Reformulating Coca-Cola

by Josh Sosland
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It’s all about executing millions of simple little things, the right way every day."

"Sexy" is not a word many people would use to describe this vision shared by E. Neville Isdell, chief executive officer of The Coca-Cola Co.

In a presentation updating investors on progress since he assumed the Coca-Cola helm in June 2004, Mr. Isdell and colleagues helped draw a picture of the "simple little things" the company was doing to renew growth at the world’s largest soft drinks company. Rather than seeking a silver bullet or simply riding on the strength of the company’s unparalleled brand strength, Mr. Isdell is pursuing renewed growth through painstaking and comprehensive effort.

While the changes put in place under Mr. Isdell’s leadership are numerous, not all the changes could fairly be characterized as "simple little things." Major shifts have taken place in the company’s executive management, a concerted effort has been put in place to improve sagging corporate morale and significant investments have been selectively made in markets where Coca-Cola lags. For instance, the introductions of Full Throttle and Vault have helped propel the company in short order from a 0.6% share of the rapidly growing energy drinks market to 20% to 21%.

Indicative of his emphasis on execution and details, Mr. Isdell has not focused exclusively on markets enjoying the fastest growth such as water, energy drinks and sports drinks. Even in the sluggish carbonated soft drinks sector, Coca-Cola has taken major steps to arrest the slide in its business and resume growth.

As the world’s largest maker and distributor of soft drinks, Coca-Cola offers four of the five leading soft drink brands. Led by its Minute-Maid brand, Coca-Cola is the world’s largest company in ready-to-drink juices and juice drinks and is the leader in the ready-to-drink coffee and tea categories. With roughly 80% of its business outside the United States, Coca-Cola sells and delivers more than 1.3 billion servings per day, spread across more than 200 countries, the company said.

However impressive its scale may be, the Atlanta-based company has not grown profits much in recent years. After consistent double-digit growth year after year in the 1980s and 1990s, net income growth in the 2000s has averaged less than 5%. The company’s stock price last week was 15% beneath where it stood in January 2000 and 42% behind the all-time high, set in June 1998.

The lack of earnings growth has been dispiriting not only in contrast to earlier performance but also in comparison with its most prominent competitor — PepsiCo, Inc. Fueled by strength in markets in which Coca-Cola either lags or does not participate (most notably snack foods), PepsiCo’s market capitalization earlier this year eclipsed Coca-Cola’s for the first time ever. More recently, Coca-Cola has moved slightly ahead, with a $101 billion market capitalization, versus Pepsi’s $98 billion.

Given the company’s persistent weakness, it may not be surprising that Mr. Isdell has worked to bolster the Coca-Cola corporate culture. More than half of the company’s top executives are in new roles over the past couple of years, and 40% of these executives came to Coca-Cola as external hires.

Mr. Isdell also expressed concern about morale, noting that a November 2004 measure showed Coca-Cola "way below the average engagement scores of high performing companies and clearly below our peers."

Twelve months later, the company showed "very strong improvement" he said, just beneath engagement scores of high performing companies.

While success outside of the company’s carbonated soft drinks business has been emphasized in recent years, stemming the decline of this flagship business has been a significant effort. The company maintained its market share in 2005 after slipping nearly a full point both in 2003 and 2004.

"There is work to do on that, but stopping a curve that’s going that way is actually the most difficult piece of all," Mr. Isdell said last December.

More recently, the company enjoyed further improvement, driven by new product introductions.

"Last year, as you know, for the first time since 2000, we grew unit case volume for C.S.D.’s, in excess of 2%," Mr. Isdell said in April, announcing first-quarter financial results. "This quarter we accelerated that trend and grew C.S.D.’s 3% with regulars and diet growth of 3% and 5%, respectively."

While the sector may not have the potential for growth of sports drinks or bottled water, the benefits from the turnaround in soda pop are extraordinary, accounting for fully half of the company’s sales growth in the first quarter, Mr. Isdell said.

That said, Coca-Cola continues to progress in its lessening reliance on its C.S.D. business.

"Our non-C.S.D. beverages as a percentage of our total beverage portfolio advanced another 100 basis points during the quarter, and that is considering the fact we’ve had C.S.D. growth," Mr. Isdell said.

Between products such as Tab Energy, Dasani Sensations and Coca-Cola Blak, the company’s new product pipeline is its most robust in years. Still, major hurdles remain to be cleared if the company is going to maximize its growth in the years ahead. Calling the North American business a "work in progress," Mr. Isdell suggested headway with bottlers was needed as was further penetration in the sports drink market. The company gained two share points in that market in 2005, but PowerAde remained a distant second behind Gatorade.

Until more progress is made against certain of these issues, Coca-Cola is likely to face skeptics. Bear Stearns is a case in point, notwithstanding its decision last week to upgrade the company to an "outperform" rating.

"While we still have profound reservations about Coke’s management of its franchise system and how it pursues maximization of system profits, our near- to mid-term outlook for (Coca-Cola), the stock, is more constructive," said Carlos Laboy, a Bear Stearns analyst.

Mr. Laboy raised his forecast for fiscal 2006 earnings to $2.34 versus a Wall Street consensus of $2.29, predicting other analysts will follow because of "what we see is a more benign foreign exchange environment than generally anticipated."

Ultimately, Mr. Laboy said he believes Coca-Cola is likely to under-perform until it better aligns its relationship with bottlers, particularly in Latin America, and is unimpressed by the company’s forecast of 6% to 8% EBIT growth, noting that PepsiCo, Inc. is achieving 15% annual EBIT growth internationally.

More upbeat about Coca-Cola’s outlook is Bryan Spillane, an analyst with Bank of America who recently participated in a Coca-Cola sponsored trip to Germany and Russia.

"We walked away believing changes that management envisioned in 2004 are beginning to show up," Mr. Spillane said.

Selling a Coke without having to say you’re sorry

Regardless of prevailing attitudes about the healthfulness of soft drinks, the Coca-Cola Co. must not be tentative as it markets to consumers if the company is to thrive in the years ahead, said Mary E. Minnick, a corporate executive vice-president and president, marketing, strategy and innovation.

"We want Coke to be more relevant," Ms. Minnick said in a December presentation in which she described a major new advertising campaign set for launch next month. "We want to sell consumers unapologetically. We want to move from ‘Coke’s around’ and ‘Coke is maybe part of the action’ to ‘Coke is a relevant, integral part of consumers’ everyday lives.’ We have one objective, and that’s to make choosing Coke a purposeful act."

This goal will not be by simply following approaches from the 1980s or 1990s, Ms. Minnick said.

"We are going to reinforce the core values on this brand, but we’re going to do it in a tone and a manner that couldn’t have existed 5 or 15 years ago," she said. "We’re not going back to yesterday. We’re going to build a relationship with consumers, not hold a mirror up to them."

The new campaign, "Coke Side of Life," will depend less on television advertising than Coca-Cola has in the past, reflecting what Ms. Minnick described as the diminished effectiveness and reach of the medium.

"We are using multiple mediums to reach multiple targets via global campaigns," she said. "It’s not enough to

focus on teens only, but when we do, we’re going to talk to them in different ways. We are producing global ads that transcend geographic boundaries.

"I’ve spent 22 years in the Coca-Cola system, and I’ve watched the pendulum swing from global to local, and I’ve heard a lot of people talk about going global and going local. I’d like to think we have found a solution in the middle, where it needs to be, which is a global point of view that is consistent and strategic but that is still locally relevant."

The global approach also will help the company demonstrate its ability to satisfy the gamut of consumer demands from products that are indulgent to others that are extremely healthy, Ms. Minnick said.

Her presentation was built around 10 need states that help explain what consumers drink and why. Based on in-depth surveys of 60,000 consumers, Ms. Minnick said the study shows Coca-Cola has extraordinary growth potential if it manages to more effectively match up its products with these need states:

1. Routine refreshment (5% current Coca-Cola
market share)
2. Hunger and digestion (4% Coca-Cola share)
3. Sensory pleasure and food enhancement (12%)
4. Having a good time (8%)
5. Comfort and relaxation (5%)
6. Self confidence and individuality (5%)
7. Energy and stimulation (4%)
8. Active replenishment (11%)
9. Mental renewal (4%)
10. Health, beauty and nutrition (2%)

Ms. Minnick described the first categories as "enjoyment today," the second several as "feel good today" and the final categories as "feel good tomorrow." The overall market size was estimated at 352 billion cases. "For too long, the Coca-Cola Co. has been defined too narrowly," she said. "Our strategy is to help people realize the possibilities and life and understand how beverages can play an important role."

In carbonated soft drinks, the company’s flagship "red Coke" has been the principal vehicle for "bringing people into the Coca-Cola franchise, and that generally happens when they are young," Ms. Minnick said.

As consumers age, they transition to diet products, she said. Emblematic of how Coca-Cola is seeking growth in the diet soft drink market is the introduction of Coca-Cola Zero, a product concept that at first blush seems barely distinguishable from existing Coke products — Diet Coke and Tab.

Coca-Cola Zero is targeted particularly toward younger males, who may not want to buy a product with "diet" in the name or a soda in a pink can.

"What’s nice about Coca-Cola Zero is it now frees Diet Coke up to going back to whom and what it is was intended to be — which is a distinctive taste brand designed for consumers 30-plus who are individual and confident," Ms. Minnick said.

The distinction between the diet brands appears to have caught on with consumers. By the end of 2005, Coca-Cola Zero was approaching a 1% share in supermarkets.

While diet soft drinks fit roughly into what may be described as the wellness category, Ms. Minnick noted that nutrition in beverages is a complex topic, related to several need states and including healthy ingredients, calorie reduction and even beauty enhancement.

The company has used its juice business, primarily Minute Maid, as a "carrier to deliver additional benefits," Ms. Minnick said.

The company’s Odwalla brand, acquired early this decade, s the company’s cutting edge wellness platform.

"Odwalla is the perfect learning lab for finding out how far we can push the boundaries of wellness with regard to beverages," Ms. Minnick said. "It also meets the needs a whole new kind of customer and channel, from natural food stores to Starbucks."

To address questions of health across the range of Coca-Cola products, the company has established a Beverage Institute of Health and Wellness, governed by a board of 13 independent directors, scientists from around the world, Ms. Minnick said.

"The objective is to be able to provide factual and credible information to address consumers’ issues with either our brands or ingredients," she said. "We’re also conducting clinical trials as part of the institute because we believe transformational wellness programs will require that kind of science. It’s not hard to find a beverage or an ingredient that does something positive for you, but it is more difficult to prove it so that you can advertise it and talk about it, and that’s the point of getting into the clinical study business."

The center also will focus on patents on technologies.

"There are a lot of the healthful ingredients out there, but once you put them into beverages, they tend to dissipate, or they’re difficult to maintain in stability or they change the taste of it," Ms. Minnick said.

Tapping into health and wellness issues will be a part of changes the company is making in its coffee and tea businesses. Ms. Minnick said the Nestea business in North America is getting "an extreme makeover" with a new formula, line extensions and new packaging. Teas will be launched under the Gold Peak trademark, which ultimately will be used to introduce healthy teas, including green teas and teas containing antioxidants.

"We will also be in the U.S. launching an indulgence coffee," Ms. Minnick said. "In an analysis of the coffee market, the readyto-drink coffee market, consumers do want indulgence, and we believe we have the ultimate indulgence trademark that will be combined with coffee to create the ultimate coffee indulgence experience in North America."

While much of the company’s strategy is focused on building volume and market share, several products are geared toward improving the company’s margins. Ms. Minnick noted that products such as Vault, Full Throttle and Dasani Flavors have more than twice the profit margin of the average Coca-Cola product. PowerAde advance, a line extension, is targeted for higher profitability through marketing exclusively in a single-serve package sold for immediate consumption.

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