PRESENTATION BY ULRICH HERTER
AT 1995 BATCO GMs CONFERENCE
Good morning everyone and thank you, Barry, for
asking me to
talk about B.AT Industries' strategy for tobacco.
The findings
f7 om the first round of manaaernent inter-views
conducted in the
course of Project Battalion revealed a
considerable deazrz~e of
concern about the Group's apparent lack of
strategy.
Le: me say, right away, that I do not accept this
criticism about
our lack of strategy. What I do accept is that we
have not
communicated our strategy clearly enough in the
past. This is
therefore a good opportunity for xplami what we
are
C me to e
L-ving to do and why.
I am -oinLy to concentrate almost entirelv on our
tobacco
Ely '1l be 'nz
szrate , s"nce Martin Brouahton wi coven - the
role that
tobacco is expected to play in the future
development of B.A.T
lpdustries, and the strategy for the Group as a
whole. on the
final day of this conference.
As Keith Dunt will be cg~ving you an update on
Project
Battalion after this, I don't want to say much
more than that
both Martin and I are totaliy committed to the
radical chan2e
that Battalion will involve. Battalion follows on
loc--icaliv from
the move to end market control and it is about
nothin2 less than
the requirement to change the structure of our
organisation so
CD
that tobacco can be mana2ed as one worldwide
business.
BAT Industries document for Province of British
Columbia 3 November 1999


T-nis does not, however, mean that we intend to
become a
cc)mcan%- with riaid central control. Our aim is
to preserve our
decenrr~ised culture because it provides us with
an important
comret:izive edge. Our ambition is to achieve the
--reatest
possible degree of delegation, with absolutely
clear
accountability.
Th~ ri.-,v structure will, at the same time,
provide for clear
strare--ic direction and will also incorporate
very clear decision
processes ror those issues which cannot, or should
not, be left
to ~n'-; mark-ets- Two good examples are
intemational brands
and -oroduct sourcin-, within which I also include
manufacturing strategy. That's aE on Battalion for
now.
Our obJectives for both B.A.T Industries and
tobacco are verv
focused. The primary objective for B.A.T
Industries is to
pro,, 1 - our shareholders.. over the long, term,
with a total return
above ihe average of the companies marina up the
FI.-k1l-
C,
S"-.a.,e Lidex. Total return measures capital
growth and
dividend 'income and is therefore appropriate for
a group, like
C,
BAT. that is comn-&ted to dividend increases
siEmificantiv in
e.-~~ess of the rate of inflation.
B-AT's oblective for tobacco is to re2ain our
position as the
world*s number one tobacco business within 10
years and
Lhereb:- deLiver strong profit growth. I believe
that this
object-ve is stretching but achievable in volume
terms but I do
accept that it is unrealistic in profit terms. r1i
CD
A,-.
1 : .% 1E. however, maximise the profit and cash
flow to the Ln
LM
Group from the tobacco business over the lonLy
term, without
J.eoparcising our short term profit targets. In
the lona term, CD
the.-,- will' be a virtuous circle of rising value
share, as well as
,-olume share and the objective of being number
one in
p-ofi: tc=s will be met.
BAT Industries document for Province of British
Columbia 3 November 1999


Vv,'e will zrow our value share in those markets
where we
already have a large volume share, and we will
--row our
volume in other markets. We will also invest in
new markets
and expand through acquisitions, if they make
financial and
strategic sense. Last year's acquisition of
American Tobacco
sets a ver-,- hi2h standard for a developed world
deal.
In our assessment, there are a number of things
that we must
achieve ~f we are to regam' the number one
position in volume
terms in 10 years:
- maintain volume in the shrinkinc, US market,
building on
the -~.merican Tobacco acquisition and the success
of
Kool. GPC, NEsty and Carlton;
maintain share in the o--rowing Brazilian and
Indian
markets-.
continue to grow share in Japan;
achieve a significant position in China;
establish the joint venture in Turkey:
build on the investments in Russia and Eastern
Europe.
As well as these specific targets, there are also
six strategic r1j
imperativc,s. CD
-r.
(_rl
CM
-3
N)
BAT Industries document for Province of British
Columbia 3 November 1999


Develop a focased, segmented and differentiated
brand
portfolio
Fi:s:. we have to develop our international brands
to generate
fuaire profit and cash flow. I kmow that, in the
past, there has
se-.:ned to be an endless debate about which of
our brands
aca:anlly qualified as international. Our criteria
for the selection
of 'International brands are that they should be
seen by the
co::sumer as international and that they should
have critical
mass. On this basis, our internarional brands are:
Luck~
St~~e, Kent, Pal.1 Mall, Viceroy, State Express
5-55, Benson &
He--'2es, John Plaver Goid Leaf, Barclay and
HoLlvwood.
C----'ron and Silk Cut are two new possibilities
available to us
slnz~2 we made the deal with -American Brands. End
of debate
Ea~--*:i of these international brands must be
consistent on a
,xon"dwide basis, something I accept that we have
been weak at
in tae past. If we are not to confuse our
consumers. we must
ha-.-z consistency in the product itself, in its
commurli cations, its
p.--':~'-ng and its packaging. However,
consistency does not
rnean that evervthin2 has to be the same in every
place.
Loc~in2 at the international brands segment in
more detail,
b0,-'- the value-for-money and premium segments
are growing
altLou2h value-for-monev is growing more quickiv.
BAT has a
much higher volume share in the value-for-monev
se,,ment
tha:: in the premium segment, which is why our
international
br--zd profitability is so much lower than Philip
Momis'.
Tos:-!rher with their dominance of the US market..
this is the
mp-l reason why it is unrealistic for us to expect
to match
Phi-~p Morris in profit terms in 10 years. Z:1
Co
\.0
t-A
BAT Industries document for Province of British
Columbia 3 November 1999


Our prerruium. international brands are Benson &
Hedges, State
Express 555, Carlton and Barclay. Tn the riuid to
high price
se-=ent we have Kent and Luckv Strike, with
Viceroy, PaU
Mall, John Player Gold Leaf and Hollywood at the
value-for-
money level.
Our strate2y is to build on the streng-th of our
high share in the
fast zrowinE value seament, as well as ensurin-
that we are
better placed to cater for the consumer who wishes
to trade up.
v~7e expect the switch from local brands to
international brands
to be a aerieral trend, althouszh it is one which
will happen more
quickly in some markets than in others. The speed
of switch
can sometimes be slowed by strong support for
local brands
where we are strona but we must accept that
international
brands wil-I dominate in the end, evtri though it
may take some
C~
time. Of course, local brands mav stil-1 hold
siglu'ficant market
positions if they have been managed wel-l and have
at least
develoi)ed into remonal brands.
And talkinc, of re 'onal brands. we must obviously
maintain
91
our strong position by supporting selected brands.
There's not
quite such an 'intense discussion here but our
most important
brands are: Kool and GPC in the U- S -. FIB,
Prince and kim. in
Europe: Hilton in Asia Pacific, Belmont, Derbv and
Free in
Latin.A.menica-, Embassy and Sportsman in Af~ca:
and Wills
Gold Flake, Scissors, Bristol and "N Ills Navy Cut
in the Indian
Sub-Continent. CD
4 t-
T n r1 Ln
1 h,- p 'o ity for regional and local brands is to
generate current U1
profiLs and cash flow, while maintaining brand
loyalty and our
Co
corporate friarket share. Success widi re-ional
brands is what
,-vill enable us to invest further in our
international brands.
BAT Industries document for Province of British
Columbia 3 November 1999


Some of our reozional and local brands are i-n
%-ulnerable
positions with old or weak- campaigns, so we are
revitalising the
communications for brands lik-e Kool and E3. and
must
continue to do so, to maintain our market share.
BAT also needs to take advantage of the
opporrunity to develop
a free standin- Lights brand, so that we can take
a stronL,
position in the growing Lights segmeat, where our
two mam
candidates are Kent and Barclay. We also have
opportunities
with Carlton and Silk Cut, so we are well placed
to capitalise
on the world market's --radual shift to lower tar
and nicotine
levels.
In our assessment, there is a lin-iit to how far a
fuH flavour
brand can be stretched. Philip Morris, for
example. have not
vet succeeded with Marlboro Ultra Li!zhts in the
US, despite
manv vears of testing. This real-ly should ive BAT
the
91
opporturuty to develop a brand against which
Marlboro can't
currently compete very well.
We need to focus our research and development on
improving
product and smoking quality, as well as generating
genuine
innovations which can be used to -ain a
competitive advantacle.
C C
In the Liqhts and Ultra Liahts segment, for
example, it must be
our aim to achieve greater consumer satisfaction
diari can be
offered by our competitors' brands.
In order to drive our brand portfolio, we
obviously have to
improve the effectiveness of our marketing spend.
As an CD
example of what not to do, I need do no more than
mention the
inconsistent level of support for Luckly Strike
over time, along Ln
with itsvarious campaigns.
Ln
BAT Industries document for Province of British
Columbia 3 November 1999


Another 'nsance of our wilhn2ness to embrace what
zht
M.1
appear to be a cultural chansze, in BAT's terrtis,
can be seen in
the fact that we are now prepared to enter
contract
manufacturinc, a-oreements and even to license our
trademarks,
if Joint ventures or other entry routes to new
markets are not
feasible, for the dme being. The examples here are
Poland,
Turkey and China. I accept that these arrangements
will
generate lower absolute levels of profit than full
scale
operadons, but they should stiH produce ven,
attractive returns
on our investment and provide the base for us to
reach our
ultimate objective of establishing fully fledged
Joint ventures.
Have an excellent trade marketincy and
distribution
capability in the end markets
Mo-vin- bevond the brand porffolio, we must focus
on gaining
= I - -I
advanta2e f~rom trade marketing and distribution.
All of you
who have heard Hans Niedermann on the subject
should not
need me to ersuade you that this is an easier area
than some
p
where aainin2 a comi)etibve advanta2e is concemed.
Furthermore , where media is not available, trade
maketin2 is
the only tool that can be used to build our
brands.
Minimi e supply chain costs within the constraints
of the
marketing objectives
71 e efficiencies we can achieve throu2h trade
markezinc, must
C,
be reinforced by a continuous reduction in our
unit costs. I
accept that, with our wide range of brands and
larger number of C:)
facton*es, we do not have the economies of scale
to be the 41--
U-1
lowest cost provider, worldwide, in the short to
medium term.
But think of the opportunity!
CO
10
(71
BAT Industries document for Province of British
Columbia 3 November 1999


That is why sourcin2 decisions cannot be left
simply to the
CIscretion of end-market managers. They have to be
decided
cenual.ly so that our sourcing, and fol.lowing on
from those,
capacity and expenditure decisions. can be
optirnised.
,xorldwide, in terms of cost, quality and the
marketing aspects
of "Madem' England" or "Madem' the USA".
Our marketing strategy will mean supporting fewer
brands and
sn-les in future, although a brand or style will
only be dropped
completely if it is not profitable. The
development of free trade
will increasingly allow us to supply one market
from a factory
in another market- even thou!zh there wiH still be
some re--ions
where the best low cost option will stiU be to
have local
ffac:ories, so that we can avoid hi2h import
tariffs.
V~`e also need to ensure that we achieve a
competitive
advantage from our position in Leaf. There is some
evidence
that the edge proVided by Leaf is less than it
used to be, so we
ne~~d to decide whether the bus'ness should be
continued on the
I
,iasi rM
,
s of nimum time and maximum profit, or evenwhether
it
should still be part of the Group's core business.
Establish leading positions in priority markets
where we
21 -
are not already strong
Leaf has certainlv --iven us an advantage in some
of the new
business development markets, where tobacco is an
important
crop, and we have already achieved investments in
many of our
pr'.orit-y markets. particularly in Eastern Europe
and the former
Soviet Union. The remaining top priority markets
are China,
urkey, Poland and Vietnam.
CO
BAT Industries document for Province of British
Columbia 3 November 1999


)YVe are also under represented in many of the
world's largest
and most profitable markets, such as Italy,
France, Spain and
the UK, In all of these, the onlv realistic wav to
achieve a
major position in a relativeiv short time scale
would be to make
an acquisition but any aclawisition. has to make
strategic and
financial sense.
Last year's A-merican Tobacco transaction is a
good example of
how expansion in developed markets can balance the
risk of
investing in developing markets, particularly
where payback
periods and retruittable ea=' as are concerned.
Support consumers' freedom of choice to smoke
Orie of the strategic imperwives that inevitably
involves a
longer payback period is our commitment to support
consumers' freedom of choice to smoke. We do
intend to take
a higher prof7ie position internationally and
attempt to "get
science back L"nto the deba:e".
The World Htalth Orcanisarion's Beijing conference
in 1997
will probabl- tarzet the activities of tobacco
multinationals in
developin2 markers. We clearly need to do whatever
we can to
mJnimise ariv risk that the conference might
dama2e our
business. par-icularly in China.
Wt! will also continue to lobby against excise tax
increases
wherever possible, so as to support our consumers
and, N.)
CD
particularl,~ in the European Union, work for a
tax structure X:-
-vhich woul' d'mi 'sh the orice difference between
local and
L 1 ru
international brands.
CID
10
OD
BAT Industries document for Province of British
Columbia 3 November 1999


Ensure managers in key functions are first class
Just as important as supporang our consumers is
ensurm'-si that
we, ourselves. have first class people in our key
functions. In
pardcular, we must continue to stren-qhen our
marketing skills
so that a state-of-the-art brand management
capability can be
developed.
We do need. however. to recollmse that some of our
operations
",ill be orientated towards low --rowth and cost
reduction and
that the skUs needed for them ;~U be different,
althouzh no
less important.
Conclusion
I believe that these ei2ht suate-aic u'riperatives
simply must be
met- if we are to achieve our objective of
becoming the world's
number one tobacco company within 10 years. I do
not expect
everyone to agree with eve,,-,- detail but I very
much hope that
th2 broad thrust is not only clear but acceptable.
Before I hand
o%-.-.- to Keith, I just want to make one last
remark to make it
absolutely clear that we have a strateg and
explain how you
y
come in" and can contribute to our vision of
re2airfing the
number one position worldwide.
Last year, the centre provided four acquisitions
which will
contribute some 50 billion sticks to our total
Group volume this N)
year. We are looking for your contribution and
help in C:)
increasin2 market share and volume in our existing
markets. as
well as, of course. in exports. Without your
contribution we
W-111 not achieve our overall objective. Let's be
absolutelv clear
CO
about that.-
BAT Industries document for Province of British
Columbia 3 November 1999


Now over to Keith, who is going to give you an
update on the
pro-ogress of Project Battalion, after which he
and I will both be
happy to answer your questions, whether they're on
the tobacco
szrate--y or on Project Bartalion. They are both
equaUv
important~ because Battalion is very much the key
to the
successful execution of what I believe is a
coherent and
ambitious strategy, reflecting the Vital
importance that B.A.T
Industries attaches to the tobacco business.
r1 i
CD
Ln
CD
CD
BAT Industries document for Province of British
Columbia 3 November 1999