P&G scales up global ambitions

Read the weekend press and you would be forgiven for believing the Procter & Gamble-Gillette merger is part of a headlong flight in the face of rising retail power.

Retail power has something to do with it, but not in this form. Actually, the deal is more about cosying up to an even more implacable foe (Wall Street) and ratcheting up the momentum of what P&G believes is a formula for success that will leave rivals gasping for breath.

The merger ticks most of the boxes of strategic fit. P&G is big in female grooming: Gillette excels in male grooming. Gillette is big in India and Brazil: P&G’s strengths lie in China, Japan and places such as Turkey. P&G knows all about molecules: Gillette is a dab hand at gadgets. And P&G’s expertise in retail customer development goes hand-in-hand with Gillette’s mastery of point of purchase. But beneath these obvious synergies lies something else. It’s all about a phrase that’s never far from P&G chief executive Alan Lafley’s lips: “A sustainable growth model”. Call it the Lafley doctrine.

Remember the computer game Pacman, where a pair of all-consuming jaws gobbles everything in sight at an ever-increasing rate? In recent years, packaged goods brands have found themselves on the wrong end of their own Pacman, chased by three sets of jaws: increasing retail power (including own-label penetration); media fragmentation and declining advertising effectiveness; and increased product parity and commoditisation. To flourish, you have to escape all three sets of jaws. That is what the Lafley doctrine is designed to do: finesse the traditional virtuous spiral of the packaged goods industry – innovation to build brands that deliver scale giving you the funds to innovate and build brands – in a way that escapes the Pacmen.

Only the strongest will survive

Here’s how – and why – the Gillette deal will send shockwaves through the industry.

Plank number one is a migration to categories where technology-driven innovation can deliver a continuous stream of demonstrable benefits that interest consumers enough to keep own-label at bay. In recent years, P&G has given up on a whole series of categories – selling off a range of cooking oil, peanut butter and lower-end household product brands – because it believes they are victims of remorseless commoditisation.

The question, said Lafley last Friday, is: “Are you inherently a commodity business, or are you an innovation business developing well-differentiated brands that command premium prices?” Health and beauty has “structural attractions”, he declared. It’s a business where technological innovation is a key driver; own-label penetration is low; and margins are high.

That explains P&G’s recent acquisition spree in the health and beauty arena, including Tambrands, Clairol and Wella. Gillette’s brands fit this strategy to a tee, expanding the focus to male grooming. Even before P&G bought Gillette, more than 50 per cent of its sales came from health and beauty: nowadays, L’Oréal is a much more important competitor to P&G than, say, Unilever.

Plank number two of the Lafley doctrine is to use this position of brand strength to build “win-win” relationships with retailers. Retailer power is only a threat to companies whose brands are weak. If the brands are strong, then more powerful retailers become simply stronger sales engines for these brands. Much of P&G’s recent growth has not come in spite of Wal-Mart, Carrefour, Metro and Tesco – it has come directly as a result of them.

The strategy is simple: deploy shopper insights, retailer-specific marketing budgets, category management and supply chain expertise to help retailers improve their own profitability, so they prefer doing business with P&G. In this way, P&G is working hard to co-opt the power of globalising retailers to the benefit of its brands. According to Gillette chief executive (and future P&G vice-chairman) Jim Kilts, “We want to make it easier for our customers to grow. We want to make our company more important to them.”

Plank number three is to use the benefits of scale to maximum effect. The traditional packaged goods virtuous spiral focused on manufacturing scale supported by strong distribution to drive down production costs and secure healthy margins. Under Lafley, “scale wars” are more important than ever – with a subtle but crucial reversal. They’re about superior go-to-market prowess (retailer relationships, supply chain infrastructure, marketing critical mass) supported by strong manufacturing.

Razors for the Russians

Over half the immediate growth benefits of the merger (on top of the $10bn- (&£5.3bn-) worth of cost savings to be made from eliminating administrative duplication and exploiting extended purchasing power) will come from pushing Gillette products through P&G’s existing distribution in countries such as China, Russia, Japan and Turkey. Lafley says: “We will simply plug and play Gillette brands through our broader distribution and deeper market penetration.” Competitors that cannot achieve such broad, deep penetration across multiple major markets will be left competing with one hand tied behind their backs.

The other aspect of scale is marketing muscle. P&G already had plenty of billion-dollar brands. With Gillette, it has five more (see table). Each of them has enough clout to maintain marketing critical mass in the face of rising advertising costs and reduced effectiveness – and the higher this bar rises, the more important it is to be big… and global. Edward Whitefield of retail consultancy Management Horizons says: “We’re in the third or fourth stage of globalisation. This is about P&G staying in the van of global brand development.”

So what is the likely fallout from the deal? The immediate effects on smaller rivals such as Colgate-Palmolive, Reckitt Benckiser and Kimberly-Clark won’t be huge: they all have strong brand franchises that won’t crumble simply because two rivals have merged. The knock-on effects could be transformative, however. Given the Lafley formula for growth – one that makes more acquisitions almost inevitable – how exactly are these smaller rivals to keep on growing? Have they the necessary global scale and the infrastructure? Are their brands and categories immune from commoditisation? What is their alternative to the Lafley doctrine? The people running these companies have a lot of investor relations sweet-talking, and strategic soul-searching, to do. “The companies that need to worry about retailer power are also those that should be worrying about the Gillette-P&G tie-up,” comments Kevin McCarten, a former marketing director for P&G’s health and beauty business in the UK and group marketing director and retail director at Sainsbury’s. “They are those that have not generated consumer franchises strong enough to withstand the power of retailers or their competitors.”

Who will market the mammoth?

Also, get ready for frantic manoeuvring in adland. P&G finance director Clayt Daley has already targeted media buying as one of the main purchasing-power synergies of the merger. But who will deliver these synergies for P&G? P&G’s main agencies, Zenith Optimedia, Starcom (both owned by Publicis Groupe), Publicis the agency and WPP Group’s MediaCom? Or WPP’s MindShare, which buys for Gillette? And how will the advertising for Gillette’s brands be divided up? Will Omnicom’s BBDO keep its Gillette work? Or will P&G’s roster, WPP’s Grey and Publicis’ Leo Burnett and Saatchi & Saatchi, get the benefits?

In the meantime, watch out for some brand rationalisation at P&G. Does it really want to be big in pens? What about the many smaller brands it has acquired along the way?

The really big question mark, however, lies over the future direction of P&G itself. This merger is about global distribution prowess, technology-driven innovation in categories that are crying out for it, and continuous marketing “reinvention” and clout. Not many of P&G’s competitors can match the new pairing on any one of these, never mind all three working in synchrony. So it’s not surprising that there’s just a little swagger in the P&G air. As Jim Kilts declared last week: “We believe we can bring all these things together to create a juggernaut.”

Is there anything that could derail this juggernaut? Yes, there is. Regulators for a start, particularly in Europe. More important, a tension at the heart of the Lafley doctrine.

One part of the doctrine stresses growth from acquisitions to give underperforming brands a marketing makeover and “plug and play” global distribution. Another part stresses innovation to create consumer value. The two don’t necessarily point in the same direction.

That tension surfaced briefly in remarks made by Kilts and Lafley last week. “I’m a great believer in scale,” declared Kilts. “The consumer products industry needs to consolidate. I want to do it first rather than get stuck with the leftovers.”

At this point Lafley intervened. “The most important thing about scale is to create the ability to reinvest,” he declared. “If you are an innovation and technology company like us, you have to keep reinvesting in branding and innovation. You can never take the pressure off innovation leadership.”

Which is P&G to be? A scale-driven juggernaut: an acquisition machine whose only real source of growth is more, bigger acquisitions to feed its increasingly demanding growth targets and hungry infrastructure? Or an innovation leader (see box)? Lafley is working hard to create “synergy” between the two. But what happens if and when the requirements of one contradict those of the other? At that point, Lafley’s “sustainable growth model” could come apart at the seams. Right now, however, the juggernaut is still gaining momentum.

This will involve some fundamental rethinking, such as ‘What, exactly, is a premium-priced product?’. Traditionally, P&G has focused on selling premium-priced products to premium-pocketed consumers in prosperous Western countries. But now it is redefining the concept to make it always relative. No matter how low someone’s income, if they are becoming more prosperous they can always be persuaded to trade up if there’s a clear benefit on offer. ‘Premium pricing’ applies as much to developing countries and poor consumers as to the developed and rich. Part of Lafley’s formula for sustainable growth is positioning products and brands all along that spectrum.

A second, crucial, part of the Lafley doctrine is is cross-fertilisation. Visit any P&G building and sooner (rather than later) you’ll find a complicated picture of P&G’s ‘connections map’ on a wall. If you know everything there is to know about say, calcium, you can re-use this knowledge many times over in many different categories: to deal with calcium deposits in water, improve dental care, or treat osteoporosis, for instance.

Thus when P&G bought Iams five years ago it immediately placed its boffins’ expertise in areas such as human bones, teeth, and gums at the disposal of pet food marketers. The result was a stream of ‘healthy’ new products for pets, such as weight-control formulas, tartar-fighting ‘dental defense’ ingredients and so on. Lafley has even gone so far as to rename P&G’s research and development processes to stress cross-fertilisation: it is now called ‘Connect and Develop’. For P&G-Gillette, Lafley is already promising to ‘poke around’ for cross-fertilisation opportunities in oral care, women’s hair removal and male grooming. Women’s hair removal alone is a $10bn (&£5.3bn) market without a clear leader.

Cross-fertilisation is also key to P&G’s marketing: the ability to identify and spread learning from one region or category to another, so ‘world class’ practices are implemented across the entire business.

If there is a credibility gap in the Lafley doctrine, it’s here. Wall Street marked the merger news with a slight dip in P&G shares on the back of scepticism about its incremental growth claims. That underlines the acid test for the new entity: not just to exploit scale but to nurture a culture of creativity. And that’s a much taller order.

Innovation and trading up

Any merger can deliver cost savings by eliminating overlap. The real challenge facing P&G Gillette is whether it can use the tie-up to create genuine incremental growth.

This will involve some fundamental rethinking, such as ‘What, exactly, si a premium priced product?’. Traditionally, P&G has focused on selling premium priced products to premium-pocketed consumers in prosperous Western countries. But now it is redefining the concept to make it always relative. Now matter how low someone’s incom, if they are becoming more prosperous they can always be persuaded to trade up if there’s a clear benefit on offer. ‘Premium pricing’ applies as much to developing countries and poor consumers as to the developed and rich. part of Lafley’s formula for sustainable growth is positioning products and brands all along that spectrum.

A second, crucial, part of the Lafley doctrine is is cross-fertilisation. Visit any P&G building and sooner (rather than later) you’ll find a complicated picture of P&G’s ‘connections map’ on a wall. If you know everything there is to know about say, calcium, you can re-use this knowledge many times over in many different categories: to deal with calcium deposits in water, improve dental care, or treat osteoporosis, for instance.

Thus when P&G bought Iams five years ago it immediately placed its boffins’ expertise in areas such as human bones, teeth, and gums at the disposal of pet food marketers. The result was a stream of ‘healthy’ new products for pets, such as weight-control formulas, tartar-fighting ‘dental defense’ ingredients and so on. Lafley has even gone so far as to rename P&G’s research and development processes to stress cross-fertilisation: it is now called ‘Connect and Develop’.

For P&G-Gillette, Lafley is already promising to ‘poke around’ for cross-fertilisation opportunities in oral care, women’s hair removal and male grooming. Women’s hair removal alone is a $10bn (&£5.3bn) market without a clear leader.

Cross-fertilisation is also key to P&G’s marketing: the ability to identify and spread learning from one region or category to another, so ‘world class’ practices are implemented across the entire business. If there is a credibility gap in the Lafley doctrine, it’s here. Wall Street marked the merger news with a slight dip in P&G shares on the back of scepticism about its incremental growth claims. That underlines the acid test for the new entity: not just to exploit scale but to nurture a culture of creativity. And that’s a much taller order.