NO COPTF-q MAY BF NfAr)F
Winutes of a meeting beld in Windsor House on
Thurs&y 12th August 1991 to d' ixu cost
reduction opportunities in the Tobacco business.
Present: Mr U G V Hefter, Mr D P Allvey, Mr B D
Bramley, Mr D Brown (part of the
meeting), Mr A Monteiro de Castro. Mr E E
Ettedgui, Mr E E Kohnborsr. Mr
C Schoenbachlcr. Dr B Schweitzer. Miss H C Barton
1. NIr Herter introduced the meeting by saying d=
bc had called for the mee:dng as a
result of the price war in the US. which could
&-ielop into a wider issue with
competitors cutting prices to regain market sham
in simila situations in other
countries. BAT can survive a price war only if we
are the low cost proykL-.. In
addition we have a commitment to shareholders to
grow profits by cutting C--'as
wberrier possible.
2. All members commented that there art numerous
case studies of price war-- in
differem countries around the world from which we
could learn. It was also azr-=d
that we should be pro-acdve in identifying markets
at danger f.-= price wan in order
to take proactive step if possible. ~fw Barton
will work with Nir Birtzh2m to
omduct- i pacer for the TSG in December, se~ out
c=e histcries and lessc= :C te
lmrned from them. and anaivsing potentialare:i of
risk.
3. Mr SCbDe13b2c:hle-- enLained the backgrcund to
tl)C dc/clopments in the US m3lir-m
since 'Maxiboro Friday*. VFM market sham had n
!erated from 30% at the !nd of
199: to 40% by May 1993. The actions si= then have
compi=!v cha=---J this
mend. wtdc~ Ls ww flar at best. M2xftro has
increased its marke: share 1;v 3 or 4
sham points. W-triston picked up slightly but in
g=erai the weaker brards hm either
aot zained or have lost marka share.
4. In the period from Luc March to Luc May, Basic
gained market sharc brf being
heavily promoted and discounted with a wide margin
for distributors.
5. The braod which has gained most from the price
cut is Marlboro, and Philip Morris
has gained 1.43% net market share increase. The
main brand losen we.--- private
label. Cambridge, Best Value. Merit and V-uginia
SUms. B.&W, Lig.-- and
Lorril1ard have ail lost oa market share.
6. 'nere is aow a two der market with list prk= af
$10.79 and $8.09. By announcing
and tb= reversing a de=icn to reduce VFM pru= by
SLI5, Philip Morris have
demomstrated that they will Wo wLvem a=ons are
n==%ary to defend their markw
sham. Therefore it is expected that if the Level
of discciuntittg, and the shase of VF11d,
increase, PNI will react forcibly.
C~)
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7. Other price wars appear to happen where the
differential between FR and VFM is too
wide. or where the rate of retum is too high, crr
where a cr,-Vtiw. wants to gain
aLarkm sham. For example, duty ft= is vuLacrible
becai= margins are very high.
Each market has its own percep on of Lbe
acceptable margin which depends on the
absolute price level. the competitive environment,
and whether the economy is in
recession.
Profit Outlook for 1993
Nfr Brantley reported that the July forecast for
BATCo would be available next week.
The June forecast of f-584m PBIT has downsides of
about E20m (Asia Pacific North.
property -sales, Spain), and some possible
upsides.
10. Dr Schweitzer reported that the BATCF budm of
DM 269.6m had be= reduced in
two stages. In the rim stage the fall in volumes
resulted in DM 88m lower profits,
offset by DNI 49.5m cost reductions. In the second
stage, volumes fell further to
reduce profi(s by an additional DM 81m offser by
cost reductions of DM 35.7m.
Tberefore the lat= forecast is DNf 185.5m. DM 38m
of the cost reduction is from
arkednz.
M
I
11. On top of this. there are downsides of DM 8m
from the forecast 2bn sales to Iran, in
additional DM 2.5m costs for operdne up East
Europe, DM 12m accounts r=ivable
at risk in Iran. and the weakness of L~e Italian
lira. A small offse: is DIM 2m reduczd
de-pr=iation on lower =pital expencL,:Lrt.
12. SATCF*s market shar-- is steady but Lle
triarke, is down as a result of roLls and transit
(esnmated at 15bn, 12% market sLur: and grorwing).
G=cricz are not growing as
consumers still prefer brands.
13. Dr Schweitzer reported the rumourt-d possibWry
of the Lu=h of a Camei refill pack
for a re-usable plastic box--- ims wourd--hive
the''adVantage of appealing to
e3 virorunenEal concerns and allow a lower p6--
equivalent to dmt of West (which
would m be fully justified by the lower costs). It
would be difficult for vending
machines (30% of the market) and food stores. but
would work in tobacco i .
14. Hr Castro reported that the latea forec= for
Souza. Cruz: is expected to be S270m,
which is S2m lower than. the l= farecast but S2m
higher thin budget The
improvements of $20m for prices of 34c vs. 82,c.
$12m from taxes not being raised,
54 m from a 2 mouth delay in the rrnng n tax and
S2m additional cost reductions,
am offset by lower domestic and export cigarette
volumes and lower L=f exports at
lower prices.
15. Nir Schoenbachkr reported that the katc:st
forecast for E&W was Unly to faH from
S369.5m to S367.4m (agai= S887m in 1992). The
$520m year on year decline is
dw to S274m from elt-i-ing the awk load. S50m
increasie in Marketing, $25m C:)
N.)
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increase in selling field, and approximately S170m
from lower US domestic volurnes
and poorer mix.
16. After declining by 25% in the second half of
1992, Kool has beJd -d= share, or
even sflghdy increased share in the fim half of
1993 as a result of its support. There
could be some upside in the domestic forecasts for
Kool and GPC.
Cost Reduction Pror"-mes
17. Dr Schweitzer reported that the guideline to
retum to 1992 profit levels i.e. DM
228m. adjusted for DM 27m from B&H, was very
challenging. 1992 was
exceptionally good for exports and the Iran busin=
and benefitted from DM 20m
BerLin preference. Tbere is a risk of a price war
in Germany as Reynolds and
Rothmans am both losing share.
18. New cost reducrion programmes include:
outsour-,~ng some of the jobs in the field for=
such as cbecizing veoding
machines. simoie mechandising. T"his could also
increase efficiency by
concen-tratmg the field forct an selling. It shmid
save DM 10m, p.a. from 1995
onwards. In Germany, Prwor & Gamble are
experimenting with outsourcing
the wbole fie!d for-- by scUing it to a
merchandiser and leasing it back an better
terms. Th= could be inte:=ting ideas for BATCo in
F-,Ircpe:
inte--~z R&D Lorc
conside-ing, closin2 Be-Lin and putting the
production into Seyreut'~. 'rais would
M-k- S-CU-se Only if volume projections were.
below 55ba and depends on the
outcome of the F-urcApeartManufacairing Locamm
Strategy.
19. The posmbiliry of moving the head quarters
from Hamburg to Beyr=h was di--d
- but felt to be a lower priority for consideimon
as B~yreuifi'-Ias p6or transport
connections and would aoc be attractive to top
quality Marketing staff.
20. W Castro reported that the head count in
Sotiza Cruz bas fall= from, 18,297 in
December 1990 to 15,918 in December 1992 and is
project-1 to fall to 13,881 by
December 1993. Thrm plants have been closed, Fwahy
bas been focused an cigarette
paper, sales depots have been centrilised and the
bead count in L=Lf and Finance
departments has been reduced. W C-2AM believes
that it will be possible to reduce
the bead coum: to below 10,000 in 2 to 3 yean.
21. Future cost reduction opportunities include
closing another plant and rationalising
bead quartm.
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22. W Kohnhor3t reported on the prograw made on dw
-~ of research resmrces.
Our R&D resource is not out of lime with that of
our competitors. Them is good sbort
term co-ordinadon through the work[-wide b=
prograrnme which is Marketing
driven. There is aLio an integrzted approach to
tech logical developments.
However there am stiU areas which rernain
uncoorclinared.
23. W Schoenbachler explained that McKiaseys am
about to start the performance
diagnostic element of an orlm-xisarion structure
and efficiency review. This will
cover.
* the gap between E&W's performance. tb= of
compedrom, and sb=holder
expectations-,
0 sales and marketing, for example. the efficiency
and effectiveness of paying for
space in stores, sales force mlls. HQ suppart:
. operations. including manufacturing pro&acdvity,
logistics and overbe:ds:
. corporate HQ.
As weU as a functional review, cross funcrionzil
opportunities will be sougbt. The
diagoostic wW use approximately 8 B&W and 8
McKinsey staff and will take 31/2
months and the implem=tadon 6 to 18 months.
McKinsey estimate as a rcuzh order
of ma--nirude. based on- sirriia ;;mje::-.-. that
the--- could be savings in excess or
S i 00M.
24. Nir Kohnhorst. presenred PTojez Core which is
kx~dng for breakthrough product c=
reductions. by challenging cony=ricnal thinkin wUe
mainmining stooking qualiry.
and consumer accepLance. Initianves am expected to
reduce costs cumulatively by
$200tn over the next four years.
25. Xr Brown expressed the opinion U= the US L=f.
"D.,ii , -L,*,u*ons- are coutrary to
GATT and NAFrA. The= is a possibility tl= they
were included in Lbe Budgm
package for political reasons and wiU not be
applied.
26. Lmperial Tobacco is forecuring to be C514m Wow
plan in 1993, and to come back
to plan in 1994, although with a wide range of
uncertainty. The marixt is very C103e
to a price war over re-imports. The legislarive
reaction to = avoidance is difficult to
predict- Mr Br2zaley will irrvcmgam the
possibility of manufa=ring for the
Canadi, market in Southampton.
27. Imperkil Tobacco is down to two marrufacmring
plants, ooe efficient and one less
efficient as a result of its mix of productim Plaw
am being made to take ldvantage
of the likely attrition of 100 people p.a. The - I
, of brands and brazW pacia i3
being reviewed. Two thirds of advertising cosm am
gmsorship and this is being LrI
c:::)
rIj
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re&vW carefully to the level necessary to
m9amin/graw maric sbam A-T-
Kearney are investigating the costs of logic
28. W Bmdey repotted tha BATCO have the o*cdve at
reclixang the fixed UW 39MM-
variable costs per mille (excluding depreciation
and advertising) by 5% P-L in real
terms, and the pl= show thm this will be achieved.
Eris main concern is the cost of
headquarters (Millbank costs L60m p. a.) and dm
may be lawns to be I= rned from
B&W hem. Ibis will be addressed when Project
Rubicon has settled down.
29. Tbere ue cost reduction opportunities in the
ratiomfisatiou of Central American Leaf
operatioas and factories. A stmegy paper is being
prepared on the Caribbean but the
opportunities would require a change of policy by
B.A.T Industries. Ibis also applies
to factory radonalisation in Africa. The smaller
plants in Europe (Brussels, Cyprus.
Cananes and Finland) are being examined, as arc
possible rationalisations between
BAT China and Hoag Kong, and countries wbere we
have adjacent GLT pLuts-
30. It may be cost effective to exit from L=f in
some ramiets. There could be
cTortunities by making more Group purchases thmugh
MWbank. There are many
mariets wbere our facilities could be down-sized.
far example, Arg=d=, V-1ela.
Asia Pacific, Australia and the Sub-Coatinc= ;md
work- W- a Irrneiv started in some of
these areas.
31. BATCo has f.500m margin betwe-ca the fac-M and
the ramiler. some of wbic.~ it may
te possible to claw back. for e7ample. by havirm
fewer dis-mbutors. In Australia
warencusine, de!ive:-,- and cx-- are bet'n2
coatmc= out- Sumius asset: ---uld be
sold.
32. There = some opporTuniriez which should be
disamsed it the Segtember met=, for
exa=le. that the-. are more management laym above
d= be!cw the GMS, and the
duplication of export offices.
33. W Herter summarised by saying Lh= he was
rmsmzrd by tbe-leve! of inezzica being
paid to costs. There am no taboos and apportunide:
must be idendfied a=m the
Group aoE just within the Operating Groups. If we
can make cost savings by
morpaising this will be discussed in September.
C2 vital F,,,zxndfture
34. W Herter explained that it was rmc=sai7 to
re-examine our capital expenditure
particularly for incr=ed capacity in the Ugbi of
lower domestic market and export
growth projections.
35. W Kabahom showed the B&W U= volunse fore= for
1998 of 117.5ba, which
is well below last year's plan. Heace the c2piml e
I-- NE re priorifm am to achieve Ln
fkmbility at minimum cou, to phase -pp-rhl re and
to mak= o~~f
r1 J
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plans. Ile key mix issues of box, menthollmdried
and export/domescic are being
addressed, and cost reduction is being ac lerated-
36. The of phase: I of the Macon expansion have
been = by M25m, the capacity
bas been reduced by 25be to 130-135ba (expandable
to 165bu) and product
advantages (redrying leading to gre:ater
uniformity, lower foreign marmr. and less
downtime for cleaning) have b= achieved.
37. The total cost for a.1.1 four phases has been
reduced from S342.7m to S257.3m.
38. ELT does not run 24 hours, 3 shifts. It could
have surplus capacity by ex=ding
hours with some changes to manning leveis. Monk in
Guatemala ships dried whole
Leaf to US for GLT. This may be an opportunity for
BAT. There may be surplus
capacity between ELT and Souza Cniz. W. Bramiley
will ask TW Soowden to
investigate this with Nir EWThon and Nir Be
39. Nfr C2stra reported that 524m capital
expendimm in Souza Cruz has be= Pc-j~-'J
in 1993 because of lower volume pmjectioas both in
the domestic and export mark= .
At lc= $10m will iLso be poaponed in 1994. Souza
Cruz has exc= capacity today
such that it could ope-= solely with Uberiandi-.
Closing additional pL= is
poLitically difficult and therefore excess
cavacity is likely to continue for some time.
40. Dr Schweitzer reported that DM 68m capimi
e=endinim in BA-:C7 was for
rationalisation ard automation proje= am cct -orr
capac-.r;. Some =iml
expetKUture decisions have be= deferred' and am
DOW cu =Itiv on ~wc shifts. and
ca=rt could be incrmised ftatber Dv movinz o mr--
shifts.
41. Mr Emmley reported that the saies forr=~- for
the Southampton fac=7 arc wed
down and na just for Asia Pacific North. Various
opacas are being considered, such
as the phasing of capital expendinim in
Southartimn or closing other plants morr-
quickly. The blended line has be= de!ayed by two
ye=. although tbi3 may need to
be brought forwa-rd- again if other piants; are
closed. or if some Virgirvi, h-memave
mom to a blended product. Mr Herter st=sad d= we
would need to look amss the
Group for blended capacity before investing La
Southampton.
42. Mr Herter asked W Kalinharst to update the
Group view of capacity as qaickly as
possible and at the lat= for the 17SG meeting in
December. This is needed to review
the individual Openting Group plans. Mr Kahnhor3t
mid that th~ wais ahmdy
being prqnred as part of the dimster recovery
exr:vise, but it wiu be ar lem
43. Mr BmmJey will ask N1r Davis to update, in
pamlleL the work on the standardisatica
of production particuMy of M. This needs to be a
joint Manufacturin&SLukcting
dative, and the proposal is oot to change
everything now but to move towards
sta rdisation. W Bramk7 will am ask W Becic wbaber
the pi r - - in? -s fbr Ln
Group ordering of machinery ftum major stippfim is
working sx=faictonly. C)
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Lkccount-c Receinble 2nd InventorioR
44. LW Bmmley mported that BATCo's Debtm and
Stock3 increased from EO.88ba at
the end of 1991 to U. I Mm at the end of 1992. 7be
k==m of E300m wu made up
of fll9m currency movements; L123m stocks (oew
companies, closing factories.
leaf stocks for export, conec leaf durations and
raw materials for exports); and Mm
debtors (VAT, new companies, incremsed cigaretre
prices), i.e. nothing particularly
unusual.
45. Ile major item is Stocks which are expected to
be only I % higher in 1993 than 1992
and am likely to fall next year. Stock turnover is
fore= to incre= from 2.7 in
1992 to 3.1 in 1993, and debtor turnover to imumve
from 5.9 to 8.0.
445. Dr Schweitzer rrported that BATCF was cutting
dawn Leaf purchases to bring
duration back to 12 months. lFinished goods stocks
smnd at 14 days as usual and AIR
at 48 hours. All exports am for cash up front with
the exception of the DM 12m debt
in Iran.
47. MY Castrn mported no probleTns with debtors in
Scc= Cruz which stand at about 4
days. However there is a huge problem with Leaf.
with increased L=f production.
lower domezdc cigarette sales and lower L=f e=, .
The lat= crco wu 240k
tonnes against the 225k tonnes pLa=ed, bowever the
price paid was Lbat contracted
for 226k ton=. The duration has moved frurn less
than l'-1 months in 1991 to 24
months now.
48. Souza Cruz is coau-aczad to buy 179k tonnes in
1994 whic;-L has rc-suitcd in m,2nv
complaints. Lm this will bring the duration back
ro only 21 months. There is a danger
that f2=e-s who stop growing Tobacco will oct
start again tven if it is ne:::~ in the
furun.
49. Nir BrmWer will ask Nfr Snowden to review the
forec=s for real dernand for Leaf
in order to give better central guidance. In
addition the Leif Directors will-be &4-.,i
to review how much Tobacco is being brougbi from
cutside the Group. and the prices
being charged w Group as opposed to third party
custoax-rs.
50. W Schoenbachler explained that B&W must
declare its damestic Tobacco purchase
requirements ooe yearahea . It then has to buy 90%
of its forecast or pay a penalty.
B&W is currently evaluating the financial effects
of buying 90% or paying the
penalty. It is also evaluating reducing its
duration and talcing the risk on being able to
buy L=f as necessary from dealers.
51. B&W's AIR are forecast to fall from above
S200m at the end of 1992 to S50m at the
end of 1993 as a remh of the de-loadiag in the
domestic marict. 'A % dis== i3
given for paying within 2 weeks. 71tis is cqms~m
but it reduces the risk from the Ln
trade which is in financial difficulfm. $131m
ofthe S154m irmmsational AIR is with
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Sumitomo in Japan. This could be reduced but only
by wEwg les3 in Japan. $10m
AIR transLues into S5m tradng profit.
52. Mr Herter summarised the meeting by saying
that he believed that them was much
value from the cross-fertilisation of ideas. It
may be possible to use the McKinsey
approach in other parts of the Group. Ttere may be
further scope for capital
expenditure reductions as volume projections are
still high. It was confirmed thaa
there will be a TSG meeting in September to
discuss furtber the Group co-ordinadon
issues.
ECB
17-Auz-93
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