits are passed

through generations of organisms created the new

ﬁeld of science focused on genetics.

In 1953, James Watson, a US biologist, and Fran-

cis Crick, an English biophysicist, discovered the

structure of DNA (deoxyribonucleic acid).6 DNA

works like a blueprint to deﬁne all characteristics, or

traits, of an organism. A DNA molecule has a double-

helix shape, like a twisting stepladder. DNA strands

are quite similar to a written language. The ‘letters’ of

this genetic language are formed by the DNA nucleo-

tides, which are the ‘steps’ in the DNA stepladder.

The ‘words’ in the genetic language are formed of

codons, each codon consisting of three nucleotides.

The ‘sentences’ in the genetic language are genes,

which are made up of many codons. A ‘book’ in the

genetic language is an entire string of DNA, which

deﬁnes all the characteristics of an organism.

Modern understanding of the chemical properties

of DNA allows scientists to ‘cut’ the DNA strand at

a certain point in the stepladder using enzymes that

are produced naturally by some bacteria. With this

enzyme technology, scientists can ‘cut’ away a desir-

able gene from one organism, then ‘paste’ that gene

into another organism, forming what is called a recom-

binant DNA strand (see Exhibit 1). It is through this

cutting and pasting of genes that scientists can give

organisms traits that they previously did not have,

without the use of the longer and more ambiguous

process of cross-fertilisation.

Genetically engineered crops and

herbicide

Without efﬁcient crop protection products, world-

wide yields would fall by an average of 30 to 60

per cent. They would also ﬂuctuate wildly.7

Farmers across the world can either choose to spray

their crops with some form of herbicide, or they can

till their land on a daily basis, drastically decreasing

Exhibit 1 Cutting and pasting DNA

Source: Modiﬁed from http://esg-www.mit.edu:8001/bio/rdna/cloning.html.

C-108 Case 9 • Monsanto

their productivity. If they do choose herbicide, they

can go the path of buying very effective and expen-

sive proprietary products such as Roundup®, or they

can buy the cheaper alternative generic brands such as

Squadron, Storm or Post Plus. A 1997 study indicated

that Roundup® clearly outperformed these generic

brands. The results showed that Roundup® led to a

net income per acre of US$235 compared to the oth-

ers, which produced US$209 per acre (see Exhibit 2).

Roundup® cost about US$34 per gallon compared to

generic brands that cost US$15–$20 per gallon.8 In

1998, Monsanto lowered the cost of Roundup® by

US$6 to US$10 per gallon in order to increase sales

volume and to better compete with generic compa-

nies. Generic products were popular in developing

countries where it was difﬁcult for farmers to afford

proprietary products.9 Furthermore, competing with

generic brands had become particularly important as

Roundup’s patents began to expire.

Roundup® herbicide technology

Roundup® is a wide-spectrum herbicide, meaning that

it is toxic to any plants it comes in contact with. As

noted in the Mother Jones environmental journal, ‘…

its main ingredient, glyphosate, breaks down quickly

in soil, so that little or no toxic byproduct accumu-

lates in plant or animal tissue – a detail that Mon-

santo highlights when describing itself as an envi-

ronmentally friendly company.’10 As of March 2001,

Roundup® had been used commercially for more than

20 years and was used in over 100 countries. It was

estimated that in 1998, worldwide use of glyphos-

phate exceeded 112 000 tons, and that 71 per cent

of all genetically engineered crops planted that year

were designed to be resistant to herbicides such as

Monsanto’s Roundup®.11

Roundup Ready® crops

Monsanto markets several agricultural products that

have been genetically modiﬁed to tolerate Roundup®

herbicide. These crops, including Roundup Ready®

soybeans, Roundup Ready® canola and Roundup

Ready® cotton, are sold to farmers. Roundup Ready®

soybeans, the ﬁrst of Monsanto’s Roundup Ready®

genetically modiﬁed crops, was approved for com-

mercialisation in 1995.

Roundup® herbicide is a broad-spectrum herbi-

cide which controls a wide range of broadleaf and

grass weeds. Most herbicides used in crops are selec-

tive, and only control certain types of weeds. Farm-

ers using Roundup Ready® soybean seeds can use

Roundup® herbicide to control weeds in their crop.

If Roundup® herbicide were applied over the top of

a conventional soy crop, it would kill the crop as

well as the weeds. Apart from the ability to toler-

ate Roundup®, the crop is klike any other soy crop.

Farmers can still use all the traditional herbicides they

would with a conventional crop, and the composition

of the soybeans produced is equivalent to a conven-

tional soabean crop.

Monsanto enters into agreements with farmers

who grow Roundup Ready® crops. These agreements

Exhibit 2 Roundup® versus generic glyphosate brands

Herbicide treatment SOG Yield BU/A Net income/Acre

Squadron 3 pts PRE 33.6 US$209.20

Storm 1.5 pts + Poast Plus 24 oz 21 DAP + 7 Later 33.6 US$204.70

Roundup Ultra 32 oz 28 DAP 36.8 US$235.80

The Roundup vs. best conventional herbicide alternative study was designed to evaluate the economics of the Roundup Ready

seed/herbicide system versus conventional herbicide programs. Each herbicide program was applied at labelled rates. Net

income is ﬁgured by multiplying the yield (Bu/A) by US$7 minus herbicide costs, minus a US$4 fee per herbicide application, and

the US$5 tech fee for Roundup Ready soybeans ﬁgured at a bag per acre.

In the systems study herbicide applications were made based on labelled recommendations and no other weed control was

allowed. The systems studies are designed to measure the effectiveness of the herbicide management practices and input costs.

Based on the 1996 trial at Marian AR, the Roundup Ready seed/herbicide system was superior economically to the other two

conventional herbicide programs. These differences can be attributed to advantages in weed control and the removal of crop

stress typically associated with conventional herbicide programs.

Source: www.asgrow.com/gknowled/CRMar96RR5.html, 23 March 1999.

Case 9 • Monsanto C-109

have two main purposes. First, they ensure that grow-

ers are aware of all their regulatory obligations, and

second, they help Monsanto protect their intellectual

property and the investment they have made in Round-

up Ready® technology. Monsanto provides support to

farmers to ensure that they meet their requirements to

be compliant with the law.

Terminal technology

On March 3 1998 the company Delta and Pine Land

Co. (Mississippi, USA) and the U.S. Department

of Agriculture (USDA) announced that they

received US Patent No. 5,723,765 on a new genetic

technology designed to prevent unauthorized seed

saving by farmers.12

The technology enabled the environment to inﬂuence

the characteristics a plant exhibits, even if the parents

of the plant do not have those characteristics. With

this technology it was possible to create genetic char-

acteristics in plants that only emerge if they have the

proper external stimulus. For example, two geneti-

cally altered parent plants can thrive in a moist region

and exhibit characteristics of tropical plants, and

their offspring can be moved to a desert region and

exhibit characteristics of a desert plant, even though

neither parent exhibited these desert characteristics.

Monsanto hoped to capitalise on this technology by

using it to prevent farmers from saving their seeds

from year to year (and thus forgoing purchasing them

from Monsanto). Monsanto would have utilised this

technology by altering the plant’s reproductive sys-

tem so that, unless a patented chemical was applied to

the seeds at a certain time during their development,

the seeds would be unable to germinate. This tech-

nology would have further strengthened Monsanto’s

ability to enforce its contracts with farmers, by mak-

ing the farmers unable to use seeds harvested from

the plants they grew using Monsanto’s seeds in the

next season.

Monsanto announced its intention to merge with

Delta and Pine Land Co. in the spring of 1998, in

hopes of acquiring this technology. However, in

response to consumer and farmer outrage, Robert

Shapiro wrote an open letter dated 4 October 1999,

stating that Monsanto was making the public a ‘…

commitment not to commercialize sterile seed tech-

nologies, such as the one dubbed “Terminator”. We

are doing this based on input from … a wide range

of other experts and stakeholders, including our very

important grower constituency.’13 Additionally, Sha-

piro wrote: ‘… though we do not yet own any sterile

seed technology, we think it is important to respond

to those concerns at this time by making clear our

commitment not to commercialize gene protection

systems that render seed sterile.’14 Monsanto with-

drew its Department of Justice ﬁling for a merger with

Delta and Pine Land Co. on 20 December 1999.

History of Monsanto

Monsanto’s germination

Monsanto was founded in 1901 by John Francis

Queeny, a 30-year veteran of the Meyer Brothers

Drug Company, with the goal of producing prod-

ucts for the food and pharmaceutical industries. The

company was named after the founder’s wife, whose

maiden name was Olga Mendez Monsanto. In 1902

the St Louis based company began producing saccha-

rin. For several years after, the entire saccharin out-

put was shipped to Georgia-based Coca-Cola Co. The

company soon began producing caffeine and vanilla

as well. In 1917, Monsanto entered the pharmaceu-

ticals business when it became the ﬁrst company to

produce Aspirin.

As a result of ﬁnancial crisis and wartime debt

in the late 1920s, shares were offered to the public in

1927, one year before Edgar Queeny, the son of John

Queeny, succeeded his father as president of the com-

pany. He announced his vision of an era of expansion

into new businesses that would take Monsanto into

the 1930s. This expansion would include immedi-

ate acquisitions that expanded the company into the

rubber, chemicals, textile, paper, leather, soap and

detergents industries. Monsanto also moved into the

plastics and resin industries, the result of which gave

it ownership of the ﬁrst man-made plastic, celluloid.

During the Second World War years, Monsanto

became involved in uranium research for the Man-

hattan Project. This was done in the Mound Plant in

Dayton, Ohio, which was used as a nuclear facility for

the government for the next 40 years. In the 1950s,

Monsanto began to expand its chemical business.

C-110 Case 9 • Monsanto

Through licensing technology from DuPont, the com-

pany began to produce acrylic ﬁbre and nylon. Mon-

santo also entered into the fertiliser industry, as well

as the plastic bottle industry. During this decade,

Monsanto built a plant to produce ultra-pure sili-

cone, which was used as raw material in the electron-

ics industry.

In the 1960s, Monsanto created a new company

division focused exclusively on agriculture. It intro-

duced Lasso® herbicide, and Roundup® followed a

few years later. In the late 1960s, almost a decade

after establishing the agriculture division, Monsan-

to moved into the seed and hybrid swine business

through an acquisition. The 1972 appointment of

John W. Hanley marked the beginning of an era of

heavy investment in biotechnology research.

The 1980s began with a new president being

named: Richard J. Mahoney. Immediately after

assuming the position, Mahoney sold off the com-

modity chemicals portion of Monsanto’s busi-

ness to DuPont. Monsanto used the money for new

research and development, and created new technolo-

gies, including the artiﬁcial sweetener ‘Nutrasweet’

(aspartame). At the beginning of the 1980s, Mon-

santo declared biotechnology as its strategic research

focus. One year after this announcement, scientists

at Monsanto were the ﬁrst to successfully genetically

modify a plant cell. This led to success in growing

plants with genetically engineered traits. Two years

after this success, a major restructuring of the com-

pany took place. Monsanto divested its non-strategic

businesses to consolidate around its core competency,

high-value-added proprietary products.

The 1990s served as a decade of expanding medi-

cine production for Monsanto. Using new techniques

in bioengineering, it was able to create new medi-

cines at a faster pace than ever before. In the early

1990s, it sold its ﬁrst Ambien®, an insomnia treat-

ment, and Daypro®, an arthritis treatment. In 1993,

Robert B. Shapiro was named the new CEO of Mon-

santo. He announced that the company would refocus

its strategy and become a life sciences company. In

the mid-1990s, Monsanto’s ﬁrst genetically modi-

ﬁed crops were approved for commercial sale, includ-

ing Roundup Ready® glyphosate-tolerant soybeans.

Monsanto formed the Solaris Unit, which produced

Ortho®, Greensweep® and Roundup® lawn and gar-

den products.

As part of his effort to restyle Monsanto into an

exclusively life sciences company, in 1997, Shapiro

urged the company to spin off all the chemical parts

of the business into a company called Solutia. Shapiro

saw this as a good way for his company to increase its

proﬁtability by focusing on a key competitive advan-

tage. (See Exhibit 3 for a complete corporate diversi-

ﬁcation timeline.)

Monsanto’s evolved form

On 19 December 1999, Monsanto and pharmaceuti-

cal giant Pharmacia & Upjohn, Co. announced their

intention to merge. The merger was approved by shar-

eowners on 23 March 1999, creating a new entity

called Pharmacia Corporation. Monsanto’s phar-

maceutical business was merged with Pharmacia &

Upjohn’s. According to information provided on the

Pharmacia website at the time of the merger,

Monsanto Company is the wholly owned

agricultural subsidiary of Pharmacia Corporation.

Monsanto is committed to ﬁnding solutions to

the growing global needs for food and health by

sharing common forms of science and technology

among agriculture, nutrition and health.15

(See Exhibits 4 and 5 for Monsanto’s ﬁnancial

information valid at time of merger.)

Monsanto’s suppliers

In its move to become a company oriented around life

sciences, Monsanto had spun off its chemical busi-

nesses that made the chemicals necessary to produce

Roundup®. Though in general it was not dependent

on any single supplier for a signiﬁcant amount of its

raw materials or fuel requirements, certain raw mate-

rials were obtained from a few major suppliers. For

example, Monsanto purchased its North American

supply of elemental phosphorus, a key raw material

for the production of Roundup® herbicide, from P4

Production, LLC, a joint venture between Monsanto

and Solutia Inc.16

On the crop side of the business, Monsanto

had engaged in a spree of mergers and acquisitions,

Case 9 • Monsanto C-111

Exhibit 3 Monsanto’s corporate diversiﬁcation timeline

1901 John F. Queeny founds the original Monsanto. His wife was Olga Monsanto Queeny. The ﬁrst product of that

company was saccharine.

1945 The original Monsanto produces and markets agricultural chemicals, including 2,4D.

1960 The Agricultural Division is established.

1964 Ramrod herbicide is introduced, beginning the use of Western theme names for the original Monsanto’s brands of

herbicides.

1968 Commercialization of Lasso herbicide in the U.S. begins the trend toward reduced-tillage farming.

1975 A cell biology research progam is established in the Agricultural Division.

1976 Roundup herbicide is commercialised in the U.S.

1981 A molecular biology group has been set up and biotechnology is ﬁrmly established as Monsanto’s strategic research

focus.

1982 Scientists working for the original Monsanto are the ﬁrst to genetically modify a plant cell.

1982 The original Monsanto acquires the Jacob Hartz Seed Co., known for its soybean seed.

1984 The Life Sciences Research Center opens in Chesterﬁeld.

1987 The original Monsanto conducts the ﬁrst U.S. ﬁeld trials of plants with biotechnology traits.

1994 The original Monsanto’s ﬁrst biotechnology product to win regulatory approval, Polilac, bovine somatotropin (Bst)

for dairy cows, goes on sale in the U.S.

1996 The original Monsanto acquires the plant biotechnology assets of Agracetus and purchases an interest in Calgene,

another biotech research company. (The Calgene acquisition was completed the following year.)

1996 The original Monsanto’s ﬁrst plant biotechnology product, Roundup Ready soybeans and canola and Bollgard cotton,

are planted commercially.

1997 YieldGard corn, with protection against the European corn borer, is commercialized.

Asgrow agronomics seed business is purchased by the original Monsanto.

1997 The original Monsanto spins off its industrial chemical and ﬁbers business as Solutia Inc.

1998 The original Monsanto completes its purchase of DeKalb Genetics Corp.

1998 Roundup Ready corn is introduced.

2000 The original Monsanto enters into a merger and changes its name to Pharmacia Corporation.

A new Monsanto Company

2000 A new Monsanto company, based on the previous agriculatural division of Pharmacia, is incorporated as a stand-alone

subsidiary of the pharmaceutical company. (Pharmacia itself eventually becomes a subsidiary of Pﬁzer, in 2003.)

2002 YieldGard Rootworm and YieldGard Plus corn get U.S. approval.

2002 The new Monsanto company is spun off from Pharmacia and is now a separate company.

2003 More than 300 seed companies in the United States have licenses for Monsanto biotechnology traits.

2004 The majority of cotton and soybean seeds planted in the U.S. have at least one biotechnology trait.

Source: www.monsanto.com, 17 August 2004.

expanding its business to incorporate companies

that had previously supplied many of the raw materi-

als that Monsanto used to develop Roundup Ready®

crops. Monsanto acquired or formed long-term

relationships with six seed companies between 1995

and 1997 (see Exhibit 3).

Research and development

Monsanto prides itself on being a company that

develops breakthrough proprietary technology. The

development of Roundup® herbicide in the 1960s

had put Monsanto’s agricultural division into the fore-

front, and scientists in this division were working hard

to develop the next generation of herbicide and seed

systems. In the early 1990s, Bruce Bickner, co-president

of Monsanto’s agribusiness, spent $0.14 per revenue

dollar on R&D compared to the industry average of

$0.09 per revenue dollar.17 However, some felt that

Monsanto’s focus on R&D-based proprietary products

might cause it to miss out on the large global market for

C-112 Case 9 • Monsanto

crop protection. It was estimated that by 2001, 53 per

cent of the world agrochemical market would consist of

generic chemicals (rather than proprietary chemicals).18

In most countires Monsanto’s sales growth was weaker

than sales growth in the United States (see Exhibits 6

and 7).

Human resources

Monsanto placed considerable emphasis on the value

of its employees. It was often reinforced that excel-

lent management of people was crucial to retain Mon-

santo’s foothold in the market. HR managers were

required to have a master’s degree and at least ﬁve

years of HR management experience ‘… to ensure

proper stafﬁng skills, change management, coaching

and counseling, project management and organiza-

tional design’.19 The senior staff at Monsanto went to

great effort to place people into the positions that ﬁt

them best, believing that a failure to properly allocate

employees would result in a forfeiture of the compa-

ny’s competitive position.

Marketing

Monsanto targeted professional farmers by advertis-

ing Roundup® in magazines such as Farm & Country,

Farm Journal and High Plains Journal.20 The pri-

mary marketing message for Roundup® was that it

was a safe product to use. The productivity increase

enabled by Roundup® was already clear to farmers

– at least those in the United States. As noted in The

Economist,

Americans in general have a positive perception of

technology and are willing to accept the biological

version of it. They are willing to overlook the

fact that they are growing and eating genetically

modiﬁed foods in return for increased yields and

reduced costs.21

Ron Thompson, a corn farmer in Illinois, noted: ‘If

there is a farm that grows corn, canola, soy, or wheat,

then its farmer probably buys Roundup®. It is in his

best interest.’22

Exhibit 4 Monsanto’s statement of consolidated income (loss) (US$mn)

2000 1999 1998

Net sales 5 493 5 248 4 448

Cost of goods sold 2 770 2 556 2 149

Gross proﬁt 2 723 2 692 2 299

Operating expenses:

Selling, general and administrative expenses 1 253 1 237 1 135

Research and development expenses 588 695 536

Acquired in-process research and development 402

Amortisation and adjustment of goodwill 212 128 77

Restructuring – net 103 22 94

Total operating expenses 2 156 2 082 2 244

Income from operations 567 610 55

Interest expense (net of interest income of $30, $26 and $27 in 2000,

1999 and 1998, respectively) (184) (243) (94)

Other expense (income) – net (49) (104) (21)

Income (loss) before income taxes and cumulative effect of accounting

change 334 263 (60)

Income tax provision (159) (113) (65)

Income (loss) before cumulative effect of accounting change 175 150 (125)

Cumulative effect of a change in accounting principle, net of tax beneﬁt of

US$16 million (26)

Net income (loss) 149 150 (125)

Source: Data from Monsanto Annual Report 2000.

Case 9 • Monsanto C-113

Exhibit 5 Monsanto’s statement of consolidated ﬁnancial position (US$mn)

Assets 2000 1999

Current Assets:

Cash and cash equivalents 131 26

Trade receivables, net of allowances of $171 in 2000 and $151 in 1999 2 515 2 028

Miscellaneous receivables 283 350

Related party loan receivable 205

Related party receivable 261

Deferred tax assets 225 130

Inventories 1 253 1 440

Other Current Assets 100 53

Total Current Assets 4 973 4 027

Property, Plant and Equipment

Land 69 82

Buildings 766 708

Machinery and equipment 2 688 2 187

Computer software 190 155

Construction in progress 746 726

Total property, plant and equipment 4 459 3 858

Less accumulated depreciation 1 800 1 639

Net Property, Plant and Equipment 2 659 2 219

Goodwill (net of accumulated amortisation of $290 in 2000 and $183 in 1999) 2 827 3 081

Other Intangible Assets (net of accumulated amortisation of $506 in 2000 and

$362 in 1999)

779 935

Other Assets 488 839

Total Assets 11 726 11 101

Liabilities and Shareowner’s Equity

Current Liabilities:

Short-term debt 158

Related party short-term loan payable 635

Short-term debt of parent attributable to Monsanto 89

Accounts payable 525 466

Related party payable 162

Accrued compensation and beneﬁts 172 147

Restructuring reserves 38 26

Accrued marketing programs 181 256

Miscellaneous short-term accruals 886 720

Total Current Liabilities 2 757 1 704

Long-term debt 962

Long-term debt of parent attributable to Monsanto 4 278

Postretirement Liabilities 367

Other Liabilities 299 474

Shareowners’ Equity

Common stock (authorised: 1 500 000 000 shares, par value $0.01

Issued: 258 043 000 shares in 2000 3

Additional contributed capital 7 853

Parent company’s net investment 4 926

Retained earnings 2

Accumulated other comprehensive loss (479) (281)

Reserve for ESOP debt retirement – attributable to Monsanto (38)

Total Shareowners’ Equity 7 341 4 645

Total Liabilities and Shareowners’ Equity 11 726 11 101

Source: Data from Monsanto Annual Report 2000.

C-114 Case 9 • Monsanto

Distribution

On 12 July 1999, Monsanto signed an agreement

making Scott’s Company the sole marketing and dis-

tribution agent of Roundup® in the United States.

Scott’s was the most recognised agent of garden

products in the US.23 Prior to this, Monsanto dis-

tributed Roundup® through the Central Garden and

Pet Company, which sold Roundup® to retailers and

sometimes directly to farmers. Global opportunities

had also caught Monsanto’s attention. ‘The interna-

tional potential for our existing biotechnology traits

is roughly double the acreage potential within North

America,’ noted Verfaillie. In July 1998, Monsanto

purchased Cargill Seed Business, an already estab-

lished worldwide seed company with operations and

distribution in 51 countries in Central and South

America, Europe, Asia and Africa, in order to gain

quicker access to these markets.24

As part of its strategy to lessen its reliance on US

sales and increase the acceptance of biotechnology

internationally, Monsanto’s near-term plans includ-

ed: (1) working with the Brazilian government and

other stakeholders to obtain approval for planting

Roundup Ready® soybeans in Brazil; (2) accelerating

Exhibit 6 Monsanto’s sales by region (US$mn)

Year

Sales (US$mn)

1995 1996 1997 1998 1999

United States

Europe – Afric

Latin America

Asia – Pacific

Canada

Exhibit 7 Monsanto’s trade receivables by region (US$mn)

Year

US$mn

1996 1997 1998 1999

100

200

300

400

500

600

700

800

900 US agricultural

product distributors

Customers in Latin

American Southern

Cone Counties

European agricultural

product distributors

Pharmaceutical

distributors worldwid

Customers in the

former Soviet Union

Customers in

South-East Asia

Case 9 • Monsanto C-115

the commercialisation of Roundup Ready® corn

by securing a licence to import grain grown from

Roundup Ready® seeds into Europe; and (3) expand-

ing its markets in Asia by securing the approval of

Bollgard insect-protected cotton in India.25

Levelling the ﬁeld

Monsanto faced several large competitors. One giant

in the market was American Home Products (AHP),

whose agricultural subsidiary, Cynamid Corpora-

tion, competed directly with Monsanto through a

heavy focus on R&D and marketing.26 It had intro-

duced alternative products that had the same chemi-

cal base as Roundup® and thus could be used with it.

DuPont Corporation and Novartis Corporation also

competed with Monsanto and its parent company,

Pharmacia, primarily in the areas of pharmaceuticals,

chemicals and consumer home products. The patent

expiration of glyphosate had further opened opportu-

nities for companies to enter the agribusiness, an area

that had long been dominated by Monsanto.

Patent expiration

Roundup® herbicide was registered for use in 1974.

By 1991 patents protecting it had expired in several

countries, including Australia. Patent protection

for the active ingredient in the herbicide expired in

the United States in September 2000.27 Having had

patent protection on the production and sale of

Roundup® herbicide, Monsanto now stood on the

threshold of competing with other chemical ﬁrms that

made glyphosate-based herbicides. Monsanto began

lowering prices on Roundup® in markets where pat-

ent expiration was most likely to impact sales. Mon-

santo hoped to recoup in volume what it would lose

in proﬁt margins.

On 19 January 1999, Dow Chemical Company

subsidiary Dow AgroSciences LLC and Monsanto

announced a multi-year manufacturing agreement

that also licensed the rights to Monsanto’s patent data

for glyphosate herbicide.

The agreement will allow Dow AgroSciences to

sale globally. However, Dow AgroSciences will not

be able to reference Monsanto data when registering

its products for use in Japan. Additionally, the

agreement allows Dow AgroSciences to use its

own brand of glyphosate herbicide over the top

of Roundup Ready® soybeans and cotton in the

year 2000 in the United States, and beginning in

2001, over the top of Roundup Ready® corn in the

United States.28

DuPont

DuPont was an extremely large company with US$28

billion in sales in 1999.29 Its business was split fairly

evenly between three divisions: Chemicals (which

DuPont is most widely known for), pharmaceuticals

and life sciences. From 1998 to 2000, its herbicide

share in the soybean market had slipped from 30 per

cent to 12 per cent due to inroads by Roundup®, and

the company was forced to slash 800 jobs in the agri-

cultural division.30 However, in 2000, the company

began producing herbicides similar to Roundup®

under a licensing arrangement from Monsanto.

Novartis

Novartis competed in the areas of consumer health,

healthcare and agribusiness with US$25 billion in

sales in 1999.31 The company was founded in 1758

under the name Ciba Geigy, and began by producing

chemicals, dyes and drugs of all kinds. At the time

of Monsanto’s inception in 1901, Ciba was a market

leader in artiﬁcial sweeteners. Like Monsanto and

AHP, it competed worldwide, offering herbicides,

insecticides, plant activators and seed treatment.

While Novartis had not developed any breakthrough

agricultural products in recent years, it did have the

highest capital-spending budget for R&D in crop

protection technologies.32 It also licensed glyphosate

from Monsanto for use in its herbicide products.

American Home Products

As mentioned previously, American Home Products

(AHP) posed a signiﬁcant threat to Monsanto. Its

acquisition of Cynamid Corporation in 1994 signif-

icantly strengthened the company on a global basis,

placing AHP among the top-tier in sales of agricul-

tural sciences.33 AHP’s sales jumped from US$8.9

billion in 1994 to US$13.3 billion in 1995, due to the

acquisition of Cynamid.34 However, AHP showed a

C-116 Case 9 • Monsanto

net loss of US$1.2 million in 1999, due to the mass

restructuring of the organisation to accommodate the

new agricultural company. In addition, it conducted

a nationwide inventory buyback program of soy-

bean seeds in order to prepare for Cynamid’s future

herbicide products. This reduced 1999 net sales by

US$175 million.35

AHP’s focus on market research and R&D result-

ed in the development of an improved alternative to

Roundup® products, EXTREMETM herbicide and

PURSUIT residual. EXTREMETM used glyphosate,

the same main ingredient used in Roundup®, and com-

bined it with a residual agent PURSUIT, which pre-

vented new weeds from growing up to six days after

application.36 The customer could not get this ben-

eﬁt from using Roundup® alone. When AHP asked

customers how to improve Roundup®, 85 per cent of

them responded, ‘Give it residual control.’37 The two

companies, Cynamid (AHP) and Monsanto, signed a

multi-year agreement in July 1999 in which Cynamid

(AHP) would be allowed to purchase the glyphosate

for use in EXTREMETM.38 Since the product could

be used in conjunction with the glyphosate-immune

seeds sold by Monsanto, AHP was able to beneﬁt by

Monsanto’s large installed base of existing customers

(see Exhibit 8).

Growing concerns

The genetically modiﬁed food industry had long

faced opposition in Europe, and was facing increasing

criticism in the United States. In addition, Monsanto

in particular was facing charges of misleading adver-

tising, and that Roundup®’s primary active ingre-

dient, glyphosate, had been linked to illnesses that

included a form of cancer known as non-Hodgkin’s

lymphoma.

Patenting life

Although in the year 2000 the controversy over bio-

engineered foods was only beginning in the United

States, other countries had advocated against the sale

of GM food for years. The use of biotechnology to

create genetically modiﬁed food ‘… has set off a ﬁre-

storm among European consumers’.39 In the Euro-

pean Union, a legal and political battle had ensued

over whether or not to allow companies to patent ‘life’

(that is, gene sequences which they have either discov-

ered or engineered).

In 1988, the European Commission ﬁrst proposed

a patent directive (law) which would have allowed

such patents. Seven years later, in 1995, the

European Parliament (EP) rejected this legislative

proposal because it deemed the patenting of life-

forms unethical. But in 1998, the Parliament

succumbed to pressure from the biotech industry

and adopted the ‘Life Patents Directive’. However,

the Directive is now being challenged before the

European Court of Justice and it is still not certain

whether the industry will get what it wants. In

addition, matters are made even more complicated

by the existence of a parallel patenting system, the

much older European Patent Convention (EPC),

Exhibit 8 Global herbicide sales of American Home Products/Monsanto (US$mn)

1997 1998E 1999E 2000P 2001P 2002P 97–02 ‘CGR

Roundup $2 188 $2 450 $2 650 $2 850 $2 850 $2 850 5%

Pursuit 540 570 600 625 650 675 5%

Prowl/Stomp 314 325 340 360 380 400 5%

Scepter 117 135 165 195 225 250 16%

Lasso/Harness 390 360 360 360 360 360 –2%

BST 160 190 210 230 250 270 11%

Squadron 68 80 95 110 125 140 16%

Other Herbicides 448 490 550 610 660 700 9%

Total Herbicides $4 225 $4 600 $4 970 $5 340 $5 500 $5 645 6%

% Change 15% 9% 8% 7% 3% 3%

Note: E = Estimated, P = Predicted. Source: Pharmaceutical Industry Pulse Part 6, SG Cowen Securities Corporation, 1 October 1998.

Case 9 • Monsanto C-117

Exhibit 9 Greenpeace’s labelling guidelines

Policy Concerning the Labelling and Declaration of Genetically Engineered Food Products

Greenpeace International, November 1997

Greenpeace is opposed to the release of genetically modiﬁed organisms (GMOs) into the environment. We also believe that

stream-lining of crops (sometimes referred to as segregation) is essential for the right of consumers to be provided with the

choice of non-genetically manipulated food. For products that do contain or are produced by GMOs all products, seeds, animal

feed, and food products and their components must be very clearly labelled.

Greenpeace has provided an example of how a label for such products could look. We are calling on the EU Commission

to implement a comprehensive and immediate labelling program for its citizens that allows for the choice of non-genetically

modiﬁed food for consumers.

Greenpeace Policy on Labelling in the European Union

All food products that have been produced, processed, grown or cultivated under one of the following preconditions have to be

marked with a clear and easily visible label (see Annex 1), to inform consumers about the production process and to allow an

informed choice between genetically engineered and conventional food products.

The label has to be used as a non-removable sticker or as a direct imprint on the product itself or its packaging (whatever

is displayed to the customer). The labelling policy should come into effect immediately as stickers can be used as a phase in for

the interim period when direct imprints should be obligatory.

For the labelling process, the complete chain of production and all components of the ﬁnal product must be taken into

consideration. All ingredients and components of the ﬁnal product must be listed. The technical capability to detect GMOs is

not a criteria for labelling.

Additional information on the product must clearly state if the product contains proteins from plants, animals or

microorganisms known to initiate allergies.

A central register of all products on the market in the European Union should be maintained. Information should be

collected and results published for the public by the EU Scientiﬁc Food Committee controlling program on the short and long

term effects of genetic engineering in food.

Liability for any health effects caused from food or products derived from GMOs should be the responsibility of the food

processing company or company involved.

(A) Labelled ‘Genetically Manipulated’

Food products must be marked with the label ‘Genetically manipulated’ if one or more of the following preconditions applies to

either the ﬁnished product or one or more of its components:

1. Food products and/or their components that consist of or contain genetically modiﬁed organisms (according to the

deﬁnition set out in the EU-directive 90/220/EEC). This regulation applies both for ﬁnished products and their components,

regardless whether the genetical modiﬁcation can be detected by currently available scientiﬁc standards or not.

2. Food products and/or their components that are produced or derived from genetically modiﬁed organisms. This regulation

applies both for ﬁnished products and their components, regardless of whether the genetical modiﬁcation can be detected

by currently available scientiﬁc standards or not.

3. Food products, if their additives are produced or derived from genetically modiﬁed plants or animals.

4. Food products obtained or derived from animals raised and fed with genetically modiﬁed animal fodder.

5. Animal fodder must be labelled as genetically manipulated:

if the fodder or its components consist of or contain genetically modiﬁed organisms or their parts; if the fodder or its

essential components are produced or derived from genetically modiﬁed organisms.

6. Animals that are genetically engineered and sold for food or animal fodder (such as ﬁsh meal).

(B) Labelled ‘Produced with Genetic Engineering’

Food products have to be marked ‘Produced with genetic engineering’ (without a label; in written form, placed within the list

of ingredients), if one or more of the following preconditions applies to either the ﬁnished product or one or more of its

components:

1. Food products that are produced with the help of production processes that operate with genetically modiﬁed organisms or

their derivatives.

2. Food products that contain or are produced with the help of additives (vitamins, enzymes, ﬂavoured substances

(ﬂavourants)) that are produced or derived from genetically modiﬁed organisms.

Source: Information taken from www.greenpeace.org/~geneng/.

C-118 Case 9 • Monsanto

which does not allow patents on plants but is

undecided on patents on animals and genes.40

Patents on gene sequences were ﬁrst allowed in

the United States. If laws banning the patenting of

gene sequences were upheld, Monsanto would be

unable to protect itself from other companies copying

and reselling the technology in which it had invested

so heavily.

The regulation of genetically

modiﬁed foods

In the United States, the Food and Drug Administra-

tion (FDA) is responsible for regulating the biotech

industry.

Under FDA policy developers of bioengineered

foods are expected to consult with the agency

before marketing, to ensure that all safety and

regulatory questions have been fully addressed.

FDA’s policy also requires special labeling for

bioengineered foods under certain circumstances.

For example, a bioengineered food would need

to be called by a different or modiﬁed name if

its composition were signiﬁcantly different from

its conventionally grown counterpart, or if its

nutritive value has been signiﬁcantly altered.

Special labeling would be required if consumers

need to be informed about a safety issue, such as

the possible presence of an allergen that would not

normally be found in the conventionally-grown

product.41

As the FDA policy existed in 2000, most products

that contained genetically modiﬁed components did

not need to state this fact on their labels. This raised

heavy criticism from consumer advocacy groups,

which lobbied to have food containing GM prod-

ucts labelled as such. One advocacy group, Green-

peace, released a guideline for labelling GM foods

(see Exhibit 9).

Consumer advocates also criticised the FDA’s

policy that unless a genetically modiﬁed food is sig-

niﬁcantly different from its ‘natural’ counterpart, the

agency would not test that food product for safety.

The FDA asserted that GM food is ‘… exempt from

testing because it is “generally recognized as safe”

(GRAS)’.42 However, many scientists, including sci-

entists working for the FDA, insisted that the agency

should test all genetically modiﬁed products on the

market.

Herbicide risks

Many of those who were opposed to the use of genet-

ically modiﬁed food were also concerned because

companies developing herbicide-resistant crops had

begun requesting permits allowing higher residues of

chemicals in genetically engineered food. For exam-

ple, Monsanto had already received permits enabling

a threefold increase in herbicide residues on geneti-

cally engineered soybeans in Europe and the United

States (up from six parts per million (PPM) to 20

PPM).43 This was particularly alarming because a

study by Swedish oncologists Dr Lennart Hardell and

Dr Mikael Eriksson, published in the 15 March 1999

Journal of American Cancer Society, indicated a link

between glyphosate and non-Hodgkin’s lymphoma

(NHL). The researchers maintained that exposure to

glyphosate increased the risk of contracting this form

of cancer.44

Sadhbh O’Neill, of the European organisation

Genetic Concern, stated that this study reinforces

concerns by environmentalists and health profession-

als that:

… far from reducing herbicide use, glyphosate

resistant crops may result in increased residues to

which we as consumers will be exposed in our food.

Increased residues of glyphosate and its metabolites

are already on sale via genetically engineered soya,

common in processed foods. However no studies

of the effects of GE soya sprayed with Roundup on

health have been carried out either on animals or

humans to date.45

The United States Department of Agriculture

(USDA) statistics from 1997 show that expanded

plantings of Roundup Ready® soybeans (i.e.

soybeans genetically engineered to be tolerant to

the herbicide) resulted in a 72 percent increase in

the use of glyphosate. According to the Pesticides

Action Network, scientists estimate that plants

genetically engineered to be herbicide resistant

Case 9 • Monsanto C-119

will actually triple the amount of herbicides used.

Farmers, knowing that their crop can tolerate or

resist being killed off by the herbicides, will tend

to use them more liberally.46

Misleading advertising

Though Monsanto marketed Roundup® as ‘biode-

gradable’ and ‘environmentally’ friendly, test results

had shown that the main ingredient in Roundup®, gly-

sophate, was the number one cause of illness among

farm workers.47 This brought them under close scru-

tiny by the US Attorney General’s ofﬁce. As a result,

Monsanto was forced to pay ﬁnes up to US$100 000

to compensate the government for the money spent in

the investigation.

To counter the European aversion to genetically

modiﬁed foods, Monsanto launched a US$1.6 million

campaign to ease Europeans’ hard feelings about

genetically modiﬁed seeds and pesticides. It promised

citizens that genetically modiﬁed foods were harm-

less to the environment and to people who eat them.

It also declared that GM potatoes and tomatoes had

been approved for sale in the UK (when in fact the

UK had not yet approved these vegetables for sale).

The European public showed a less-than-welcoming

response to this campaign, complaining on 13 sep-

arate occasions to the UK Advertising Standards

Authority that these ads were false and consumers

were hurt as a result.48

Positioning for the future

The technological innovation embodied in Roundup®

and Roundup Ready® seeds had given Monsanto a

dominant and proﬁtable position in the agricul-

tural market. This product line had come to repre-

sent a signiﬁcant portion of Monsanto’s revenues and

proﬁts. However, with the impending patent expi-

ration, increasing pressure from groups opposed

to genetically modiﬁed foods, and other possi-

ble health concerns, the future of Roundup® – and,

indeed, Monsanto – had become quite murky. Ver-

faillie needed to position his company for the future,

but to do this required addressing some very difﬁ-

cult questions. Could Monsanto defend its position in

Roundup®? If not, could it develop new markets that

leveraged its biotechnology resources? Would geneti-

cally modiﬁed foods gain acceptance, or face increas-

ing opposition and regulation? Was promoting genet-

ically modiﬁed foods ethical? How could Monsanto

increase its competitiveness internationally? In sum,

how would Monsanto evolve to face the future?

Notes

The website sources given below were correct at the time of the

merger but may no longer be vlaid.

1 www.monsanto.com/Monsanto/mediacenter/background/

96sep24_Herbicide.html.

2 www.accessexcellence.org/AB/BC/what_is_biotechnology.

html. The National Health Museum is a 501(c)(3) non-proﬁt

corporation, based in Washington DC.

3 www.biotechknowledge.com/primer/primer.html.

Henry Miller, MD, Fellow at Stanford University’s Hoover

Institution, 17 June 1999.

5 http://netspace.students.brown.edu/MendelWeb/home.html.

http://library.thinkquest.org/10551/web1Eng/biotech2.htm.

www.cp.vovartis.com/dframe.htm.

Kerri Walsh. 1998, Chemical Week, 9 September.

Alice Naude, 1998, Chemical Market Reporter, 253(10), 9 March,

p. FR8.

1 0 Information taken from MOJO Wire, www.mojones.com/

mother_jones/ JF97/brokaw.html.

1 1 www.safe2use.com/pesticidenews/roundup.htm..

1 2 www.greenpeace.org/~geneng/highlights/pat/98_09_20.htm.

1 3 www.monsanto.com/monsanto/gurt/default.htm.

1 4 Ibid.

1 5 www.pharmacia.com/facts_monsanto.html.

1 6 Monsanto’s 1999 10K.

1 7 Anonymous; 1999, ‘Agri marketing’, Skokie, 37(6), June, p. H.

1 8 Naude, Chemical Market Reporter.

19 www.monsanto.com/monsanto/about/careers/default.htm.

20 http://dir.yahoo.com/Science/Agriculture/News_and_Media/

Magazines/Trade_Magazines/.

2 1 Anonymous, 1999, The Economist, 19 June.

2 2 www.farmsource.com/Product_Info/.

23 Scott’s Company news release, Marysville, Ohio, 12 July 1999.

24 Andrew Wood, 1998, Chemical Week, 1 July.

25 Hendrik Verfaille, CEO of Monsanto, Letter to Shareowners,

1 March 2001.

26 www.cynamid.com.

27 www.sec.gov/Archives/edgar/data/67686/0000067686-99-

000050-index.html.

28 www.monsanto.com/monsanto/mediacenter/99/99jan19_dow.

html.

29 www.hoovers.Dupont.htm.

30 Robert Westervelt, 2000, Chemical Week, 19 January.

C-120 Case 9 • Monsanto

31 www.hoovers.novartis.htm.

32 www.cp.novartis.com/d_frame.htm.

33 www.ahp.com/overview.htm.

34 www.ahp.com/netsales.htm.

35 www.hoovers.com.

36 www.extremecontrol.com.

37 Ibid.

38 S. Thompson, Public Affairs, www.cynamid.pressrelease.com.

39 Lucette Lagnado, 2000, ‘Chefs at the biotech barricades’, The

Wall Street Journal, 9 March, p. B1.

40 www.greenpeace.org/~geneng/.

41 www.fda.gov/oc/biotech/default.htm.

42 www.netlink.de/gen/Zeitung/1999/990624b.htm.

43 www.safe2use.com/pesticidenews/roundup.htm.

44 Wendy Prisnitz, 1999, ‘New studies link Monsanto’s Roundup

to cancer’, Natural Life, 68, July, Toronoto, Canada, www.life.

ca/nl/68/cancer.html.

45 Ibid.

46 Ibid.

47 http://jinx.sistm.unsw.edu.au/~greenlft/1997/262/262p13c.

htm.

48 Anonymous, The Economist.

C-121

Case 10

Nucor Corporation and the

US steel industry

Brian K. Boyd Steve Gove

Arizona State University Arizona State University

Darlington, South Carolina, 1969. Making steel is a

technically demanding, complex and dangerous pro-

cess. Nucor Corp.’s initial foray into steel production

was the latter. Instead of stafﬁng the plant with sea-

soned steel veterans, Nucor hired farmers, mechan-

ics and other intelligent, motivated workers. Those

employees along with company executives and digni-

taries in attendance at Nucor’s mill opening ﬂed the

plant as the inaugural pour resulted in molten steel

pouring on to the mill ﬂoor and spreading towards

the crowd. Onlookers and employees alike were left

wondering if Nucor would ever successfully produce

steel.1

The steel industry, a classic example of a market in

the late stages of maturity, traces its roots to colonial-

era blacksmiths who forged basic farm and house-

hold equipment. The industry grew (and consolidat-

ed) rapidly in the ﬁrst half of the 20th century, with

worldwide demand growing throughout the 1960s.

However, a series of shifts in market dynamics led to

dramatic industry-wide declines in growth and prof-

itability. The dominant players faced the same prob-

lems as leaders of other mature industries – Ford and

General Motors, for example: obsolete production

facilities, bureaucratic management systems, heavily

unionised workers and hungry foreign competitors.

Due to its centrality in the economy, the decline of the

steel industry was cited by some observers as evidence

of the decline of the overall US economic system.

While foreign competition played a signiﬁcant

role in changing the US steel industry, an even larger

factor emerged during the 1970s: minimill technol-

ogy. Traditional ‘integrated mills’ rely on large-scale

vertical integration including integrated coke and

ore production. ‘Minimills’ used a new technology

to recycle scrap steel and quickly stole most of the

commodity steel market away from integrated pro-

ducers. This enabled minimills to enter a geographic

market with a distinct cost advantage: they typically

require a capital investment of US$300 to US$500

million, or 5–10 per cent of that required for an inte-

grated mill. The minimill revolution has resulted in a

dramatic dispersion of the steel manufacturers from

the ‘rust belt’ to the primary population and growth

areas of the United States. The impact of minimills

on the industry is best demonstrated by looking at the

former industry leader US Steel (now USX Corp.). In

1966, US Steel controlled 55 per cent of the American

steel market; in 1986 it controlled only 17 per cent.

Despite its inauspicious foray into steel, Nucor

Corp. has become the benchmark for both the US

steel industry and US industry in general. Nucor is

one of the fastest growing and most efﬁcient steel

producers in the world. Despite declining demand for

steel, Nucor’s growth has been phenomenal. Since

C-122 Case 10 • Nucor Corporation and the US steel industry

pouring its ﬁrst batch of steel in the 1960s to support

in-house operations, the company has become one of

the top ﬁve producers of steel in the United States.

Without an R&D department, Nucor has repeated-

ly achieved technological feats other steel producers

thought impossible. Their hourly pay is among the

lowest in the industry, yet they have the highest pro-

ductivity per worker of any steel producer in the US

and near zero employee turnover. How has Nucor

achieved such phenomenal success? Can it continue

to do so?

US steel industry history

Steel has been a part of the domestic economic system

since the colonial era, when iron (the parent of steel)

was smelted and forged. The early 19th century, with

the advent of steam engines, cotton gins and farming

combines, advanced iron as a commodity of progress.

The addition of carbon to iron yielded a material with

additional strength, elasticity, toughness and malle-

ability at elevated temperatures. The Civil War pro-

vided the impetus for the industry to organise, con-

solidate, expand and modernise to supply the vast

quantities of steel required for warfare.

Following the Civil War, the construction of

new transportation systems, public works projects,

automobiles, bridges, ships and large buildings all

fuelled a torrid expansion of the industry lasting

through the turn of the century. Domestic econom-

ic expansion and two world wars maintained an

unquenchable appetite for steel both in the United

States and around the world in the ﬁrst half of the

20th century. In the aftermath of the Second World

War, America’s steel industry prospered as it sup-

plied an ever-expanding domestic economy and the

rebuilding of war-ravaged infrastructures. This wind-

fall for the domestic industry was in actuality one of

the root causes for its eventual decline. US plants, left

idle by the end of the war, were reactivated to sup-

port the Marshall Plan and MacArthur’s rebuilding

of Japan. The war-torn nations of the world, however,

rebuilt their industrial facilities from the ground up,

incorporating the latest production technology. Con-

versely, domestic producers were content with older,

formerly inactivated facilities.

Global demand for steel expanded continuously

throughout the 1960s; domestic producers elected

not to meet this demand, choosing only to match

domestic consumption requirements. This present-

ed an opportunity for up-start foreign producers to

rejuvenate and strengthen themselves without direct-

ly competing against US producers. Throughout this

expansion, the relationship between management and

Exhibit 1 Comparative trends: GDP, steel industry output and Nucor output, 1980–96

Note: Information is overall trends; it is not to scale for comparison. GDP is scaled on right axis in trillions of 1992$. Industry is scaled on left axis in million tons. Nucor

is scaled on left axis in million tons, but shown at 10×.

Steel industry GDP

Nucor

1980

100

120

140

1982

1984

1986

1988

1990

1992

1994

1996

Case 10 • Nucor Corporation and the US steel industry C-123

labour soured. In 1892, Henry Clay Frick’s Pinker-

ton guards attacked striking workers, setting the

stage for a contentious relationship between manage-

ment and labour. Labour, represented by the United

Steel Workers of America (USWA), and management

began negotiating three-year collective bargaining

agreements beginning in 1947. These negotiations

frequently collapsed, and strikes following the third

year of a contract became commonplace. Firms depen-

dent on steel soon initiated a pattern of accumulating

30-day ‘strike hedge’ inventories to feed operations

during strike shutdowns. In 1959, the USWA walked

out for 116 days. In 1964, another strike required

presidential intervention. The impact of these strikes

reverberated throughout the economy. Major cus-

tomers began to look for stable supplies of steel from

foreign producers who, in 1959, met only 3 per cent

of domestic demand. Fuelled by excess capacity and

strike-induced demand, foreign producers were pro-

viding 18 per cent of domestic demand by the time

a long-term labour accord was reached in the early

1970s. Foreign producers currently supply 20–25 per

cent of the steel used in the United States.

The slowdowns and closures of the 1970s set the

stage for the steel industry’s ‘dark ages’ – the period

from 1980 to 1986 when steel output declined from

115 to 80 million tons despite an increase in real GDP.

The energy crisis led to demand for smaller, lighter

cars which require less steel, also resulting in less

required tonnage. R&D in the steel industry led to

stronger blends of steel. New materials, such as petro-

leum-based materials (plastics), organics (wood/pulp)

and synthetic materials (ﬁbreglass, epoxies) became

signiﬁcant threats in several applications customar-

ily met by steel. Overall employment in steel fell from

535 000 in 1979 to 249 000 in 1986.

Despite this decline, this was also a period of

shakeout and dynamic activity in the industry. Slow-

ly, and with the help of the federal government (pri-

marily in tax and regulatory relief and enforcement

of Uruguay Trade Agreements / Voluntary Restrain-

ing Agreements), some ﬁrms were able to revitalise

their operations by streamlining production, select-

ing better markets, focusing production (minimills),

improving facilities, stabilising labour contracts, and

reducing labour content through plant modernisation,

dollar devaluation and a reprieve from the onslaught

of substitute materials. This gave the surviving ﬁrms

an opportunity to recover and prosper.

Historically, demand for steel ﬂuctuates in both

the US and international markets due to its close ties to

durable and capital goods, markets which suffer more

acutely during austerity and are more prosperous dur-

ing economic expansions. Economic swings notwith-

standing, there has been little appreciable growth in

steel demand between the 1950s and the 1990s. Cur-

rent domestic production is approximately 100 mil-

lion tons per year, far less than the 120 million tons of

1981. Decline in demand has led to substantial excess

capacity. In 1980, for example, domestic producers

Exhibit 2 World capacity, production and idle capacity, 1970–90

200

400

600

800

Capacity

1970

1975

1980

1985

1990

Year % idle

1970 20

1972 22

1974 13

1976 25

1978 24

1980 29

1982 39

1984 29

1986 31

1988 23

1990 23

Production

Millions of tons

C-124 Case 10 • Nucor Corporation and the US steel industry

had 25 per cent idle capacity. While the industry now

operates at 90 per cent of capacity, this has come as a

result of reduced capacity, not increased output; total

domestic capacity declined by 30 per cent between

1980 and 1994. Capacity reduction in the steel indus-

try is expensive, particularly for integrated producers.

USX Corp., for example, eliminated 16 per cent of its

capacity in 1983 at a cost of US$1.2 billion. Still, by

1987, USX had 40 per cent idle capacity.

While large-scale, integrated producers such as

USX were shedding excess capacity, a new type of

competitor, ‘minimills’, was entering the market.

Minimills utilise recycled steel (in the form of junk

cars, scrap, etc.) as a primary ingredient. Unlike

the integrated producers, minimills are less capital-

intensive, smaller and have historically focused on pro-

ducing low-technology, entry-level products. Unlike

integrated mills, which have seen production decline,

minimills have seen explosive growth, with numerous

plants opening in the late 1980s and 1990s.

Overall, the steel industry has all of the char-

acteristics of a highly competitive market: stagnant

demand, excess capacity and numerous global com-

petitors. The ability of the largest ﬁrm to use its

power to set prices is gone. Above-average industry

margins are quickly targeted by other ﬁrms. These

factors are compounded by a largely commodity-like

product that minimises switching costs and customer

loyalty. Not surprisingly, the proﬁt performance of

the industry has been weak; the industry as a whole

lost money during much of the 1980s. In 1987, the

ﬁrst (albeit small) industry-wide proﬁt in eight years

was posted. With the exception of the 1990–91 reces-

sion, domestic producers have gradually improved the

return on assets to a value of 6.1 per cent in 1994.

A ﬂurry of exits and Chapter 11 reorganisations led

to an improved proﬁt potential for remaining ﬁrms

by the mid-1990s. The success is more pronounced

in the minimill sector, although the integrated pro-

ducers are presently healthy and now represent a new

threat to the minimills.

Emerging industry trend

While in many ways the industry appears to have

stabilised, a number of emerging trends threaten to

cause further disruption within the industry to both

integrateds and minimills.

Minimill over-capacity

Starting in 1989, only one company, Nucor, was

capable of producing ﬂat-rolled steel using minimill

technology. However, competing ﬁrms have started

using similar technology and there were expected to

be 10 new ﬂat-roll minimills on-line by 1997, adding

13 million tons of production capacity – about 10 per

cent of 1996 production – to the industry. This new

capacity should become available just as steel con-

sumption is expected to decline.

Scrap prices

Due to growing demand for scrap metal, its cost has

become increasingly volatile in the 1990s. In 1994,

for example, prices climbed as much as US$50/ton

to US$165–170/ton, while 10 million tons of Amer-

ican scrap were exported to offshore customers. In

Exhibit 3 US production, 1974 and 1994

Production in millions of tons

160

140

120

100

1974

Integrated mills Minimills Other scrap mills Speciality firms

1994

Case 10 • Nucor Corporation and the US steel industry C-125

1996, prices reached US$200/ton, and were expected

to climb, but instead declined to US$170–180/ton by

the end of 1997.

Euro production

While growth has improved in recent years, demand

for steel is still weak in much of Europe, particularly in

Eastern European nations. Western Europe alone had

20 million tons of excess capacity in 1994, and Rus-

sian mills were operating at 65 per cent of capacity.

Additionally, many European mills are state-owned

and subsidised. Faced with weak performance and

idle capacity, many of these mills are aggressively

pursing export opportunities in China and other

parts of Asia. Russian steel exports approached US$4

billion in 1993, double their 1992 level.

Antidumping rulings

US integrated steel producers ﬁled 72 charges of

dumping against foreign competitors – primarily the

Germans and Japanese. In 1993, the International

Trade Commission concluded that there was some

justiﬁcation for these charges, but not for others, and

ruled that foreign steel caused no harm in 40 of the

72 cases. Stock prices for US producers (in aggregate)

declined US$1.1 billion in the 90 minutes following

the announcement of the ruling.

Industry economic

structure

The domestic steel industry, until recent technological

changes, was essentially composed of two vertically

integrated sectors. The ﬁrst was the raw steel produc-

tion sector which encompassed steel-making opera-

tions from the unearthing of ores and coke to the basic

ore reduction and smelting. The outcome or product

of this sector was ingots, billets and slabs which are

standard steel shapes. These products were then sent

to ﬁnishing mills (the second sector) which conducted

various heat treating and shaping processes to produce

ﬁnished steel products such as bars, tubes, castings,

forgings, plates, sheets and structural shapes. These

two sectors were typically housed under a single facil-

ity but as two distinct operations in what was termed

the ‘integrated’ producer. Traditionally, steel manu-

facturers used batch processing, which involved heat-

ing a furnace of steel and pouring the entire furnace

full of molten steel into billets, ingots and slabs. These

intermediate products were then processed and the

process was repeated. The onset of continuous cast-

ing technology (a process in which ores are reduced

and poured into ﬁnal shapes without the intermediate

production of slabs and ingots) in the late 1970s has

blurred the classical two-sector demarcation. Most

producers today use the continuous casting process

Exhibit 4 Domestic capacity and production, 1980–96

100

150

200

Millions of tons

1980

1983

1986

1989

1992

1995

Capacity Production

C-126 Case 10 • Nucor Corporation and the US steel industry

for producing isometric shapes, but raw steel must

still be shipped to ﬁnishing mills for manufacture of

more complex products.

The suppliers to the steel industry can be broadly

assigned to three major classes: ore, energy and trans-

portation. Since a preponderance of the ﬁnal produc-

tion cost is tied up in these input items, many producers

have vertically integrated backwards by acquiring ore

and coal/coke mining ﬁrms and transportation net-

works (rail and barge). The supply factors of produc-

tion (transformation factors) are labour to operate

plants, capital facilities and land. Recent moderni-

sation has signiﬁcantly substituted technology for

labour in steel production.

Minimills are a signiﬁcant force of change in the

industry, as their supplier and customer requirements

differ from the integrated mills. First, ore supplies

are, to differing degrees, replaced by a need for access

to large quantities of scrap steel. Second, minimills,

while still large consumers of electricity, consume

far less power than their integrated mill counter-

parts. This, along with the lower output capacity of

each plant, allows for placement of the mills closer

to the third factor: the changing customer base. This

has resulted in a radical shift in steel production in

recent years from western Pennsylvania and Ohio to a

much broader dispersion of steel mills throughout the

United States. By one estimate, steel mills can now be

found in over half of the US states.

The principal markets and customers for steel are

the classical markets. Some sectors are on the decline,

while others are fairly stable. The automotive sector

was historically the largest consumer of steel in peace-

time. Construction materials is now the largest sector,

followed by the automobile and container industries,

energy equipment, industrial machinery, farming

equipment, car/rail production and various military

applications. The reduced demand by the automo-

bile industry is the result of the lower steel content

in a modern automobiIe, a trend steel producers are

aggressively trying to counter by banding together to

form the Steel Alliance which is running a US$100

million advertising campaign targeted at consumers

and touting the advantages of steel for automobile

design (and house construction).

Service centres are playing an increased role in

the industry, acting as major distributors and whole-

salers for ﬁnished steel products to steel consumers

(construction ﬁrms, shipbuilders, machine fabrica-

tors, etc.). With the exception of the automobile and

automobile part manufacturers (who contract direct-

ly with producers), most ﬁnished steel is delivered to

end users via the steel service centre, moving some of

the inventory management burden to the service cen-

tres for a marginal mark-up to the end user. This pres-

ents a forecasting complication to planners and strat-

egists, as all demand for steel is a derived demand.

The forecaster must be able to look into the macro

forces affecting an economy and project steel’s role in

Exhibit 5 Steel demand by market sector, 1972 and 1998

30 1972

Automotive

Percent of demand

Service centres

Construction

Containers

Industrial machinery

Energy/minerals

Rail/rail vehicles

Farm machinery

Shipbuilding

Other

1998

Case 10 • Nucor Corporation and the US steel industry C-127

the broader economic system from which a consumer

demand pattern could be ascertained.

Steel production

technology

Any attempt to consolidate steel and steel production

technology into a few paragraphs would be doing the

topic a disservice. However, two major issues deserve

additional attention: production factors and substi-

tutes. Automation has improved the competitive posi-

tion of the industry by reducing its exposure to vol-

atile labour markets and labour costs. It has also

increased the ﬂexibility of producers to shift product

output and incorporate the continuous casting pro-

cess. Closely related is the elimination of the old open-

hearth furnace in favour of the blast-oxygen furnace

and electric arc furnaces, which are far more efﬁcient,

more easily automated and require less manpower.

These furnaces also reduce stack emissions, a critical

environmental requirement (and a concern that many

foreign producers do not face). While technology has

been a driver of change, labour agreements and rela-

tions have not always made it possible to fully exploit

the beneﬁts of technological improvements.

The proliferation of substitute materials is an

important issue. It is important to note, however,

that while substitutes have made signiﬁcant inroads

into steel markets over the last 30 years, they will

likely never replace steel as the commodity of choice

for many applications. Steel will not be displaced

(with very minor exceptions) as a material in strength

applications: plastic is not strong enough; graphite-

reinforced plastics and epoxies lack steel’s thermal

resistance properties; wood is not as strong or envi-

ronmentally resistant as steel; and titanium remains

a rare, expensive, strategically controlled material.

Furthermore, steel comes in many different compo-

sitions (stainless, tool, high-strength, galvanised).

The industry’s R&D efforts have continued to evolve

steel to meet the demands of customers. In short, steel

remains – and is likely to remain – the material of

choice in most applications.

Nucor Corporation

Nucor Corp. began life as the Nuclear Corporation

of America. The latter was a highly diversiﬁed and

marginally proﬁtable company; its products included

instruments, semiconductors, rare earths and con-

struction. One of its potential acquisitions was Coast

Metals, a family-owned producer of speciality met-

als. When the acquisition fell through, Nuclear hired

one of Coast’s top engineers as a consultant to recom-

mend other acquisition targets. The engineer – Ken

Iverson – had strong technical skills (including a grad-

uate degree in metallurgy from Purdue University)

and general management experience. Based on Iver-

son’s recommendation, Nuclear acquired a steel joist

company in South Carolina. Subsequently, Iverson

joined Nuclear as a vice president in 1962. Nuclear

built a second joist plant in Nebraska the following

year. Iverson was responsible for supervising the joist

operations as well as the research, chemical and con-

struction segments. By 1965, the diversiﬁed company

had experienced another string of losses, although the

joist operations were proﬁtable, and Iverson was pro-

moted to president.

Recognising that its most valuable skills lay in

its joist operations, Nuclear became Nucor Corp.

and divested non-joist operations. New joist plants

soon followed, including one in Alabama in 1967 and

another in Texas in 1968. As a joist company, Nucor

was dependent on American and foreign steel produ-

cers for its key input. Iverson decided to integrate

backwards into steel making in the hopes of stabilising

supply and lowering input costs for the joist business.

So, Nucor began construction of its own steel mill in

Darlington, South Carolina – a location close to an

existing joist operation. The Darlington plant used

the then new minimill technology. When the plant

opened on 12 October 1969, the pouring of the ﬁrst

batch of steel resulted in molten steel cascading out of

the mould and across the ﬂoor of the plant. Despite

the mishap, Nucor quickly became adept at mini-

mill technology. In addition to supplying its own joist

operations, it began competing with integrateds and

other minimills in the commodity steel business. Iver-

son and Nucor soon became recognised as the ‘South-

west Airlines’ of steel: a simple, no-frills organisation,

C-128 Case 10 • Nucor Corporation and the US steel industry

with a unique culture, highly motivated workers and

the lowest cost structure of the industry. Some indica-

tors of Nucor’s success include:

• It is the only major player in the industry that

can boast of 22 years of uninterrupted quarterly

dividends (Nucor began paying quarterly

dividends in 1973) and 30 years of continuous

quarterly proﬁts, despite numerous slumps and

downturns in the industry (see Exhibits 6–14).

• Between 1980 and 1990, Nucor doubled in

size. In comparison, the six main integrated

producers reduced their steel-making capacity

from 108 to 58 million tons during this period.

• In 1990, Nucor had six steel plants and a total

annual capacity of 3 million tons. By 1995,

it had added a seventh plant, and its overall

capacity neared 8 million tons.

• In 1994, Nucor generated US$1.50 in sales for

every dollar in property, plant and equipment.

The industry average was US$0.95 before

depreciation expenses. After depreciation, these

ratios are US$2.18 and US$1.83, respectively.

• Nucor continues to be the industry leader in cost

efﬁciency. In 1990, it produced 980 tons of steel

per employee each year, at a net cost of US$60/

ton, compared to the industry average of 420

tons per employee at a cost of US$135/ton. In

1994, Nucor’s conversion cost was US$170/ton,

roughly US$50–75 less than its competitors.

Nucor has primary mills located in Arkansas,

Nebraska, Utah, South Carolina, Texas and Indiana.

Additional operating facilities located in Fort Payne,

Alabama; Conway, Arkansas; Saint Joe and Water-

loo, Indiana; Wilson, North Carolina; and Swansea,

South Carolina are all engaged in the manufacture

of steel products. During 1997, the average utilisa-

tion rate of all operating facilities was more than 85

per cent of production capacity. Nucor competes in a

number of distinct product segments, and the empha-

sis on these segments has changed substantially in

recent years. Historically, the largest segment was the

Nucor Steel division, which produces bar and light

structural steel products. In 1991, this was its largest

segment (measured by product volume). However, by

1995, sheet steel, once considered to be an exclusive

product of integrated producers, accounted for the

largest production volume. Heavy structural beams

from a joint venture with Yamato Steel of Japan were

the third-largest segment, followed by the Vulcraft

joist division. Remaining products – including grind-

ing balls, fasteners, ball bearings and prefabricated

steel buildings – each account for relatively small pro-

portions of total output.

While Nucor’s ﬁrst experience with steel was the

result of backward integration by the Vulcraft joist

division, the manufacture of steel has become the cen-

tral focus of the ﬁrm. That focus has broadened to

include sheet steel (1989) and heavy structural beams

(1988). The company has also extended its focus to

several downstream products, including fasteners

and ball bearings (both in 1986) and prefabricated

metal buildings (1988). With the exception of the

ball bearings mill, which was acquired, new business

segments are developed internally. Roughly 15 per

cent of steel output is used internally for downstream

operations. More recently, Nucor has chosen to inte-

grate backwards from steel with a plant in Trinidad.

This backward integration is aimed at lowering pro-

duction costs; the plant produces iron carbide, which

is expected to become an alternative to scrap in the

minimill process.

Nucor’s strategy

Nucor has chosen to avoid the formalised planning

processes that are typically found in Fortune 500

ﬁrms. This lack of formalisation also extends to the

company’s mission statement, which is non-existent

but known to all employees. The company does not

have a formal mission statement, as management

believes that most mission statements are developed

in isolation, never seen or conveyed to employees, and

have little in common with what the ﬁrm really does

and how it operates. Nonetheless, all Nucor employ-

ees can tell you what their job entails and what the

objective of the organisation is: the production of

high volumes of quality, low-cost steel.2 Nucor and its

employees recognise that all the steel produced must

meet industry standards for quality. In fact, Nucor

frequently exceeds quality standards. High levels of

production per man-hour result in low costs and, sub-

sequently, prices among the lowest in the industry.

Case 10 • Nucor Corporation and the US steel industry C-129

Exhibit 6 Historical data, 1955–96

Earnings Earnings per share Stockholders’ equity Common stock

Year Net sales Operations Other Net Operations Other Net Total assets Amount

Per

outstanding

Per

share Amount

Prior management

1955 415 658 (39 359) – (39 359) Loss – Loss 1 630 644 930 188 0.06 16 355 402 0.48 7 850 593

1956 1 653 007 (355 293) – (355 293) Loss – Loss 1 881 385 848 934 0.04 20 573 241 0.23 4 731 845

1957 1 925 462 (546 270) – (546 270) Loss – Loss 1 908 337 1 052 664 0.03 33 803 241 0.17 5 746 551

1958 2 020 886 (521 827) – (521 827) Loss – Loss 1 717 335 672 638 0.02 35 628 981 0.21 7 482 086

1959 1 859 034 (260 161) – (260 161) Loss – Loss 1 783 598 502 454 0.01 36 532 149 0.28 10 229 002

1960 2 182 204 (367 149) (261 829) (628 978) Loss Loss Loss 1 837 102 647 565 0.01 44 023 275 0.44 19 370 241

1961 4 014 416 379 006 (16 021) 362 985 0.01 Loss 0.01 5 630 178 2 307 566 0.04 55 267 743 0.43 23 765 129

1962 9 100 958 24 095 (683 323) (659 228) – Loss Loss 7 184 395 1 952 764 0.03 56 646 415 0.23 13 028 675

1963 15 374 487 260 710 240 000 500 710 0.01 0.00 0.01 8 324 759 2 453 474 0.04 56 646 415 0.18 10 196 355

1964 17 485 319 33 264 30 000 63 264 – – – 10 337 955 2 796 719 0.05 57 809 552 0.18 10 405 719

1965 22 310 595 (431 013) (1 803 748) (2 234 761) Loss Loss Loss 6 937 251 762 380 0.01 58 695 962 0.26 15 260 950

Present management

1966 23 006 483 698 900 635 000 1 333 900 0.01 0.01 0.02 8 109 190 2 239 882 0.04 59 310 011 0.23 13 641 303

1967 23 600 093 822 424 880 832 1 703 256 0.01 0.02 0.03 11 546 498 6 581 876 0.10 66 836 275 0.64 42 775 216

1968 35 544 913 1 002 954 1 235 982 2 238 936 0.01 0.02 0.03 16 501 866 9 288 771 0.14 68 078 687 0.78 53 101 376

1969 46 321 797 1 210 083 1 125 000 2 335 083 0.02 0.01 0.03 24 655 801 11 938 178 0.17 68 935 656 0.45 31 021 045

1970 50 750 546 1 140 757 – 1 140 757 0.02 – 0.02 28 800 183 13 101 313 0.19 69 001 709 0.27 18 630 461

1971 64 761 634 2 740 694 – 2 740 694 0.04 – 0.04 33 168 014 15 892 357 0.23 69 245 150 0.41 28 390 512

1972 83 576 128 4 668 190 – 4 668 190 0.07 – 0.07 47 537 247 20 929 525 0.30 70 353 577 0.54 37 990 932

1973 113 193 617 6 009 042 – 6 009 042 0.09 – 0.09 67 550 110 26 620 195 0.38 70 302 597 0.41 28 824 065

1974 160 416 931 9 680 083 – 9 680 083 0.14 – 0.14 82 038 748 37 103 939 0.50 73 712 586 0.30 22 113 776

1975 121 467 284 7 581 788 – 7 581 788 0.10 – 0.10 92 639 413 44 549 735 0.59 75 010 113 0.41 30 754 146

1976 175 768 479 8 696 891 – 8 696 891 0.11 – 0.11 119 095 581 54 084 970 0.70 77 790 707 0.74 57 565 123

1977 212 952 829 12 452 592 – 12 452 592 0.16 – 0.16 128 010 982 66 295 405 0.84 78 807 784 1.02 80 383 940

1978 306 939 667 25 848 849 – 25 848 849 0.33 – 0.33 193 454 693 92 129 119 1.15 80 261 028 1.74 139 654 189

1979 428 681 778 42 264 537 – 42 264 537 0.52 – 0.52 243 111 514 133 257 816 1.64 81 046 524 3.32 269 074 460

1980 482 420 363 45 060 198 – 45 060 198 0.55 – 0.55 291 221 867 177 603 690 2.16 82 199 964 5.82 478 403 790

1981 544 820 621 34 728 966 – 34 728 966 0.42 – 0.42 384 782 127 212 376 020 2.54 83 562 084 4.98 416 139 178

1982 486 018 162 22 192 064 – 22 192 064 0.27 – 0.27 371 632 941 232 281 057 2.77 83 951 292 5.21 437 386 231

1983 542 531 431 27 864 308 – 27 864 308 0.33 – 0.33 425 567 052 258 129 694 3.05 84 541 086 7.13 602 777 943

1984 660 259 922 44 548 451 – 44 548 451 0.53 – 0.53 482 188 465 299 602 834 3.53 84 966 474 5.38 457 119 630

1985 758 495 374 58 478 352 – 58 478 352 0.68 – 0.68 560 311 188 357 502 028 4.16 85 890 030 8.98 771 292 469

1986 755 228 939 46 438 888 – 46 438 888 0.54 – 0.54 571 607 644 383 699 454 4.54 84 525 192 7.72 652 534 482

1987 851 022 039 50 534 450 – 50 534 450 0.60 – 0.60 654 090 139 428 009 367 5.05 84 784 352 9.91 840 212 928

1988 1 061 364 009 70 881 020 38 558 822 109 439 842 0.83 0.46 1.29 949 661 710 532 281 449 6.25 85 150 764 11.94 1 016 700 122

1989 1 269 007 472 57 835 844 – 57 835 844 0.68 – 0.68 1 033 831 512 584 445 479 6.83 85 598 480 15.06 1 289 113 109

1990 1 481 630 011 75 065 261 – 75 065 261 0.88 – 0.88 1 035 886 060 652 757 216 7.59 85 950 696 15.50 1 332 235 788

1991 1 465 456 566 64 716 499 – 64 716 499 0.75 – 0.75 1 181 576 798 711 608 991 8.23 86 417 804 22.34 1 930 573 741

1992 1 619 234 876 79 225 703 – 79 225 703 0.92 – 0.92 2 507 382 255 784 230 713 9.04 86 736 700 39.19 3 399 211 273

1993 2 253 738 311 123 509 607 – 123 509 607 1.42 – 1.42 1 829 268 322 902 166 939 10.36 87 073 478 53.00 4 614 894 334

1994 2 975 596 456 226 632 844 – 226 632 844 2.60 – 2.60 2 001 920 165 1 122 610 257 12.85 87 333 313 55.50 4 846 998 872

1995 3 462 045 648 274 534 505 – 274 534 505 3.14 – 3.14 2 296 141 333 1 382 112 159 15.78 87 598 517 57.13 5 004 503 276

1996 3 647 030 387 248 168 948 – 248 168 948 2.83 – 2.83 2 619 533 406 1 609 290 193 18.33 87 795 947 51.00 4 477 593 297

Source: Nucor Corporation Home Page, www.nucor.com/h_historicaldata.htm, 4 September 1998.

C-130 Case 10 • Nucor Corporation and the US steel industry

Exhibit 7 Annual balance sheets, 1977–96

Dec-96 Dec-95 Dec-94 Dec-93 Dec-92 Dec-91 Dec-90 Dec-89 Dec-88 Dec-87 Dec-86 Dec-85 Dec-84 Dec-83 Dec-82 Dec-81 Dec-80 Dec-79 Dec-78 Dec-77

Assets

Cash & equivalents 104.40 201.80 101.93 27.26 25.55 38.30 51.65 32.55 26.38 72.78 128.74 185.14 112.71 79.06 44.89 8.71 21.75 36.65 27.42 7.10

Net receivables 292.64 283.21 258.13 202.18 132.14 109.46 126.75 106.95 97.43 80.08 61.27 70.87 66.87 58.17 38.34 48.70 43.52 40.21 31.90 23.39

Inventories 385.80 306.77 243.03 215.02 206.41 186.08 136.64 139.45 123.22 81.50 105.60 78.64 73.80 56.56 48.83 73.00 49.60 40.01 41.55 30.41

Prepaid expenses 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00

Other current assets 45.54 38.97 35.61 23.79 0.52 0.47 0.09 1.08 0.74 0.36 0.14 0.11 0.08 0.11 0.48 0.98 0.49 0.50 0.25 0.26

Total current assets 828.38 830.74 638.70 468.23 364.62 334.29 315.13 280.03 247.76 234.72 295.74 334.77 253.45 193.89 132.54 131.38 115.37 117.36 101.11 61.16

Gross plant property & equipment 2 698.75 2 212.89 1 977.58 1 820.99 1 574.10 1 261.53 1 086.37 1 048.01 942.27 618.54 452.26 376.23 359.97 338.66 322.85 318.86 219.10 160.46 115.25 86.67

Accumulated depreciation 907.60 747.49 614.36 459.95 448.34 414.25 363.12 294.22 240.37 199.16 181.43 150.95 131.87 107.36 83.78 66.25 46.02 35.88 26.72 20.73

Net plant property & equipment 1 791.15 1 465.40 1 363.22 1 361.04 1 125.77 847.28 723.25 753.80 701.90 419.37 270.83 225.28 228.10 231.31 239.07 252.62 173.07 124.58 88.53 65.94

Investments at equity 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00

Other investments 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00

Intangibles 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00

Deferred charges 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00

Other assets 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 5.04 0.27 0.63 0.37 0.02 0.78 2.78 1.17 3.81 0.92

Total assets 2 619.53 2 296.14 2 001.92 1 829.27 1 490.38 1 181.58 1 038.38 1 033.83 949.66 654.09 571.61 560.31 482.19 425.57 371.63 384.78 291.22 243.11 193.46 128.01

Liabilities

Long-term debt due in one year 0.75 0.15 0.25 0.20 0.20 2.00 2.21 2.27 2.21 2.21 3.05 2.40 2.40 2.40 1.60 1.66 1.70 1.25 0.46 0.44

Notes payable 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00

Accounts payable 224.37 214.56 182.85 165.74 119.30 93.76 78.72 89.75 93.17 68.46 53.17 35.47 32.69 37.14 22.95 32.24 36.64 26.42 24.15 12.08

Taxes payable 10.29 11.30 15.51 14.27 10.46 11.07 10.65 13.20 35.80 24.34 14.31 27.60 23.71 14.81 12.54 10.73 4.36 15.91 15.64 4.44

Accrued expenses

Other current liabilities 230.25 221.12 183.86 170.29 142.02 122.34 134.00 88.34 84.92 52.46 47.91 55.78 41.74 34.14 29.02 28.41 23.79 19.96 15.54 13.35

Total current liabilities 465.65 447.14 382.47 350.49 271.97 229.17 225.58 193.56 216.11 147.47 118.44 121.26 100.53 88.49 66.10 73.03 66.49 63.54 55.79 30.30

Long-term debt 152.60 106.85 173.00 352.25 246.75 72.78 28.78 155.98 113.25 35.46 42.15 40.23 43.23 45.73 48.23 83.75 39.61 41.40 41.47 28.13

Deferred taxes 50.00 51.00 63.00 53.00 18.82 21.10 25.82 18.82 15.32 19.32 27.32 41.32 38.82 33.22 25.02 15.62 7.52 4.92 4.02 2.62

Investment tax credit 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00

Minority interest 265.71 220.66 175.99 143.09 140.50 124.05 105.44 81.02 72.71 23.83 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00

Other liabilities 76.28 88.38 84.86 28.27 28.11 22.87 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.04 0.66

Total liabilities 1 010.24 914.03 879.31 927.10 706.15 469.97 385.62 449.39 417.38 226.08 187.91 202.81 182.59 167.44 139.35 172.41 113.62 109.85 101.33 61.72

Equity

Preferred stock – redeemable 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00

Preferred stock – non-redeemable 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00

Total preferred stock 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.00

Common stock 35.95 35.90 35.80 35.70 17.78 8.86 8.82 8.78 8.74 8.70 8.67 5.73 5.67 5.64 2.80 2.79 2.74 2.70 1.78 1.25

Capital surplus 55.05 48.67 39.27 29.91 39.41 42.81 37.67 34.23 30.54 27.38 25.19 24.30 18.99 17.02 17.70 16.24 12.91 10.67 10.41 9.55

Retained earnings 1 535.95 1 315.85 1 065.80 854.86 745.26 678.16 624.66 559.90 511.46 410.51 367.58 327.82 275.04 235.57 211.92 193.36 161.95 119.89 79.94 55.50

Less: treasury stock 17.66 18.30 18.26 18.31 18.23 18.23 18.39 18.46 18.46 18.58 17.73 0.35 0.09 0.10 0.14

Common equity 1 609.29 1 382.11 1 122.61 902.17 784.23 711.61 652.76 584.45 532.28 428.01 383.70 357.50 299.60 258.13 232.28 212.38 177.60 133.26 92.13 66.30

Total equity 1 609.29 1 382.11 1 122.61 902.17 784.23 711.61 652.76 584.45 532.28 428.01 383.70 357.50 299.60 258.13 232.28 212.38 177.60 133.26 92.13 66.30

Total liabilities & equity 2 619.53 2 296.14 2 001.92 1 829.27 1 490.38 1 181.58 1 038.38 1 033.83 949.66 654.09 571.61 560.31 482.19 425.57 371.63 384.78 291.22 243.11 193.46 128.01

Common shares outstanding 87.80 87.60 87.33 87.07 86.74 86.42 85.95 85.60 85.15 84.78 84.52 85.89 84.97 84.54 83.95 83.57 82.20 81.05 80.26 78.80

Note: All US$mn. Source: Compustat.

Case 10 • Nucor Corporation and the US steel industry C-131