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Starbuck's Case PDF
Starbuck's Case PDF
C ASE 7
beans that remain in bins more than a week, are all donated million people who stop by Starbucks every week. The entire
to charity. Starbucks sells the fresh beans, along with rich- coffee market is estimated to be a $30 billion industry.
brewed coffees and Italian-style espresso beverages, primarily In keeping with its corporate mission, Starbucks is expand-
through its company-operated and licensed stores. ing its retail outlets at an incredible rate. Most recently, Star-
bucks has entered several new markets, including Toronto,
EXHIBIT 1 Rhode Island, North Carolina, and Tokyo.
NET REVENUES AND NET EARNINGS In addition to retail operations expansion, the company
(IN $MILLIONS) plans to selectively pursue other opportunities to leverage and
grow the Starbucks brand through the introduction of new
Net Revenues Net Earnings
products and the development of new distribution channels
Year (in $million) (in $million) (see Exhibit 2). Joint ventures with companies like Dreyers
1992 103.2 4.5 Grand Ice Cream, Inc., Pepsi-Cola, and Capitol Records have
enabled Starbucks to introduce new product lines into the mar-
1993 176.5 8.3
ket. In 1994, the company entered a joint-venture agreement
1994 284.9 10.2
with Pepsi-Cola to develop ready-to-drink coffee products.
1995 465.2 26.1 By the spring of 1996, the company launched a new bottled
1996 696.5 42.1 coffee drink called Frappuccino, a low-fat, creamy blend
1997 966.9 57.4 of Starbucks brewed coffee and milk. On October 31, 1995,
1998 1,300.0 68.4 a long-term joint venture with Dreyers Grand Ice Cream
1999 1,686.8 101.6 was announced. The joint venture yielded a premium line
2000 2,177.6 94.5 of coffee ice creams distributed to leading grocery stores
2001 2,648.9 181.2 nationwide. This line has become the number-one selling
2002 3,288.9 215.0 superpremium coffee-flavored ice cream in the nation. Finally,
2003 4,075.5 268.3 joint ventures with record companies such as Capitol Records
have enabled Starbucks to sell customized music CDs in its
2004 5,294.2 391.7
stores.
Starbucks is also trying to combine coffee with music to
COMMITMENT TO THE COMMUNITY give its customers a complete livingroom experience. After
Despite becoming extremely profitable, Starbucks has not lost getting into music production and sales, the companys special
sight of being socially responsible. Starbucks has contributed Hear Music stores enable consumers to download and burn
to CARE, a nonprofit charity organization for the needy CDs from Starbucks library that includes 150,000 songs. Star-
in coffee-growing countries, since 1991. As North Americas bucks charges consumers $2 to use the music facility, $8.99 to
leading corporate sponsor, Starbucks has helped establish purchase the first seven songs, and 99 cents per song there-
health and literacy programs in Guatemala, Indonesia, Kenya, after. However, this novel move has not met the companies
and Ethiopia. This long-term charity program has helped expectations in the 45 test stores in the U.S. pushing forth
improve living conditions in the coffee-producing countries into music, the company launched a music channel on satellite
from which Starbucks buys. It is the companys way of pro- radio in 2004.
viding assistance to those developing nations with which it Starbucks specialty sales and marketing team has contin-
does business. In addition, in 1996, Starbucks established a ued to develop new channels of distribution as the company is
Code of Conduct policy, which is the first step in a long-term growing. In 1991, the company began selling coffee in depart-
commitment to improving social conditions in the worlds ment stores and other places frequented by consumers, such as
coffee-growing nations. In 2001, the company joined an orga- Nordstrom and Barnes and Noble. Its plan to become a nation-
nization, TransFair, that works for the rights of farmers. The ally known brand is being pushed forward by a recent deal
efforts of the organization are oriented toward ensuring that with United Airlines, which gives Starbucks exclusive access
coffee farmers get a significant part of the amount ($1.26 a to 75 million domestic and international travelers. However,
pound) paid by coffee roasters for coffee beans. Also, in 2002, the companys goal of expansion does not stop at airports. For
the company purchased 150,000 pounds of coffee beans from a two years, Starbucks has been the only coffee brand served in
fair-trade Consortium of Coffee Cooperatives of Guanacaste ITT Sheraton Corporate Hotels. In 1996, it also became the
and Montes de Oro in Costa Rica (COOCAFE). In 2005, coffee of choice in Westin Hotels & Resorts. More recently,
the company purchased 250,000 by 2005 and $1 million by it formed an alliance with U.S. Office Products to sell Star-
2006 to water projects in emerging countries. The company bucks coffee to offices throughout the United States. This
also announced that it plans to purchase 5 percent of its alliance is a tremendous opportunity for Starbucks to serve
total energy in North America in the form of renewable wind the workplace environment and overall strengthen its cus-
energy amid environmental concerns. tomers relationship with the Starbucks brand. In 2001, the
company began offering high-speed Internet access at some of
CURRENT SITUATION its stores to lure more customers. It also introduced the Star-
Coffee consumption in the United States has climbed to its bucks card, which now has over 4 million activations. Finally,
highest level in nearly a decade. In 1989, there were only Starbucks wants to grow its direct response and specialty sales
200 specialty coffee stores. Today, there are more than 9,000 operations. Starbucks direct response group launched a new
stores in 35 countries. The entire coffee market is estimated to America Online Caffe Starbucks store to sell its products via
be a $30 billion industry. There are estimated to be about 33 the Internet.
Case 7 Starbucks Coffee: Expansion in Asia 657
EXHIBIT 2
STARBUCKS BUSINESS VENTURES
March 1995 Released Blue Note Blend coffee and CD jointly with Capitol Records.
September 1995 First Starbucks retail store opened within an existing and newly opened state-of-the-art Star Markets.
October 1995 Signed an agreement with SAZABY Inc., a Japanese retailer and restaurateur, to form a
joint-venture partnership to develop Starbucks retail stores in Japan. The joint venture was called
Starbucks Coffee Japan, Ltd. The first store opened in Tokyo in the summer of 1996 and marked
Starbucks first retail expansion outside of North America.
October 1995 A long-term joint venture with Dreyers Grand Ice Cream was formed to market a premium line of
cof fee ice creams. Nationwide distribution to leading grocery stores occurred in the spring of 1996.
November 1995 Formed a strategic alliance with United Airlines to become the exclusive coffee supplier on every
United flight.
January 1996 The North American Coffee Partnership was formed between Pepsi-Cola and Starbucks New
Venture Company, a wholly-owned subsidiary of Starbucks. The partnership announced its plan to
market a bottled version of Starbucks Frappuccino beverage.
February 1996 Formed an agreement with Aramark Corp. to put licensed operations at various locations marked by
Aramark. The first licensed location opened in the end of 1996.
September 1996 Introduced Double Black Stout, a new dark roasted malt beer with the aromatic and flavorful
addition of coffee with the Redhook Ale Brewery.
October 1996 Formed an agreement with U.S. Office Products Company, a nationwide office products supplier to
corporate, commercial, and industrial customers. The alliance will allow Starbucks to distribute its
fresh-roasted coffee and related products to the workplace through U.S. Office Products extensive
North American channels.
1998 Formed a joint venture with Intel Corporation. The venture will help push Starbucks into the market
of cybercafes.
1998 Formed an alliance with eight companies to enable the gift of over 320,000 new books for children
through the All Books for Children Holiday Book Buy.
1998 Acquired Seattle Coffee Company, UKs leading specialty coffee company.
1998 Formed a joint venture with Mack Johnsons Johnson Development Corporation to develop
Starbucks locations in underserved, inner-city urban neighborhoods.
1998 Formed long-term licensing agreement with Kraft Foods to accelerate growth of the Starbucks brand
into the grocery channel across the United States.
1999 Acquired Portland, Oregons Tazo Tea company and Hear Music. Formed alliance with
Conservation International for environmental friendly coffee-growing procedures.
2000 Orin Smith became President and CEO. Formed licensing pact with TransFair USA for sale of Fair
Trade Certified coffee.
2001 Introduced Starbucks card.
2004 Introduced in-store CD burning, formed licensing agreement to distribue Tazo Tea in U.S. grocery
stores.
2004 Formed strategic alliance with satellite radio, introduced new coffee beverage varieties.
Although profits for Starbucks have increased significantly local partners to negotiate local regulations and other country-
over the years, the company still has cause to be worried. specific issues.
Overall sales are still growing quickly, but the rate of growth Currently, Starbucks exists in an increasing number of
is slowing at existing stores. Annual sales growth at stores has foreign countries (Exhibit 3) in Asia. The company felt that
slid from 19 percent in 1993 to 7 percent in 1996. The biggest Asia offered more potential than Europe. According to one
cause of sluggish sales growth is attributed to store canni- executive, The region is full of emerging markets. Con-
balization. Starbucks has been known to open stores within sumers disposable income is increasing as their countries
one block of each other in hopes of saturating the market. In economies grow, and most of all, people are open to West-
addition, growth has also been hurt by poor merchandising ern lifestyles. Finally, coffee consumption growth rates in
efforts, which have left many productslike mugs and coffee Southeast Asia are estimated to increase between 20 per-
makerson display for years. cent to 30 percent a year. With this in mind, Starbucks has
plans to invest $10 million in developing its Asian opera-
INTERNATIONAL EXPANSION
tions and up to $20 million with its joint-venture partners
With a stable business in North America, Starbucks plans to in Asia.
expand abroad extensively. Starbucks international strategy Starbucks does not yet have a roasting plant in Asia.
is to utilize two expansion strategieslicensing and joint- Instead, one shipment of coffee beans arrives in Asia every
venture partnerships. The success of expanding into foreign other week to supply the companys shops in Singapore and
markets is dependent on Starbucks ability to find the right Japan.
658 Case 7 Starbucks Coffee: Expansion in Asia
EXHIBIT 3
STARBUCKS INTERNATIONAL EXPANSION
Year of Entry/
Establishment Countries/Regions
the commerce sector grew by less than 4 percent, down from and Planet Hollywood. There are plans to open 10 to 12 more
9 percent in 1995. Analysts claim that weak economic growth, Starbucks in Singapore within the next year. Currently, the
global competition, and a very slow tourist season made Singa- licensing agreement with Starbucks only covers Singapore,
pores retail industry very sluggish. The restaurants and hotels but Bonvests hopes to expand the franchises into other Asian
also recorded weak growth. markets. Starbucks venture into Singapore is its first expan-
sion into Southeast Asia. Bonvests Holdings anticipates that
LIVING IN SINGAPORE
the Starbucks retail stores will generate at least $40 million in
Singapore has one of the best living conditions in Asia. In 1999, sales over the next five to six years.
its per capita GNP was US$27,480. Furthermore, Singapore Bonvests is an ideal partner for several reasons. Bonvests
is known for its diversity. There are 3.4 million Singapore- has acquired expertise in running food businesses, such as the
ans: ethnic Chinese, Malays, and Indians make 77 percent, local Burger King chain. They also know and understand the
14 percent, and 7 percent of the population, respectively. The local consumer market, government regulations, and the local
most practiced religions are Buddhism/Taoism (53.9 percent), real estate market.
Islam (14.9 percent), Christianity (12.9 percent) and Hin- Starbucks chose Singapore for its entry in the Southeast
duism (3.3 percent). The main languages are Malay, Chinese Asian market because of the highly Westernized ideas and
(Mandarin), Tamil, and English. English is the language of lifestyles it had adopted. Some have described Starbucks as
administration, whereas Malay is the national language. another American icon, like McDonalds. Some even say that
With a moderately high cost of living, Singaporeans are Starbucks has created an American coffee cult. Slowly, but
able to indulge in luxury goods. Much of Singapores enter- surely, gourmet coffee bars have been penetrating into the
tainment is influenced by Western culture. For instance, many food scene in Singapore. It is estimated that Singaporeans
theaters show Broadway musicals such as Les Miserables drink more than 10,000 gourmet cups a day. In addition,
and feature pop concert artists like Michael Jackson. Televi- the market in Singapore has tremendous growth potential.
sion programs are in English, Chinese, Malay, and Tamil. In According to Bruce Rolph, head of research at Saloman
1992, pay TV channels such as CNN, Movievision, HBO, and Brothers Singapore Pte. Ltd., People should increasingly
Chinese Variety were introduced. focus on Singapore not as a mature market with low earnings
Singaporeans are known to indulge themselves with food. and growth potential, but as a uniquely positioned beachhead
So discriminating have the Singaporeans become on the sub- to get leverage over whats happening in Asia. Finally, the
ject of quality and price that eating has become a national Singaporean market still has no clear leader in the specialty
obsession. Singapore has an array of restaurants, coffee- coffee industry. This means that Starbucks still has a good
houses, fast-food outlets, and food centers that are easily chance to become one of the top contenders in this market.
accessible and offer a variety of foods at affordable prices. Despite the opportunities that exist for Starbucks in Sin-
Most of these food places are not air-conditioned except gapore, Starbucks still must overcome certain obstacles to
for those located in shopping complexes. However, eating in be successful. Competition is fierce, with 14 players and 38
an air-conditioned restaurant, regardless of income level, is stores between them (see Exhibit 4). With Starbucks entry
an affordable luxury. The average lunch or high tea buffet into the Asian market, bigger retail stores, like Suntec Dome
spread offering a wide variety of dishes is available at many Holdings, are already gearing up for a coffee battle. However,
hotel coffee houses and restaurants, and it costs about $15 smaller companies like Burkes Cafe and Spinelli are welcom-
(Singaporean currency) or more per person. Most restaurants ing Starbucks entry. Their strategy is to open an outlet right
and coffeehouses impose a 10 percent service charge, but next to Starbucks to attract the customers that overflow from
tipping is not encouraged. Starbucks.
One of Starbucks biggest competitors, Suntec Dome Hold-
SINGAPORES LOVE AFFAIR WITH COFFEE
ings, has already established itself in Singapore. It already has
According to Singaporean social commentator Francis Yim, good name recognition with Suntec Walk, Suntec City, Dome
Coffeehouses are a sign that Singaporeans have achieved the Cafe, and so on. Suntec is distinctive from the other retail
status of a developed nation and we are breaking new ground coffee stores in that it is seen more as a restaurant than as a
in the area of becoming a cultured society. In the past during coffee chain. It targets a broader market segment with a lower
the construction of Singapore, Singaporeans did not have the budget range. They are also backed by major supporters with
time to enjoy their cup of java. Regardless of their religion the capital to counter Starbucks expansion strategy. In addi-
and beliefs, Singaporeans went to coffeehouses in the evenings tion to Singapore, Suntec Dome Holdings has plans to expand
for their meals and drank coffee in order to keep themselves to other markets such as Malaysia, Indonesia, Thailand, Hong
awake. Now coffee is viewed as a beverage instead of a drink. Kong, and China. Spinelli, a smaller competitor, also plans
People want to take the time to savor their coffee. It is not just to expand into the region. With these expansion plans having
a drink but a personality altogether. The various flavors that been completed by the year 2000, Spinelli is potentially a
coffeehouses offer reflect the different moods as well as taste. major threat to Starbucks.
The first Starbucks coffee outlet in Singapore opened on More well-known coffee spots to Singaporeans are Coffee
December 14, 1996, in Liat Towers, with the help of BonStar Connection and Coffee Club, which are also direct competitors
Pte. Ltd., a subsidiary of Bonvests Holding Ltd., a Singaporean of Starbucks. The customers that go to Coffee Connection and
company with food services and real estate interests. The store Coffee Club like the atmosphere and the service they receive
in Liat Towers is located in Singapores main shopping district there. As reflected here, Singapore has seen a proliferation
on Orchard Road, which is a very trendy shopping center of gourmet coffee outlets in the past few years; therefore, the
including the French department store, Gallery Lafayette, market is slowly becoming overcrowded.
660 Case 7 Starbucks Coffee: Expansion in Asia
EXHIBIT 4
COMPETITOR PROFILES
SPINELLI
Spinelli Coffee Company, long regarded by many as San Franciscos best coffee retailer, has been licensed by Equinox for
expansion into Southeast Asia. Equinox is a joint venture between Golden Harvest, a Hong Kong film company, and
Singapore Technologies Industrial Corporation, a Singapore Conglomerate. Seven outlets were opened in Singapores
central business district by the fall of 1997, with up to 40 locations targeted for the region by the year 2000. In addition,
Spinelli is also in the process of setting up roasting factories to supply the Asian market. Spinelli brings to Asia years of
experience in sourcing, producing, and selling premium coffee drinks and whole bean coffee.
COFFEE CLUB
Established coffee trading company Hiang Kie, now 60 years old, sniffed out the gourmet coffee trend and whipped up its
first outlet in Holland Village in 1991. There are 37 variations, from the humble Kopi Baba to the spicy, vintage tones of
Aged Kalossi Coffee. The best attraction is the Iced Mocha VanillaMacciato coffee and milk topped with vanilla ice
cream and a drizzle of chocolate syrup. In addition, they serve light meals of cakes, salads, sandwiches, and home-made
ice cream.
COFFEE CONNECTION
Coffee Connection is the latest, trendier incarnation of Suzuki Coffee House, started in the 1980s by Sarika Coffee to
showcase its Suzuki Coffee Powder. So far it is the mothership of coffee bars, with 69 different drinks ranging from cool
coffee jelly to Blue Mountain Chaser. The best attraction is the Cappuccino Italianoespresso infused with hot milk,
topped with a frothy milk cap and dusted lightly with chocolate powder. They also serve ice cream, pasta, pizza, and
foccacia sandwiches.
BURKES COFFEE
Burkes Coffee started from four Singaporean students who studied in Seattle, liked the espresso bars, and brought back
the concept. Burkes Coffee is a Seattle-style cafe, bringing the lifestyle of the Pacific Northwest to Singapore. Burke has
made a name for itself as a friendly and inviting place in the midst of the hustle and bustle of downtown Singapore. The
store has established a loyal customer base of young professionals who visit the store frequently. Burkes serves
sandwiches, soups, and desserts. There are seven basic coffee drinks, plus 12 Italian syrups that you can add on request.
The best attractions are the Mocha Freeze and Hazelnut Latte.
Starbucks will need to turn some heads and create the consumers and an emerging economy but low demand for the
brand equity it needs to stay in competition with its com- product. This is the case with China, which is predominantly
petitors. However, it does have an advantage entering this tea-consuming and one of the smallest coffee markets in the
market. Starbucks packages a coffee-drinking experience that world.
the Singaporeans want, both trendy and American. As men- Thus, when Starbucks inaugurated its first outlet in the
tioned earlier, Singaporeans love American products, and World Trade Center in Beijing, China, in January 1999, it
hopefully, that will translate into major dollars for Starbucks needed to proceed at a slower than accustomed pace. The
in Singapore. company now sells coffee through around 165 outlets that are
Starbucks faces a challenge in Singapore amid a prolonged mostly concentrated in Beijing, Shanghai, and Hong Kong.
and still-depending crisis in the retail industry. Major retailers, The company has collaborated with different partners for its
like Kmart and Frances Galeries Lafayette, have recently left operations in China. In Shanghai and Hangzhou, Starbucks
Singapore after much failure. has partnered with a unit of the President Group. The Pres-
ident Group is Starbucks partner in Taiwan, where it runs
CHINA
around 80 coffee stores. In North China, the company has
It is probably a little easier to accelerate the sale of ones partnered with H&Q Asia Pacific and Beijing Mei Da Coffee.
products in a market where demand already exists as com- A replication of its stores concept worldwide, Starbucks
pared with a market that has a large number of potential in China caters mainly to urban working people, and thus its
Case 8 Gap Inc. 661
C ASE 8
GAP INC.
Since it started in 1969, Gap Inc. has been consistently grow- In 1979, Gap Inc. opened a modern distribution facility in
ing and expanding. With more than 3000 stores in the United Denver, Colorado. By 1981, Gap Inc. had opened 500 stores
States, Canada, the United Kingdom, France, and Japan, Gap nationwide. In 1983, Gap Inc. purchased Banana Republic, a
Inc. is currently the second largest-selling brand in the world travel clothing company that sold mainly through catalogs. By
and is ranked second among all U.S. retailers in sales. 1985, there were 613 Gap stores and 35 Banana Republics.
The first GapKids store was introduced in 1987; then in 1988,
A HISTORY OF GAP INC.
the Old Navy Clothing Company was first introduced. In the
Gap Inc. was established in August 1969 by Donald G. Fisher, same year, Gap opened two factory outlets selling merchan-
a real estate developer educated at the University of Califor- dise at discount prices. In 1990, GapKids formed a separate
niaBerkeley. Fisher conceived the idea when he went to a department for baby clothing called BabyGap. In 1992, Gap
department store to exchange a pair of Levis and was unable stores also formed a separate department called Gap Shoes.
to because the jeans department was so disorganized. Backed The year 1993 was marked by the opening of Gap warehouse
by a $63,000 family investment and a $112,000 bank loan or outlet stores as well as an entry into the French market. Old
guaranteed by his father-in-law, Donald Fisher introduced the Navy was started in 1994, and the following years witnessed
first Gap store in San Francisco. His original idea was to focus the introduction of online Gap Maternity and the launch of
on the mid-teen market with three types of goods: records, the e-businesses of Gap, Banana Republic, and Old Navy.
cassette tapes, and Levis jeans. Unlike the local department As of 2005, the company operated:
stores, which stocked only a limited number of styles and sizes
of Levis jeans, the Gap store carried every size and style 3,010 stores in the United States, Canada, United Kingdom,
available. Furthermore, they were neatly arranged and easy and Japan.
to find. Donald Fisher and his wife had a discussion about the 462 Banana Republic stores, including 18 in Canada.
generation gap in 1969, and from that discussion came the
907 Old Navy stores.
name Gap Inc., under which the company was incorporated in
California in July 1969. Gap Inc. was reincorporated in 1988 the total number of stores in:
under the laws of Delaware. United Kingdom 134
Canada 173
GROWTH AND EXPANSION
France 33
Although the original targeted customers were primarily Japan 84
young people, the convenience of a neatly organized jeans SELLING PRIVATE STORE BRAND PRODUCT
store with Levis products attracted customers of all ages. In
less than one year, Gaps business took off, and a second Gap Within three months of opening the Gap, Fisher realized that
was opened in San Jose. In less than two years, there were six the real business was in selling Levis jeans, so he dropped the
Gap stores in California. By 1972, Gap Inc. had 25 stores in six records and cassette tapes from his inventory. Until the end of
states. In 1973, Gap Inc. ventured into the East Coast market, 1973, Gap advertised and carried only Levis brand products.
opening 12 stores in New York, New Jersey, and Pennsylvania. In 1974, Gap introduced its first private-label clothing into
In 1974, Gap expanded into Washington, Minnesota, Missouri, the merchandising mix. When price maintenance crumbled
Oklahoma, Maryland, Virginia, Georgia, Arizona, Texas, and because of a Federal Trade Commission directive in 1976,
Illinois, with a total of 90 stores. In 1976, Gap Inc. went Levis products began to sell at discount, and Fisher was con-
public with its stocks, offering 1.2 million shares on the New vinced that Gaps competitive advantage could not rely solely
York and Pacific stock exchanges, selling at 75 cents a share. on the low prices of Levis products. Since then, he has focused
on reducing Gaps reliance on sales of Levis products. As a
This case was prepared by Masaaki Kotabe and updated by Sonia Ketkar
result, Levis products began to decrease as a percentage of
for class discussion rather than to illustrate either effective or ineffective Gaps total sales. By 1987, Levis made up less than 50 per-
management of a situation described (2006). cent of Gaps total sales. By 1985, Levis sales dropped to 21
662 Case 8 Gap Inc.
percent of Gaps total sales, then 14 percent in 1987. Finally, in internationally each year. It is faced with competition in
1990, Gap dropped Levis altogether and started selling only European and Japanese markets from established regional
private-labeled products. and national chains. If international expansion is not success-
ful, the companys results of operations could be adversely
GAP INC. OPERATING COMPONENTS
affected. The companys ability to grow successfully in the
Gap Inc. is a specialty retailer that operates stores selling continental European markets will depend in part on deter-
casual apparel, shoes, and other accessories for men, women, mining a sustainable profit formula to build brand loyalty
and children. It includes the following registered trade names: and gain market share in the especially challenging retail
Gap, GapKids, BabyGap, Gap Shoes, Gap Maternity, Banana environments of France.
Republic, and Old Navy Clothing Company. In April 2005,
Gap Inc. announced the launch of its newest brand, Forth Gap Division. This division has by far the most storesmore
& Towne apparel and accessories for women over 35. The than all of the other divisions combinedwith 1,291 stores
company planned to open four test stores in Chicago and New operating in the United States in 2005. The Gap Shoes sub-
York in Fall 2005. The baby boomer age and the spreading division also operates under this division. All stores under
ability of this age group has created an opportunity for the the Gap division are called The Gap. The Gap stores are
company. classified as clothing retail stores for men and women, with
The company has continued to focus on developing and Standard Industrial Code 5651. In the United States, there
growing its brands, and it believes that its brands are among are 145 domestic competitors for The Gap; and in 1998 The
its most important assets. The company is taking action to Gap ranked third in sales. In the beginning, products under
maintain and strengthen brand loyalty, including significantly this division consisted of an assortment of unisex basics; but
increasing its investment in advertising and marketing. recently they have evolved to become more gender specific. In
Besides expanding the number of print ads placed in major 20042005, the company engaged well-know celebrities like
metropolitan newspapers and their Sunday magazines, major Sarah Jessica Parker and musician Joss Stone to promote the
news weeklies and lifestyle and fashion magazines, the com- Gap brand.
panys ads appear in various outdoor venues, such as mass
transit posters, exterior bus panels, bus shelters, and gigantic Banana Republic Division. When purchased in February
billboards spanning entire buildings. The company continues 1983, Banana Republic was already famous for its travel and
to run TV ads for all of its brands and radio ads for Old safari wear, but only two Banana Republic stores existed.
Navy. After the purchase was completed, the parent company cre-
The company continues to add flagship stores and increase ated a new division to operate all Banana Republic stores. Gap
television advertising to complement its in-store customer Inc. also invested capital to create a product development and
service focus. The company also continues to invest in store production team for Banana Republic, allowing it to introduce
expansion as well as development of new distribution channels its own new private-label fashions. In addition, there was rapid
to address changing market requirements. Its new channels expansion into other parts of the country. Products under the
of distribution include Gap Online, Old Navy Online, Gap Banana Republic division are more upscale, more tailored, and
Maternity Online, and a catalog for Banana Republic. The come in more refined fabrics than those in The Gap stores.
company has a limited operating history in these new channels Leather goods and jewelry goods have been introduced into
of distribution and is faced with competition from established the merchandise mix. Internationally, Banana Republic stores
retailers in these new lines. are run only in Canada but in 2005, the company announced
The retail apparel business fluctuates according to changes that it would open two stores in Japan in the shopping districts
in customer preferences dictated in part by fashion and season. of Ginza and Roppongi. The company also offers these prod-
These fluctuations especially affect the inventory owned by ucts online on www.bananarepublic.com. Banana Republic
apparel retailers, since merchandise usually must be ordered has sales of over $2 billion in the North America. Presently,
well in advance of the season and sometimes before fashion the company is trying to move toward being a fashion house
trends are evidenced by customer purchases. Gap is also vul- by showcasing its designs in fashion shows.
nerable to changing fashion trends. In addition, the cyclical
nature of the retail business requires the company to carry a GapKids Division. After this division was formed in 1986,
significant amount of inventory, especially prior to peak sell- it became the fastest growing division of Gap Inc. All stores
ing seasons when the company and other retailers generally under this division are called GapKids stores. Products in this
build up their inventory levels. Gap must enter into contracts division are essentially miniature versions of The Gap prod-
for the purchase and manufacture of apparel well in advance ucts, but with more focus on color variations. These products
of the applicable selling season. As a result, the company is have also switched from unisex to more gender specific. The
vulnerable to demand and pricing shifts and to suboptimal formation of the BabyGap subdivision under GapKids is
selection and timing of merchandise purchases. another reason for the rapid growth of this division.
RETAIL DIVISIONS
Old Navy Clothing Company Division. This division oper-
Gap operates under different divisions: Gap, Banana Repub- ates all Old Navy Stores and Gap Warehouses. There are
lic, GapKids, BabyGap, Old Navy, and International Division, now 907 Old Navy stores operating under this division since
among others. The first seven operate domestically, and the the first introduction in 1994. There is also a Gap Warehouse
last one operates all of the stores from the first seven divi- operating under this division. The formation of the Old Navy
sions that open overseas. The company continues to expand division came at a time when sales were down, and Gap Inc.
Case 8 Gap Inc. 663
needed new ways to attract customers. The strategy was to of Gaps foreign merchandise sources. Sudden political insta-
sell merchandise similar to Gap stores but at lower costs. bility in any of these countries could quickly have an adverse
This division is expected to surpass the GapKids division and effect on Gaps sourcing operations, as would any imposition
become the fastest growing division of Gap Inc. Internation- of import restrictions such as tariffs and quotas by the U.S.
ally, Old Navy stores, too, exist only in Canada. The company government on products made in these countries.
also offers these products online on www.oldnavy.com. The Hong Kong is by far the most important foreign source
company plans to open 200 new stores by 2007 and add new of Gaps merchandise. Hong Kong has a total population of
lines such as plus sizes, maternity, and personal care. 6.019 million, of which 17.8 percent are engaged in manufac-
turing and 33.6 percent are in either retail trade or wholesale.
International Division. All stores located in foreign coun- Until recently, Hong Kong had an unemployment rate of
tries are under the control of the International Division. This only 2.2 percent, and the Hong Kong government had to
division includes Gap, GapKids, Banana Republic, and Old import labor from abroad to counter a shortage in labor
Navy stores. The first overseas store was established in 1987 supply. Despite this labor shortage, the well-educated labor
in London, thus gaining entry into the British apparel market. force in Hong Kong is relatively cheap to employ, and with
In 1988 the first store in Canada was established, and in 1993 the increased pressure of manufacturing companies moving
the first store in France was opened. As of 1994, the Inter- across the border into China, even cheaper labor may result.
national Division operated 40 Gap and GapKids in England, U.S. retailers, including Gap Inc., have long been the target
59 in Canada, and 3 in France. International Division also of criticism for selling goods imported from Hong Kong and
operates Banana Republic in Canada and Australia. Interna- other low-wage countries such as Taiwan and South Korea. In
tional Division shows strong growth potential and continues addition to its low-wage rate, Hong Kong is a favored apparel
to expand existing markets in Europe and to gain major entry source for many retailers because of the flexible manufac-
into new market including Japan. turing and quick response strategies introduced by the Hong
Kong Productivity Council and adapted by many of Hong
PRODUCTS AND CUSTOMER BASE
Kongs apparel producers. Both of these strategies reduce
The Gap division sells mainly mens and womens casual inventory costs for the retailers. Furthermore, the apparel
and active wear. Clothing items, including jeans, sweat suits, industry in Hong Kong is now adapting to many new tech-
sweatshirts, denim wear, and polo-style pocket T-shirts are nologies and production methodologies, all aimed at reducing
marketed. The Gap division has also expanded its market to apparel production costs.
include handbags, shoes, and a higher fashion line of evening Like other Western firms that employ labor at sweat shops
wear. In addition, during the 1990s, the Gap division entered in emerging countries, Gap has often been accused of profiting
the bodycare products and cosmetics market, introducing from such practices. Therefore, Gap now has over 85 sup-
soaps, body lotions, shower gels, shampoos, conditioners, aro- plier compliance officers who screen prospective and present
matic candles, and other related items. In addition to selling suppliers for acceptable labor practices.
travel and safari wear, the Banana Republic division sells
ADVERTISING
mens and womens casual wear, made of finer fabrics and
priced higher than can be found in Gap stores. Together, the Gap Inc. advertises mainly through major newspaper publi-
Gap stores and the Banana Republic divisions target mainly cations, but it also advertises in fashion magazines and on
customers 20 years or older. GapKids, which sells miniaturized mass transit posters, billboards, and exterior bus panels. All
versions of Gap store products, originally aimed at children advertisements stress the central theme of American design,
aged 2 to 12, but with the introduction of BabyGap, it has quality, and moderate pricing, although they are produced
been able to add even younger customers to its customer base. separately in each country to suit local tastes.
The most recently introduced Gap Maternity sells maternity
DISTRIBUTION
wear only through its Web site. The Old Navy Division, sell-
ing cheaper products, targets lower-income shoppers. The All merchandise is shipped to distribution centers for dis-
International Division targets foreign customers in similar age tribution. These centers are located in California, Kentucky,
groups mentioned earlier. Maryland, Canada, and the United Kingdom.
SOURCING MARKETING
Gap purchases merchandise from some 700 sources located The company has a separate marketing team for each brand.
both in the United States and in around 50 countries overseas. The teams are headquartered in San Franciscos Bay area
This procurement strategy is designed to reduce each sup- in California. These headquarters are also responsible for
pliers importance, so that no single supplier can affect Gaps advertising.
overall operations significantly. All suppliers account for no
PERFORMANCE
more than 5 percent of the purchase. The suppliers manu-
facture the Gaps private-label merchandise according to the Although Gap Inc. saw increasing earnings until 1999, the next
companys specifications. Gap purchases are comprised of 40 few years witnessed a fall in earnings (see Exhibit 1). Indus-
percent domestic-made merchandise and 60 percent foreign- try experts cited a variety of reasons for dipping revenues,
made merchandise. Of the foreign sources, approximately 23 such as launching too many stores to having no differentiation
percent are from Hong Kong, and the remaining purchases between its brands. Although the company presently has ade-
are spread across 42 other countries. Hong Kong, Taiwan, quate cash flow to settle its debts in the immediate future, it
South Korea, Singapore, and China constitute over 50 percent will have to find a way to get back on track to profitability to
664 Case 8 Gap Inc.
sustain itself in an economy characterized by fierce competi- their cost of doing business in Canada by making it cheaper
tion. In 2002, Gaps debt was downgraded by analysts to junk to import their products from the United States. Canada even
bond status. The company fared better in the next couple of assists U.S. companies planning to enter the Canadian market
years. However, profits fell again in the first quarter of 2005, through the United States and FCS Export Assistance Ser-
so the company is now looking into bringing about more styles vice. Along with fewer government restrictions, Gap Inc. did
and designs in womens clothing to bring it back on track to not encounter the traditional barriers of entry such as local
profitability. content requirements, political turmoil, and import quotas.
decided to close 13 of its stores in the region. In 2004, losses FRENCH MARKET
at UK stores were at all time high.
France is Gaps new foreign market, and 33 Gap stores operate
in France. The following analysis of the French apparel market
Market Size. According to the 2001 International Market
includes size of market, characteristics of growth, growth pro-
Report, the British market for mens apparel was about $3.34
jection, industry structure, competitors and substitutes, and
billion, and the womens apparel market about $4.59 billion.
government regulations.
Both are in decline because of recession.
Market Size. According to the U.S. Department of Com-
Market Health. The UK market for apparels is currently in a merce World Apparel Market Research Report published
recession. British retailers are hoping for business as usual recently, France was the sixth largest market for apparel, with
once again in the not too distant future, but according to demand of over $12 billion. It was also the sixth largest market
market analysts, recovery is still a long way off. There are for apparel imports from the United States, with total demand
occasional mini-surges in consumer spending, and retailers of $200 million.
have devised some strategies to capitalize on these surges.
One strategy is to lower price while stressing quality. Another Market Characteristics and Current Growth. The French
is to adopt the one-stop-shopping concept, that is, pairing apparel market can be characterized as a mature, sophisti-
mens and womens merchandise together in one store so both cated, slow-growth market rather than an emerging market. It
can be bought simultaneously. This strategy was in response to is experiencing 4 percent average annual growth and 2 percent
an observation that consumers now have a tendency to come annual growth in its market for U.S. imports. The United
in couples. Some retailers even place childrens apparel items States does not have a large share of the French market at the
along with mens and womens apparel items, thus creating a moment. However, the French are becoming more receptive
true one-stop-shop. to U.S. fashion, especially U.S. sportswear. French women
are just beginning to buy American-made apparel, and the
Market Trends. British consumers are highly receptive to natural American look, especially Western-wear clothing,
U.S.-designed and -manufactured apparel items. Studies show is becoming popular in France. The 15- to 25-year-old age
that the average British consumer thinks of American design- group is very fashion conscious and strongly influenced by
ers as firm believers in making practical clothes for real people, American styles, especially jeans and college or football team
as compared to European designers who make fashion show- logo apparel.
style clothing that is unwearable. Outerwear sold by such
retailers as Gap Inc. and Timberland is very popular. Mens Growth Projections. The industry has suffered from the
and womens apparel trends differ in that menswear tends to worldwide economic slowdown since 1991, but some sales
be more basic; the changes are usually in color and fabric, improvements have occurred since 1994. Apparel sales are
not style. Men are moving toward plainer pieces and away expected to grow at a rate of 2 percent. In spite of the low
from heavily logoed styles. Womens purchases focus more on market share of U.S. firms, France is very promising for
fashion designer labels. Gap Inc. The French have a high level of receptiveness to
U.S. goods, and the market for U.S. imports is expected to
Customer Base. The 15- to 25-year-old age group tends to continue to grow at 2 to 3 percent annually. Unfortunately,
make purchases in boutiques. Older consumers shop in stores local and third-party competition is high, but market barri-
that are well known for quality, durability, and good value. ers in this area are negligible and do not pose a problem.
Most retailers now are focusing on customers who are over According to the U.S. Department of Commerce, Interna-
25 years old. This is because of increasing youth unemploy- tional Trade Administration, currently the two most promising
ment and an aging population of baby boomers. A significant subsectors in apparel for U.S. companies are sportswear and
percentage of the customer base is made up of large-sized jeans.
customers, particularly women.
Business Environment. The French commercial environ-
Competition. American-made apparel faces competition ment is very dynamic and sophisticated, and quickly reflects
from European designers, Asian-made apparel, and from consumer trends. There is a strong market for high-quality
each other. European designers from the European Union consumer goods. Independent specialty stores are the main
can ship their goods to the United Kingdom duty-free, and means of distribution in affluent cities.
Asian-made items are usually produced by cheap labor.
Business Attitude Toward the United States and Exit/Entry
Government Regulations and Market Access. There are few Barriers. In general, the attitude toward American compa-
trade barriers for apparel. No special forms of documentation nies is favorable, and the French are quite receptive to U.S.
are required for apparel items going to the United Kingdom. goods and services. However, strong interest groups are pow-
No special standards are set. No import licenses are necessary. erful influences on business judgment and government action
Textile raw materials enter the United Kingdom with up to or inaction. These interest groups have been known to stage
15 percent duty, while finished apparel items are charged with noisy demonstrations, but they usually are a problem only for
up to 14 percent duty and value-added tax of 17.5 percent. companies that pose a major threat to French suppliers.
No duties have to be paid for goods imported temporarily to There are no major entry or exit barriers to doing business
the United Kingdom or located in free ports (UK free-trade in France for most companies. Tariffs and duties on American
zones). products are discussed later.
666 Case 8 Gap Inc.
Competitors and Substitutes. Local and third-party competi- recovery. The average annual growth rate for the apparel
tion is rampant in the French market. It is particularly heavy market during this period is expected to be between 3 and
in the consumer area where buyers are just beginning to look 5 percent.
for value in their product choices, and most product lines The downward push against inflation was one of the few
that are available are mature. In this mature and sophisticated positive effects of the recent recession. Lower inflation num-
market, consumers are well served by suppliers around the bers are a positive sign to potential investors, many of whom
world. Therefore, major business breakthroughs are unlikely, have been discouraged by the sliding Australian dollar. A
but opportunities can be created in niche markets. strong local currency is helpful for specialty retailers like the
There is a natural tendency now for the French to buy Gap on two levels. First, its products will become relatively
apparel from within the European Union because of the more price competitive. Second, Gap would benefit from a
increasingly free flow of goods since the integration of Europe. strong Australian dollar through translation gains, as profits
Italy is and always has been a significant high-quality clothing are repatriated.
competitor in France. However, Gaps main competitors are Others are wary that the removal of quotas and tariffs will
North African and Southeast Asian companies, which have foster a fiscally unhealthy demand for imports. If past per-
a strong presence in France because of their low production formance is any indication, economic expansion would most
costs. At the moment, Asian countries have 31.7 percent of likely lead to a rise in the current account deficit. Officials cite
the French market for womens clothing, and this number is that if the Australian presidents goal of 4 to 5 percent GDP
expected to remain constant. growth is realized, the current account deficit will increase
There has also been an increase in imports from Morocco, from 3.75 to 4.25 percent of GDP during the same period.
Tunisia, Portugal, and, recently, Eastern Europe. Again, com-
panies from these countries enjoy low production costs and Market Barriers and Government Regulations. In the recent
close proximity to the French market. Morocco and Tunisia past, currency exchange rate levels and hefty import duties
are actually the main suppliers of menswear imports to France, made it difficult to sell U.S. apparel products in Australia.
but the U.S. share of the menswear market has been increasing Thankfully, import duties are on the decline, and the Aus-
rapidly. tralian government promised that this figure would continue
As far as substitutes, there has been a massive growth of to fall, via the TCF tariff reduction program, by 3 percent
supermarkets and hypermarkets (huge shopping stores with a annually until the year 2000. The tariff on textiles and apparel
wide variety of products) in France, not just in food but also was then expected to level off at 25 percent. Add to this
in apparel. These stores could pose a threat to specialty stores the abolition of import quotas in February 1993, and for-
such as The Gap if people begin doing all of their shopping at eign apparel retailers and their products become increasingly
hypermarkets and stop going to the specialty stores. attractive in the face of domestic competition. This despite the
recent Buy Australian campaign, which Australian officials
Government Regulations and Controls. France has had a insist has successfully increased consumers preferences for
tradition of highly centralized administrative and governmen- locally made products.
tal control of its essentially market economy. However, the Gap Inc. executives must also consider the additional costs
apparel industry has little restrictions other than tariffs and associated with the newest clothing standards to be adopted
duties on imported products. by Standards Australia, a national regulatory committee. The
As part of the European Union, the TARIC system applies new standard rates clothing according to the protection it
duties to all imports from non-EU countries. This gives Euro- offers from the sun. If adopted, Gap must carefully consider
pean companies a slight cost advantage over U.S. companies. which products should be introduced in Australia and possibly
However, this advantage can be negated if production costs reconsider its own internal manufacturing standards.
for U.S. companies can be lowered. Duties on manufactured
goods from the United States are moderate, ranging from Competition. Competitors vying for the US$1.5 billion in
5 to 17 percent; they are calculated as a percentage of the apparel revenues include traditional department stores, dis-
value of the imported goods. Under the Lome Convention, count retailers, mail-order companies, home shopping clubs,
varying preferential tariff treatment is given to imports from and a growing contingent of specialty shops, including Gap.
developing countries in Africa, the Caribbean, and the Pacific, Industry sources estimate that 15 percent of the market is
which gives companies an incentive to manufacture in these captured by traditional retailers and 85 percent of the market
countries. is sold through other means. Experts also say that, of the
expected 4 percent growth in the apparel market, an increas-
AUSTRALIAN MARKET
ing proportion is expected to be captured by competitively
Following the lead of successful U.S. retailer Toys R Us, priced imports. Competitors in Australias apparel market
Gap Inc. has been negotiating possible sites for another break down as follows:
international outlet. Store location, product positioning, and Department Stores. Department store leaders like Coles
marketing and advertising decisions depend heavily on how Myer, David Jones, and Georges sell to the middle of the mar-
Gap executives assess the following conditions. ket. These stores tend to sell higher-quality apparel goods,
with various departments devoted to discount and specialty
Economic Health. Consumption expenditures continue to apparel. Coles Myer, for example, has a Myers Bargain Base-
increase in the face of high unemployment, which rose by ment department, and its rival Georges offers a floor devoted
2 percent in 1992 and by 7 percent in 1993. A reverse in this exclusively to international apparel. Gap will take business
trend in 1994 and 1995 has since been the key to a robust mainly from David Jones and Coles Myer.
Case 8 Gap Inc. 667
Chain Stores and Boutiques. These stores generally sell are becoming finicky shoppers. The bargain shopping attitude
according to the selective tastes of their target markets. Gap that is prevalent in the United States has found its way to East
stores are somewhat different from these retailers in that they Germany. They dont buy so many trendy articlesits back
would sell Gap brand items exclusively. Sportsgirl, catering to to basics like T-shirts, jeans, blazers, and sweaters.
female teenagers, and Portmans are the largest in this segment
and would compete directly with Gap. Competition. Because of these recent changes in consumer
Mail-Order Companies/Home Shopping Clubs. Through attitudes, low-cost apparel imports now dominate the German
its subsidiary Myers Direct, Coles Myer has broadened its market. Basic items from Eastern Europe, Turkey, and Asia
attack on consumers on two fronts: mail-order catalogues and can be found for one-tenth of the price of comparable U.S.
a new home shopping program. The initial response to the offerings. This is not to say that consumers in Germany are
home shopping program was not very enthusiastic; however, not willing to pay higher prices for U.S. goods. Items must
its mail-order business, the largest in the country, has been not only be of good quality, but must also carry a well-known
more successful, averaging 50 to 60 percent growth since its American trademark.
inception in 1989. Leading competitors include Hugo Boss, a mens-wear
manufacturer and retailer that is currently the most profitable
Positioning. Gap Inc. should continue to take advantage of in Germany. Bosss success is mostly a result of repositioning
its niche appeal as a U.S./California-based apparel company. its product lines. It has recently included a lower-end product
Although U.S. companies, in general, face heavy competition line under a different label, in addition to its traditional mid-
in Australia, single-brand stand-alone stores like the Gap will priced and premium-priced offerings. Gap will be in direct
always find opportunities in niche markets. Gap should avoid competition with Hugo Boss for casual wear revenues. Adler,
competing on the basis of price with imports from China and a discount fashion chain, has 60 stores in Germany, 10 of
Hong Kong. Gaps greatest initial success will come from which were recently opened in East Germany. Gap should
providing one of Australias populous cities, such as Sydney avoid competing head to head with Adler on a price per unit
or Melbourne, fashionable, high-quality American apparel basis.
products.
Positioning. Germans have shown a willingness to pay a pre-
GERMAN MARKET
mium for highly recognizable American goods and have done
Gap operated 20 stores in Germany until the beginning of 2004 so, paying between $80 and $100 for a pair of Levis jeans.
when it sold all of its unprofitable German stores to Swedish Strong, pervasive television and print advertising is the key to
apparel retailer H&M. Gap executives faced the following creating this image awareness.
challenges and opportunities that are unique to the German
JAPANESE MARKET
apparel market.
Gap currently operates 84 stores in Japan. With a total popu-
Market and Economic Health. In 1998, Germany was ranked lation of 125 million people, Japan is an excellent market for
at the top of the list of apparel importers at over $30 billion. Gaps products. The following is an overview of this market.
A closer look shows that the most promising subsectors were
sports, leisure and casual wear (US$7 billion), and jeans wear Market Size. The U.S. Department of Commerce World
(US$4 billion). Average annual growth for Germanys apparel Apparel Market Research Report shows Japan as being the
industry through 2000 is estimated to be around 3 percent. largest total market for apparel with total demand of $70 bil-
The German clothing industry fared well under the prevail- lion. It is the second largest market for apparel imports from
ing conditions of the late 1980s and early 1990s, which were the United States with a demand of over $600 million, but this
a result of the ongoing reunification process. The opening of statistic is slightly misleading. This is because the Dominican
East Germany, with a population of 16 million, offers poten- Republic, which tops Japan in this category, is merely a major
tially large profits and a number of challenges for apparel assembly point for U.S. apparel and not a major market. The
managers seeking new markets. For the most part, apparel goods are assembled there in a low-cost environment but are
retailers are choosing to enter this market through joint ven- transported abroad and sold in other countries. Thus, Japan is
tures and partnerships, but others, like Levi Strauss, have in reality the largest market for U.S.-made apparel products.
chosen to establish their own branches. Still, progress in this
region is painfully slow as the transition from a command Market Characteristics and Current Growth. As a result of
economy to a market economy progresses. the economic recession in Japan over the last several years,
the average annual growth rate for apparel in Japan has only
Consumer Attitudes. Consumer spending is an integral part been a meager 2 to 3 percent, but imports from the United
of economic growth in Germany and for Europe as a whole. States have been increasing at an annual rate of 11 percent.
Lately, however, German consumers have been unwilling to This large growth is due to the boom of American casual
participate, and recovery in the region has stalled. Several fashion in Japan.
factors have contributed to this cautious consumer attitude: In the past, Japan closely followed European fashions,
rising unemployment, which was already 10 percent, higher especially Italian fashions. However, today many Japanese
rents, which have increased by 6 percent in the West and by as prefer American fashions, in particular, casual apparel. Sports-
much as 58 percent in the East, and high tax ratescurrently related products such as T-shirts, sweat suits, and clothing with
34.4 percent for the average worker. Even Germans from the professional sports team logos are particularly popular, and so
East, who were hungry for consumer goods from the West, are jeans, outdoor wear, and any items with a casual, uniquely
668 Case 8 Gap Inc.
American look. Individuals in the 15- to 25-year-old age group and long distribution channels in which all participants must
follow U.S. fashion trends closely. However, womens wear purchase from and sell to each other. As a result, U.S. compa-
and childrens clothing wear in the United States are not nies cannot easily get into a distribution system.
gaining popularity quickly and are facing difficulties in the
Japanese market. Competitors and Substitutes. Competition in the apparel
Another trend in the Japanese market, and indeed in all industry comes mainly from low-cost Asian companies that
sectors of business, is the growing tendency of consumers also have the advantage of easy access to Japanese markets.
to demand value. Consumers are noticing that Japanese However, U.S. brand image is very important, and Asian
prices are much higher than those of comparable industrial- products are considered low quality. European companies
ized countries. (Japanese consumer prices average 40 percent provide some competition, but this is mainly in the area of
higher than those in the United States.) Consumers still want high-end brand name and designer clothing. Japanese com-
high quality but are also demanding lower prices. panies competitiveness is eroded by the high manufacturing
costs resulting from the strong yen.
Growth Projections. According to the U.S. Department of Substitutes in the form of low-price discount retailers are
Commerce International Trade Administration, apparel was becoming increasingly prevalent in Japan. They could pose a
the thirteenth best prospect industry sector in Japan for U.S. threat to higher-priced apparel stores such as The Gap and
exporters in 2000. Analysts predict that the overall Japanese now Banana Republic.
economy, which has been in recession until recently, will
improve, but consumers are likely to be more cautious about Government Regulation and Controls. There is an incredible
spending money. This is in line with the growing trend toward amount of government regulation in the Japanese business
value. The apparel market is expected to continue growing environment. This is mainly in the form of licenses, permits,
at 3 percent, but import growth is expected to increase. Japan and approvals that are required to do business. These licenses
has a very high level of receptivity to U.S. goods, not much often take a long time to process and are somewhat of a barrier
local and third-country competition, and almost no market to market entry. In addition, administrative guidance papers
barriers to entry. For Gap Inc., this indicates a favorable envi- (informal edicts issued by government officials to companies)
ronment. However, the distribution system in Japan is the are used to control foreign companies and restrict market
main obstacle to market entry and may pose major problems. entry. Although the Japanese government has removed most
of the legal and administrative restrictions on foreign business
Business Environment. The domestic market is very com- activities in Japan, anticompetitive and exclusionary business
petitive, and consumers are highly brand conscious. Long- practices still exist at lower levels of government. However,
standing, close-knit relationships between individuals and the government is actively seeking ways to increase foreign
firms are very important in business operations. Local business investment and imports.
practices are very traditional, and foreign company partici-
CONCLUSION
pation is not considered important. A long-term approach is
essential for U.S. companies in Japan to develop the necessary As Gap Inc. continues to expand into the foreign markets, it
business relationships and show a willingness to contribute to should consider several options to reduce costs and thereby
the local business community. increase profit. First, because Gap Inc. does not produce
or procure merchandise in any of the foreign markets it is
Business Attitude Toward the U.S. and Exit/Entry Barriers. currently in, establishing free-trade zones in those countries
Japan has a positive attitude toward U.S. suppliers, and many might help increase profits by temporarily reducing duty and
U.S. companies have established reputations in Japan for VAT costs, and no duties would be paid on extra merchandise.
high-quality, reasonably priced products. However, some U.S. Second, attention should be paid to centralizing advertising
companies are still finding it difficult to overcome traditional to reduce cost. Third, the problems associated with sourcing
Japanese attitudes toward foreigners as being outsiders. In from so many different regions should be considered and
the past, Japanese laws and regulations prevented many U.S.- ways found to correct them. Finally, Gap Inc. should seek
based companies from entering Japan after World War II. The ways to take advantage of the many free-trade agreements
result has been little interaction until recently, and Japanese that recently have been signed.
companies are hesitant to trust American firms. Officially,
DISCUSSION QUESTIONS
Japanese government policy is to promote imports and inter-
national business interaction, but traditional business attitudes
1. Gap, Inc., conducts sourcing from 700 different sources
are making this difficult.
both domestically and abroad. What would be some of the
It is also difficult for many U.S. companies to be accepted
advantages for this type of sourcing strategy? What would
as business partners by Japanese companies that are bound
be the disadvantages?
by keiretsu ties that prevent them from doing business with
non-keiretsu companies. If a Japanese company that is part of 2. How can Gap Inc. benefit from the free ports in the UK?
the countrys keiretsu is qualified in a particular business area, 3. The North American Free Trade Agreement has benefited
it will be chosen over a U.S. company. This is a significant many U.S. companies by reducing tariffs on NAFTA coun-
barrier to market entry in Japan. try goods traded between each other. How has this actually
The most formidable obstacle for U.S. companies to over- benefited Gap Inc.? in the future?
come in Japan is the traditional distribution system. The 4. Now that more U.S. companies are moving into Cana-
keiretsu system controls many of these distribution networks dian apparel markets, Gap Inc. is facing more and more
Case 9 Motorola: China Experience 669
competition from apparel manufacturing companies from 6. What steps should Gap Inc. take to combat knock
its own country. How can it maintain its Canadian market off items?
share? 7. Gap operated around 20 stores in Germany until it sold
5. In Canada there is a recent trend of consumers abandoning them to Swedish H&M in early 2004. Was the move nec-
their name brands and buying cheaper garments to save essary, or could the company have considered some other
money. What can Gap Inc. do to take advantage of this strategy?
new development?
C ASE 9
an annual output value of US$10 billion in China; by the end promote their products independently rather than bundle the
of 2006, a total investment of US$10 billion in China, including cell phones with wireless services.
investment from strategic business partners like joint-venture The cellular phone industry in China is going through the
partners and suppliers; and an accumulated US$10 billion pur- growth stage of the industry life cycle. As the countrys market
chasing of accessories and services from China in the coming continues to grow rapidly, barriers to entry are being lowered,
five years. The other three means laying great emphasis for the government and its people want to assure the advance-
on the development of digital trunking and iDEN, semicon- ment of the industry. Overall, the market is currently at around
ductors, and broadband besides wireless communications, and 350 million subscribers, number one in the world. This is cur-
making the three operations the new profit-increase points of rently only a 13.9-percent penetration rate, which is lower
Motorola. than average, as compared with all other major cell phone
Motorola has taken various measures to implement the markets. This early industry life cycle stages strong growth
two + three + three strategy, including adjustment of the potential is what makes China such an attractive market for
companys worldwide manufacturing capacity, the decision to expansion.
increase R&D investment in China, the establishment of a The geography and buyer power of the market, though
software center in Chengdu, and plans of the Energy Sys- initially centered in the east, is expanding throughout China.
tems Group to establish its Asian design and procurement Wealth plays a key role in the current distribution of sales,
headquarters in Shanghai. as the eastern region accounts for 53.8 percent of Chinas
A major factor in Motorolas expansion is its utilization current sales. However, the central region at 22.5 percent and
of joint-venture partners to implement the infrastructure to the western region at 23.75 percent are rapidly expanding,
develop outlets for its products. Joint contracts with China giving distributors opportunities to enter fresh markets over
Mobile and companies like Cisco and Nortel Networks have the next decade.
allowed Motorola to expand into the vast Chinese markets.
These contracts have given Motorola access to 21 Chinese Distributors. These are the sources for companies to deliver
provinces of which 14 have contracts to deploy Motorolas their products throughout the market. The primary distribu-
systems and municipalities including Beijing, Tianjin, Zhe- tors are the state-funded network and the larger distributor
jiang, Sichuan, Hunan, Jiangxi, and Liaoning. These ventures networks throughout the Asia Pacific. A government net-
allow the company to focus on its expertise in developing work sponsored by China Mobile is a key network as it
and distributing cell phone technology and products while the sells and distributes other brands. Another strong channel is
network infrastructures are handled by other companies with made up of companies like CellStar and Bright Point, which
expertise. are the worlds leading global providers of innovative, value-
Motorola is currently the industry leader in China based enhancing logistics services to the wireless communications
on its first-mover status. Motorola entered China at a prime industry. Another channel outlet is the smaller, private, exclu-
time when mobile communications was still a novel idea and sive distributorship agreements, on which Motorola does not
no one was selling it. As a result, the company enjoyed ten heavily depend. These partner combinations are important
years of success in selling its pagers as tens of millions of for companies that depend on them to get their products to
Chinese, at that time, wanted to carry one for convenience the ever-expanding market regions.
and as a symbol of social status. Riding on that momentum
and a strong emphasis on design and marketing, Motorolas Wireless Service Providers. The two service providers for
handsets hold the largest market share in China (estimated wireless access in the Chinese market are China Mobile,
at 28.9 percent) as its brand is often associated with best in which provides 69 percent of service; and China Unicom,
quality, features, and form factor. China is arguably the most which provides the remaining 31 percent of service. China
important market in the world for Motorola, as Motorola has United Telecommunications Company, Ltd. was formed in
been less optimistic about its future in the rest of the world. 1994 under a government directive to break up the monopoly
For these reasons, Motorola has announced plans to increase held by China Mobile. In May 2002, the government ordered
investment in China to $10 billion (cumulative) by 2006. In old China Mobile to break up into two operating entities;
China in 2003, stood at $3.4 billion and sales were $4.67 billion. where China Mobile would retain the original corporate iden-
tity and operate in 21 provinces and municipalities in south
MARKET STRUCTURE
China. Despite this apparent attempt by the government to
The Chinese government regulates and implements its strengthen competition in the market, both have strong gov-
national telecommunications infrastructure through China ernment ties. These ties, and the duopoly created by this
Telecom and the China United Telecommunications Corpora- situation, have resulted in a lack of competition that has led
tion (UNICOM), both of which are state-owned corporations. to severe price imbalances for consumers. Because of their
This duopoly market is still closed to foreign wireless service dominant positions, it is imperative that cell phone distrib-
providers, such as AT&T. Because the government-controlled utors form an alliance with these providers to enhance the
China Telecom and UNICOM do not have a large motivation distribution of their products.
to explore the market, they either charge new subscribers
high initial fees or provide prepaid wireless service to con- Retailers. The retail distribution for the cell phone is severely
sumers. This strategy makes cell phone usage somewhat less fragmented but is consolidating with industry growth and
attractive to consumers, even though the initial fee has been expansion. As mentioned previously, because of its dominant
dropping from as high as US$1000 ten years ago to the current position, China Mobile serves as a major distributor for cell
rate of US$50. This has caused cell phone manufacturers to phone technology producers. Major department stores and
Case 9 Motorola: China Experience 671
retail outlets (e.g., Tristar) provide other key outlets for dis- benefits due to its world market leadership. It has used this
tribution. There is no one way to get products to consumers, leadership to quickly develop a relationship with major dis-
for no one company has access to all of the markets in the tributors in China. A major drawback appears to be that the
nation; providers must therefore develop relationships with standardization benefits it enjoys do not reflect the interest in
many types of outlets in order to gain market advantage. This new differentiated products that consumers want out of new
is changing as the larger outlets and suppliers are buying up growth products.
smaller retailers to consolidate their retail capabilities.
Samsung. In 1997, Samsung was selected to supply test
COMPETITION
CDMA systems in Shanghai. Since then, the Korean company
Because of the large size of the Chinese cell phone market and has begun its expansion into the telecommunications mar-
its potential for long-term continual growth, competition for ket. Samsungs core competence is in three areas: research
access to Chinas consumer markets is intense. Competitive and development (R&D), manufacturing, and sales and mar-
threats from Nokia, Siemens, Samsung, and local producers keting. Product leadership is established through vertical
like TCL are a cause for concern within Motorola. How- integration and strategic alliances. Samsung wireless products
ever, 84 percent of Chinese consumers prefer foreign mobile enjoy a unique synergy through vertical integration within
phones to local models, with Motorola, Nokia, and Ericsson the Samsung Group. This synergy results from leading-edge
being their favorite makers, according to a nationwide sur- components available from the Samsung Groups sister com-
vey conducted by the China Telecommunications Association panies, including Samsung Electro-Mechanics and Samsung
and Eaglewings Public Relations. For this reason, Motorolas SDI. In addition, synergy is enhanced by sharing internal
biggest competition for cell phone supremacy would likely resources with Samsung Semiconductor, Samsung Multime-
appear to come from foreign companies outside of China. dia Division, Samsung Telecommunication Systems Division,
Chinas aforementioned government structure plays an and others. Samsung is an extremely diversified company and
interesting role in the assumption that foreign companies will does not maintain a clear focus on cellular phone products in
maintain dominance. As is traditional, the socialist govern- particular. By the end of 2004, the market share for Samsung
ment hierarchy prefers that a majority of any industry have and Motorola was almost the same; both firms were vying for
local majority control. The government, which controls the the second spot after foreign market leader Nokia.
operations of the service provider sector and is a dominant
player in distribution channels as well, has the means to Siemens. Siemens began selling telecom products to the Chi-
make this goal a realityquickly. For this reason, Motorola nese as early as 1972 (a manual telegraph receiver). In 1994,
must utilize not only shorter-term strategies to find a way this German company began its formal China operations
to grow market share, but also long-term change strategies with products and services in communications, automation
to find a way to compete with government-powered locally and control, medical equipment, energy, power transmission,
owned firms. transportation, and lighting. Siemens China provides sales,
human resources, purchase, financing, and strategy develop-
Nokia. Nokia of Finland opened its first office in Beijing in ment for its diverse businesses, which include telecom products
1985. By the end of 2001, Nokia invested a total of 2.3 billion and related services. Together, Siemens China has more than
euros (nearly $2 billion) in China and established itself as 40 manufacturing facilities and 28 local offices; it has invested
a leading supplier in the handset market. By 2004, Nokias more than $500 million in China (total) and employs 21,000
sales in China were up 44 percent on year to $3.6 billion. The people. Sales for the 2001 fiscal year totaled 3.5 billion euros
company has 22 local offices, 8 joint ventures and a research ($3.2 billion), up 49 percent from 2000, in which revenue
center, with 5,500 employees. Nokia was the second largest from mobile communications equipment was 13.5 billion yuan
handset supplier in China after Motorola, with a 25.7 percent ($1.6 billion), according to the latest information. The com-
market share as of 2003. By the end of 2004, it had overtaken pany invested $250 million in 20022003 to expand R&D
Motorola as the leading handset provider. Nokia has definite centers in Beijing, Shanghai, and Singapore. However, in 2004
strengths in design and R&D with major economies of scale and early 2005, Siemens was experiencing falling market share
EXHIBIT 1
MARKET SHARE OF CHINESE CELL PHONE MARKET
(AS OF 1ST QUARTER, 2005)
Local Chinese
Firms
47%
Samsung Motorola
10% Nokia
Samsung
Siemens Local Chinese Firms
Nokia Motorala 3% Siemens
22% 13%
Others
672 Case 9 Motorola: China Experience
and the company denied rumors that it would exit the Chinese Locals and Others. Here is where we encounter competitive
cell phone market. pressure coming from smaller local firms championed by the
government. With over 33 percent of the market in 2002,
Ericsson. Ericsson of Sweden began selling in China as early which soon increased to over 40 percent by the end of 2004,
as 1892. It returned to China in 1985, and formed limited coming from these firms and with local medium-sized players
China holdings in 1994. To date, Ericsson has 10 joint ven- like TLC at 6.8 percent, competition is fierce and severely
tures, 4 wholly-owned subsidiaries, and 26 sales offices in fragmented. Motorola had kept an eye on these producers in
China, employing some 4500. According to the company, its the past, as the threat of competitor buyouts and consolida-
investment in China exceeds $600 million and as such is one tion had always been a concern. Now, Motorola is faced with
of the largest among foreign telecom companies. Since 1998, the more imposing threat that, with government support, the
China has become Ericssons single largest market in the smaller local brands could take away the companys dominant
world, with annual sales (including export) estimated at $1.7 market position.
billion. Ericsson has become deeply involved in China, as the
Motorolas Competitive Adjustment
telecom market in the world is slowing down and competi-
tion is fierce in sectors such as cell phone handsets while the CCID, a consulting firm under the Ministry of Information
China market is still growing rapidly. Ericssons handset sales Industry, showed that Motorola had a leading market share of
in China, once a flagship for the company, has been in sharp 28.7 percent in the mobile phone industry in 2002 but by 2004,
decline since 1999 owing to strong competition and more selec- Nokia had surpassed Motorolas market share. Market ana-
tive customers. In August 2001, Ericsson and Sony formed a lysts attribute this success to the companys brand reputation,
joint venture for handset manufacturing, which would fill the flexible product strategy, and considerate after-sales service.
void Ericsson left in handset manufacturing in China. Ericsson Through the launch of high-quality stylized phone products
has positioned itself to attain new sales by focusing its adver- and Total Solution Service Centers in every major city market,
tising on young females demographically and by distributing Motorola has positioned itself as a desired local product brand
products with more advanced specialized features. Ericsson that provides optimal value throughout its relationship with
appears to be focusing on niche marketing for cell phones customers. The company knows that there is no guarantee
because of its overall lack of a company-specialized focus of continued market leadership, but it feels that by creating
for the cell phone market. For now the small salesforce that such a strong market infrastructure, it has positioned itself in
Ericsson employs in China seems to be comfortable with its the Chinese market for the long haul. Motorola continues to
smaller niche positioning. feel that its decision to produce locally and to develop strong
EXHIBIT 2
GROWTH IN SUBSCRIBER BASE
400
350
320
300
260
Subscribers (In Million)
250
220
200
144
150
87.6
100
43
50 24
12
0
1997 1998 1999 2000 2001 2002 2003 2004
Year
Case 9 Motorola: China Experience 673
bonds with local suppliers and distributors is its best bet to wait for sales promotions in order to get good deals. From
maintain a strong position in the country. this point of view, the profit margin of cell phones targeting
this segment is the lowest in the four categories. However,
CONSUMERS
with the increasing number of people owning a cell phone,
By the end of October 2002, China became the largest cellular this segment is expanding rapidly and is contributing more to
market in the world, with a total of 180 million cell phones the growth of the entire market size.
in use. The number reached 220 million by the end of 2002
MOTOROLAS STRATEGY
and 353 million by early 2005. According to data from China
Mobile and China Unicom, the cumulative number of sub- When wireless service became available in 1987, Motorola
scribers increased by an annual rate of more than 50 percent was the sole provider of both network equipment and cell
from 1998 through 2002. phones based on analog technology. As the first company to
The stereotyped image of the cell phone owner (affluent introduce the concept of mobile communication into China,
boss) has long ago faded. Although this may describe one Motorola has been enjoying solid brand recognition in this
of the segments still targeted by cell phone manufacturers, market.
todays user symbolizes the blending of tastes, preferences,
and meanings associated with products crossing several demo- Entry ModeGreenfield Operation. Viewing China as an
graphics and psychographics boundaries. A discussion of the emerging market with great potential, Motorola chose the
four market segments that define todays cell phone user greenfield operation as its entry strategy when it set up the
follows. first office in China in 1987. The rationale behind this choice
of entry mode can be described as follows:
Heavy Users. They are successful entrepreneurs, business- First, Motorolas pursuit of an overall global strategy
men/women, and professionals over 30 years of age, with high decides a high-control entry mode. Since the cell phone indus-
income. People in this segment view cell phones as a necessary try is highly concentrated, with a limited number of players
tool for their jobs. Most of them are early adopters of mobile who confront each other in many different national markets
phones. It is easy for them to stick to one brand because they around the world, a wholly-owned foreign subsidiary allows
are unwilling to spend time in getting used to new menus. for Motorolas global strategic coordination.
Therefore, this segment is much more loyal to certain brands Second, because of the relatively low investment risks
with reliable quality, compared to the other three segments. in China, Motorola chose the greenfield operation, which
They are willing to pay extra money for high quality. involves substantial resource commitments. Since China
reopened its economy to foreign investors in 1979, the country
Technology Enthusiasts. This segment is male dominated, has been gaining experience in attracting foreign investment.
highly educated, and aged between 25 and 45. They are eager Investment incentives and infrastructure supports in Special
to try every high-tech gadget, and they always seek new Economic Zones and open cities (including Tianjin where
cell phones with either cutting-edge technology embedded or Motorolas wholly-owned factories are located) motivate for-
unique functions. Consumers who fall into this category are eign firms to adopt high-control equity-based entry modes.
more likely to try some fantastic accessories connecting cell Finally, although the demand for mobile phones in China
phone and other personal digital devices, such as laptops and was low in the first few years, market potential was great in
personal digital assistants (PDAs), as well as take advantage terms of the countrys huge population and increasing con-
of the wide usage of wireless access to the Internet. sumer purchasing power, especially in cities along the coast.
Since at that time the cell phone had been newly introduced
Fashion Seekers. Most consumers in this segment are young into the Chinese market and the rapid growth period did not
females aged 20 to 40 who love trendy apparel and can start until a few years later, Motorola had enough time to
afford it. They care more about the appearance of the cell establish a wholly-owned subsidiary from scratch.
phone, such as shape, size, and color, than about its diversified Since being established in 1992, the manufacturing plant in
functions. TV commercials featuring appropriate celebrities Tianjin (a port in northern China), which is 100 percent owned
usually have a significant influence on the purchase behavior by Motorola, has become one of the major global production
of this segment. Both this segment and technology enthusiasts bases in the world for personal communication products,
have a propensity for changing their phones frequently. There- including the cell phone. Motorolas initial time and capital
fore, products targeting these two segments have a relatively investment in the factory has already paid off. The Tianjin
shorter life cycle. factory not only provides products to the Chinese market
and other countries in Asia but also consolidates Motorolas
Social-Life Lovers. This is not a richer segment. With relationship with both central and municipal governments; as
regard to demographics, these people are consumers with the factory has been one of the 10 companies with the largest
average income, are either men or women, and are without exports and sales since 1994.
age limit. They like to make friends, and they care about their
families. The cell phone is a perfect tool for them to keep in OperationLocalization Strategy. Knowing that consumer
touch with both friends and family members. However, they preference in the Chinese market is quite different from that
may not be attracted to cell phones with comprehensive and in the U.S. market, Motorola started to localize its prod-
sophisticated functions at relatively higher prices. People in uct development after the initial poor performance of pure
these segments are much more price-sensitive than those in global strategy. Now Motorola adapts its models to meet the
the above three segments. They usually have the patience to specific demand from local markets rather than simply throw
674 Case 9 Motorola: China Experience
EXHIBIT 3
ADVERTISING AND PROMOTIONS TARGETED TO MARKET SEGMENTS
Attitudes Sub-brand Advertisings and Promotions
Heavy Users Working hard; high-quality Timeport Print ads placed in upscale business
consciousness when magazines such as Business Week
purchasing. (Chinese edition).
Direct marketing such as sponsoring
golf club.
Fostering positive word-of-mouth.
Technology Heavy user of the Internet. Accompli Editorials in magazines.
Enthusiasts Aspiring to get ahead. Internet marketing, including the
design of Motorolas Website.
Fashion Seekers Enjoying life rather than living V. Chinese supermodels and pop music
frugally. singers as representatives for this
serial.
Associating brands with role TV commercial.
models such as celebrities. Print ads in fashion magazines such
as Elle and Cosmopolitan.
Social-Life Lovers Willing to pay for top brands, TalkAbout Cooperating with wireless service
but will also wait for price providers to offer discounted
drop. initial fee.
Yield easily to sales Sales promotions offering extra
promotion. accessories, such as one more
battery, or gifts.
the current products into the market without any adjustment. Although Motorola markets four cell phone serials in dif-
The R&D center in China successfully developed software to ferent ways to target different consumer groups, the company
show the menu in Chinese and to input Chinese characters. does not invest a lot in building the brand recognition of four
In 1999, a combination PDA/phone, which was designed by subbrands. The names of subbrands only appear on the labels
Chinese engineers, was launched in China and spread to the of the phones. Most consumers do not seem to pay attention
United States and Europe. to the subbrands when purchasing.
Motorolas localization strategy also includes local sourc-
DISCUSSION QUESTIONS
ing. The company takes the initiative in establishing rela-
tionships with local suppliers. Seven years ago, 65 percent 1. How should Motorola appropriately react to the emerg-
of components were imported, whereas 69 percent of com- ing local brands, head-to-head competing or cooperating
ponents are now purchased locally. Local sourcing brings in some fields? Will licensing manufacturing technology
Motorola three major benefits: lower manufacturing cost, to Chinese manufacturers weaken Motorolas core compe-
reduced risks from currency fluctuation, and ability to cater to tency?
the Chinese governments requirements.
2. Facing the expanding low-priced segment, how should
Motorola, traditionally known as a brand for high-end
Marketing Segmentation. With regard to branding strategy,
mobile phone, position itself? Is the companys current
Motorola introduced four subbrands to respectively target
branding strategy effective in penetrating this segment?
the four market segments: Timeport to Heavy Users, Accom-
If not, what kind of marketing strategy should Motorola
pli to Technology Enthusiasts, V. to Fashion Seekers, and
follow?
TalkAbout to Social-Life Lovers. Different advertisements
and promotions are implemented to target these four specific 3. What should Motorola do in order to effectively cut cost in
categories, shown in Exhibit 3. developing a low-priced mobile phone?
Case 10 iPod in Japan Can Apple Sustain Japans iPod Craze? 675
C ASE 10
PC market share in Japan. Furthermore, 9 out of the top ten award-winning TV ads feature silhouettes dancing to up beat
desktop sales were Apple computers and 3 out of the top music; music that has caught just as much attention in Japan
ten laptop sales were Apple laptops. Apple did not open its as iPod mini itself; music that has prompted many consumers
first retail outlet in Japan until it unveiled the iPod mini at its to ask just who are those artists. Before and after the grand
Ginza store in 2003. opening of Apples store in Tokyo, poster ads could be seen
plastered all over train stations, train tunnels, and the actual
iPOD MANIA
structure of the trains. In Tokyo, the Yamanote Line train
Domestic craze became a giant iPod bee-bopping around the busy heart of
the metropolis.
In 2001, Apple introduced a departure from its PC products
JAPANS APPLE STORES
that ventured into the music industry: iPod. The largest hard-
drive music player in the U.S. at the time, the first iPod had a A major part of iPods success in Japan is its Apple Stores.
5 GB hard drive and sold for $399. It was an instant hit in the The Ginza store, Apples first retail location outside of the US,
marketplace, especially with loyal Apple users. In July 2002, is situated near such high-end stores as Louis Vuitton, Coach,
Apple introduced Windows-compatible software for the iPod and Chanel, a location that is very different from the tradi-
and its market immediately multiplied ten-fold. By that time, a tional electronics center in Akihabara. Placing its stores in the
third-generation 20 GB iPod had been revealed for $499, and high profile retail locations of Japan is a part of Apples new
the previous generations were discounted by $100. New pro- campaign toward the young and the trendy. Apples second
motional campaigns, including iPods trademark commercial Japanese store is located in Osakas fashionable Shinsaibashi
featuring dancing silhouettes with white earbuds, transformed area, its new London store is on Regent Street, and its New
the need for a digital music storage device into a genuine desire York store is in the trendy SoHo district. At its grand opening
for a trendy, fashionable portable music player. In April 2003, in 2003, the Ginza store attracted a long line of over 5,000
iTunes Music Store (iTMS), Apples online (and legal) music people that wound around the glittery stores and streets of the
download site, was opened. Since then, Apple has sold more Ginza district with the end of the line located several blocks
than 300 million song downloads through iTunes Music Store. from the actual store. The Ginza store made 100 million yen
By the time iPod mini was introduced in January 2004, in sales in its first week of business, and is currently averaging
iPod and iPod accessories were already all the rage. The 4 GB 5,000 visitors per weekday. Apple opened a third store in
mini iPod came in eye-catching, metallic colors of silver, Nagoya this year and industry sources claim that Apple plans
blue, pink, green, and gold and was smaller than most cell to open 27 more stores in Japan in areas such as Shibuya
phones in the U.S. Selling for only $249, it was also a much (western Tokyo), Kyoto and Umeda (Osaka).
more economical purchase than its big brother, though most Steve Cano, regional director for Apple Japan retail and
iPod-addicted users scoffed at the small memory size. The manager of the Ginza store, often visits the neighboring shops
second generation of iPod mini, which debuted in February to benchmark the Apple Store and its customer service. I like
2005, sells for the same price, but has a 6 GB capacity; 2 GB the (Apple) employees and how friendly and approachable
more than its first generation predecessor (which now sells for they are, he boasts. We dont benchmark against computer
$199). Again, the iPod mini helped Apple access a broader retailers, we benchmark against service leaders.
range of customers in terms of budgets and tastes. Key to Apple Stores success is ongoing promotional activ-
By 2004, iPods and iPod minis held a virtual monopoly in ity held at its Japan stores. The program includes weekly,
mass-storage music players, capturing 87 percent of the HDD evening performances by artists from local labels, and elec-
music player market in the U.S. tronic musicians demonstrating how they use Macs to create
To date, iPod and iTunes are improving Apples brand groovy music. Another crucial component is the popular
recognition at home and abroad, as well as its overall position Genius Bar, located on the first floor of the Ginza and Shin-
in the home computing market. According to financial services saibashi Apple Stores. The Genius Bar offers open forums that
firm Piper Jaffray & Co., 6 percent of Windows users in the provide Mac and iPod operating techniques and purchasing
U.S. who own iPods have switched to iMacs, and 7 percent advice from the Apple staff directly to customers completely
more plan to make the switch. free of charge. The Genius Bar has proven to be a great suc-
cess. Many Mac fans wait hours to use the Genius Bar while
Not so mini success in Japan
some even go so far as to make appointments for the services
Approximately 1,500 people in Tokyo, and over 2,500 people at Apples Japanese web site ahead of time in order to avoid
in Osaka lined up outside the Apple Store in Japan on August the wait.
28, 2004, the release date of the iPod mini. Demand for the
mini has far surpassed its supply, with some customers waiting iPOD MINI SOARS, iPOD DOMINATES IN JAPAN
up to six weeks for their iPod mini. At the release of the iPod mini in 2003, the iPod familys
Some have described the iPod mini as an ideal product share of the hard drive based music player market was over
for the Japanese market. It is a product that does something 72 percent. Independent reports also revealed that six of the
useful, does it really well, and looks terrific too. Its slick eight top selling music players in the overall Japanese market
design, limited-supply marketing, carefully designed stores, were iPods. Buyers of the new iPod mini are not limited to
and its award-winning advertising campaign are the reasons the traditionally gadget-obsessed Japanese male with a love
behind iPod minis incredible success in Japan. of music. Its customer base ranges from teenagers to busi-
Apple has launched a marketing campaign in Japan with nessmen in their 50s, and surprisingly, female customers. The
catchy TV ads and billboards painted on Tokyo trains. Apples iPod mini comes in five stylish colors, pink, green, blue, silver,
Case 10 iPod in Japan Can Apple Sustain Japans iPod Craze? 677
and gold, and is clad in sleek aluminum casing. The new case this spring. iTunes currently charges $.99 per downloaded
color and material transformed the digital music player into a song.
fashion accessory for the Japanese consumer. Famous brands, Sony Connect, like its Network Walkman, is struggling as
such as Fendi and Coach, are already offering iPod mini carry- it utilizes only its proprietary Atra3 software. The prices are
ing cases at couture prices. The iPods white earbuds are also competitive, but higher than iTunes at around $2.00 or 250
catching on as a fashion statement. Other MP3 player brands yen per song.
and mobile phone manufacturers have already caught wind Yahoo Music Unlimited is predicted to blow both Apple
of the trend, coming up with their own copy of the signature and Sony away with their new subscription service. For only
white earbuds. $6.99 a month, subscribers can download unlimited music
(although some newer songs may cost extra). Currently,
COMPETITIVE ENVIRONMENT
Yahoo Music Unlimited in Japan offers downloads ranging
iPods direct competitors include the Sony Network Walk- from 150 yen to 360 yen depending on the song. It has yet to be
mans, the SONICblue Rio digital players, and iRiver digital announced whether they plan to offer the same subscription
players. Sony, with its dominance in the walkman business service in Japan in the future.
and reputation in Japan, is iPods biggest competitor despite There are several illegal file-sharing websites that Japanese
its late mover disadvantage for portable digital players. Sonys digital music aficionados use to obtain transfer free tunes onto
late entrance was further doomed after Sony only offered pro- their mp3 players. Winny and WinMX are examples of two
prietary Atrac3 software instead of the popular mp3 format. sites used in Japan. Furthermore, Japans video rental stores
Initially, Sony Music, which also owns Columbia Music, tried also rent the latest Japanese and American pop music CDs
to discourage Sony from promoting the Network Walkman, a to store customers, which are then usually copied by the
product that seemed to condone and encourage illegal down- renting customer. These methods of obtaining free music in
loading. In the fiscal year ending March 31, 2005, Sony experi- a seemingly legal way in Japan are obstacles to the fur-
enced a 30 percent decrease in its forecasted operating profits. ther expansion and popularity of iTunes and other such sites
Both iRiver and Rio offer similar products to the iPod recognized as legal downloading sites.
line at a competitive price. Some of the variations of these NEXT GENERATION CELL PHONE THREATENS
products are listed in Exhibit 1 below. Currently, iPod holds IPOD DOMINANCE
over 50 percent of the market share.
All portable mp3 players, including iPod, are going to face
DOWNLOADING SITES challenges as new, integrated gadgets and next-generation cell
The same companies competing for electronics sales are also phones are released in the next few years. Items like Sonys
competing for digital music sales of downloaded songs to their PSP player have video, game and music capabilities.
players. But industry big wigs like Bill Gates predict that music
iTunes Music Store is the online music downloading store players integrated with cell phones are going to be the down-
Apple officially unveiled in 2003 to complement its successful fall of iPod and its mp3 competitors. Approximately 1.4 billion
iPod family of products. iTunes is predicted to reach 2 million people in the world already own cell phones, which translates
units sold by this summer, and is scheduled to launch in Japan to a huge, borderless distribution channel.
EXHIBIT 1
512 MB1.5 GB 2 GB6 GB 3 GB20 GB ABOVE 20 GB
Sony Sony
NW-E105PS NW-HD3
512 MB 20 GB
$99.95 $299.95
Currently, phones with mp3 functions are still in the testing Although iPod and iPod mini are currently dominating
phase, but insiders say that the next generation of digital music Japans music player market, it remains to be seen whether
player hybrid phones could be out by 2008. Apple is aware this little white hope can sustain its popularity continue to
of the trend and trying to capitalize on iPod popularity by have a true halo effect in Japan. While iPod has become the
teaming up with Motorola to develop an iPod phone. How- standard for digital music players in Japan, it could prove to
ever, Verizon Wireless and Sprint, as well as many Japanese be just another fleeting, consumer fad. Particularly troubling
carriers, are not willing to carry the phone. As Graeme Fer- is the uncertainty of iTunes in Japan as well as the foreboding
guson, director for global content development at Vodafone possibility of high-tech music-enhanced cell phones that could
Group PLC, points out, Its hard for people in any industry to render the iPod obsolete in the Japanese market.
support something that cuts them out of potential future rev- One of the main reasons Apple has been successful in
enue streams. This may prove to be a major obstacle to the Japan is its ability to constantly evaluate its products from the
success of an iPod phone. Especially in a cell phone saturated Japanese consumer point-of-view and continuously launch
market such as Japan, iPod will have to work even harder to new and improved versions of its products while keeping
keep its dominance in the future digital music player market. a half step ahead of the trend as well as its competition.
KDDI and NNT DoCoMo are both working on developing Clearly, Apple must continue to do just this in order to pro-
phones that have hardware capable of significant music file long its iPod honeymoon. Ultimately, whether or not iPod
storage. In addition, many phones in Japan can now download can sustain its success in Japan and keep Japan as a major
entire songs, as opposed to the traditional chaku melo that profit center for Apple is as unpredictable as the iPod craze
contained only the first 30 seconds of a song. itself.
FUTURE OF IPOD IN JAPAN QUESTIONS
While iPod is selling by the millions, Apples global PC mar- 1. How has iPods marketing strategy played a key role in its
ket share actually shrank to less than 2 percent (1.87) in 2004, success in Japan?
largely due to large global competitors like Dell (18 per- 2. Is iPods distribution channel strategy effective?
cent) and HP (16 percent). Apple has become increasingly
3. What challenges will the integrated cell phone/mp3 player
dependent on iPods continuing success both in the U.S. and
present for iPod?
abroad.
C ASE 11
corporate name was officially changed to NTT DoCoMo, Inc. financial condition. In contrast, NTT DoCoMo established
in April 2000. its own shops, a retail operation that was managed jointly
With the entry of foreign players, the competition inten- with trading houses and other companies that exclusively
sified and DoCoMo experienced a drastic decline in sales sold DoCoMo terminals. The incentives for these stores were
from 1992 to 1994. The company felt that there was little dif- significantly lower than those of their competitors.
ferentiation between their products and the ones offered by In February 1999, NTT DoCoMo introduced i-mode, a
other wireless companies in Japan. Also, customer feedback wireless Internet service. In just three years it had 30 million
showed that the growth rate for voice services (1G-first gener- subscribers, (60 percent share of Japans mobile Internet mar-
ation technology) was gradually declining. DoCoMo realized ket). Two other rival services EZweb from KDDI and J-Sky
the need to shift to a higher technology in order to differen- from J-phone also did well. EZweb had over 9.3 million users,
tiate itself from its competitors and to sustain growth in the while J-Sky was able to get over 9.7 million subscribers in less
market. As a result of their focused initiatives and the growing than three years.
demand for wireless services in Japan during the mid 1990s, In October 2001, DoCoMo launched the worlds first third-
DoCoMo emerged as the market leader in 1997. generation (3G) cellular service FOMA in Tokyo. Customers,
Today, NTT DoCoMo is one of the worlds leading wire- though, avoided DoCoMos 3G offering because of the high
less communications company with a network covering the price for the service, expensive handsets, and spotty cover-
entire country and more than 45 million customers. The com- age even in key locations like the Tokyo subway. KDDI
pany provides a variety of leading-edge wireless multimedia launched CDMA2002 1x, its 3G service in April 2001 and
services such as i-mode, a mobile Internet service, which gained more than one million subscribers in the first three
provides e-mail and Internet access via high-speed packet months. Although this service was slower than FOMA,
transmissions and FOMA, the worlds first 3G mobile com- KDDIs upgrade was in sync with the technology standards
munications service based on W-CDMA technology, which worldwide and did not require the rebuilding of a whole sys-
offers visual communication services. tem, as required by FOMA. J-phone followed with its own 3G
DoCoMo has subsidiaries in Europe and North America, service in June 2002. Exhibit 1 shows the current status of 3G
and is expanding its global reach through strategic alliances subscriptions and the overall market competition in Japan.
with mobile and multimedia service providers in Asia-Pacific KDDI/AU has moved almost all its subscribers from 2G to
and Europe. NTT DoCoMo is listed on the Tokyo, London, 3G networks. DoCoMo plans to complete the conversion to
and New York stock exchanges. 3G/FOMA by 2006, while Vodaphone still has a very small
number of 3G subscribers. Both 3G voice and 3G data rates
MOBILE NETWORKS IN JAPAN
are considerably lower than 2G data rates, however the actual
The Japanese mobile market consists of three companies: NTT rates subscribers pay depends on the plan selected, quantity
DoCoMo, KDDI/AU and J-phone (Vodafone). Although of data transferred, contract length, and various discounts.
their market shares in 2003 were roughly 60 percent, 20 per- NTT DoCoMos 3G networks brand name is FOMA and
cent, and 20 percent, respectively, the difference in financial it uses the wCDMA technology standard. Vodaphone also
conditions of NTT DoCoMo and its competitors was even uses the wCDMA standard, while KDDI/AU uses different
larger due to the difference in their strategies for sales and versions of the CDMA 2000-1x standard (CDMA2000-1x and
distribution of handsets in Japan. KDDI and J-phone worked CDMA2000 1xEV-DO) under the brand names: CDMA1x
through independent retailers and paid incentives on top of and CDMA1x-WIN for data download rates up to 2.4 Mbps.
the retail price for the sales of terminals. They focused more The Japanese communication industry has seen enormous
on the market share than on the profit, which weakened their changes. The use of mobile phones has evolved from voice
EXHIBIT 1
3G SUBSCRIPTIONS AND CURRENT COMPETITION IN THE JAPANESE MOBILE SERVICES MARKET
Vodafone
FOMA/DoCoMo 18.4%
(c)2004 Eurotechnology
1 million
(wCDMA) TU-KA
4.5%
100,000 DoCoMo
au
56.3%
Vodafone 20.8%
(c)2004
10,000
(wCDMA)
1,000
Jan l, Jan l, Jan l, Jan l, Jan l, Jan l, Source : Telecommunications Carriers Association
2001 2002 2003 2004 2005 2006
communication infrastructure to mobile phone applications constantly produce high-quality offerings that would attract
as IT infrastructure. The next likely step is further evolution new subscribers and boost their profits. Clever marketing
of mobile phones as a lifestyle infrastructure. was another key factor in i-modes success. Young Japanese
women determine which trends become successful and long-
i-mode, DoCoMos Success Story
lived in Japan, and DoCoMo initially designed its content
After its launch in 1999, i-mode became an instant success in with features for young women like shopping sites, ring-tone
Japan, resulting in a phenomenal growth in DoCoMos sub- downloads, and easy email capability. By making sure that this
scriber base. Company sources mainly attributed the success group adopted i-mode at an early stage helped DoCoMo to
of i-mode to its simple and efficient network access, its middle- extend their success in other Japanese user groups. DoCoMo
ware software, its innovative business model, and its unique charged 300 yen for its i-mode service, which most users con-
marketing strategies. NTT DoCoMo placed itself between sidered to be a minor cost. It also consciously chose not to
the users and content by making i-mode a closed and tightly refer to the term Internet or Web in its promotional campaign
controlled network. Web pages and e-mails can only reach for i-mode during the first year of its launch. i-mode was posi-
an i-mode handset by c-HTML or i-HTML, NTT DoCoMos tioned as a simple, usable and fun-to-use service, complement
patented protocols. i-mode users must connect to the Internet to the voice function. DoCoMo also defined the features of
through its gateways. Takeshi Natsuno, executive director of the phone (handset) it sold and manufacturers did not have
the i-mode planning division of NTT DoCoMo summed it up: any influence in the retail price or the introduction of new
The true mechanism of the great success is that the operator models.
has made a function of coordination of the total value chain.
Was i-mode a Cultural Phenomenon?
According to analysts, the biggest advantage of i-mode was its
efficient execution of the wireless Internet ecosystem. Refer Western analysts often point out that the success of i-mode
to Exhibit 2 for i-modes collaboration concept. was a result of several special characteristics and the environ-
DoCoMo had a national network for packet communi- ment in Japan: Japan is a pedestrian-centric country and the
cations, and through i-mode, its researchers found the best penetration rate of PCs in Japan is low, so people have to use a
way to effectively utilize this network. NTT DoCoMo col- cell phone instead of a PC for Internet access. However, these
lected monthly information charges on behalf of the i-Menu reasons are only partly true. People living in Tokyo mostly
content providersso i-mode users can receive a single, con- ride trains but those who live outside of Tokyo drive; 50 per-
solidated bill for all their mobile phone activities, and the cent of Japanese households have two cars. Therefore, its not
content providers do not have to worry about billing cus- the case that people only use i-mode during their commute.
tomers directly. This arrangement reduced the expenses and They use i-mode in their spare time, such as waiting between
risks for the content partners, which encouraged them to meetings. Also, even though PC penetration in Japan is far
EXHIBIT 2
i-MODE ECOSYSTEM
Inter-Operability Inter-Operability
Platform
Vendors
Business Portal
Opportunity Functionality
Co-marketing Co-marketing
NTT
Handsets DoCoMo
Content
Volume Revenue
Handset Opportunity Collection Content
Vendors Providers
Content / Handset Integration
lower than in the U.S., Japan is still among the top five nations CDMAOne). Due to this, Japan was not able to offer GSM
in terms of PC usage. roaming services to those coming from other countries. See
The i-mode phenomenon coincided with changing social Exhibit 3 for the evolution of mobile telephony.
behavior, particularly among Japans urban youth. According These 2G choices influenced the early choices of 3G techni-
to Masahiro Yotsumoto, research director at the Dentsu Insti- cal specifications. Exhibit 4 shows the possible migration paths
tute for Human studies, Young people have a very different from 2G to 3G. Although the two approaches CDMA2000 and
attitude towards personal relationships. Instead of having one wCDMA (Wideband Code Division Multiple Access) were
good friend, they prefer to have 200 mobile friends. Another recommended as a standard technology (for 3G) by IMT-2000
analyst, Nishioka, points out that sending a short message, (International Mobile Telecommunications2000), these
such as saying goodnight to a friend, is one of the most popu- technologies were not perfectly compatible.
lar uses of i-mode. The lack of real privacy in small Japanese KDDI adopted the CDMA2000 standard for 3G, whereas
houses has also helped to make mobile phones popular. In NTT DoCoMo adopted wCDMA (which it calls FOMA),
Japan, especially for young people, their home is their cell which they claim is the first bona fide 3G networks. In Europe,
phone, says John Barber, former director of AOL Japan. many telecom companies invested heavily in 3G spectrum
licenses, which can only be used for wCDMA. In the U.S.,
BATTLE FOR GLOBAL STANDARDS
Cingular has decided to use wCDMA for its 3G service,
In 1982, the Global System of Mobile Communication (GSM) whereas Verizon is using CDMA2000. This means that users
was established to initiate European Telecommunication stan- who need global roaming capabilities will still have to use
dards. The European government passed a legislation making multi-technology phones.
it illegal to implement any other system. In contrast, the
INTERNATIONAL EXPANSION
absence of a mandated standard by the U.S. government
led to companies adopting different implementations, ranging To extend i-mode and 3G services outside Japan, DoCoMo
from CDMA to two versions of TDMA (GSM and IS-136). focused on acquiring stakes in various cellular countries
GSM was an improved version of TDMA whereas CDMA around the world. Commenting on this, Natsuno Takeshi,
was a completely different technology. The CDMA inter- Executive Director of DoCoMo said DoCoMo alone is very
face was much superior to GSM or TDMA for data transfer. sure of the potential of 3G, because we have already experi-
In Japan, all 3 Japanese operators deployed second genera- enced the explosive success of the data business. Our overseas
tion (2G) technologies that were not compatible with GSM business is to offer our know-how. We cannot give it away
(NTT DoCoMo and Vodafone used PDC whereas KDDI used free, but we can make a minority investment in interested
EXHIBIT 3
EVOLUTION OF MOBILE TELEPHONY
Mobile telephony has evolved through various generations: 1G, 2G, 2.5G, and 3G
1GAnalog Communication: The original analog cellular systems introduced in late
1970s and early 1980s are considered the first generation of mobile telephony. This was a
voice-based technology that used analog signaling.
2GDigital Technology: Second generation mobile telephony was also essentially a
voice-based technology but it used digital signaling techniques. Though digital wireless
telephony provided clearer voice transmissions with little disturbance as compared to
analog technology, it was slower due to the circuit switch-on and off. GSM, TDMA and
CDMA were 2G technologies
2.5GPacket Switching Technology: 2.5G was the interim solution for 2G networks to
have 3G functionality. It used General Packet Radio Service (GPRS), an interim
technology between Global System for Mobile (GSM, 2G) and Universal Mobile
Telecommunication Service (UMTS, 3G) technologies. 2.5G supported transmission of
voice as well as data. It enabled users to access the Internet and send e-mails and large
amounts of data.
3GAdvanced Packet Switching Technology: The third generation of mobile telephony
was designed for high-speed multimedia data with speeds ranging from 128 kbps to
several megabits per second. 3G was also expected to provide advanced global roaming. It
promised to increase the bandwidth and provide faster packet-switched data transfer rate.
DoCoMo was the pioneer of this generation.
4GSoftware Defined Wireless Technology: 4G technology is still in the research phase.
It will be able to support interactive sessions like video conferencing, as data would be
transferred at much higher rates. The cost of data transfer would be comparatively less
and global mobility would be possible. The Japanese, Chinese, and South Korean
governments agreed to jointly develop 4G technology and allocate common spectrum for
4G cellular phones which are expected to be available around 2010. Source: Compiled from various
sources
682 Case 11 NTT DoCoMo: Can i-Mode go Global?
EXHIBIT 4
POSSIBLE MIGRATION PATHS FROM 2G TO 3G
EDGE W-CDMA
GSM GPRS
2G 2.5G 3G
Source: ITU Internet Reports 2002, Internet for a
Mobile Generation.
partners. I think it is a perfect strategy. DoCoMo invested in Was it the Right Partnership?
foreign mobile providers who were aiming to deploy the next
It is questionable whether DoCoMo saw its business as a global
generation technology. In May 2000, it bought a 15 percent
business or rather a multi-local business. DoCoMo focused
stake in Dutch KPN mobile to set up Europes first i-mode
on acquisitions to expand its business without truly analyzing
service and in December 2000, completed the acquisition of a
the synergy effect from these deals. According to financial
16 percent stake in AT&T for $9.8 billion, planning to estab-
theory, mergers and acquisitions will generate economic gain
lish the first 3G network in the U.S. in 20032004. DoCoMo
only if there is a synergy effect or if two firms are worth more
also invested in Hutchison in Hongkong, KG Telecom in Tai-
together than apart. An analyst from Dresdner Kleinwort
wan, and Tele Sudeste in Brazil. In exchange, these carriers
Wasserstein, pointed out that there was no additional gain for
agreed to roll out i-mode and DoCoMos version of 3G mobile
DoCoMo by acquiring stake in AT&T Wireless. However,
technology. Through these investments, DoCoMo improved
some analysts also say that DoCoMo was a latecomer in the
its access to Asia as well as the European and American mar-
U.S. market and partnerships with most carriers were fore-
kets. Its network of international investments was intended to
closed to it. DoCoMo selected AT&T wireless largely because
leverage DoCoMos know-how from the advanced Japanese
of AT&Ts national footprint and because AT&T agreed to
market. It planned to offer i-mode-type services based on 2.5G
deploy i-mode and implement DoCoMos wCDMA standard
to be followed by 3G products and services, which would be
by the end of 2003.
well developed in Japan by that time. DoCoMo was aiming
Furthermore, despite regulatory changes, economics of the
to establish its wCDMA technology as the de-facto world-
mobile industry has remained primarily national in nature and
wide standard for 3G mobile phones. However, its global
it is better to be a market leader in one country rather than a
aspirations soon ended due to the downturn in the global
follower in many countries. In general, a broader geographic
telecommunications market.
scope and higher subscribers than that of other companies
FURTHER PROBLEMS IN GLOBAL EXPANSION is the true benefit for the leader. Although DoCoMo was
the leader in Japan, this was not true for Europe or North
In fiscal year 2001, DoCoMo was forced to write off almost
America.
1 trillion yen due to the decline in the value of its investments
To be successful in international market by way of merger
in various foreign wireless companies. The gross impairment
and acquisition synergies, DoCoMo should have been more
charges were 664.5 billion yen for AT&T Wireless Service,
serious about gaining management control. Although it accu-
Inc., 320.5 billion yen for KPN Mobile N.V., 36.5 billion yen
mulated direct or indirect shares in nine mobile operators
for KG Telecommunications Co., Ltd., and 56.4 billion yen for
during the telecom bubble period, it was the major player
Hutchison 3G UK Holdings Ltd. In mid 2002, it was reported
only in KPN Mobile in Netherlands and Hutchison in Hong
that DoCoMo was facing problems in convincing its partner
Kong, which were minority geographic markets. The rest
wireless companies to adopt its technology. These companies
of the investments were not successful for being a mar-
were reluctant to spend huge amounts upgrading their net-
ket leader. AT&T Wireless was the No. 3 player in the
works, as they feared DoCoMos products and services might
U.S., KG Telecom was No. 4 in Taiwan, and Hutchison
not attract customers in their countries. They had already
was No. 5 in U.K. Since DoCoMo was the minority share-
spent billions of dollars in acquiring 3G licenses and did not
holder, it had very little or no management control. DoCoMo
have the financing to set up and operate 3G networks. As a
argued that the objective of global business expansion was
result, a number of leading telecom companies in Europe and
to generate royalties from its i-mode business model for
the U.S. decided to delay their 3G roll out plans, which were
mobile Internet services in joint ventures with newly acquired
initially projected for 2002 and early 2003.
Case 11 NTT DoCoMo: Can i-Mode go Global? 683
partners and to increase the adoption of DoCoMos 3G people to get an i-mode handset when so much has been said
mobile technology standard. In Japan, DoCoMo was able about 3G.
to dominate the entire value chain by specifying standards Investors wanted DoCoMo to rethink its overseas adven-
for handset manufacturers and regulating the content from tures.
content providers. Did it evaluate all the success factors for
FINANCIAL HIGHLIGHTS: DoCoMo
its i-mode service in Japan before expanding to overseas
markets?
Overall Operating Result
Was the U.S. Ready for i-mode?
In fiscal year 2003, total operating revenue of the company
At the time of the acquisition of AT&T, Japan and Europe increased by 4.97 percent to 5,048 billion yen while operat-
had already begun migrating to the 3G networks whereas in ing income increased by 4.36 percent. Net income increased
the U.S. there were many full second-generation network cov- from 212.49 billion yen in FY2002 to 650.01 billion yen in
erages and some 2.5G providers. Although the limited 2.5G FY2003, representing a 206 percent increase. This surge in
data transmission speed did not support advanced multimedia net income was attributable to the reduction in write-downs
services, it provided the basic content that satisfied customers. of investment in affiliates and equity in net losses of affiliates,
This was, however, not sufficient to be marketed as i-mode and the gain from sales of AT&T securities. The percentage of
under DoCoMos standards. operating expenses to sales reduced slightly from 78.5 percent
The preferred protocol for mobile information services in in FY2002 to 78 percent in FY2003 as a result of a decrease
the U.S. was wireless application protocol (WAP), which in sales commissions. In FY2003, the cost of providing ser-
allowed users to connect to the Internet and advanced vices increased by 0.8 percent YOY. However, cost/revenue
telephony services. It required the use of wireless markup percentage decreased from 16.32 percent to 15.97 percent in
language (WML) to create content (Internet sites). WAP is FY2003 as a result of economies of scale from the increase in
an open standard, not controlled by a single vendor. But cellular traffic volume. DoCoMo reported an operating loss
its widespread adoption was uncertain due to its technical in FY2001 of 116 billion yen despite an increase in operat-
limitations. In contrast, DoCoMo used its own protocol for ing revenue from FY2000. This was attributable to the loss
i-mode in combination with its proprietary c-HTML language. in equity of affiliates, which reflected the poor performance
Switching to i-mode would thus be more expensive. of international investments. AT&T reported operating loss
Although most carriers had introduced mobile Inter- and impairment of goodwill totaling 664.5 billion yen. At the
net access based on the WAP protocol, similar capabilities same time, there were impairment charges of 320.5 billion yen
were also offered by providers of mobile e-mail services, to the investment in KPN Mobile N.V., 36.5 billion yen for
such as Blackberry, and of wireless personal digital assis- KG Telecommunications Co., Ltd, and 56.4 billion yen for
tants (PDAs). The distinction between cellular phones and Hutchison 3G UK holdings Ltd.
PDAs were beginning to blur as new cellular handsets incor-
Financial Position
porated PDA functionality and wireless PDAs were voice
enabled. In FY2003, the companys assets increased by 3.67 percent
Furthermore, the U.S. market was different from the to 6,262 million yen. DoCoMo has invested more in wireless
Japanese market in terms of fragmentation and a widely telecommunication expenses, building a structure to support
dispersed population. The intense competition in the U.S. the increase in subscribers, R&D for fourth generation (4G)
market had led to flat rate calling plans, so there was little services and for servers for Internet-related services, and 3G
incentive for mobile carriers to increase network usage. In FOMA infrastructure. While cash for business expansion is
addition, U.S. prices were often set too high to encourage still needed, DoCoMo depended less on debt. Debt to asset
frequent use of additional services. ratio decreased gradually every year from 45.74 percent in
FY2001 to 40.84 percent in FY2003. Decrease in the depen-
What Happened in the UK?
dence on debt will enable DoCoMo to sustain its business
Although DoCoMos technology was far superior to WAP, growth in the long run.
which European operators had been successfully marketing
Return on Equity
to their customers, very few users signed up for i-mode.
Mobile Internet services were not as popular in Europe as DoCoMos ROE increased from 6.11 percent in FY2002 to
they were in Asia and after studying the UK market, 3UK 17.84 percent in FY2003 because of the increase in net profit
decided against deploying i-mode. The local operators in margin and higher asset turnover ratio (to measure how the
Europe were also facing problems in launching i-mode com- company efficiently generates sales from its asset). As stated
patible technology in place of the standard WAP technology. above, the increase in net profit margin in FY2003 came
In May 2004, DoCoMo announced that it had terminated from the reduction in loss and impairment of investments
its investment in Hutchison 3G UK holdings, which oper- in affiliates. Operating margin, which represented the per-
ates 3UK. Some other reasons that contributed to the failure formance of its main business, however, decrease from 22.0
were the launching of i-mode service during a recession, poor percent to 21.8 percent. Asset turnover increased slightly from
quality of i-mode enabled handsets, and the opportunity for 0.79 times to 0.82 times in FY2003. In sum, the increase in
WAP to bounce back. Many consumers considered i-mode ROE did not result from increase in profit margin of its main
as an interim technology that would soon be superseded business but from the decrease in the loss of investment in
by 3G. As John Tysoe, mobile-industry analyst at WestLB affiliates and higher efficiency in generating sales from its
Panmure in London pointed out, It will be tough to persuade assets.
684 Case 11 NTT DoCoMo: Can i-Mode go Global?
EXHIBIT 5
FINANCIAL HIGHLIGHTS
Million of Yen Million of US dolars
2000 2001 2002 2003 2004 2004 ROCE
Operating results
Operating Revenues 3,718,694 4,686,004 4,659,254 4,809,088 5,048,065 48,456 23.50%
23.00%
Wireless services 2,978,881 3,590,134 4,153,459 4,350,861 4,487,912 43,079 22.50%
Equipment sales 739,813 1,095,870 505,795 458,227 560,153 5,377 22.00%
21.50%
Operating Income 509,178 778,620 1,000,887 1,056,719 1,102,918 10,587 21.00%
Net Income (loss) 256,564 401,755 (116,191) 212,491 650,007 6,239 20.50%
20.00%
19.50%
19.00%
Basic Data per Share 18.50%
Basic and diluted earnings (loss) 26,792 8,350 (2,315) 4,254 13,099 125.73 18.00%
Dividends decared and paid 200 200 1,000 9.60 2000 2001 2002 2003 2004
Financial Position
Total Assets 3,613,124 6,016,505 6,067,225 6,058,007 6,262,266 60,110
Total debt 1,636,966 2,697,918 2,775,342 2,582,493 2,557,571 24,549 Net Income (Loss) and ROE
Total shareholders' equity 1,976,158 3,318,587 3,291,883 3,475,514 3,704,695 35,561
800,000 20.00%
Cash Flows 2000 2001 2002 2003 2004 600,000 15.00%
Million Yen
5,000,000
ROCE 19.80% 20.70% 21.10% 22.10% 22.90% 4,000,000
Asset turnover 1.071 0.973 0.771 0.793 0.819 3,000,000
Net profit margin 6.90% 8.57% -2.49% 4.42% 12.88% 2,000,000
1,000,000
Equity ratio 54.69% 55.16% 54.26% 57.37% 59.16% -
Asset/Equity ratio 1.83 1.81 1.84 174
. 1.69 (1,000,000) 2000 2001 2002 2003 2004
Debt ratio 45.31% 44.84% 45.74% 42.63% 40.84% Operating Revenues Operating Income Net Income (loss)
30.00% -
Yen
43.00%
Yen
Source: www.nttdocomo.com
Source: www.nttdocomo.com.
CURRENT EXPANSION STRATEGIES O2 will launch services based on i-mode technology but under
its own brand.
Expansion Strategy in U.S
Expansion Strategy in Japan
DoCoMo and Cingular Wireless are negotiating to introduce
i-mode and 3G services to Cingulars customers in the U.S. In April 2005, DoCoMo acquired a 34 percent stake in Sum-
They aim to reach an accord in 2005. DoCoMo also announced itomo Mitsui Financial Groups credit card unit to enter
that it will soon set up a $100 million venture fund in the U.S. into credit card business aiming to diversify its business,
to invest in start-up companies that develop advanced mobile as core mobile communications business is gloomy with a
communication technologies. After the company failed in its saturated market. Moreover, this integration of telephone
overseas investments, it decided that smaller investments in and credit card will enable subscribers to settle payments
promising venture companies would be a better option. Invest- through their mobile handsets. According to president Naka-
ment in stakes of U.S. ventures will also shorten DoCoMos mura, DoCoMo could no longer hope to expand revenue
own development cycle, lower R&D costs, and widen its by depending on growth in subscribers and traffic usage. He
opportunities. expected a 25 percent drop in operating profits and 4.5 percent
decline in revenue this year. DoCoMo plans to reduce costs
Expansion Strategy in the UK to deal with the expected decline in revenue, particularly in
In November 2004, DoCoMo signed an agreement with mm02 distributor subsidies. Recently DoCoMo announced that it
plc under which the European mobile operator will provide will stop rolling out 2G handsets and focus on expanding its
i-mode services to its 22 million customers in the UK, Ger- 3G handset lineup further by adding new models. DoCoMo is
many, and Ireland. O2 U.K and O2 Ireland will exclusively use facing tough competition in the 3G services market in Japan
i-mode brand and technology in their markets. In Germany, as only 25 percent of its overall customers have subscribed
Case 12 The Future of Nokia 685
C ASE 12
According to sales figures of 2003, Mobile Phones gener- three horizontal groups: Customer and Market Operations,
ated 80 percent of Nokias net sales, networks 19 percent, and Technology Platforms and Research, and Venturing and Busi-
ventures 1 percent of net sales. (See Exhibit 1.) It is obvious ness Infrastructure. (See Exhibit 3.) Responsibilities for these
that Nokias primary business is mobile phones. groups are global; Nokia does not further segment at this level
by region.
NOKIAS MOBILE PERFORMANCE
The control and management of Nokia is divided among
Nokia sold over 40 million mobile phones in 1998, surpassing the shareholders, the Board of Directors and the Group Exec-
Motorola and making it the worlds number one mobile phone utive Board. In addition to being CEO, Jorma Ollila is also
company. The fast growth of the mobile industry in terms of Chairman of the Board. Paul J. Collins is the Vice Chairman.
the speed of mobile phone sales astonished even Nokia. In There are eight members of the Board of Directors; all of the
1992, the company predicted that no more than 50 million current members were re-elected from last year. Members of
handsets would be sold worldwide in 1999. The actual figure the Board of Directors take an active role in the company, and
was more than 250 million. The exceptional growth in demand are responsible for regularly evaluating the strategic direction
for mobile phone technology meant that from 1995 to 1999, of the company.
sales figures tripled, profits rose by nearly three times and
THE NOKIA WAY
the share prices rose rapidly. From 1996 to 2000, worldwide
sales of mobile handsets grew by an unbelievable 60 percent Simply stated, the mission of Nokia is Connecting People
annually, but the year 2000 was a turning point as the market and the company does this through a program called The
matured. Nokia Way. In achieving this, its strategy focuses on three
Currently, Nokia is struggling to sustain its lead in the activities used to expand mobile communication in terms of
global handset market. When the company was poised to volume and value. They include:
reach its goal of 40 percent market share, major competi-
1.) Expand mobile voice.
tors such as Motorola began to fight back. (See Exhibit 2.)
Nokias net sales for Q2 2004 were $8.1 billion, a decrease of 2.) Drive consumer multimedia.
5 percent compared to the same quarter in 2003. Operating 3.) Bring extended mobility to enterprises.
profit for the company was $1.1 billion, with operating margin
at 13.7 percent, up from 11.7 percent in the 2nd quarter of The Nokia Way brings together talented individuals who
2003. According to the second quarter results of 2004, both share the right values. Customer satisfaction, respect, achieve-
Nokias unit sales and margins have come under attack. Much ment, and renewal are the values that make up the Nokia
of Nokias own growth in Q2 appeared in Brazil, India, and Way. The overall organizational setup of Nokia is flat and
Russia instead of its customary, wealthier European market. network-organized, and Nokia believes that the speed and
For the 2nd quarter 2004, Nokias European handset market flexibility it achieves in decision-making is a product of the
made up 44 percent of total sales, with the Asian market Nokia Way.
accounting for 28 percent. Nokia has a strong system for internal communications;
they measure internal communication performance through
ORGANIZATIONAL SETUP the annual employee opinion survey. Nokia uses Nokia People
Nokia has been called possibly the least hierarchical large Magazine as a channel for communicating with its employees,
company in the world. One of Jorma Ollilas goals is for as well as Nokia News Service, the daily online news service
Nokia to seem like a small, intimate organization despite the for employees worldwide.
fact that it has more than 50,000 employees spread around For its consumers, Nokia has created Club Nokia, a club
the world. To better position itself for the future, Nokia that offers a direct help line for Nokia phone owners, invites
reorganized itself into four primary business groups at the to all Nokia events and a Nokia newsletter. The only prerequi-
beginning of 2004. These include Mobile Phones, Multime- sites are that you own a Nokia cell phone. The club gives users
dia, Networks and Enterprise solutions. Its focus remains on exclusive benefits and priority customer support. Currently
mobile phones and networks. The new structure also includes available in 33 countries, Club Nokia is a good way for Nokia
EXHIBIT 1
NOKIA 2003 SALES BY BUSINESS GROUP
Fixed assets and other non-current assets 3 837 5 742 6 912 6 388 3 487
Current assets 20 083 17 585 15 515 13 502 10 792
Inventories 1 169 1 277 1 788 2 263 1 772
Accounts receivable and prepaid expenses 6 802 6 957 7 602 7 506 4 861
Available-for-sale investments 816 - - - -
Cash and cash equivalents 11 296 9 351 6 125 4 183 4 159
Shareholders' equity 15 148 14 281 12 205 10 808 7 378
Minority shareholders' interests 164 173 196 177 122
Long-term liabilities 328 461 460 311 407
Long-term interest-bearing liabilities 20 187 207 173 269
Deferred tax liabilities 241 207 177 69 80
Other long-term liabilities 67 67 76 69 58
Current liabilities 8 280 8 412 9 566 8 594 6 372
Short-term borrowings 387 377 831 1 069 792
Current portion of long-term loans 84 - - 47 1
Accounts payable 2 919 2 954 3 074 2 814 2 202
Accrued expenses and provisions 4 890 5 081 5 661 4 664 3 377
EXHIBIT 2
GLOBAL MARKET SHARE MOBILE HANDSET MANUFACTURERS
2000 2001 2002 2003 Q2 2004
EXHIBIT 3
NOKIAS REVAMPED ORGANIZATIONAL STRUCTURE
Nokia Business Group Structure
Customer and
Market Operations
Research,
Venturing, Business
Infrastructure and
Operating Resource
Source: Retrieved from: Sourcing
http://www.nokia.com/nokia/0,8764,33080,00.html.
350
300 40
% Growth
250
30
200
150 20
100
10
50
0 0
1998 1999 2000 2001 2002
Year Source: Datamonitor, November 2003 Global Mobile Phone Industry
Profile.
to put out a positive social image as being concerned with Policy (IPP). The IPP is an environmental initiative to consider
good customer service and connecting people. the performance of products and services across their life cycle.
Nokias environmental vision shows how Nokia sees mobile
NOKIA AND THE ENVIRONMENT
technology as an enabler that can help create a more sustain-
Nokia is currently working on a few environmentally-friendly able world. Nokias strategy for sustainable environmental
programs; Nokia and the EC are building a market for development is implemented through four key programs:
greener products. One program is the Integrated Product Design for Environment, Supplier Network Management,
Case 12 The Future of Nokia 689
Environmental Management Systems and Sound End-of-Life phones. They have been particularly popular in the U.S. and
Practices. Asian markets. Motorola continues to upgrade their prod-
ucts, focusing now on third generation (3G) technology and
COMPETITION
push-to-talk capability. In China, Motorola benefits from an
The competitive set of Nokia is at the same time vastly differ- agreement with one of the countrys largest mobile operators,
ent and incredibly similar. By nationality, the industry is quite China Mobile Communications Corporation.
diverse with global players from the United States, Korea,
Samsung
Germany, Japan, and Europe. While in the past, technolo-
gies, designs and features separated one from the other, those Samsungs product offerings range from cell phone handsets
dividing lines are quickly becoming blurred. to televisions, computers and home appliances. 2003 sales for
The industry is characterized by a tremendous amount of Samsung were $36.4 billion, up 9 percent from 2002. Informa-
SKUs for each manufacturer. There is much pressure from tion provided by Samsung as to sales breakdown by market
consumers for each manufacturer to offer the latest in tech- and region is extremely limited. However, global market share
nology and features, such as color screens, camera phones, trends show that Samsung is making quite an impact in recent
customizable ring tones, clamshell phones, etc. This results in years. (See Exhibit 2.) Samsung phones are following industry
a homogenized sea of cell phone handsets that can be quite trends toward improved features and technology. Samsung is
confusing in aggregate, as they are differentiated only by slight also strong on the manufacturing side as it is one of the largest
design tweaks. Distribution is typically tied to carriers of wire- producers of chips for mobile phones. It recently partnered
less service, and this also helps drive market share at the end with Napster to offer a portable music device and possibly
of the day. expand the scope of its mobile phones.
Local players are becoming more of a factor as newer tech-
Siemens AG
nologies are licensed out for the purpose of cost savings, but at
this point, they remain scattered and have limited impact. Data Siemens AG has traditionally been an electronic and indus-
and background information on such local manufacturers is trial company, with a focus on electrical engineering. It is
extremely limited at this point. Europes second largest mobile phone manufacturer behind
Research in the popular press gives the impression that Nokia. The company recently demonstrated its engineering
consumers preferences globally are for the most part simi- prowess through the introduction of its new SX1 device (in
lar. Manufacturers hedge against differing tastes by having so partnership with O2). This is the first handset to have the
many cell phone handset SKUs in their arsenal. The main play- ability of downloading fully protected music over the air with-
ers carry a full range of options to cover most any consumers out the need of a separate player (i.e. one does not need to
needs. The result is the dominance of the global market by download music onto a computer and then transfer it to the
firms such as Nokia, Motorola, Samsung, Siemens and Sony cell phone). Fiscal year 2004 sales were $106,655 billion, up
Ericsson. This is seen clearly as they have accounted for 70 7 percent from fiscal year 2003. Corporate sales are spread
percent or more of the global market for mobile handsets fairly evenly throughout the world. (See Exhibit 6.)
share since 2001.
EXHIBIT 5
EXHIBIT 4 MOTOROLA 2003 SALES
MOTOROLA 2003 SALES BY REGION
BY PRODUCT SEGMENT
Region 2003 Sales
Segment 2003 Sales
United States 50%
Personal Communications 38% Europe 14%
Semiconductor 17% China 10%
Global Telecom Solutions 15% Asia-Pacific 10%
Comm., Govt., Industrial 14% Latin America 8%
Integrated Electronics 8% Japan 3%
Broadband 6% Other 5%
Other 2%
Sony Ericsson
Motorola
Formed in 2001 through a strategic alliance between Sony
For over 75 years, Motorola has been a leader in electronic Corporation and Ericsson, Sony Ericsson Mobile Commu-
products and wireless, broadband and automotive technolo- nications offers technologically advanced mobile multimedia
gies. 2003 sales were $27.1 billion, which was slightly down (0.9 products. This merger pushed Sony Ericsson immediately into
percent) from 2002. Currently, 38 percent of its sales come the top 5 global mobile phone manufacturers. (See Exhibit 2.)
from the personal communications segment. (See Exhibit 4.) This alliance leverages the innovative operations of both firms
While its main market focus is the United States, it maintains to produce handsets and offer services. For example, the S700
a presence in the European, Chinese, Asia-Pacific and Latin (digital camera phone) is shaped like a jack knife (or swivel
America regions. (See Exhibit 5.) From a design standpoint, style) and thus resembles a digital camera with a lens on the
Motorola has led the way with its clamshell style cellular front and display screen on the back. This design was a direct
690 Case 12 The Future of Nokia
EXHIBIT 6 Nokia was not really noticed in the Unites States prior to the
SIEMENS AG 2004 SALES late 1990s.
BY REGION In 1994, Nokia was the first European manufacturer to
begin selling mobile phones in Japan. By learning from the
Region 2004 Sales Japanese and U.S. markets, Nokia was able to create better
phones. Although Nokia first arrived in the Chinese market
Europe (excl. Germany) 34%
around 1985, their real growth there did not begin until the
Germany 23%
late 1990s as well.
The Americas 23%
Asia-Pacific 12% NOKIAS APPROACH TO DIFFERENT MARKETS
Other 8% Nokia has been aiming to do whatever it takes to integrate
itself with consumers, customizing its marketing to meet
influence of Sonys swivel-style digital cameras and Ericssons regional preferences. Nokias marketing approach has cen-
popular clamshell phone styles. The display screen can be tered on its ability to maintain its central brand elements
flipped open to reveal the cell phone number pad. Financial while still adjusting the execution of its message to match
breakdowns regarding markets and products are unavailable local tastes. In 2002, the company introduced the Nokia 3610
from Sony Ericsson. to the Chinese speaking market, with enhanced Chinese fea-
Nokia should be aware, however, of several Japanese man- tures such as a lunar calendar with Chinese festival days
ufacturers that are also starting to gain some momentum, and improved Chinese phonebook sorting. Additionally, this
particularly in the European market. They include NEC, phone is claimed to be the worlds first phone to support Hindi
Sharp, and Panasonic. Other manufacturers, such as Alcatel, input, which makes it an appealing choice for consumers in
of Paris, Huawei, and ZTE, both of China, are targeting newer India, as well.
developing markets with low-cost offerings, in efforts to gain Nokia strongly encourages a global mindset. English is
a foothold in these markets of great potential. its official language and it expects senior managers to work
abroad. Also, more than half of the research and development
NOKIAS EXPANSION BEYOND EUROPE
is done outside of Finland. Nokia has research and devel-
Even though Nokias history is long, its expansion outside of opment centers in fifteen countries. Nokia sells its products
Finland and the rest of Europe has only happened recently. in more than 130 countries and has manufacturing plants in
Jorma Ollila said in 1997, Until the 1980s, Nokia was a Finnish 10 countries. Nokia has recently stated that it will open a
Company, in the 1980s Nokia was a Nordic company, and in new manufacturing plant in India. This is a part of Nokias
the beginning of the 1990s a European company. Now, we attempt to meet increasing demand for mobile devices in India.
are a global company. After being appointed CEO in 1992, Europe/Africa/Middle East made up 57 percent of Nokias net
Jorma Ollila set about focusing Nokia ruthlessly on the mobile sales, the Americas 21 percent, and Asia-Pacific 22 percent in
business, but he also focused on turning it into a global com- 2003. (See Exhibit 7.)
pany as well. Nokia seems to have taken globalization in stride. By the year 2000, different areas of the world had come
According to CFO Olli-Pekka Kallasvuo of Nokia, We were to mean different things for Nokia. Finland was largely a
really the first company in the world to go non-domestic and we test market for the company, while the United States repre-
remain the ultimate case study. We had to mentally grow out sented an environment of price competition. Japan became for
of Finland pretty early on. Our roots, history and traditions lie Nokia an area of experimentation with cutting-edge products,
here, but our shares are held in the new markets of the U.S. while China, because of low penetration, represented an area
Since 1994, when Nokia was listed on the New York Stock with enormous growth potential. In order to speed Nokias
Exchange, America has become Nokias most important geo- international growth, CEO Ollila has engaged Nokias man-
graphic region in terms of both shareholders and sales. By the agers worldwide in strategy development and has instructed
mid-90s, the position of the Finnish home base was decreasing them to act locally in foreign markets and to develop a deep
while the significance of the overseas markets grew. However, understanding of local cultures.
EXHIBIT 7
NOKIA 2003 SALES BY MARKET REGION
In 2003, Nokia outsourced 25 percent of its handset The commodotization of the cell phone is the first in
business. In the future, according to CEO Jorma Ollila, out- a one-two punch combination inflicted on Nokia. At the
sourcing is an area where the company may consider trying same time prices were driven down, competitors were gaining
to save as much as possible. Nokia already has several joint ground with sales from clamshell style phones. In attempts
ventures in China, which provides substantially lower costs to gain back market share, Nokia has lowered prices on its
of manufacturing than in Europe and the U.S. China has own models. In the short term, this might stem the tide some-
emerged as a strategic market and important manufacturing what, but over the longer term, this will have an adverse
base for Nokia. effect on Nokias bottom line. The profits that were Nokias
competitive advantage will quickly erode away, and they will
KEY ISSUES
find themselves in the trenches with every other cell phone
Nokia has long dominated the global cellular phone market. manufacturer.
For the past four years, its global market share has been
MARKET CHARACTERISTICS
more than double that of its nearest competitor. However,
early indications in 2004 signaled that this trend was not to At the same time Nokia has been adapting its pricing policy,
continue. While handset sales were up, overall market share it has also reevaluated its lineup of cell phone designs as
had decreased several points to the advantage of Motorola well. Very quickly, they increased the number of new phone
and Samsung. From a big picture standpoint, it appeared as designs being introduced in 2004. Among them are several of
though Nokias reluctance to embrace clamshell style phone the clamshell variety.
designs had finally caught up with them. Competitors such as The answer to their design issues is not so simple as
Motorola, Samsung, and Siemens have featured them in their just migrating over to the clamshell design. Cell phones have
lines for several years now, and it is paying dividends for them. become so much more than just voice-communication devices.
To understand the true complexity of this issue, one needs New cell phone models now offer a wide range of option possi-
to look at Nokias existing business model for cell phone pro- bilities, including text messages, digital cameras, voice recogni-
duction as it relates to modern day demand. It is also worth tion, and PDA functionality. It is a safe assumption that in the
dividing the global cell phone market into two subsections, very near future we will see a convergence of such functions
developed markets and developing markets, to better see how and options to the point where we take for granted that all cell
Nokias approach matches up with the consumer needs of phones would offer them. Nokia has shown they are commit-
each. While consumer tastes vary somewhat from country to ted to adequate research and development spending (Exhibit
country, major cell phone brands handle this through their 8), but as their total revenue decreases, this will decline either
extensive lineup of SKUs. The issue has become more or less in aggregate or perhaps even as a percentage of sales as well.
one of grouping countries by purchase behavior so as to best Nokia can make a distinction between two separate
realize economies of scale in production. categories for the markets in which they participate. The
perception given by the press and trade journals is that
NOKIAS CURRENT BUSINESS MODEL
tastes for cell phone designs and functions are similar the
Because of its position as market leader over the past decade, world over. One exception might be the popularity of the
Nokia has been able to manufacture and sell cell phones quite push-to-talk, walkie-talkie feature in the United States, but
profitably. They realize economies of scale in production by even this is expected to spread to other markets. However,
manufacturing a standardized product lineup in large volumes. a difference in purchasing behavior and prioritized needs
Production takes place in corporate-owned factories located can be seen between consumers in developed markets and
around the world. Up until this point, this has been a com- developing markets.
petitive advantage for Nokia that competitors were unable to Developed markets, such as the United States, Western
imitate. For example, compare Nokias operating margin on Europe and Japan, consist of consumers for whom cell phone
mobile phones of 23 percent in 2003 to Motorolas, which was are now an accepted part of life. The adoption rate is high
just under 5 percent. across the population (over 60 percent penetration), and pur-
Times have changed, however, and in recent years cell chasing habits are now seen to revolve around replacement
phone technology has been licensed by other competitors to occasions. The trend among cell phone users in these mar-
lower-cost manufacturers, many of them in China. Even as kets is to trade up to better models with more features,
the number of cell phone users has risen and handset sales such as color screens, digital cameras, or better ring tones.
have increased, the average retail price of the equipment has Often, such purchases are not a necessity. The overall markets
actually gone down. Cell phones have become a commodity have matured, but sales continue to grow because of this
to a certain extent, and this should continue. upgrade cycle.
EXHIBIT 8
NOKIA R&D EXPENSES
(US$ MM) 2001 2002 2003
Developing markets, such as Latin America, India, and Issues also exist in these developing markets with the exis-
China, offer great opportunity to cell phone manufactures as tence, or lack thereof, of a communications infrastructure to
the adoption rates among the population is still relatively low support wireless technology. This adds another layer of com-
but expected to grow dramatically. Growth in countries such plexity, as consumers cannot use cell phones if their country
as India and China are predicted to help the number of mobile does not have an adequate number of towers to convey the
phone users worldwide increase by 25 percent between now wireless signal for reception.
and 2006. China, in particular, has been challenging for Nokia Assuming clamshell phone designs are a panacea for all
as sales there have fallen in recent years. (See Exhibit 9.) This their troubles would be a mistake for Nokia. In developed mar-
can be attributed somewhat to the increase and success of kets, the focus is on features and customization. Cell phone
domestic cell phone manufacturers in China. users do not want the commonplace, traditional designs with
Regardless, Nokia is still the #1 handset manufacturer in limited features. Again, the trend is towards trading-up. For
both India and China, with market share of 32.6 percent Nokia, this market is difficult to satisfy as they have positioned
and 15.6 percent, respectively. Competition in China comes themselves for large-scale production of standardized models
mainly from Motorola and, more recently, local vendors. The to realize economies of scale.
Indian market more closely resembles the global trends, with Compounding their economy of scale dilemma is the
Samsung (29.6 percent) and LG Electronics (22.8 percent) emphasis placed in developing nations on basic functional
close behind Nokia, and Motorola, Sony Ericsson, Siemens needs. Basic cell phone features, along with adequate battery
and Panasonic also playing a significant role. life and functional design are most needed in these markets,
EXHIBIT 9
NOKIA NET SALES BY GEOGRAPHIC AREA
(US$ MM) 2001 2002 2003
EXHIBIT 10
GLOBAL CELL PHONE MARKET SHIPMENT DATA
Global Mobile Phones Market Volume (Shipments in millions, 19982002)
1998 170.0
1999 255.4 50.2
2000 347.5 36.1
2001 389.4 12
Source: Datamonitor, November 2003 Global Mobile 2002 420.6 8
Phone Industry Profile.
EXHIBIT 11
NOKIA MOBILE PHONES FINANCIAL DATA
Net Sales Percent Operating Percent
Year (Euro Million) Change Margin (%) Change
but users do not want to sacrifice style and looks either. In and more importantly, several clamshell models for the buying
addition to having to produce numerous models and feature public. Jorma was not happy to see his market share continue
combinations for developed markets, Nokia also has to have to erode away throughout the year, but he knew he would not
an appropriate range of models for its developing markets, be able to turn things around immediately.
as well, keeping in mind, throughout, the need to maintain The promise of emerging markets such as China and India
Nokias reputation for quality and stylish design. loom large, but does Nokia have what it takes to maintain their
foothold and manage their costs competitively? For years, the
MANUFACTURING COMPLEXITIES
strength of Nokia had been in the ownership of its factories
Nokia has benefited from its business model of large-scale and the expertise of its workers. Would Nokia be able to
production at its own global factories to achieve economies of transfer that knowledge to lower-cost manufacturers in time
scale and high profit margins. However, there will be increas- to stay on top? Jorma felt confident that they could, but won-
ing pressure to manufacture smaller lots of customized and dered if that confidence was truly justified (see Exhibits 10
adapted models as well as pressure to lower production costs. and 11).
The overhead involved with Nokias factory infrastructure will
DISCUSSION QUESTIONS
make such cost goals difficult to achieve. The trend for com-
petitors has been to outsource production to low cost factories, 1. How can Nokia position itself in developing markets to
many of which are in China. This is compounded by the licens- capture future market share (while maintaining economies
ing of cell phone technologies that allow such manufacturers of scale)?
to product handsets under their own brand name. 2. What must Nokia do to better position their mobile phone
WHAT IS NOKIA TO DO? business in developed markets?
3. Can Nokia maintain economies of scale in the developed
Nokia managed to unveil 27 new phones in 2004, 8 short of
markets? Should it use outsourcing as part of its new
their goal of 35 new models for the year. Jorma Ollila was not
strategy?
thrilled with this, but at least it provided some fresh designs,
C ASE 13
dawning of the fact that middle-class India is not as big or as of cosmetics companies as they could now import essential
active as many marketers had believed. compounds directly into the India.
Unfortunately for Maybelline, this liberalization became
INTRODUCTION
sluggish in the late 1990s. In 1998, the excise duty for cosmetics
November 2, 1998 was a rewarding day for Geoff Skingsley. and toiletries was 30 percent and later rose to 32 percent in
Mr. Skingsley, the managing director of LOreals Indelor 1999. Also, for cosmetics and toiletries, the effective total
unit, had worked tirelessly to bring LOreals wholly owned import tariff worked out to be about 90 percent. Sales tax
subsidiary,Maybelline to India. Mr. Skingsley said India became an issue. Currently, in some Indian states, it is as high
is the last major piece in the Asian jigsaw for us because the as 15 percent. In addition, although peak customs duty rates
Maybelline brand has been in virtually every Asian country and quantitative restrictions on imports of consumer goods
and India was the big gap in that puzzle. Furthermore, Mr. had been reduced to conform to World Trade Organization
Skingsley recalled the long, hard road to get to this point, requirements, import duties on raw materials and interme-
acknowledging, Maybelline was a long development pro- diaries remained unchanged due to governmental revenue
cess. Maybelline faced a difficult situation upon its entry into deficits.
India, a country already endowed with an established leader in Other restrictions on cosmetics are brought forth by various
the cosmetics field, Lakme Lever (a subsidiary of the Unilever governmental agencies. The countrys Drugs and Cosmetics
corporation). Act govern the manufacture and sale of cosmetics and toi-
letries, while the Bureau of Indian Standards regulates the
COSMETICS CONSUMER CLIMATE OF INDIA
quality of products. Packaging of products must feature the
A market research company, Datamonitor, suggests that in the price of the item and legislation exists concerning various
period 1994 through 1998 all major categories of the Indian statutory markings to be made on packs.
cosmetics and toiletries market have been showing healthy
POLITICAL CLIMATE
growth. Consumer expenditure on cosmetics and toiletries is
increasing following a surge in disposable income; this trend, The political climate of India also plays a role in Maybellines
in turn, has led to volume growth. With greater frequency, entry into the country. India is a democracy with a large num-
cosmetics are seen as a necessity rather than a luxury, and ber of political parties. Indias political system has for several
the consumer age profile is changing, with approximately 45 years been in transition from one-party dominance to a more
percent of the population below 25 years of age. Conversely, splintered picture (in which regional and caste-based parties
Indias population is diverse in terms of lifestyle and spend- control most states) alongside a still unclear political pat-
ing powera point requiring careful consideration. Overall, tern at the center. Against this backdrop, a foreign company
though, despite reports that a third of the population is too has to navigate the many levels and factions of government.
poor to afford an adequate diet, modern industries steadily Many times corruption ensues. The greatest immediate threat
gained strength. to Indias governance is not tottering coalition governments
Finally, another encouraging sign was the view of the Indian but corruption. The combination of a state-run economy and
Soap and Toiletries Makers Association. They felt that the weak political institutions created all too many opportunities
Indian market had a promising future. It was at a threshold, for crooked politicos and bureaucrats.
facing phenomenal opportunities to increase the low levels of
FINANCIAL MARKETS AND INFRASTRUCTURE
product penetration. With such low penetration levels across
cosmetics and toiletries, it was clear that there was room In 1998 the financial markets of India were not encouraging
for many brands and manufacturers to profit as consumption for multinational expansion. In that timeframe, Indias finan-
increases and the market itself grows. cial sector still could not effectively mobilize and mediate
capital to respond to economic changes. Also, although much
TRADE TARIFFS AND BARRIERS
improved since 1991, Indias equity markets are excessively
The climate for international expansion into India was a dif- thin and volatile, and did little to inspire confidence on the part
ficult one in the years from 1947 to 1991. During this time, of domestic or foreign investors. Bond markets are practically
Indias import and export policies were such that a vast major- nonexistent. Liberalization of the insurance industry, which
ity of goods had to be imported under license. In 1991, India would greatly improve the investing of Indias substantial sav-
initiated economic reforms to tide over the budget deficit, ings, has been stymied. Finally, Indias banking system was
balance of payments problems and structural imbalances in flawed, with the dominant state-owned banks still carrying
several industry sectors of the economy. Despite these mea- bad loans amounting to 15 to 25 percent of their total.
sures, India still imposed high tariffs as well as quantitative Another constraint on growth was Indias poor infrastruc-
restrictions on imports. ture. Financing was been difficult. Ambitious plans to improve
Gradually, these tariffs were reduced in the years follow- power generation, telecommunications, ports, and roads were
ing 1991. Also, in 1994, India decided to allow non-Indian thwarted by poor policies, indecision, and corruption. Of
companies to import flavor and fragrance compounds and eight fast-track power projects initiated in 1992, only two
concentrates into the country for the first time. Prior to 1994, were producing (or close to producing) power. Telecommuni-
companies could sell individual components (both natural and cations reforms was mired first in massive graft, and then in
synthetic) to India, but the compounding had to be done in battles over regulation; not surprisingly, many major foreign
the country. Obviously, this was a favorable event in the eyes companies retreated.
Case 13 Maybellines Entry into India 695
the vitamin-enriched lipstick and long-stay nail enamel that the face, eye, lip and nail color categories. Modi Revlon has
enhance the Lakme brand and promote a superior image with carefully positioned the brand to avoid any cannibalization
tangible consumer benefits in tune with international players. of sales from its flagship Revlon brand and has affordably
Elle 18, Lakmes mass brand, dominates the Indian mass priced the products to gain market access. The companys
color cosmetics market with its affordable pricing and easy decision to enter the teenage segment with an international
availability. The range targets the young and trendy teenage brand has been to directly compete with the mass market
segment. Positioned as an economically priced rebel brand leader Lakmes Elle 18 brand. The StreetWear range consists
for the youth, Elle 18 is the only organized brand in this of eight products, which include categories that Elle 18 does
segment. Elle 18 accounts for about 30 percent of Lakmes not have a presence, like face makeup, and eye shadow.
color cosmetic sales and enjoys a strong market share of Revlon also introduced mini ranges of its color cosmetics
over 25 percent. Elle 18 products are sold in the eye, lip and to drive volumes in the mass segment. The companys strategy
nail category. The brand has registered a huge growth and to launch relatively lower priced smaller packs of its lip and
accounts for over 45 percent share of the nail enamel category. nail products has been seen as a setback to Lakmes unbeat-
As one retail consultant notes, with the launch of many able price advantage. This has been a strategy that very few
new products and several international brands, the Indian players could afford to circumvent. With retail presence in
cosmetics market is approaching product quality parity and to 10,000 stores Revlon is beefing up its distribution network
a certain extent price parity. Therefore it has become essential to be able to compete against Lakme and Elle 18 products
for companies to look into the service element to differentiate currently stocked in 65,000 outlets. Modi Revlon has set out
their brands. Lakme has leveraged its brand name by estab- to undertake a market driven and well-researched approach
lishing a chain of beauty salons across India through which to introduce almost all Revlon products in the Indian market
the company makes the brand interact with its customers and within the next five years. Depending on the market needs, it
provide them with expert service using well-trained beauti- also plans to increase its current level of investments in the
cians. The salons help Lakme strengthen its brand and acquire domestic market.
new customers. The company also hopes to develop customer
Direct Marketing
relationships and brand loyalty while allowing it to exper-
iment with new products. Apart from print and television The Indian color cosmetics scene has also witnessed con-
media, Lakme uses major fashion events like the Lakme India siderable presence and aggressive marketing efforts by a
Fashion Week to actively promote its products. It organizes a host of direct to consumer and network marketers. The seg-
series of workshops and fully equipped Lakme salons at the ment includes international players like Avon, Amway, and
venue and comes out with a special range of cosmetics for the Oriflame and domestic players like Lakme Lever and Modi-
fashion week. Over the years, Lakme Lever has established a Care. When compared to the retail market, the direct selling
strong presence in the retail front. Both Lakme and Elle-18 accounts for a relatively smaller segment of the domestic
brands enjoy a combined distribution strength that spans over color cosmetics market. Industry reports have ranked the
65,000 outlets throughout the country. direct selling segment among the highest in term of growth
Revlon holds the second largest share of the Indian color rate. The segment has registered an astonishing growth rate
cosmetics market. Launched as a joint venture between Modi of 54 percent. Driven by consumer needs, companies like
Mundi Pharma and Revlon, USA, Modi Revlon accounts Oriflame have invested in world-class technical centers and
for over 20 percent share of the domestic color cosmetics manufacturing facilities to meet stringent international stan-
market. The company has registered a strong growth rate dards for the development and manufacture of cosmetics.
of about 50 percent in the past few years. This has been a Currently Amway leads the direct marketing category with
result of Modi Revlons efforts to restructure and revamp annual sales of Rs 6.25 billion. While top players like Modi
its operations through a plan that calls for achieving higher Revlon are still contemplating entry into the direct selling
cost efficiencies, emphasizes indigenized production and an market, industry giant HLL markets its color cosmetics range
enhanced distribution network. While it continues to import under the Aviance brand. The thrust for HLL has been to
chemicals and certain packaging material, three-fourths of its educate consumers and offer them with customized solutions.
production is localized allowing it to reduce costs and save While the range of customized beauty solutions are developed
on duties. It restructured its sales teams to focus on specific at the Unilever Beauty and Skin Innovation Center in U.S.
product categories and tap unit sales in smaller towns. Revlon the products are locally manufactured. Aviance currently has
currently accounts for 19 percent of the domestic lipstick mar- a base of 75,000 specially trained consultants. Adopting a
ket and 12 percent of the nail enamel market. Lipsticks have pricing based on value HLL aims to go down the population
been the best selling product line with Revlons color cos- strata reaching a larger target audience.
metics portfolio. Modi Revlon intends to consolidate its retail MAYBELLINES GLOBAL STRATEGY
strength in the premium segment and increase the number AND POSITIONING
of Beauty Advisors. It aims to drive growth in the premium
segment through its ColorStay brand, which includes several Maybelline Inc. markets a variety of products across four
new launches. broad categories, the eye make-up products, facial make-up
In December 2002, Revlon entered the mass color cosmet- products, lip products and Nail products. The company oper-
ics market with its StreetWear cosmetics brand. The brand ates under the global cosmetic and toiletries industry of which
targets the fashion seeking teenage population between the the U.S. segment has the worlds largest market share. The
ages of 17 to 22. StreetWear is also globally positioned at the industry is characterized as being very mature and highly
young and trendy shoppers and includes several products in competitive with the top players fiercely competing against
Case 13 Maybellines Entry into India 697
EXHIBIT 1
FOLLOWING ARE THE PRICES OF THE MORE POPULAR PRODUCTS OF THE KEY PLAYERS
IN THE CATEGORY
Lip Products
Maybelline Revlon Lakme Chambor
Product Price ($) Product Price ($) Product Price ($) Product Price ($)
Moisture 2.15/2.45 ColorStay lip- 4.25 Lipsticks 2.00 Lipsticks 6.25
Whip sticks
lipsticks
Non- 4.20/4.25 ColorStay liquid 4.35 Liquid lip 3.25 Lip pencils 3.35
transfer lipsticks colors
lipsticks
ColorStay lipliner 3.80 Lip liners 0.85 Lip crayon 7.25
Moon Drop 3.95
lipsticks
Mini lipsticks 2.15
Nail Products
Maybelline Revlon Lakme Chambor
Product Price ($) Product Price ($) Product Price ($) Product Price ($)
Ultimate 1.60 Top Speed nail 1.80/1.90 Nail enamel 1.25 Nail enamel 4.10
Wear nail enamel
enamel
Mini nail enamel 1.25 Nail enamel 0.70
(8 ml) remover
Nail enamel 1.85/2.20
(15 ml)
Nail enamel 1.15/1.35
remover
Eye Products
Maybelline Revlon Lakme Chambor
Product Price ($) Product Price ($) Product Price ($) Product Price ($)
Non- 3.8 Colorstay liquid 5.35 Eyeliners 0.85 Silver shadow 11.25
transfer eyeliner (compact)
eye liners
Curl 2.15 Colorstay self- 3.8 Mascara 1.95 Trio eye shadow 7.95
mas- shapeing
cara eyeliner
Wonder 3.35 Eye shadows 4.75 Kajal 0.55 Eye liner 5.65
curl mas-
cara
Easy eye 3.15 Eye pencil 0.25 Mascara 5.65
lining pen
Eye shadows 2.25 Twin Sharpner 2.10
Face Products
Maybelline Revlon Lakme Chambor
Product Price ($) Product Price ($) Product Price ($) Product Price ($)
each other to increase their market share. Maybelline line of other local products. Pricing is critical in India. Currently,
products is primarily mass marketed in the several product cat- India has positioned Maybelline as an aspirational product
egories it serves. The company is a leader in the mass-market with a premium price.
color cosmetics business.
PRICING
The global cosmetic business is about $23.4 billion in sales.
LOreal Corporation owns 23 percent in 1999. Maybelline Maybelline, a subsidiary of LOreal, prices its products based
is the number one mass-market brand globally, holding on the country in which it is selling them. In the United States,
about 18.9 percent of a $3 billion market. Marketers con- Maybelline is priced mid-range of the cosmetics market with
tinue to strive hard to develop a culture that matches the its main competitor being Revlon. It is sold everywhere from
personality of the target audience who tend to evaluate drug stores to discount cosmetics stores to boutiques. Prices
the brand based upon their personal image. In order to for various products range from $3.50 to $7.00. However, in
strengthen brand equity in a highly competitive market place, emerging markets such as India, Korea, and Russia, May-
adopting the right culture has become an important fac- belline is viewed as a premium brand. Maybelline competes
tor in present-day marketing strategies. Creating a culture with Lakme, an Indian company, and Revlon, another US
of constant need to enhance natural appearance and desire competitor. Lakme leads the market mainly due to the larger
an improved self, cosmetic companies struggle against each price differentiation.
other to encourage women to work miracles adapting their One of the key components to Maybellines success for
brands. India is to have the right distribution and the right pricing-
LOreals Goal was to make Maybelline a leading global value relationship. Although the Indian cosmetic market is
mass-market brand. Its international business contributes to growing at a rate of 15 to 20 percent per year, pricing dynam-
over 45 percent of total sales represented in about 90 coun- ics are very complex. India still has widespread poverty and
tries worldwide. Maybelline is positioned as the leader of an extremely low per capita equating to extreme price con-
mass-market cosmetics targeted at women between the ages scious individuals. Maybelline is having a difficult time being
of 1549 at a reasonable price. It is globally branded with consistent with the pricing strategy that they maintain in other
the Urban American Chic Image. Maybelline has since markets as being affordable. A couple of issues are influ-
achieved a third position in the India market with this posi- encing this: high import tariffs and high taxes of about 15
tion. Lakme Lever commands a 45 percent market share and percent on consumer products. Tariff rates were about 450
Modi Revlon is third with about 10 percent. percent in the 1990s, which then declined to about 32 per-
Maybellines leadership position is significantly attributed cent in 2001 for skin care and cosmetics toward the end of
to its global branding approach, allowing it to speed mar- the 1990s. Tariffs are expected to go down again since India
ket growth in the mature consumer products industry. It has is now a member of the World Trade Organization (WTO)
made every effort to position and promote its product lines to about 15 percent, which will then make Maybelline more
under trendy New York Maybelline brand image. Glob- affordable and therefore, more competitive with the current
ally, Maybelline has been heavily promoting its trendy New market.
York image. The company has effectively aligned its strategy
Competitive Pricing
with that of its parent LOreal in conveying the appeal of
different cultures through its products. Instead of taking a Exhibit 1 displays a pictorial view of the competitive pric-
homogenous brand approach to making the products accept- ing in this market. The mass market for lipsticks (price
able across international markets, the company has stressed range: $2 to $4.50) is 43 percent of the total lipsticks mar-
the importance of embodying their country of origin. With ket. The prices that range below $2 represent roughly 48
Maybelline, upon its acquisition, LOreal began a complete percent of the market. The mass premium segment (price
makeover including moving the headquarters from Memphis, range $5 and higher) is just 9 percent of the total lipsticks
TN. to New York City in an effort to stamp the urban Ameri- market. Maybelline has a market share of 80 percent, accord-
can chic image all over Maybelline products to promote their ing to ORG, with the balance held by Revlon, Chambor, and
U.S. origins. Maybelline has been making efforts to reach a Lakmes Orchid.
bigger target audience across a broader range of income and Lakmes product range consists of the Elle-18 line (priced at
cultures. around $1) and the medium-priced Ultra line (at around $1.75)
Maybellines international strategy emphasizes its Ameri- to the premium Orchid range of color cosmetics (priced in the
can heritage. It continues to promote its Trendy New York range of $3.5 to $5.5). French multinational LOreal India
image in all countries. This global strategy promotes a uniform prices range from $6.5 to $32. By the end of 2001, it expects
image and strong brand recognition worldwide. In India, May- nearly 50 cities to be selling the products. Maybelline recently
belline is following the international strategy with a New York introduced an Express Make-Up priced at $6.5. LOreals
attitude. The American image in India was found to have a product of makeup currently available in the market is priced
positive effect. Maybelline has continued with the same global at the premium end at $12.5. The brand is currently available
branding in India using supermodel Christy Turlington and in 4,000 outlets. Maybelline New York globally has 900 SKUs
Sarah Michelle Gellar to promote its products. Ads were in colour cosmetics. In competition with LOreals Maybelline
printed in Indian editions of Elle, Cosmopolitan, and Femina range of transfer-resistant lipsticks, Revlon has rolled out
and TV spots were conducted on Star Plus. ColorStay lipsticks priced at $6. The lipsticks are thus at a
This approach has proven to work by placing Maybelline high premium to the Maybelline range priced at $4.5. The nail
in second position. However, in order to succeed in this mar- enamel market, one of the fastest growing segments in the
ket, Maybelline needs to be able to be price competitive with cosmetic industry, is segmented into three groups:
Case 14 Yahoo! Japan 699
The mass premium segment priced above $3, and 3. Free Standing Stores
dominated by brands such as Chambor, Orchids, and 4. Health Food Stores
Revlon, Maybelline. 5. Salons
The mass-market segment priced between $1 and $3, with SEGMENTATION
brands such as Lakme and Maybelline.
The color cosmetics market can be broadly divided into two
The lower segment, priced below $1, accounting for 75 per- segments:
cent of the total market, this popular segment consists of
Elle 18, Tips & Toes, and other regional brands. Organized sector dominating 36 percent of the market.
DISTRIBUTION Unorganized sector catering to 64 percent of the market.
There are three categories of channels of distribution: Target Market
Age
PrestigeDepartment stores, specialty stores, and chain
department stores, such as Shoppers Stop, VAMA, West- Youth segment (1524 yrs): Maybelline, Revlon, Elle18
side, and Bombay Stores. Core target (24+): Maybelline, LOreal, Revlon, Chambhor,
BroadDrug stores, food stores, cosmetic discounters, Lakme Radiance
warehouse clubs, and mass merchandisers. Examples are
Purchasing power
Satyam, Haiko, and Sahkari Bhandar.
Alternativeis identified by five different marketing Affluent segment: Maybelline, LOreal, Chambhor, Aviance,
methods: Orchids
1. Direct Sales Middle segment: Lakme Radiance
2. Direct Mail/TV/Print Lower segment: Elle-18
C ASE 14
YAHOO! JAPAN
OVERVIEW its online auction services. Management also recognized the
strategic importance of providing broadband Internet service;
During the Internet bubble of the late 1990s, Yahoo! Japan
in addition to being a source of revenue, broadband functioned
experienced tremendous revenue growth; the market value of
as a digital distribution channel, allowing greater access and
the company skyrocketed as investors championed the Com-
profit potential for the companys other fee-based services.
pany as the leading Internet advertising channel in the country.
Yahoo! Japans future success was dependent upon adopting
Managers and investors believed that Yahoo! Japans value
a successful diversification strategy, entering new markets,
proposition held immense profit potential. The Internet crash
and acquiring new revenue streams.
of 2000, however, and a loss of faith in the sustainability of
Yahoo! Japans advertising revenue caused the market value Yahoo Inc. and Softbank Corporation
of the company to plummet. While the company continued to
Founded by Jerry Yang and David Filo, Yahoo! Inc. is the
realize positive revenue growth overall, revenues from Inter-
leading portal site and Internet-related service provider in
net advertising decreased more than 8.4 percent between 2000
the world. The company offers a variety of services, which it
and 2001. The decline in Yahoo! Japans core business func-
categorizes into six divisions: listings, online shopping, media
tion caused immediate concern among managers, and forced
information, enterprise solutions, auctions and broadband
the company to re-evaluate its business practices.
service. The company offers its basic services without charge
Management quickly recognized the vulnerability of the
to its customers, but also offers a variety of fee-based pre-
companys dependence on a single dominant revenue stream.
mium services. In addition, Yahoo! Inc. generates revenues
While Yahoo! Japan had expanded the scope of its initial
from selling advertising and marketing services which are
Internet services, it had not committed to a specific diver-
incorporated throughout its portal site.
sification strategy. By 2001, management accepted the need
Early in its developmental stage, Yahoo! Inc. aligned with
to enhance its business portfolio with new business units
Softbank Corporation of Japan, a leading technology invest-
and made the decision to aggressively seek revenues from
ment firm. Softbank acquired 5 percent of Yahoo! Inc.s shares,
and then continued to strengthen its ties with the company.
Currently, Softbank holds 37 percent of shares in Yahoo! Inc.
This case was prepared by Andrew Huang, Ryan Kanda, Sam Jin Kim,
Kang Suh Lee and Keith Sakuda of the University of Hawaii at Manoa Yahoo! Japan
under the supervision of Professor Masaaki Kotabe for class discussion
In 1996, Softbank unveiled Yahoo! Inc.s first international
rather than to illustrate either effective or ineffective management of a
situation described (2003). expansion with Yahoo! Japan. Operated as an independent
700 Case 14 Yahoo! Japan
EXHIBIT 1
SUMMARY OF FINANCIAL RESULTS
2001 2002 % of Change
EXHIBIT 2
5 YEAR STOCK PERFORMANCE OF YAHOO! JAPAN
Yahoo! Japan
JASDAQ
Nikkei Index
company, Yahoo! Japan retained the format of Yahoo! Inc., previous year, but was less than the 13 percent increase from
but tailored it for Japanese users. Under an agreement with 1999 to 2000. According to another survey, Japans household
the parent company, Yahoo! Japan pays 3 percent of gross PC ownership in 2002 was 70.9 percent, significantly lower
profits as a royalty fee. In exchange, the company is entitled than North Americas 89.9 percent and Hong Kongs 93.6 per-
to freely utilize the technology, research and development, cent. As of February 2002, Japan had over 40 million Internet
and characteristic features of Yahoo, Inc., including e-mail, users, a 62.4 percent penetration rate, up from 46.5 percent in
customized homepages, Web communities, chat, and other 2001.
various services. Additionally, Yahoo! Japan benefits from
Yahoo! Portal Services: Market Entry
the parent companys considerable branding leverage.
Yahoo! Japan was originally positioned as a portal service
Summary of Financial Results in 2002
similar to its U.S. parent site: a powerful Web search tool
In financial year 2002, Yahoo! Japan recorded 59 billion combined with a variety of free user services. Advertising was
in sales and 12 billion in net income. This represented an the companys main source of revenue. While both compa-
increase of 88 percent and 106 percent, respectively, from the nies shared similar technical aspects, Yahoo! Japan quickly
previous year. On May 14th, 2003, Yahoo! Japan stock was surpassed the performance of its parent company. By the year
valued at 1,280,000 per share. 2000, Yahoo! Japans market share was double that of Yahoo!
U.S., and annual revenues had increased threefold. Along with
PC and Internet Adoption in Japan
its powerful branding image, Yahoo! Japans first mover status
In 2001, 58 percent of Japanese households owned a personal greatly contributed to its success. We are actually trying to
computer (PC). This percentage increased 7 percent from the figure out why our share of the Internet traffic in Japan is so
Case 14 Yahoo! Japan 701
EXHIBIT 3
RATIO OF HOUSEHOLDS POSSESSING PCS AND USING THE INTERNET (19962001)
Diffusion of the
Number of Respondent Proportion of PC Ratio of Households Internet per 100
Year Households Ownership (%) Using the Internet (%) Population (%)
EXHIBIT 4
JAPANESE INTERNET USER TREND
(Unit: millionpersons)
50
40
Japan Research Center
(PC only)
30
20
Media Metrix
10
Net Ratings
(HouseholdPC only)
0
Dec 96 Jun 97 Dec Jun 98 Dec Jun 99 Dec Jun 00 Dec Jun 01 Dec Jun 02
Source: Research reports by respective agencies
high, said Masahiro Inoue, president and CEO. One of the entertainment, and web-community services (e-mail, instant
reasons is that in Japan, we do not have America Online or messaging, etc.). By designating different business divisions,
[Microsofts] MSN. Yahoo! Japan enabled timely decision making and optimal
use of resources.
Yahoo! Portal Service: New Maneuvers
Yahoo! Portal Services: Present and Future Issues
In 2001, Yahoo! Japan adopted a strategic business unit (SBU)
concept; what was previously recognized as advertising and Though Yahoo! Japan enjoyed years of growth and prof-
other revenues was broken down into three different divi- itability, its market dominance was quickly undermined by an
sions: listing, shopping, and media. Listing services defined ever-increasing number of new portal sites. While most of the
the online directory service where user searches would dis- new entrants consisted of major international companies such
play business Web addresses prioritized according to fees as MSN, Infoseek, and Lycos, the most formidable challenger
paid; shopping services defined the growing online shop- in Japan has been a domestic service, Goo, owned by NTT-
ping segment; and media services consisted of the free and X. Quick to respond to the competition, however, Yahoo!
premium content offered on the Web site, including news, Japan recently reached agreements with two popular portal
702 Case 14 Yahoo! Japan
companies, Google and Overture. Under the agreement, both a fourth place market position; Yahoo! Japan auctions were
paid-search engines would provide Yahoo! Japan with pre- number one. By March 2002, barely two years after its entry,
mium listings, with revenues generated to be divided between eBay pulled out of the Japanese market, citing its continued
the partners. losses and Yahoo! Japans market dominance as reasons for
As a result of heightened competition and diluted market its departure.
power, Yahoo! Japans online advertising revenues dropped. While a great deal of Yahoo! Japans success can be
While the shopping division was not strongly affected by the attributed to its first mover status and the leveraging of its
decrease in revenue, listing and media division earnings fell company branding and integrated networks, the companys
precipitously: 80 percent to 90 percent of their revenues were pricing strategy was a key element. In contrast to eBay, which
directly linked to advertising. Such circumstances continued opened its services with a percentage fee charge (between 1.25
to raise concern over the long-term sustainability of Yahoo! percent and 5 percent of the transaction value); Yahoo! Japan
Japans portal services. began in September 1999 by offering its services for free.
Another concern for Yahoo! Japan is the growing market Only in May 2001, twenty months after its introduction, did
in mobile Internet access. Led by NTT DoCoMos i-mode ser- Yahoo! Japan implement a 280 membership fee for users of
vice, Japan was one of the first countries to offer viable Internet its auction services. This was followed by a 10 per item listing
access over mobile phones. Major portals like MSN and AOL charge beginning in April 2002, and a 3 percent transaction fee
are now providing search engines and content services, with in May 2002. Each fee imposed resulted in a short-term drop
Yahoo! Japan also vying for space in the mobile realm. As in users; shortly thereafter, however, the company regained
the contest for the market intensifies, Yahoo! Japan is likely its users and continued its dominant position in the Japan
to develop more innovative services that are compatible with market. Currently, Yahoo! Japan controls over 80 percent of
mobile systems. the online auctions market in Japan.
Yahoo! Japan may also come under pressure from inter-
Yahoo! Auctions: Future Issues
nal sources. Its major shareholder, Softbank, is aggressively
expanding its investments in a number of Asia- region Internet As of March 2003, there are 10.34 million unique users that
ventures. Many of these ventures are Yahoo! Japans direct browse Yahoo! Japan auction sites, and 2.6 million registered
competitors. This may create future conflicts of interest as users that buy and sell items. The site averages over 3.35
the companies begin to cannibalize each others revenues and million items listed at the end of each month, and cycles
market share. through 11.09 million items during that time. Over 35.8 bil-
lion (approx. $303 million) in transactions volume occurs each
Yahoo! Auctions: Market Entry
month, with a successful list-to-sell rate between 42 percent
In September of 1999, Yahoo! Japan entered the online auc- and 53 percent. Additionally, 1,174 online merchants have
tion market in Japan. An online auction is a virtual forum signed with Yahoo! Japan to take advantage of its online
where individuals and businesses interact, and goods and ser- auction services.
vices can be bid upon, bought, and sold. For this service, Yahoo! Japan online auctions segment must be concerned
the Internet marketplace provider generally receives a per- with possible moves made by its competitors. A merger
centage fee of sales as commission. Historically, this type of between the number two and three market share holders,
transaction had been eschewed by the Japanese consumer; Rakuten and Bidders, has been rumored for some time. Fur-
second-hand goods and the lack of a branded store identity thermore, the re-entry of eBay into the Japanese market
would have condemned this service to failure. Therefore, for remains a strong concern: eBay is the largest online auction
Yahoo! Japans online auction venture to be a success, a fun- company in the world and Japan is the second-largest Internet
damental cultural shift had to occur. This shift occurred in market in Asia. Before its departure, eBay had also consid-
Japan for a number of reasons, including: Japans prolonged ered acquiring Rakuten or Bidders, and may do so upon its
economic slump; the emergence of environmental awareness reentry.
and the growing popularity of recycle second-hand shops; Another concern is the potential increase in illegal or
and the strong, enduring collectibles market. fraudulent buying and selling practices over online trans-
Yahoo! Japan began its online auction service at the insis- actions. Such practices would erode consumer faith in the
tence of Jerry Yang, the co-founder of Yahoo! Inc. Yang online forum and drive down demand. In November 2002, the
realized that the auctions niche had yet to be filled there. The Japanese legislature passed law reforms intended to prevent
Companys goal was to be the first mover into the Japanese Internet auction crimes. Independently, Yahoo! Japan also
marketa key strategic move as Yahoo! Japan was soon to imposed a strict registering system which confirms identities
discover. of participants and maintains all auction records. Further-
more, Yahoo! Payment was created, which acts as an escrow
Yahoo! Auctions: Competition and the Case of eBay
service to protect both buyers and sellers.
In February 2000, eBay entered the Japanese online auction
Yahoo! BB: Market Entry
market, five months after Yahoo! Japan. eBay is the world
online auctions provider leader, controlling the number one Prior to Yahoo! BBs entry into the broadband market, DSL
market share in the eighteen countries it operates in. Several penetration in Japan was relatively low. At the time of the
other smaller-market Japanese companies also operated in divisions entry, there were approximately 500,000 users of
the online auctions arena, namely Rakuten Ichiba online mall DSL nationwide, according to the Japanese Ministry of Public
and Bidders online auctions site. eBay immediately struggled Management, Home Affairs, Posts, and Telecommunications.
with its Japan auction venture, and could attain no higher than At that time, the average monthly fee for DSL service was
Case 14 Yahoo! Japan 703
around 6,000, a cost great enough to discourage high rates of Yahoo! BB: Present and Future Issues
subscription.
While the Yahoo! BB division has performed well, the value
Upon entering the market, however, Yahoo! BB offered
derived from the divisions high revenues are offset by its
an introductory rate of 2,280 a month. The companys service
low profit margins. Unlike the auctions and listing divisions,
was cheaper and faster than the market share leaders 64 kbps
broadband has considerable marginal costs, since Yahoo!
ISDN service. In January 2002, three months after its entry,
BB must lease its telephone lines from NTT. The company
Yahoo! BB claimed 500,000 out of approximately 2 million
has also been subsidizing its own costs in order to offer
national subscribers. Note that there was a 1.5 million sub-
low subscription rates. Moreover, Softbank has aggressively
scriber increase during that time due to competitor response
marketed Yahoo!s ADSL service, saddling the company
to Yahoo!s initial price offering. Other DSL services, such as
with significant financial losses. It has been estimated that
Asahi Net, eAccess, Sonys So-Net, and NTT, halved average
attracting a single, new ADSL subscriber costs the Yahoo!
rates to approximately 3,000 a month, and increased their
Japan and Softbank 37,000.
service speeds in order to remain competitive. This made
It also appears that the competition is beginning to catch
ADSL a more promising technology for many users, and the
up with the Yahoo! BB: For the first time, in April 2003, NTT
result was a rapid aggregate increase in subscriptions.
ADSL signed more new users than Yahoo! BB, with 196,000
ADSL has supplanted cable as the dominant broadband
and 184,000 users, respectively. Meanwhile, the growth rate
technology in Japan, largely due to Yahoo! BBs pricing strat-
of ADSL subscribers is projected to slow as soon as late 2003,
egy and resultant market responses. As of the first quarter of
so the phenomenal expansion of broadband is not expected
2003, there were 5.5 million ADSL users out of the total 9.4
to continue.
million broadband users in Japan. Of the 5.5 million, Yahoo!
In addition, the viability of future services offered by Yahoo!
BB has 2.36 million users, making it the leader in ADSL mar-
Japan is still in doubt: VoIP service, for instance, is contingent
ket share. NTTs ADSL service has 1.43 million subscribers,
on a high adoption rate of broadband and a shift from conven-
making it second in market share with just over half of Yahoo!
tional telephone service to VoIP. While the company hopes
BBs base. The remaining 1.7 million users are spread over a
that broadband will provide additional revenue streams in the
large number of other providers.
future, only time will tell if its strategy will succeed.
Yahoo! BB: Motivations
OVERALL EVALUATION
The broadband division has become a large segment of Yahoo!
Yahoo! Japans diversification strategy was highly successful.
Japans overall sales revenue. During the three-month period
Between 2001 and 2002, total revenues for the company
after market entry, the BB division generated 4.6 billion,
increased 87.6 percent. Equally impressive has been the
or about 52 percent of the companys total sale, and almost
tremendous revenue growth for both Yahoo! Auctions (362.7
doubled the 2.7 billion raised by Yahoo! Japans traditional
percent) and Yahoo! BB (67.4 percent). Revenue growth in
core online advertising business segment.
Yahoo! Japans other services (62.5 percent) also suggest that
Impressive revenue figures, however, are not the main
the strategic digital distribution channel of broadband may
reason for the Companys entry into broadband service. By
have had synergistic effects for all of Yahoo! Japans business
stimulating aggregate broadband penetration and enhancing
units. Although the companys initial success in diversification
the digital distribution network of Internet-enabled comput-
offers no guarantees for the future, Yahoo! Japan has placed
ers, Yahoo! Japan is increasing demand for its other services
itself in an excellent position for sustainable growth into the
(listing, portals, auctions), and making access to these services
future.
much easier and faster.
In addition to current Yahoo! Japan services, the Company DISCUSSION QUESTIONS
has great hope for Voice-over-IP (VoIP) service as a future
1. What future concerns should Yahoo! Japan have as the
revenue stream. VoIP utilizes Internet connections to conduct
companys diversification strategy continues to grow?
voice conversations, providing tremendous savings from exist-
ing phone charges. For VoIP to work, however, broadband 2. Will Yahoo! Japan be able to continue its extraordinary
connections capable of handling real-time voice transmissions revenue growth into the future?
and encoding and decoding are required. Yahoo! Japan seeks 3. How essential is Yahoo! BB to the future of the company?
to increase broadband penetration until services such as VoIP 4. How should Yahoo! Japan manage the relationships with
become viable options for the company. Softbank and Yahoo! Inc. in the future?
704 Case 15 AOL Goes Far East
C ASE 15
EXHIBIT 1
AOL DIVISIONS
Type of Acquired or
Business Unit Type of Business Members Access Developed
EXHIBIT 2
FINANCIAL PERFORMANCE
Operating Income Net Income
600 600
550 550
500 500
450 450
400 400
US$ (millions)
US$ (millions)
350 350
300 300
250 250
200 200
150 150
100 100
50 50
0 0
1997 1998 1999 1997 1998 1999
Source: America Online Inc., 1999 Annual Report
OVERVIEW: INTERNET IN JAPAN connection costs for end users. The high cost of connecting to
the Internet has been recognized as a primary barrier restrict-
Japan, though catching up, is still lagging behind the United
ing the percentage of Japanese going online. Lower access
States in terms of connectivity. There are an estimated 46
charges are expected to reduce this barrier and to get more
million households in Japan, of which 33 percent (15 mil-
consumers connected.
lion) have a PC. In addition, only 18 percent of households
(8 million) are connected online. Nevertheless, the number of There are five primary ISPs in Japan fighting for market
online households is expected to grow significantly, fueled by a share. The largest is Niftyserve (19 percent), followed by
number of factors. First, the number of PC shipments domes- Biglobe (7 percent), DTI (7 percent), AOL Japan (3 percent),
tically reached 10 million by 2000 (a 12-percent increase from and Compuserve (1 percent). A plethora of small to midsize
1999). This would mark the third straight year of double-digit ISP companies comprise the remaining 63 percent market
PC growth. In addition, there are clear trends toward lower share.
706 Case 15 AOL Goes Far East
EXHIBIT 3
SAMPLE OF MITSUI PRODUCT PORTFOLIO
Iron and Steel Energy
Nonferrous Metals Foods
Property Development Textiles
Machinery General Merchandise
Electronics Chemicals Source: Mitsui & Company, Website:
http://www.mitsui.co.jp/tkabz/english/iandpp/index.htm
AOL JAPAN AOL owned 40.3 percent, while Mitsui held 13.2 percent and
Nihon Keizai Shimbun a 4.2 percent stake.
AOL Japan was established in February 1996 and rolled out
its services on April 15, 1997, amid much excitement, as peo- Management Structure
ple familiar with the AOL success story in the United
The Board of Directors of AOL Japan is comprised of seven
States held high expectations for AOLs entry into the sec-
people, including three non-Japanese people from the U.S.
ond largest economy. Wired Magazine hailed AOLs entry
AOL operations. Only one of these non-Japanese board
into Japan, stating AOLs Japanese service is certain to
members, John Barber, resides in Japan and participates in
cause waves in a nation unaccustomed to competitive pricing
day-to-day operations. The current president of AOL Japan
for Net access. In an interview at this time, Jack Davies,
is Kozuo Hiramatsu, who joined the company in July 1999
then AOLs president of new market development stated,
after serving eight years as president of IDG Corporation.
Our focus is going to be in the consumer market. We think
The following five groups report to the president:
that is going to be the major growth area in the Japanese
market over the next five years. Indeed, AOL had hopes Member Services
that its Japan operations would become its second-largest
subscriber base. General Affairs
Marketing
Setting up the Business
Content
AOL decided on a joint-venture collaboration with local part-
Technology
ners as its entry into the Japan market. AOL Japan was
established as a joint venture between AOL (50 percent), Recruiting responsibilities have rested almost entirely with
Mitsui & Company (40 percent) and Nihon Keizai Shinbun Mitsui. This includes the hiring of top management, although
(Nikkei) (10 percent). According to AOL management, the AOL has the ultimate power to approve or reject the nomina-
of collaboration with two well-established Japanese compa- tion. Initially, AOL Japan was staffed almost primarily with
nies was an essential component of their strategy and they Mitsui employees. In 1997, the company had 120 employees.
wouldnt think about going into a major international mar- This number grew to 230 in 1999.
ket without partners. AOLs relationship with Mitsui dated
back to the early 1990s, at which time Mitsui USA began Management Difficulties
researching Internet service providers and was attracted by Almost four years after launching its services in Japan, AOL
AOLs potential. Mitsui USA research on AOL eventually Japan has clearly not succeeded in meeting initial expecta-
led to meetings with AOL in 1994 to explore entering into the tions. The subscriber base, though growing steadily each year,
Japanese online service market. In late 1995, Mitsui and AOL only totals approximately 400,000, a number that is dwarfed
agreed on the structure of the joint venture. Mitsui believed it by Niftyserves subscriber base of over 2.5 million. In the
was crucial to have fresh, Japanese content provided to con- four years since its inception, AOL Japan has experienced
sumers and therefore introduced Nikkei to AOL, who later a number of difficulties with management. It was concluded
agreed on Nikkei becoming a partner in the business. At the that the first two presidents, selected by Mitsui, were unable
onset, Nikkei and Mitsui provided the necessary capital and to take AOL Japan to the next level. After two such failures,
invested a combined $50 million to get the Japanese business AOL decided that it would be responsible for searching and
up and operational. For its part, AOL provided value to the hiring the next president. After a long search, the company
collaboration in the form of its technology, know-how, and hired Kozuo. Hiramatsu, who tried to convince insiders and
brand name. outsiders alike that he had the right stuff. Following its
With the aim of increasing the number of subscribers to alliance with NTT DoCoMo, the company appointed NTTs
its service, AOL displayed an interest in entering strategic Minoru Nakamura as the president of the company. By doing
alliances with other companies. NTT DoCoMo bought a 42 so, the company hopes that it will be able to fully tap the
percent equity stake in AOL Japan at the end of the year 2000 benefits of its latest partnership with NTT DoCoMo.
for around $100 million. The company hoped that this alliance According to John Barber, the difficulty lies in finding top
with Japans leading mobile phone carrier would give it access local people with the necessary managing experience and the
to NTT DoCoMos huge and ever-growing customer base. essential marketing savvy to compete in the world of Inter-
Going one step further, AOL Japan was renamed DoCoMo net time. Finding such a person has become somewhat like
AOL after just over three months of the alliance. Thus, as of finding the holy grail, according to Barber. The problem is
the end of 2001, DoCoMo owned 42.3 percent in AOL Japan, that, in Japan, most managers do not reach their position until
Case 15 AOL Goes Far East 707
after the age of 40. This would not be a problem, except that contracts with 12 to 15 PC manufacturers in Japan (including
most people over 40 lack the leadership and vision necessary U.S. manufacturers active in the Japanese market). The PC
to run an Internet ISP. manufacturers in Japan, unlike U.S. manufacturers, are much
AOL has not helped this situation by placing only one non- more active in the ISP business. Fujitsu, which is one of the top
Japanese AOL person on the ground in Japan. Many of the three PC makers in Japan, also owns the largest ISP in Japan,
challenges facing the Japanese corporation are similar to those Niftyserve. NEC, the largest PC manufacturer in Japan, also
faced by the U.S. business. One has to believe that AOL Japan owns an ISP. The ISP is BigGlobe, and it is the second largest
would benefit by more experienced AOL non-Japanese par- ISP in Japan after Niftyserve. Sony also owns Soo-net, an
ticipating in the daily operations and management of AOL ISP in Japan. The relationship between the ISPs and the PC
Japan. manufacturers in Japan is more complicated than that in the
United States because the PC manufacturers tend to be ISP
MARKETING ORGANIZATION AT AOL JAPAN
providers as well.
Since its entry into the Japanese market, staffing for the mar- After its partnership with DoCoMo, AOL Japan also
keting organization in Japan has been the responsibility of the planned to promote the use of its service via the Internet
Mitsui team. Mitsui hired all local employees in the marketing accessible i-mode cellular phone system.
department. The marketing organization is one of the five
groups that report directly to the president of AOL Japan. Magazine Inserts. Another successful marketing technique
The marketing organization is also responsible for the MIS for AOL in America is the use of magazine inserts to deliver
system used to drive their marketing decisions. the AOL software via CD inserted into the magazine. One
The marketing strategy initially employed was based on way of doing this was to shrinkwrap each magazine with a
the strategy that was successful for AOL in the United States. CD placed within the shrinkwrap. Another, but more expen-
The marketing group in Japan, however, does try its own sive, technique is to have the CD actually attached to a page
strategies in addition to those recommended from the United within the magazine itself. The magazine insert techniques
States. were responsible for initial enrollment of about 30 percent
The initial and primary strategy consisted of four main (around 6M users) of AOL U.S. customers.
approaches to capturing market share in Japan. The first is AOL Japans results with magazine inserts have been
referred to as bundling; the second is the use of magazine disappointing. For one reason, the magazine companies, in
inserts; the third is the use of direct mail solicitations; and the general, have been tough to do business with. In addition, the
fourth is Take-ones. shrinkwrapping of magazines is not as prevalent in Japan as
in the United States. AOL Japan has been able to do some
Bundling. Bundling is the process by which a PC maker magazine inserts, but it has also gone a step further in a
includes AOL software preinstalled on each PC. In this case, couple of marketing promotions. AOL Japan has created its
when the customer boots the machine, the AOL icon is visible own magazine, which is issued when there is a major software
on the desktop. The customer also receives AOL documenta- upgrade. It is sold on the newsstands like a normal magazine.
tion in the box. AOL usually has an offer of X free hours at Overall, however, the customer hit rate per yen for magazine
no risk to the customer for trial usage. If the customer decides insert promotions has been lower than the results obtained via
that he wants to join AOL, he can easily do so just by clicking bundling.
the AOL icon on the desktop.
Another method of bundling is to have an agreement with Direct Mail. Direct mail has also been responsible for ini-
the OS manufacturerin this case Microsoft. By bundling tial sign-up of about 30 percent of the U.S. AOL customers.
with Microsoft, AOL can ensure that it has a copy of its soft- However, in Japan, this approach has not been particularly
ware on each PCwhether or not AOL has an agreement successful. According to John Barber, there are two fun-
with the PC manufacturer. The only issue associated with the damental issues: (1) the lack of available mailing lists that
installation in the OS is that it is buried within a folder in accurately pinpoint the desired customer base; and (2) the
the operating system files, so it is not easily accessible to the fact that mailing costs are much more expensive in Japan than
casual user. in the United States. The combination of these two points
Bundling in the United States has been very successful for causes the number of new subscribers/yen to be much lower
America Online. This promotion was responsible for over 30 for direct mail marketing in Japan than in the United States.
percent of the users in the United States (somewhere around 6
million customers). U.S. manufacturers such as Compaq, Dell, Take-Ones. Another marketing technique for finding new
and Gateway as well as many smaller manufacturers initially subscribers is called Take-ones. In this technique, the AOL
were not interested in the ISP business, so the relationship software CD is prepackaged in a small, thin package and is
with AOL was symbiotic with the PC manufacturer because then put on display in places where potential customers might
Internet access was an application that drove the customer to congregate. One natural place is computer stores, such as
upgrade its PCs. The consumer received some benefit from SoftMap, where one can find a stack of AOL Take-ones next
having the ISP sign-up form easily accessible from the desktop. to the cash register. The customer sees the Take-one, and if he
In addition, the PC manufacturers received some commission is interested in connecting to the Web, then he will take one
based on the number of customers that signed up for the home. According to John Barber, the Take-ones have been
service. reasonably successful in Japan. The hit rate for Take-ones is
AOL Japan has also used bundling as the primary mech- much higher than direct mail or magazine inserts because if
anism for signing up new users. It has been able to sign someone takes one home, they have a much higher level of
708 Case 16 Danone: Marketing the Glacier the United States
interest in signing up to an ISP than the reader of a magazine or through support of these technologies. If AOL anticipates
someone who receives an unsolicited mail offer. In addition, these changes better than other ISPs, then it will have the
AOL Japan usually combines the Take-ones with another opportunity to capture more market share. One example
promotionsuch as Pokemon or a movie, like Tarzanto is Internet access via mobile phones. In less then one year,
increase the hit rate of the Take-ones. The cross promotion NTT DoCoMo, with its T-Mode Internet access service via
with Pokemon had one unexpected drawback: parents of the the displays on portable phones, went from 0 to 3 million
children swamped the AOL User Support Line with orders subscribers, despite the fact that the services via the portable
for Pokemon cards! phone are very limited.
Moving Forward Buy other ISPsthere are many thousands of ISPs in
Japan. Many of them are very small and are potential
AOL Japans share of the Japan market is now about takeover candidates.
3 percent. It has grown over the past three years from 0
to the current 3 percent, while other ISPs have been relatively DISCUSSION QUESTIONS
flat. In addition, AOL Japan has been capturing between 10 1. Was Mitsui the best partner for AOL to enter the Japanese
and 15 percent of the new subscribers to the Internet in Japan market? If so, why? If not, who (or what kind of company)
over the past two years. Although other ISPs might be satisfied would make a better partner? Why?
with this progress, AOL has about a 50 percent market share
2. Do you think the current joint-venture structure should
in the United States and will not be happy with such a small
continue into the foreseeable future?
share of the market in Japan.
According to John Barber, AOL Japan looks at three 3. What structural impediments did AOL face in the Japanese
different ways to grow their market share: market that did not exist in the U.S. market? What actions
should AOL take to overcome these obstacles?
Increase marketing efficiencyif AOL Japan can lower the 4. Make specific recommendations as to what you think AOL
amount of yen it takes to capture a subscriber, then it can should do to capture additional market share in each of the
capture a higher percentage of new users to the Internet. three areas mentioned: lower the cost of /new subscriber;
Take advantage of watershed eventsas technology capitalize on watershed events; buy other ISPs.
changes the nature of the Internet or creates new ways 5. Now that AOL has partnered with NTT DoCoMo, will it
to the Internet, opportunities will arise to capture new users be successful in Japan, or is it too late?
C ASE 16
to become the number two and three players, respectively, distribution rights to Evian and will handle all promotional
behind Nestles Perrier and Poland Springs brands. Danone is and customer marketing, in-store merchandising, bottler sales,
now number four in the United States after having the number and food service sales. Danone will still manage sourcing and
one brand in the country as recently as 1996, and its market retain control of Evians brand image and advertising strategy.
share has plunged in the U.S. bottled water market. The agreement includes incentives for Cokes efforts to
boost demand, based on a target of 5 percent to 10 percent
EXHIBIT 1 annual sales growth. This is estimated to translate into a
SALES GROWTH FOR DANONES potential return of $8.5 to $17 million annually, given that
WATER DIVISION Evian accounted for about 22 percent of Danones U.S. water
sales of approximately $780 million in 2001. If the incentives
10.0%
produced an average increase in sales of $12 million, it would
8.0% represent an increase of less than 1 percent of total sales for
6.0% Danone.
Danones second major agreement came in June 2002,
4.0%
when Danone and Coca-Cola announced a joint venture for
2.0% the production, marketing, and distribution of Danones local
0.0% and regional branded retail bottled spring and sourced water
1998 1999 2000 2001 2002 from within the United States. (For example, Danones Dan-
non brand spring water is sourced in the United States.) The
EXHIBIT 2 terms of the complex agreement are as follows:
DANONE SALES BY REGION, 2001
USA Danone contributes the assets of its retail bottled spring
France 11% and source water business in the United States, including
23% five production facilities, a license for the use of the Dannon
and Sparkletts brands, as well as ownership of several value
brands.
Coca-Cola pays Danone $128 million cash for a 51 percent
Rest of Europe
ownership interest and will provide marketing, distribution,
34%
and brand management. Most importantly, the agreement
Rest of world contains volume and profit guarantees from Coca-Cola
32% requiring sales volume to grow in line with the large brands
in the market (currently 20 percent annually) to maintain a
stable market share while achieving a guaranteed level of
What Danone had failed to realize was that selling bot-
profitability. However, it is unclear what penalty Coca-Cola
tled water was completely different in the United States than
will face if it fails to secure this level of growth. According to
selling it in Europe. Danone has maintained a stronghold in
J.P. Morgan, the amount of volume involved is 135 million
Europe by mastering its complicated direct-to-store delivery
cases, and they estimate that revenues for the joint venture
systems and taking advantage of an educated consumer base
could be in the $200 million dollar range.
that willingly accepts Evians premium price and relies less
on drinking tap water. Contrarily, success in the U.S. water
market means access to a giant colarun distribution network Quick to defend his statements of unconcern for the U.S.
that includes access to rented store shelves. market just a few months prior, Riboud rationalized, the mar-
When it came to water and the success of Danones water ket is totally different from five years ago . . . the agreement
sales in the United States, the company was struggling. But as with Coca-Cola will help us find a strong growth pattern
recently as the beginning of 2002, Riboud made strong state- again. Wall Street analysts have debated whether these
ments refuting the need for Danone to be successful in the moves represent an alliance that will translate into growth
U.S. water market. The Danone business equation is not a for Danone and Evian, or whether these agreements mark
U.S. equation, its Asia, Latin America, Europe. Water in the Danones unofficial withdrawal from the U.S. bottled water
United States represents just two percent of our global sales market.
volumes . . . we have no reason to have an inferiority complex. Certainly, the Coke joint venture, though completed,
Our strategy lies elsewhere. These strong statements were remained an uncertain guarantee in Evians gain for market
contrary to the DIVERSIFICATION strategy that Riboud share in the United States. Thus, many questions remained
had planned to implement during his tenure. These statements for Riboud to ponder. How does a CEO disclaim the need
would also prove to be contrary to Ribouds aggressive moves for the U.S. market and then complete a mega-deal in the
in its U.S. water operations, made within days of his bold same market a few months later? Will the joint venture with
statement. Coke assure success for Danone and Evian? Was this deal
In the first of two dramatic agreements with one of its a desperate movecould Danone have invested in a U.S.
primary competitors, Coca-Cola, Danone announced in April market strategy on its own? How does a CEO deal with the
2002 that the cola giant would take over management of the rumors of future mergers with U.S. food giants, such as Kraft,
Evian brand in North America. According to analysts at J.P. to create a truly global food services company? For Riboud,
Morgan, under this agreement Coca-Cola will have master the biggest waves were yet to come.
710 Case 16 Danone: Marketing the Glacier the United States
DANONE: A BRIEF HISTORY 1989: BSN added to its portfolio of biscuit brands by acquir-
ing Nabiscos European subsidiaries.
Group Danone today has very little in common with its orig-
inal operations, except that the Riboud family has been in 1988: BSN began an aggressive push into the global market
charge for over four decades. Danones humble beginnings with over 40 acquisitions in Asia, Latin America, Central
can be traced back to Lyon, France, where the original firm Europe, Africa, and the Middle East.
was a glass container manufacturer named Souchon-Neuvesel. 1994: The company changed its name to Group Danone,
Danones history reflects three common themes: the company symbolized by a little boy gazing up at a star, to take advan-
achievement of a leadership position in its markets, the firms tage of the success of its leading brand, which was famous
(or the Riboud familys) willingness to exit successful busi- the world over.
nesses in order to redefine itself in the pursuit of growth, 1996: Franck Riboud succeeded his father as chairman and
and the companys successful use of strategic mergers and restructured the company to focus on three core businesses:
acquisitions to perpetuate growth. dairy, beverages (specifically water), and biscuits.
1999: Group Danone sold off its container business and
breweries.
1965: Antoine Riboud replaced his uncle as chairman of
DANONES BOTTLED WATER BUSINESS
the family-run Souchon-Neuvesel, a maker of glass bottles
based in Lyon, France. In 2001, Danones water division became number one in the
1966: Souchon-Neuvesel merged with Glaces de Boussois, a world water market based on volume sales, with 12.5 percent
major French plate glass manufacturer (windows for build- of the global market. As a portion of total firm revenues, bot-
ings and autos), creating BSN. The companies came to tled water comprised 27 percent, or approximately $3.4 billion
together for two primary goals: (1) to cope with the changing of total revenues for Danone in 2001. Danone has accom-
market trend toward no-deposit, no-return bottles, and plished its leadership position by using a two-tier strategy:
(2) to create a company that would be large and competitive first by extending Evian as a global brand and then by using
enough for the expanding European Common Market. acquisitions to acquire top regional and local brands. Danone
reports its company financials using the broad segment clas-
End of 1960s: Using acquisitions, by the end of the 1960s sifications of France, Rest of Europe, and Rest of the World.
BSN had become one of the largest glass manufacturers in
A look at Danones water sales by region for 2001 was: 64
all of Europe. However, the container industry was chang-
percent Rest of the World, 19 percent Rest of Europe, and 17
ing as the demand for paper and plastic containers was
percent France.
spelling doom for glass bottle makers. BSN recognized this
Clearly, Danone is a favorite in its home country and in
threat and because it did not have operations or ties in
Europe, where Danone has enjoyed continued growth through
the petrochemicals, forestry, or steel industries, the com-
innovation. The firm has experienced high growth in Europe
pany believed a good solution would be to start making the
with flavored waters and has even introduced diet waters in
contents for its containers. This strategy marked another
France and Italy. European growth has even been derived
redefining moment for the company, and once again it
from offering certain sized containers and enviro-friendly
would use acquisitions to create scale and generate growth.
containers that easily collapse to encourage popular recycling
1970: BSN took control of Evian, Kronenbourg, and the campaigns. Danone has not introduced these innovative prod-
European Breweries Company and became the leading ucts in the U.S. water market. However, the company has built
French manufacturer of beer and mineral waters. a very strong presence globally, where it is typically ranked
1973: BSN and Gervais Danone merged companies and among the top three companies in the countries in which it
created the biggest food group in France. For BSN, the operates. Danones leadership position in water sales in var-
merger represented a major opportunity to move forward ious countries is illustrated in Exhibit 3. Although the data
and enter new markets, with a decisive shift toward food from the table show how successful Danones water opera-
products. tions are globally, the U.S. market clearly stands out as one of
1980: With escalating energy costs hitting the glass-making disappointing performance.
business hard and convinced growth would not return to Evian: Danones Glacier Brand
this business for some time, BSN Gervais Danone began to
exit from plate glass manufacturing, which did not fit in with Driving Danones global water sales is the successful exten-
the food side of its business. It pulled out of the plate glass sion of Evian as a global brand. Evian is the number two
sector completely in 1981, selling off Boussois and focused water brand in the world by volume, and it is shipped to over
firmly on food from then on. 120 countries on five continents each day. Evian distinguishes
itself as pristine, natural spring water, bottled at one source,
1980s: In a series of acquisitions, BSN began a conquest Cachat Spring in Evian-Les-Bains, France. The magnificent
of Europe by taking over many local companies in vari- French and Swiss Alps converge around the Mont Blanc,
ous food categories to become Europes third-biggest food which towers above the lakeside town of Evian-Les-Bains.
group. The spring waters from Cachat Springs are world renowned,
1982: BSN purchased Dannon, the leading U.S. yogurt and Evian-Les-Bain is famous in Europe for its spa resorts.
maker (co-founded by Gervais Danones Daniel Carasso).
1986: BSN entered the biscuit industry by buying General Untouched by Man. Perfect by Nature is a trademark of
Biscuit. Evian Natural Spring Water, and it is used to imply unique
Case 16 Danone: Marketing the Glacier the United States 711
EXHIBIT 3
DANONES WATER SALES AND MARKET POSITION
pristine water. Accordingly it is priced at a premium. Evian nearby. Aside from the fitness attributes of bottled water,
Natural Spring Water begins as rain and snow falling high consumers are also drawn to the purity that bottled water
in the French Alps. It is said that the water then spends at provides. During the 1990s, the amount of water sold in the
least 15 years slowly filtering down through a vast, protected United States has increased from two billion gallons in 1990
aquifer deep within the mountains. This wonder of nature as it to 5 billion in 1999 (see Exhibit 4).
is known was created by nature over several millennia through Molecularly speaking, water is a compound consisting of
the advance and retreat of the Rhone Glacier, which ground two atoms of hydrogen and one of oxygen. From a marketing
loose boulders into an ultra-fine sand. As the water passes standpoint, however, water represents the largest opportunity
through this purifying filter and over mineral-rich rock, the in the consumer beverage market. A free resource, covering
water is insulated from all external contamination by dense nearly 75 percent of the world, is now marketed as a premium
layers of protective clay and emerges at Cachat Spring from to an ever-increasing health conscious society. Perhaps a back-
a tunnel in the mountains at 52.88 F. Bottled and sealed at to-basics approach is necessary to explain the phenomenon
its source as Evian Natural Spring Water, the water is not that is bottled water.
artificially altered in any way. Evian Natural Spring Water has Water is classified as bottled water if it meets all appli-
a unique history as is shown below. cable federal and state standards, is sealed in a sanitary
container, and is sold for human consumption (see http://www.
30,000 B.C. Aquifer in the French Alps through bottledwater.org/public/BWFactsHome main.htm). There
which Evian travels formed. are several different varieties of bottled water. The Food
1789 The Marquis de Lessert discovers the and Drug Administrations (www.fda.org) product definitions
Cachat Spring. for bottled water are as follows.
1826 The Duke of Savoy grants authorization
to bottle Evian.
1878 The French Academy of Medicine rec- Well Water: Bottled water from a well that taps a confined
aquifer in which the water level stands at some height above
ommends that the Ministry of Health
the top of the aquifer.
renew the bottling authorization for the
water. Mineral Water: Bottled water containing not less than 250
1906 Responding to a water shortage caused parts per million total dissolved solids may be labeled as
by the great San Francisco earthquake mineral water. Mineral water is distinguished from other
and fire, Evian is donated to support types of bottled water by its constant level and relative
relief efforts. proportions of mineral and trace elements at the point of
1960 Sold exclusively in pharmacies until emergence from the source.
1960. Purified Water: Water that has been produced by distillation,
1970 Evian brand is acquired by Danone. deionization, reverse osmosis, or other suitable processes.
(Both Pepsis Aquafina and Cokes Dasani are purified
Evian is presently ranked fourth in the U.S. bottled market
waters.)
behind Nestle, Pepsis Aquafina, and Cokes Dasani. Prior to
the entry of the cola giants into the U.S. bottled water market, Sparkling Water: Water that after treatment and possible
Evian enjoyed a number one ranking as recently as 1996. In replacement with carbon dioxide contains the same amount
the past five years, Evians U.S. market share has been halved of carbon dioxide that it had at emergence from the source.
from 7.2 percent to 3.6 percent. (Nestles Perrier brand would be considered a sparkling
water.)
THE U.S. BOTTLED WATER MARKET
Spring Water: Bottled water derived from an underground
Beginning in the 1980s, bottled water has become the beverage formation from which water flows naturally to the surface of
of choice for a more healthy fitness-oriented society. Vending the earth. Spring water must be collected only at the spring
machines stocking water and soft drinks are normally first or through a borehole tapping the underground formation
emptied of their water supply, even if a water fountain is finding the spring. (Evian is spring water.)
712 Case 16 Danone: Marketing the Glacier the United States
EXHIBIT 4
BOTTLED WATER CONSUMPTION IN THE UNITED STATES
6000 1.13
1.12
5000
1.11
4000 1.10
1.09
3000
1.08
2000 1.07
1.06
1000
1.05
0 1.04
1990 1991 1992 1993 1994 1995 1996 1997 1998 1999
Bottled water trade organizations, manufacturers, and located in a pine forest and is protected by 350 acres
(more recently) consumers concur that the two favoring of preserved land in rural Maine. Poland Spring is a
differences of bottled water over tap water are consistent leading brand of bottled water in America, benefiting
quality and taste. The belief (with varying degrees of substan- from Nestles formidable distribution network onto
tiated proof) is that bottled water is consistent because it is U.S. supermarket shelves.
inspected and monitored by governmental and private labo- Aquafina (PepsiCo). Aquafina is also created from
ratories. Although bottled water does indeed originate from tap water, though the company is hesitant to use
protected sources (75 percent from underground aquifers and the description local water supply on its Web-
springs) and tap water comes mostly from rivers and lakes, it is site. Aquafina uses state-of-the-art purification sys-
the guaranteed consistency of taste that has drawn consumers tems, including reverse osmosis and carbon filtra-
to plucking down a dollar or more for a bottle of water (even tion. These processes are what allow us to guar-
if that drinking water fountain is a few steps away). antee Aquafinas consistent purity and great taste.
The classifications of bottled water have had little impact (www.aquafina. com)
on the U.S. consumer. In fact, the result of these classifica-
Dasani (Coca-Cola). To create Dasani, Coca-Cola bot-
tions has created a murky bottled water market in which little
tlers start with the local water supply, which is then
distinction is made in the advantages of one type of bottled
filtered for purity using a state-of-the-art process called
water over another. For Evian, this customer indifference has
reverse osmosis. The purified water is then enhanced
been a substantial disadvantage in gaining market share in
with a special blend of minerals for a pure, fresh taste.
the United States. The additional handling and transportation
(www.dasani.com)
costs of bottling from one glacier source in the French/Swiss
Alps force Danone to market Evian at a premium price. OPTIONS FOR MARKETING EVIAN IN THE UNITED
Evians average cost per case is about 80 percent higher than STATES
that of Aquafina or Dasani. In the United States, customers Unlike most bottled water markets in the world, the U.S.
place little value on this premium and simply choose the market poses unique competitive pressures for Danone and
less expensive bottled water. In Europe, consumers are more its Evian brand. It is evident that the firm never saw the
knowledgeable about the types of bottled water and accept cola giants entry into the bottled water market coming, or if
the premium on the Evian brand. they had done so, they must have underestimated the impact
Competing Products in the U.S. Market to their market share and long-term sales growth. Danones
recent agreements with Coke may be too little, too late to
The primary bottled water competitors in the U.S. market are: preserve Danones presence as a top-selling firm in the U.S.
water market.
Perrier and Poland Springs (Nestle). Nestle has
Should the alliances with Coke fail, three alternative strate-
formidable midrange and high-end bottled water
gies could be considered for Danone and its Evian U.S. water
brands in the United States with Perrier and Poland
operations.
Springs. Perrier has been imported into the United
States since the turn of the twentieth century. It was Go It Alone. For Evian to go at it alone in the U.S. market
first bottled in 1863 and is available in more than would mean that Danone would have to accept the
100 countries. Every bottle of Perrier sold around the brand as a niche product rather than a leading product
world is bottled at the source in Vergeze, France. Per- in the U.S. water market. Leadership in the U.S. bot-
rier is the best-selling imported sparkling water in the tled water market that is being determined by price
United States. The source of Poland Springs water is and logistics alone locks Evian into being priced at
Case 17 BMW Marketing Innovation 713
a premium and therefore not competitive for market are found in more than 99 percent of all households
share. By marketing Evians unique pristine quali- in the United States. Nearly three times the size of
ties, and positioning the brand as a niche, high-end Danone, Kraft derives 70 percent of its revenues from
premium beverage with a healthy edge, Evian may North America and has an extensive brand portfo-
be able to provide Danone a higher-margin product, lio that includes a variety of food products except
albeit with smaller volumes. for bottled water. Acquiring Danone would allow for
A second part to Danones U.S. water market strat- entry into the growing bottled water market, as well
egy would be to position its Dannon spring water, a as increase the consumer base into Europe and Asia.
locally sourced spring water, to compete against Nestle One of Krafts core strategic goals is to increase its
and the colas for market share in the high-volume, global economies of scale and expand its brands geo-
price-driven retail market. However, the Dannon graphically. Acquiring Danone would be in alignment
lines production and distribution would have to be with this strategyits 90 percent revenue base out-
built out with acquisitions. The strategy to go it alone side of the United States and owner of the number two
would require high investment from Danone, and water brand in the world could make a Kraft/Danone
the return on that investment would be very long in combination a true synergy fit.
coming.
Perhaps one of the most important factors stopping an
Get out of the U.S. Market. Another option presented acquisition of Danone is companys nationalistic, historical,
to Franck Riboud is to leave the United States alto- and family pride. Franck Ribouds family, his allegiance to
gether, keeping the Evian brand in the United States his French culture, and his sense of individual ownership of
only as a niche player. Perhaps management needs the Danone brands are formidable blockades to allowing the
to realize that water drinkers in the United States company to be acquired.
with their lack of differentiation among bottled water Riboud contemplates Danones U.S. bottled water market
varieties, are not within the scope of Danones global strategy as he windsurfs the calm waters of Lake Geneva. He
marketing strategies. Because the marketing successes muses, Five years from now, could the decision I will make
that Evian has experienced in other countries cannot be the subject of numerous business school case studies as
translate to the U.S. market, a no-entry strategy would the correct way to maintain market presence in the U.S. or a
eliminate costly entry expenditures and allow Danone wrong way? Of course, only time will tell.
to shift focus to gaining share in countries where the
glacier premium is recognized. This option could DISCUSSION QUESTIONS
be referred to as the LU Biscuit strategywhile 1. Why has Evians U.S. market share continually decreased
Danones biscuit brand is number two in the world, it since the emergence of the cola giants bottled water brands
is nonexistent in the United States. in the late 1990s?
Merger/Acquisition. Among the possible acquisition suit- 2. In evaluating Danones strategy for gaining U.S. market
ors for Danone, including Nestle, Unilever, and even share, present the positives and negatives for remaining a
the cola giants, Kraft Foods appears to be the company single-enterprise entity and going it alone.
best positioned to capitalize on the merged syner-
gies. Kraft is the largest branded food and beverage 3. Given Evians lack of success in the U.S. market, what
company in North America and the second largest would be the ramifications of Danones existing the U.S.
worldwide, based on 2001 revenues (Nestle is num- bottled water market altogether?
ber one). Krafts brands are sold in more than 145 4. Are the joint ventures with Coca-Cola the right decision?
countries. According to AC Nielsen statistics, they Why or why not?
C ASE 17
the brand needs to do to combat negative perceptions some in response to economic, environmental, and competitive
people have based on old associations with the 1980s style changes.
yuppie arrogance. This design philosophy, which runs through every BMW,
has been communicated through a number of TV and print
COMPANY PROFILE
ads. The brand image has been built up by using over 300
BMW (Bayerische Motoren Werke Aktiengesellschaft) was color press advertisements and, more recently, through a total
founded in 1916 and has been publicly traded since 1969. The of 64 different television commercials. Throughout this cam-
company produces, and markets, a varied range of higher end paign, BMW has remained true to its beliefs in focusing on
sporty cars and motorcycles. BMW has also manufactured the the substance of the cars themselves.
first passenger car running on hydrogen ready for common In addition to the high-profile national color press and
use, although the production figures are limited by the lack of television advertising, individual dealers are encouraged to
a respective filling station net. In addition to cars and motor- run their own local campaigns. Local press, radio, and bus
cycles, BMW operates an aircraft engine division under the advertisements are all available from BMW dealer marketing.
brand name of Rolls Royce. In addition, brochures, price lists, and dealership point-of-sale
The company has worldwide subsidiaries and manufactur- materials are made accessible through the corporate office.
ing plants in Germany, Austria, the UK, the United States, BMW encourages its dealers to make use of these services.
Mexico, Brazil, South Africa, Egypt, Thailand, Malaysia, Providing the dealers with a central source for advertising,
Indonesia, the Philippines, and Vietnam. The company also BMW ensures that all communications remain standardized
operates its own financing company, which offers financing as well as maintaining BMWs brand values.
for vehicles. Automobiles accounted for 78 percent of 2000 BMW has embarked on a global advertising campaign.
revenues; vehicle finance leasing, 18 percent; motorcycles, What differentiates this promotion is the fact that it remains
3 percent; and other, 1 percent (see Exhibit 1). consistent throughout the companys international campaign
across the European, U.S., Asian, South African, and Middle
EXHIBIT 1 Eastern markets. In over 15 countries there will be:
BMWS REVENUE SOURCES
TV spots
2000 Revenue
80% Print advertisements
70%
Mega-posters
Radio spots
60%
Events
50%
In all three James Bond films, BMW, MGM, and EON Pro-
40% ductions Ltd. worked together on a cross-promotion project.
30%
This was accomplished worldwide with TV commercials and
print ads, as well as displays in BMW dealer showrooms.
20%
BMW FILM
10%
The best new film series, by the most cutting-edge directors,
0% are not playing at the local theater. Instead, these films are
Auto Motor- Finance Other
cycles leasing
accessible through your home computer as well as your local
BMW dealership.
Since its launch at BMWFilms.com, The Hire (a film
MARKETING OVERVIEW
series consisting of five different short films) has been singled
The majority of BMWs success is attributed to the devel- out as the first high-profile, big-budget, celebrity-laden Inter-
opment of a consistent marketing policy, the market niche net marriage of advertising and entertainment. It has been
strategy. The company has built its brand on four core values: reviewed, scrutinized, deconstructed, and cited as evidence
of the perilous future for traditional advertising. New York
Technology
Times film critic Elvis Mitchell called the series a marriage
Quality of commerce and creativity, straddling the ever-dwindling line
Performance between arts and merchandising. BMWFilms is simply the
latest and possibly the hippest Website to make use of stream-
Exclusivity
ing video in order to lure prospective customers. Fast cars,
BMW has maintained these core values since the com- mysterious passengers, Buddhist monks, rock superstars, and
panys inception. Coupled with WCRS (BMWs advertising sinister enemies are all part of the film series, which are pre-
agency since 1979), the company has adopted a consistent sented in installments by some of Hollywoods top directors.
advertising strategy. In addition to the message of these val- These films are being advertised on television the same way
ues being portrayed in advertising campaigns, the company that movie trailers are advertised; the difference is that instead
explicitly expresses one or more of these values in all BMW of the catch-phrase Coming soon to a theater near you, this
advertisements. However, it is important to point out that catch phrase reads See it only on BMWFilms.com.
BMW also relies on its sensitivity to the environment, which Actor Clive Owen (star of the acclaimed British film
is clearly seen by how the companys advertisements evolved Croupier and, in the opinion of his growing legion of fans,
Case 17 BMW Marketing Innovation 715
the next James Bond) is The Hire in the series title, a distinguish itself. On a more basic level, BMW was growing
skilled mercenary driver who seems to specialize in risky more concerned about its ability to reach its core market via
assignments. While he is certainly a smooth operator behind traditional methods such as network TV.
the wheel (very James Bond like), it is always the Ultimate The creative team of writer David Carter and art director
Driving Machine that saves the day. The car is definitely the Joe Sweet had recently completed a project for Timex with
star of the show. director Tim Burton. This marketing campaign incorporated
Each episode features a driver (in a BMW, naturally) an Internet portion that featured short videos specifically shot
who is on a mysterious nighttime mission along with a mysteri- for the Web.
ous passenger. Examples include one incident where the driver The executives at BMW saw this as a way to differenti-
is on the run with a small Buddhist boy and another episode ate the company from other manufacturers. BMW wanted
that has an arrogant superstar diva (played by Madonna) something done exclusively for the Internet, something not
desperately wanting to escape the swarm of the paparazzi. only entertaining but also cinematic. A concept was borna
Filmgoers, thrill seekers, and potential customers have the longer film that would be shot in segments and distributed
option of watching the video using Real Video or Quick- via the Internet as a series. This series would combine prod-
Time video players. Another option is to download the BMW uct placement with entertainment. Most importantly, it would
Film Player, a fairly simple process offered through the BMW allow BMW to push the envelope when it came to scripting the
Website, which turns the computer screen into a miniature series. The Internet would allow the company to show what a
personal theater complete with DVD quality pictures and BMW can do when pushed to the limits, under extreme con-
sound. Installing this player allows the user to download and ditions and circumstances. BMW would not be able to convey
view the video on the full computer screen while offline. In this type of advertising through traditional TV ads, without a
addition to the full-length videos, BMW also offers trailers few hundred disclaimers.
for those customers with slower modem connections. These BMWFilms has accomplished several objectives; the most
trailers allow viewers to have a quick peek at the films. important being the tremendous buzz in both the enter-
The numbers of viewers to the site are soaring each week. tainment and business press. This was important to BMW,
One week following the advertising blitz of the Website films, since one of its goals was to make the BMW look cool,
traffic to the site was up 55 percent to 214,000 unique visitors without the old association with the 1980s style of yuppie
compared to only 138,000 the previous week (according to the arrogance.
Web measurement firm Nielsen/Net Ratings). This tremen- A fact that was not prominently mentioned in much of the
dous leap made BMWFilms one of the Internets fastest coverage of The Hire was that the core creative concept,
growing sites. along with key strategic thinking, Web development, and sev-
The films all have differentiating styles, but they all hold eral scripts, all came from one source: Publicis Troupes Fallon
one thing in common: the majority of the action takes place in Worldwide in Minneapolis. I think were reinventing adver-
a BMW while the participants are in the middle of a car chase. tising, said David Lubars, Fallon president and executive
There is no limit to the actual number of BMWs that you will creative director. Lubars added: Were not looking to make
see; one, two, three, even more Beemers are seen speeding this a template, as though this is what advertising is [going to
down alleyways and streets, screeching around corners. be]. I think what technology affords you is that every client
BMW did not randomly decide to initiate a Web-based can get their own customized media approach, and this was
advertising campaign. The company clearly did its homework. really right for this client.
It is well known among advertising firms that over 85 per- BMWFilms.com is a good example of blurring the
cent of potential car buyers will conduct most (if not all) of lines between entertainment and advertising, said Jarvis
their initial research on the Internet before they make a final Mak, senior Internet analyst at NetRatings. The site com-
decision on a purchase. Therefore, BMW has made it con- bines Hollywoods intense car chase scenes and Internet
venient for shoppers by adding a link to their film site from video to deliver a new spin on product showcasing, added
BMWUSA.com. This site gives consumers basic information Mak.
about the car(s) as well as the location and phone number of We think that a lot of the time when people view tradi-
the local dealerships. tional advertising they view it through a filter of disbelief,
Given that the average BMW automobile starts at approx- said Jim McDowell, vice president of marketing for BMW
imately $30,000, the companys decision to design a classy of North America. When people watch entertainment or a
film series, which can be viewed on a high-speed Internet movie, then theyre watching in an entirely different way where
connection by an upscale, mostly male audience, is clearly they enjoy the fantasy, and hopefully remember it and share it
targeted. with others. We thought maybe instead of doing advertising
The simple concept of these filmsBMW wants to sell we should be doing entertainment and doing something fun
cars! and interesting on the Web, McDowell said.
What if you do not have a computer, or if your computer is
Film Concept
not hooked to a T1 connection? Never fear, BMW has already
In the spring of 2000, two factors were on the table at BMW. begun buying infomercial time on the Bravo and Speedvision
The first was concern over TV effectiveness, and the sec- channels to showcase their Hire series.
ond was how to exploit the popularity of the Internet. BMW
Target Audience
wanted to come up with an entirely new branding campaign;
too many competitors were copying the look and feel of the Initially, BMW had no real idea as to whom the films would
BMW, and the company needed to do something different to appeal. BMW executives knew they would have everyone
716 Case 17 BMW Marketing Innovation
COMPETITIVE ANALYSIS IS 300, roughly 75 percent male, between the ages of 35 and 40,
married, highly educated, with annual household incomes of
In 1997, BMW was in danger of losing its long-standing lead
$100,000. The current average age of a Lexus owner is 50, with
in the import luxury car segment. Mercedes, Lexus, and Audi
the median age of the brands hottest selling vehicle, the RX
were coming on strong, with great new products and new mar-
300 sport-utility, at 48. The estimated $32 million campaign
keting campaigns designed to dethrone BMW. Nearly half of
for the car broke recently on national TV and will continue
those considering a luxury car rank fun to drive as their
for the next six months. Team One, El Segundo, California,
number one reason for purchasing the car. However, for the
created the two national TV commercials as well as five TV
first time since BMW had been tracking its image, consumers
spots for regional dealer ad groups and two magazine ads. The
ranked BMW at virtually the same level as Mercedes or Lexus
agency also created billboards and six commercials that will
on attributes like fun to drive and responsive handling.
be projected on buildings in three cities.
BMWs three biggest competitors had launched new adver-
Their online presence even for this campaign is limited,
tising campaigns that highlighted what traditionally had been
though Lexus is one of the advertisers launching a rich-media
BMWs greatest strength: performance. Therefore, BMW was
campaign on the Excite Network, which includes WebCrawler
not able to distinguish itself anymore as the only company
and Classifieds 2000.
that boasted the unparalleled standard of quality as before.
Audi
Mercedes
Audi is an international developer and manufacturer of high-
The range of cars from the giant company DaimlerChrysler
quality cars. In 2000, the company sold more than 650,000
traditionally rival BMWs. In 2000, DaimlerChrysler sold
Audi models. The sales revenues of the Audi Group totaled
1,155,000 units and had revenues of 43.7 billion euro. Mer-
39 billion Deutsche marks. The Audi Group has slowly but
cedes strengths would be its global presence, strong brand
surely been encroaching on the BMW and Mercedes markets.
presence, product range, and technology leadership. Mer-
It has been trying to promote the exclusivity of its cars.
cedes marketing campaigns have always been subdued and
Recently, Audi of America has embarked on its most ambi-
low key. It allocates 25 percent of its annual marketing bud-
tious online marketing effort ever. The European car importer
get to innovative Internet strategies, recognizing the power
kicked off the Double Take advertainment online sweep-
of the Internet for delivering effective and precise market-
stakes as part of its $25 million launch of the redesigned 2002
ing campaigns. When the car manufacturer launched the new
A4 sedan. Visitors to the site can try to solve mysteries after
Mercedes C Class Sports Coupe, it positioned the online
viewing clues from three short episodes involving the A4.
campaign right at the top of its marketing mix. Joining in
They can also register to win prizes while learning about the
a winning partnership with MSN, another global brand with
car and its features. The grand prize is a three-day trip for two
similar values, Mercedes sponsored A-Has eagerly awaited
to the Audi Driving Experience at the Panoz Driving School
homecoming concert.
in Atlanta, Georgia. The sweepstakes, run by Don Jagoda
Lexus Associates, Melville, New York, allows prospects to enter up
to eight times. The main thing is to educate and entice users
Sparked by a decision from Toyota chairman Eiji Toyoda in
to go to dealerships, said Steve Glauberman, president-CEO
1983 to challenge the best luxury vehicles, Lexus has since
of Enlighten, the privately held Ann Arbor, Michigan, creator
grown into one of the worlds most inspiring automobile com-
of the site and sweepstakes.
panies. Lexus is a division of Toyota Motor Sales, U.S.A., Inc.
It is trying to leverage the Japanese technology to add brand DISCUSSION QUESTIONS
value to its vehicle. Lexus is Americas top-selling luxury mar-
1. Should BMW be using a uniform global promotion strat-
quee. The tough task for Lexus is to lose the Cheap But
egy?
Reliable Toyota image. The annual sales of Toyota vehicles
in the United States have been on the order of $90 to $93 2. Should BMW show its new marketing campaign on the
million in recent years. Internet exclusively, or should it be part of the media mix?
According to Chris Conrad, Lexus national advertising 3. What are the implications of marketing for dot.comers and
manager, Lexus is targeting its youngest buyers ever with the Generation Xers?
C ASE 18
In early May 1999, Vreni Sahli, international sales man- that they had become aware of a company by the name of
ager for office furniture manufacturer Herman Miller, Inc. ASAL showing and selling chairs, Aeron chairs, in the Ger-
(www.hermanmiller.com), received a call from John Paul man market. The Aeron chair, one of Herman Millers
Fournier, manager of Herman Miller Ltd.s German oper- most successful new product lines with a patent list as
ation. According to Ms. Sahli, Mr. Fournier informed me long as your arm (www.hermanmillered.com/catalog/), is
718 Case 18 Herman Miller, Inc. vs. ASAL GmbH
a unique, trademarked product nominated Design of the either sell on a direct basis or through distribution in specific
Decade by Business Week magazine. Fourniers concern geographies. Herman Millers European subsidiary, Her-
stemmed from complaints from Herman Millers authorized man Miller Ltd., is headquartered in Bath, England. In 1999,
dealers/distributors who were surprised to find an established Herman Miller Ltd. had contracts with about 100 distribu-
German firm, ASAL GmbH, selling Herman Miller Aeron tors in Europe. In the U.S. market, Herman Miller also uses
chairs and keyboard trays at the INTERZUN International subsidiaries (e.g., Herman Miller Florida, Inc.) and company-
Trade Fair in Koln, Germany. Herman Miller had an estab- owned distributorships (e.g., Office Pavilion South Florida,
lished distribution system in Europe consisting of 100 or Inc). In addition, there are independent distributors and deal-
so authorized dealers/distributors with exclusive territories. ers in Florida and elsewhere in the United States. According
ASAL GmbH was not one of them. Authorized Herman to Sahli, A distributor is basically a retailer who covers a
Miller dealers/distributors complained that ASAL GmbH was particular area from a sales standpoint and from a service
selling Aeron chairs for less money than they could buy them standpoint. Very different from what we do as a corporation,
for! Keiro, a Herman Miller, Ltd. dealer in Europe called which is at corporate level.
Herman Miller to say they have exclusive rights; (ASAL)
can only sell chairs at list price as per HMI. ASAL GmbH and ASAL Products, Inc. ASAL GmbH is
Despite Herman Millers corporate policies that prohibit a 60-year-old German firm in the office furniture business,
authorized dealers/distributors from selling directly to over- among others. ASAL GmbH had more than 100 employees at
seas clients outside their assigned territory, Fournier told three locations in the EU and was owned 99 percent by its pres-
Vreni Sahli that ASAL GmbH was acquiring the chairs ident, Barnard Stier. ASAL GmbH had sales of DM35,000,000
through a Florida company. As international sales manager, in 19961 and has current sales of DM37,000,000.
Sahli reported directly to the VP of International Sales and In 1996, an ambitious young German named Oliver Asel
Distribution. She did not typically get involved with exclu- took a job with ASAL GmbH (no relation; hereinafter
sively U.S. dealers. However, within days, she was on the referred to as Oliver for simplicity). After two years, Oliver
phone with Jack Howard, general manager of Herman Miller decided to seek greener pastures in America. In the United
Florida, Inc. and president of Office Pavilion South Florida, States Oliver took a job with office furniture distributor, Office
Inc. Herman Miller Florida was Herman Millers subsidiary Pavilion South Florida, Inc. At Office Pavilion he became
in Florida, and Office Pavilion South Florida was a company- knowledgeable about Herman Millers line of office furniture,
owned dealer. Jack did confirm for me that there was a including pricing for products such as the Aeron chair and
document that had been signed by Office Pavilion in Miami keyboard trays.
with ASAL [Products Inc., a Florida corporation] with the In 1998, Oliver moved back to Germany for personal rea-
intent to distribute keyboard trays for particular manufactur- sons, returning to work for ASAL GmbH as sales manager.
ing environments in the German market through a company At that time, the EU was implementing new harmonized
over there. office health standards covering issues such as distance to the
Vreni Sahli faced one of the toughest decisions of her computer monitor and appropriate seating. Oliver believed
17-year career at Herman Miller. By entering into a contract that Herman Miller keyboard trays combined with the Aeron
with Florida-based ASAL Products to sell Aeron chairs and chairs were an excellent solution to the new EU health stan-
keyboard trays for export to Germany, Herman Millers sub- dards. According to www.hmeurope.com, The Aeron chair
sidiary in Florida had created a parallel channel of distribution. sets new standards for comfortable and health-promoting
What could or should she do about this gray marketing that office seating . . . [it] meets and exceeds major international
was disrupting Herman Millers authorized channels of dis- standards. Oliver convinced Stier that ASAL GmbH should
tribution? She immediately called the corporate counsel, Jim pursue these product lines.
Christiansen, for advice. In September 1998, Oliver contacted Jean-Paul Fournier,
German manager for Herman Miller Ltd. on behalf of ASAL
BACKGROUND INFORMATION
GmbH. He was quoted DM229.5 for delivery of 1000 key-
Herman Miller, Inc. Herman Miller, Inc. is an office furniture board trays. On September 30, 1998, the exchange rate was
manufacturer headquartered in Zeeland, Michigan. Its office 1.6696 DM/$, so the quote was $137.46/tray. According to
furniture products include chairs, keyboard trays, desks, draft- commercial Websites, Aeron Chairs were being sold in the
ing tables, and stools. Herman Miller had sales of $1.7 billion EU in small quantities for approximately DM1800 to DM2000
in 1998, $1.8 billion in 1999, and $1.9 billion in 2000. Exhibit 1 during May 1999. Using a May 12, 1999, exchange rate of
provides three years of consolidated operating results for 1.8359 DM/$, the prices were $960 to $1200/chair.2 However,
Herman Miller.
Herman Miller has an international distribution system 1 On June 10, 1999, Jean-Paul Fournier received a report on the financial
consisting of wholly-owned subsidiaries and they in turn, strength of ASAL GmbH. The D&B report showed that ASAL GmbH
had 1996 sales of DM 35,000,000 or about US$20 million. It also showed
that the company financial resources were from 4 to 20 million DM (the
This case was developed by Michael R. Mullen, C. M. Sashi, and Patricia basis is the total wealth), or between $2.2 million and $11.1 million. Those
M. Doney of Florida Atlantic University as a basis for evaluating theory sales and wealth numbers indicate that ASLA GmbH, while hardly a
versus practice and to facilitate classroom discussion rather than to illus- start-up company, was still very small relative to Herman Miller.
trate the effective or ineffective handling of an administrative situation
2
(2003). It was adapted from their Gray Markets: Threats or Opportunity?: For instance, a price quote in April from Norman Stadler GmbH listed
The Case of Herman Miller vs. Asal GMBH, in Tiger Li and Tamer S. the chairs at DM1,970 for 5 to 10 units and DM1,760 in lots of 40 to 80, and
Cavusgil, eds., Advances in International Marketing (Greenwich, CT: JAI Keiros Website listed the Aeron chair at DM2,170 each. The exchange
Press, 2003) with permission from Tiger Li & Tamer S. Cavusgil. rate at that time was 1.8359 DM/$.
Case 18 Herman Miller, Inc. vs. ASAL GmbH 719
EXHIBIT 1
HERMAN MILLER (CONSOLIDATED RESULTS)a
(FROM www.hermanmiller.com)
Operating Results (In Millions) 2000 1999 1998
Key Ratios
Sales Growth 9.7 2.8 14.9
Gross Margin 37.8 38.9 38.2
Selling, General, and Administrative 23.6 24.1 24.1
Design and Research Expense 2.1 2.1 2.0
Operating Income 12.1 12.7 12.1
Net Income Growth (Decline) (1.5) 10.5 72.5
After-Tax Return on Net Sales 7.2 8.0 7.5
After-Tax Return on Average Assets 16.5 18.5 16.7
a For details, footnotes, and other years, please see
After-Tax Return on Average Equity 55.5 64.4 49.5
the Herman Miller Website.
based on his experience in Florida, Oliver knew that the These were the same trays Fournier, the German manager
same trays and chairs were being sold much cheaper in the for Herman Miller, quoted at the equivalent of $137.46/tray
United States. Confronted with the Florida pricing informa- for orders of 1000 or more, an 80 percent price differential.
tion, Fournier told Oliver that if he did not like the prices in In an April 30, 1999 letter, a German Herman Miller dealer,
Germany, he should buy office furniture in America. Norbert Stadler GmbH, quoted ASAL GmbH DM1970/chair
Oliver then contacted his former boss, Gary Kemp, VP ($1073.04) in quantities of five to ten chairs and DM1760/chair
Operations at Office Pavilion South Florida, to buy trays and ($958.66) for 40 to 80 chairs. In May 1999, Office Pavilion
chairs to sell in Germany. Because Herman Miller corpo- South Florida agreed to sell ASAL Products an unlimited
rate policies forbid dealers/distributors from selling directly number of Aeron chairs at $511/chair (in lots of 2000 or more)
to overseas clients outside their assigned territory, Oliver was through the end of 2000, as well as a new model keyboard
told that If I wanted to buy keyboard trays from Herman tray with palm rest and mouse tray at $173.24. The prices
Miller Office Pavilion, I have to form a U.S. company. As quoted by Norbert Stadler GmbH were more than 85 percent
Jack Howard, the president of Herman Miller Florida and higher than the $511 price for nearly identical3 Aeron chairs
Office Pavilion explained, If we were selling keyboard trays in Florida.
to ASAL U.S. or a Florida organization, that wouldnt be in Under the contract and its addendums, Office Pavilion
violation of our [HM corporate] agreement. agreed to deliver keyboard trays and chairs to ASAL Prod-
In December 1998, Stier and Oliver formed a Florida cor- ucts Inc. in Florida with the written understanding that ASAL
poration, ASAL Products, Inc. for the purpose of reexporting Florida would export those products to ASAL Germany. A
products purchased in the United States to ASAL GmbH contract with a parallel structure was signed between ASAL
in Germany. Stier owned 100 percent of the stock, and the Products, Inc. and ASAL GmbH to create the pass-through
board was the same as ASAL GmbH: Stier was president organization. Stier felt confident about his new vice presi-
and Oliver was vice president. The new firm was created as a dent Oliver Asel and the parallel channel of distribution they
pass-through organization to circumvent the internal rules had created to arbitrage the existing price differentials (see
of Herman Miller, Inc. Exhibit 2.)
Oliver negotiated a two-year purchase contract (January
8, 1999) with Gary Kemp, VP Office Pavilion, for keyboard 3 The only differences in the chairs were the numbering system and a slight
trays priced at $76.25 for quantities of less than 2000 units. difference (less than an inch) in the height adjustment.
720 Case 18 Herman Miller, Inc. vs. ASAL GmbH
EXHIBIT 2
PARALLEL CHANNELS OF DISTRIBUTION
EUROPE
Prices
$ inflated
6080% Dealers
$ Customers
Headquarters and Factory
$
Herman Miller, Inc. $ Hermann Asal, GmbH
Michigan $ Germany
Office Pavilion
Florida
In 1999, Oliver returned to the United States and opened and throughout Europe. Office Pavilion employees expedited
an office for ASAL Products in Fort Lauderdale, Florida. sample Aeron chairs and the new keyboard trays for exhi-
Three or four small orders for trays and chairs were placed bition at the INTERZUN. At the fair, ASAL had a good
from ASAL GmbH through ASAL Products to Office Pavil- location, and Oliver served as the technical representative.
ion. The orders were paid for, shipped to ASAL Product, Their reception was much greater than expected. As Oliver
Inc.s freight forwarder, and exported to ASAL GmbH in said, Chairs were flying out the doorunbelievable. He
Germany for resale. Everything transpired as agreed upon, also noted that I met some gentleman from Herman Miller
so ASAL GmbH, with Office Pavilions knowledge, made International at the trade show.
arrangements to attend the INTERZUN, an international Because of the importance of EU trade fairs, attendance
trade fair in Germany, to market these products. is audited in a manner analogous to Americas Nielsen rat-
Oliver had already given Office Pavilion a short-term sales ings. The Audited Trade Fair and Exhibition Figures for the
forecast of 5000 to 7000 Aeron chairs and thousands of key- May 1999 INTERZUN (FKM 2000see Exhibit 3) showed
board trays. With the trade show coming up, Office Pavilion audited numbers of 59,343 paid visitors. Eighty-three percent
was abuzz. Everyone from warehouse workers to front office of those visitors were owners, directors, managers, or staff
staff to top executives were discussing the large potential sales with decisive or collective responsibility for purchasing deci-
to Oliver and the big impact such sales could have on their sions. Although most were primarily small firms with less than
bonuses. At Office Pavilion, salespeople received commis- 500 employees, 5934 firms had 500 or more employees, and
sions, and the staff received EVA (Economic Value Added) there were 1187 firms larger than 10,000 employees. Given
bonuses based on year-end performance. Therefore, everyone the product market (chairs and keyboard trays), number of
at Office Pavilion had personal motivation to increase sales employees was a good proxy for potential demand.
and profit. On May 12, 1999, immediately after the INTERZUM
trade show, ASAL GmbH sent a written forecast and orders
INTERZUN INTERNATIONAL TRADE FAIR, KOLN,
to ASAL Products, Inc. for 32,320 Aeron chairs and 16,300
GERMANY, MAY 711, 1999
keyboard trays valued at over $21.8 million for delivery by
International trade fairs are far more important in EU mar- September 1999. The same day, ASAL Products submitted
keting in general and in Germany in particular. In preparation their first order to Office Pavilion for 2480 Aeron chairs,
for the show, ASAL mailed letters and postcards to existing accompanied by a check for $633,840 (50 percent deposit).
customers, as well as prospective new customers in Germany Office Pavilion VP of Operations Gary Kemp and General
Case 18 Herman Miller, Inc. vs. ASAL GmbH 721
EXHIBIT 3
AUDITED TRADE FAIR AND EXHIBITION FIGURES, REPORT 1999
Total Number of visitors 59,343 Position in the company/organization %
Proportion of trade visitors 98% Entrepreneur, partner, self-employed 36
Region of Residence % Managing director, board members, head 18
Over 100 km away 86 of an authority, etc.
Senior department head, other employee 8
Total Germany 55 with managerial responsibility
Baden-Wurttemberg 14 Department head, group head 12
Bavaria 12 Other salaried staff 16
Berlin 1 Skilled worker 2
Brandenburg Lecturer, teacher, scientific assistant 1
Bremen 1 Trainee, student 5
Hamburg 2 Other 3
Hesse 7
Mecklenburg-West Pommerania 1 Area of Responsibility %
Lower Saxony 5 Management 48
North Rhine-Westphalia 43 Research/development/design 9
Rhineland-Palatinate 7 Planning/work preparation 6
Saarland 2 Manufacture/production 13
Saxony 2 Buying/procurement 9
Saxuny-Anhalt 1 Administration/organization/personnel/social 2
Schleswig-Holstein 1 welfare/training
Thuringia 1 Marketing/sales/advertising/PR 9
Other 4
EXHIBIT 4 EXHIBIT 5
ASALS PROJECTED SALES VOLUME (continued)
(NO. OF UNITS)a
1999 2000 Total
1999 Keyboard Trays Aeron Chairs
Less Operating
May 650 2,480 Expenses 91,373 266,434
June 3750 13,000
Net Profit 3,671,446 3,591,896 $7,263,341
July 5680 13,790
August 6080 2,790
Avg. Sales DM $
September 2780 2,630 Price
October 880 790
November 880 790 Keyboard trays 299.7 $163.24
December 880 790 Aeron chairs 1085.6 $591.32
Fx rate 1.8359 DM/$
1999 sub-totals 21,580 37,060 Wall Street 12-May-99
Journal
2000 Keyboard Trays Aeron Chair
1. The International Trade Show in Cologne will yield the same sales in Cost of HM goods sold 25,437,038 26,047,832 51,484,871
2000 as in 1999.
2. The management made large house sales of 8,500 chairs in June and Gross margin 8,439,253 8,650,059 17,089,312
July and will do so again in 2000.
Less Operating Expenses
EXHIBIT 5 Sales commission, 2%
ASAL PRODUCTS, INC. PRO FORMA INCOME of sales 677,526 693,958
6 additional employees 114,333 228,667
STATEMENT
Overhead costs of
1999 2000 Total added employees 16,736 33,471
Marketing & Inter-
Sales Revenue national Trade Fair 13,617 103,611
Keyboard trays $3,522,719 3,666,370 Warranty, ASAL
Aeron chairs 21,914,319 22,381,462 GmbH 1.1% 372,639 381,677
Freight, storage &
Total Sales 25,437,038 26,047,832 51,484,871 handling 10% 2,543,704 2,604,783
Inc.s two-year contract with Herman Millers Office Pavilion. Herman Miller, Inc. had to make a strategic decision quickly.
ASALs sales projections are based on the actual numbers Office Pavilions general manager, Donald Britton, and vice
sold by their salesforce, managements prior in-house sales, president, Gary Kemp waited for a call from Jack Howard
and the outstanding results of the international trade fair. with directions from headquarters.
Exhibit 5 and 6 show pro forma income statements for ASAL
Products, Inc. and ASAL GmbH, respectively, based on those EXHIBIT 7
sales projections. Exhibit 7 shows the exchange rates from the DM/$ EXCHANGE RATES
end of September 1998 to the beginning of June 1999.
Aerons DM
The very next day everything changed. Vreni Sahli became
involved, and decisions on what actions to take were elevated Date Fx rate WSJ Cost (@ $590)
to corporate and International Sales and Distribution division September 30, 1998 1.6696 DM/$ 985.06 DM
level. Herman Miller found itself in a difficult predicament.
January 12, 1999 1.6909 DM/$ 997.63 DM
ASAL Products, Inc. had a valid and operating contract to
May 12, 1999 1.8359 DM/$ 1,083.18 DM
buy Aeron chairs and keyboard trays in the United States and
export these products to Europe. Yet there were authorized June 2, 1999 1.8882 DM/$ 1,114.04 DM
distributors and dealers in Europe with exclusive territories.
C ASE 19
EXHIBIT 1
NUMERICAL ANALYSIS
(a) Current (c) In-house (d) In-house
In-house (b) Outsource/No Production/ Production/N. American
Production/No change to bonus Transfer price factory payment to S.
change RONA structure RONA change RONA America (Rebate) RONA
Distribution Centers
N. America 14.67% 14.67% 42.52% 14.67%
Euro. Union 11.08 11.08 11.08 11.08
E. Bloc Euro 9.09 9.09 9.09 9.09
S. America 5.24 17.92 17.92 17.92
Asia Pacific 7.38 7.38 7.38 7.38
Factories
Cincinnati, Ohio 12.86 6.62 1.49 8.25
London, UK 20.80 20.80 20.80 20.80
Nova Corp
Cincinnati Margin 13.21 8.77 13.40 13.21
N.A. rebate 12.11 10.32 3.18 12.11
$734,500
Case 19 Nova Incorporated: Two Sourcing Opportunities 725
EXHIBIT 2
QUALITATIVE ANALYSIS
(a) No change (b) Outsource (c) Transfer price (d) NA rebate
Benefits
Customer Service Doing well but very Similar service Accounting change Accounting change
expensive
Internal Operations Maintain internal Less expensive. Treat as short Treat as short
Frees manufacturing relationshipwhy relationshipwhy
capacity for other penalize because penalize because
opportunities. factory in Cincinnati factory in
Less overtime. artifact? Cincinnati artifact?
Risks
Customer Service Quality concerns
Internal Operations Demotivate DC Loss of process and How to deal with No real change.
managers with product secrets. distortion in How to deal with
innovative How to deal with NA DC RONA? Cincinnati factory
solutions? Cincinnati factory No real change RONA?
RONA? How to deal with
Cincinnati factory
RONA?
MEMORANDUM
MEMORANDUM
MEMORANDUM
MEMORANDUM
C ASE 20
EXHIBIT 3
COMPARISON OF CANDELILLA WAX WITH CARNAUBA WAX
Production Process of the wax. In this manner, everything is recycled and nothing
goes to waste. After the wax has cooled down, it is broken into
The production of the candelilla wax consists of two different
smaller pieces to be fed into the second refinement process.
refinement processes. The first is done right in the field itself,
Once the cerote is brought to the facility, it is submitted to a
while the second refinement process is carried out in Ceras
second refinement process with the main purpose of removing
Deserticas facilities (see Exhibit 5).
all the impurities that the crude wax could still have, assuring
uniformity in the quality of the final product. Basically, the
process is very similar to the one performed in the fields. The
EXHIBIT 4
wax is fed into a heated caldron where it boils for several
USES OF CANDELILLA WAX hours; it is then left to cool down and broken into smaller
Candles, cosmetics Oils and lubricants
pieces in order to be packed as a final product.
Shoe polish, dentistry Electrical conductors The end candelilla wax that is sold to customers is packed
Crayons and pencils Explosives in 50 kilogram polypropylene sacks. These sacks help preserve
Insect repellents Linoleum and protect the wax from humidity and extreme temperature
Typewriter ribbons Waterproofing variations that can be present during transportation. The plant
Pharmaceuticals Paint removers
Emulsoidal wax Leather-tanning production capacity is 1,200 tons per year. Additionally, it is
Color varnishes important to mention there is an output 4 kilogram of wax per
Ointments Adhesive products 100 kilogram of plant.
Inks Cement
Paints Celluloid compounds
INDUSTRY
Candles Sealant waxes The candelilla wax industry has been very complex since its
Car polish Packaging formation in Mexico. It has been present in the Mexican
Carbon diaper Paper gumming
Matches
Republic since the late 1930s, when it was considered a very
Rubber compounds
Wax paper Projectile propulsor popular product, especially for the weapons and arms industry.
Floor & furniture polish Hardener for soft waxes During this period candelilla wax was used in bullets, inside
Textiles and plastics Molding compounds canyons, on ship building, etc., and its consumption severely
decreased after World War II ended. Later, the most known
applications of the wax today were starting to be developed,
During the first refinement process, the harvested can- and the wax regained its popularity for other industries other
delilla is transported to the extraction facility in the field. At than weapons and arms.
this point, the harvested candelilla is added to an earthen For the past 50 years, the Mexican government had tight
caldron, which is built into the ground. This caldron already is regulations on the production and sale of the candelilla wax.
filled with boiling water and a dilute amount of sulfuric acid In the past, it was traded freely, but when the government
to help extract the wax. The wax boils out of the candelilla realized the importance of this product it was taken over and
plant and floats to the top of the caldron. At this point the controlled. The government decided how much to produce,
farmers skim off the crude candelilla wax, called cerote, and at what price to sell, and to whom the campesinos or farmers
place the hot wax into a large drum to cool. After no more should sell. Later, as NAFTA was adopted (1993), the govern-
wax is left in the plants, they are shoveled out of the solution ment started to ease regulations; the candelilla wax industry
with pitchforks and allowed to dry in the hot sun; they will be was deregulated and it ended up in private hands. It was at this
used as fuel to heat the acid solution for the next extraction time when Ceras Deserticas was formed together with many
Case 20 Ceras Deserticas and Mitsuba Trading Company 731
EXHIBIT 5
PRODUCTION PROCESS
Delivery of Manufacturing
Shrubs of "cerote" to facility facility
candelilla plant First refinement
process
Breaking of Bulk of
Packaging of candelilla wax candelilla wax
candelilla wax Second refinement
process
that need to be considered, because as was mentioned before, Exports going to Europe and South America go through the
there is government backup for the ejidatarios. Therefore, port of Veracruz, while to the United States the exports are
people approaching this kind of business need to be aware of sent though Laredo, Texas. The exports that go overseas are
the way the ejidatarios work. sent by ship, while the product going to the United States is
In addition to this, considering the potential substitute sent by truck.
alternatives that can be developed for the uses of the candelilla Price is another important issue. It is usually handled in
wax, there is always a constant threat for the development of US$/ton, varying according to the destination of the product.
an exact substitute that will make candelilla wax vulnerable to The product is usually sold FOB Mexican port (Manzanillo or
the synthetic wax market. It is clear that a synthetic substitute Veracruz) or FOB border, in the case of ground transporta-
will always be more cost competitive than a natural product, tion. The current price for the candelilla wax is the following:
especially if the weather and other factors that are out of the for the U.S. market, the price is US $2,650/ton, while for the
farmers control are taken into consideration. Additionally, rest of the world, the price is US $2,700/ton. With these num-
the research in this field is well advanced especially in the bers, the 1997 figures for the export sales of candelilla wax
United States. account for US $1,026,000. This number is the result of con-
sidering the percentage sales by destination and the current
Ceras Deserticas International Trading
prices.
Ceras Deserticas has all its customers outside the Mexican Several Mexican companies have carried out joint ventures
Republic. As was mentioned before, all the main customers with American companies in order to become sole suppliers
are based in the United States, Japan, and Europe, having to the U.S. market, and the Mexican competition for Ceras
marginal exports to other places around the world. How- Deserticas is assuring a steady sales volume. Ceras Deserticas
ever, this doesnt mean that there are no Mexican consumers has been approached on several occasions by different com-
of candelilla wax. The main industries that consume can- paniesnot from the United States, but from Japan. With
delilla wax in Mexico are the candy industry (specifically Strahl & Pitsch there is a strategic alliance for the supply of
the gum manufacturers, the paint industry, and the polish candelilla wax. This company has, to date, the most advanced
industry). research and development site in the world.
The U.S. market is the main customer for this company, The possibility of selling the company, making a joint
taking around 70 percent of the total sales volume. Japan, on venture, or vertical forward integration has gone through
the other hand, accounts for 15 percent, while Europe has 10 the minds of Ceras Deserticas executives. They are will-
percent (see Exhibit 7). In the United States, the main cus- ing to look into the different alternatives to pick what best
tomer is a company called Strahl & Pitsch. On the Japanese suits the company and its future in the candelilla business
market, Mitsuba Trading Company and Chiyoda Corporation market.
are the main customers. Hermann Ter Hel Company, located Taking a step back into production, it was mentioned
in Germany, is also a customer. that Ceras Deserticas had a manufacturing capacity of 1,200
Looking at trading, Ceras Deserticas exports candelilla wax tons, while the actual output for 1997 will be only 500 tons.
to Japan through the port of Manzanillo on the Pacific Ocean. There is a real lack of capacity utilization, and improving the
EXHIBIT 7
CERAS DESERTICAS EXPORTS
U.S.A. 70%
Exports of candelilla Europe 10%
wax by destination: Japan 15%
Rest of World 5%
Case 20 Ceras Deserticas and Mitsuba Trading Company 733
EXHIBIT 8
MITSUBAS LOCATIONS IN JAPAN
export market, especially to those areas that are low (Japan, Exhibit 10). Mitsuba plans to grow as a global firm of the new
Europe and the rest of the world), is a primary concern for its age by making all functions international.
executives. This is the main reason why Ceras Deserticas exec-
utives are looking carefully at the option of partnering with a EXHIBIT 9
Japanese company. Mitsuba Trading Company is a very large MITSUBAS COMPANY OUTLINE
trading company. The advantage of a Japanese joint venture,
Established March 8, 1946
rather than with an U.S. company, is that Americans are not
interested in bringing research to Mexico, just assuring the Capital 9,860,000,000 Japanese yen
supply of the wax. On the other hand, the Japanese are willing Annual Sales 81,116,000,000 Japanese yen (actual
to invest in research and development, as well as educating 1996 sales)
the labor force of Ceras Deserticas. Employees 2,774 (2,064 men and 710 women)
Average Age 36.0 years old (36.7 for men and 33.7 for
MITSUBA CORPORATION women)
Since Mitsuba was founded in 1946, it has provided gener- Operations Production and Sales of
ator lamps for bicycles and electrical components for motor Automotive Electronic Components
vehicles, all the while maintaining and developing cooperative
relationship with the local community of Kiryu City, lying 120
km north of Tokyo (see Exhibit 8). In 1997, its capital became
Mitsuba Trading Company
9.86 billion Japanese yen (US$ 79 million) and its annual sales
were 81.12 billion Japanese yen (US$ 649 million) in 1996 (see Mitsuba Trading Co., Ltd. is located in Nitta Country, close
Exhibit 9). to Kiryu City, Gunma Prefecture. In the distribution indus-
It is expanding markets of motorization and globalization try, Japanese general trading companies have been providing
of automotive electronics. This has enabled its products to comprehensive distribution functions to their suppliers and
reach every part of the world. Recently, it has ambitiously buyers by utilizing affiliated companies and related compa-
undertaken new businesses and has expanded its enterprise nies. These functions include founding warehouses, processing
to automobile, chemicals, industrial equipment, and medi- goods, distributing processed goods to buyers, and operating
cal equipment. Mitsubas affiliated companies extend inside information systems to support distribution. Like the general
and outside of Japan covering production, sales, physical trading company, Mitsuba Trading Company has been playing
distribution, and system integration. an important role within Mitsuba group.
Since 1971, Mitsuba has promoted the establishment of Mitsuba Trading Company started business with Ceras
operations in every part of the world through technical Deserticas in 1996. It imports the candelilla wax from Mexico
cooperation with manufacturers. Additionally, it has begun and hand it over to the affiliated companies to process it.
production in North America, including two plants in the The affiliated companies produce more nearly finished wax
United States and one plant in Mexico. It has plants in South- then the secondary refiner does. In addition, these companies
east Asia and China. According to a recent announcement, transform the pebble-like candellila wax into flakes, powder,
Mitsuba will positively develop and expand all functions, or any form required by the final customers. Mitsuba Trading
including marketing, research and development, production, Company distributes this more highly processed candellila
and local sourcing, to form a Tri-Axial organization (see wax to the end customers.
734 Case 20 Ceras Deserticas and Mitsuba Trading Company
EXHIBIT 10
MITSUBAS TRI-AXIAL PLAN
Europe
America Technical cooperation 4
Localized production 2
Sales 1
Technical cooperation 1
Asia
Localized production 5
Sales 1
Technical cooperation 9
Candelilla Wax Market in Japan imported the second refinement candelilla wax at US$3.4 per
kilogram from the company. However, the quality of the sec-
Mitsuba actually dominates the domestic trading of candelilla
ond refinement wax could not meet any Japanese end-users
wax. It had been importing the candelilla wax from Mexico
requirements. Deodorization and the alien substances are the
since the 1950s as an exclusive agent in the Japanese market
main problems.
and Southeast Asian market up until the deregulation by the
Distribution channels of candelilla wax in Japan are com-
Mexican government.
plex. Mitsuba, for example, cannot sell the wax directly to one
The candelilla wax is used for various purposes in Japan.
of the biggest food companies. It has a huge demand for can-
For example, it is used for shoe polish, auto wax, insulating
delilla wax because the food company is supplied all of ingre-
tape, lipstick, chewing gum, candy, crayon, waterproofed
dients from limited numbers of exclusive trading companies,
cloth, and dyestuffs. Recently, candelilla wax use grew in
such as Marubeni and Mitsubishi. Similar situations exist for
to three industry areas: cosmetics, foods, and information
other companies that have historical relationships with big
recording devices (i.e., ink for printer and copy machines).
Japanese trading companies.
In the foods industry and the cosmetics industry, demand
for the candelilla wax is growing remarkably. Both industries Japanese Regulation
have recognized that candelilla wax is a necessary ingredient
for their products. A food company, for example, is thinking Ceras Deserticas has faced regulation by the Japanese gov-
of expanding tablet gum in the Japanese market, which is ernment regarding the export of candelilla wax as imported
dominated by Warner Lambert, a U.S. food company, and by the Japanese second refiners. The Japanese Ministry of
Lotte, a Korean owned company. Welfare is responsible for products going into Japan that may
The food industry has the lowest requirement for quality be hazardous or dangerous.
candelilla wax. On the other hand, the cosmetics and the infor- This government agency requires that candelilla wax com-
mation recording device industry have higher requirements ing from primary refiners, such as Ceras Deserticas, must go
for quality. Consequently, price of secondary refinement can- through a second refinement process in order to meet the
delilla wax in Japan is according to the users requirement. For requirements set by the Ministry of Welfare.
example, the price of first refinement candelilla wax is US$2.7 This has been a hidden trade barrier that has prohibited
per kilogram in Japan. The price of the second refinement Mexican companies from selling directly to the end consumers
candelilla wax for foods industry is US$6 per kilogram. For in Japan, having to go through the trading companies in order
the cosmetics industry, the price rises to US$100 per kilogram to reach its customers. It is important to mention that refined
because the finest refinement is required. candelilla, such as that produced by secondary refiners, is not
Several years ago, one of the big primary refiners in Mexico subject to this requirement from the Ministry of Welfare.
processed the second refinement in Mexico utilizing Ger- Mitsuba Trading Company comes into the trade chain by
man equipment with German engineers assistance. Mitsuba taking the first refined candelilla wax, treating it in order to
Case 21 The Headaches of GlaxoWellcome 735
comply with regulations, and selling it to the end users while Multiceras have established joint ventures with American
making a profit. In addition, there is a tariff for the import of companies. They are pursuing research and development to
candelilla wax into Japan of 3.8 percent; this is for either first try to create a synthetic wax that can replicate the char-
or second refined candelilla wax. acteristics of candelilla wax and meet the requirements of
end-users.
FUTURE OF THE CANDELILLA WAX INDUSTRY
DISCUSSION QUESTIONS
According to executives of Ceras Deserticas, the future of
this market is promising. They expect growth in the future, 1. Of the three options options presented at the beginning of
although they they have not made public the actual estimated the case, what should Ceras Deserticas do?
growth for the market. They are worried about the best path 2. Why would Mitsuba Trading Co. be interested in a joint
to take advantage of this growing and competitive market. venture with Ceras Deserticas?
The industry is consolidating and if Ceras Deserticas does
3. What would be the advantages and disadvantages for Ceras
nothing, it will either die or be taken over. As mentioned
Deserticas of a joint venture?
before, there are several joint ventures in which U.S. com-
panies are investing in Mexico to guarantee a steady supply 4. What strategy must Ceras Deserticas follow in approaching
of candelilla wax. Both Ceras Nacionales de Mexico and joint venture?
C ASE 21
in January 2001 as the result of a merger between GlaxoWellcome and 2 Like Amerge/Naramig, Glaxos research indicated that the name Imitrex
SmithKline Beecham. would fare better than Imigran in the U.S. market.
736 Case 21 The Headaches of GlaxoWellcome
EXHIBIT 1
The Businiess
GW Portfolio: 1998
its own particular set of guidelines and specific procedures in the U.S. (as of 1997) direct-to-consumer (DTC) advertis-
for approval, new medicines are generally developed and ing is permitted. Research has shown that DTC advertising
approved as follows: in the U.S. has a large impact on sales. The research shows
that patients requests for specific medications marketed by
1. Preclinical TestingThis is the exploratory process where specific pharmaceutical companies affect the companies sales
a pharmaceutical company identifies compounds through to physicians and hospitals.
in vitro (test tube) testing. The deliverable at the end of The other major difference in the pharmaceutical industry
this process are compounds that can enter Phase One of between the U.S. and the U.K. is the extent of governmental
Clinical Testing. coverage. In the U.K., the health care system is socialized.
Doctors are paid by the government with an additional pay-
2. Clinical Trials, PhasesThere are three mandatory phases
ment per patient. Everyone is entitled to free medical care
of clinical trials. These clinical trials study the medicines
under the plan, which is funded by the National Treasury and
safety profile, how it is absorbed and distributed, the dura-
Health Insurance Tax.
tion of its action, its efficacy, and side effects.
The U.S., on the other hand, has not employed socialized
3. ApplicationFollowing the completion of all three phases medicine, although Medicare and Medicaid cover a significant
of clinical trials, the company analyzes all of the data part of the population. Instead, the U.S. health care system
and applies for approval in the respective country if the follows an insurance-based coverage scheme whereby individ-
data successfully demonstrate safety and effectiveness. The uals buy insurance from a company, which in turn pays for
application contains all of the scientific information that the their medical costs.
company has gathered. At this point, the regulatory body
may request further information. HEADACHES AND MIGRAINES
4. Approval/RefusalOnce the regulatory body completes
Doctors classify headaches into three main types:
the professional assessment of all relevant information,
it either approves the application and the new medicine cluster headaches
becomes available for physicians to prescribe, or, if unsat- tension-type headaches
isfied, refuses to grant approval.
migraines
There is one important distinction between the U.S. and Cluster headaches are the most painful type but also quite
the U.K. in the approval stage of pharmaceuticals. In the U.S., rare and hence have not offered pharmaceutical compa-
every medication must be approved by the FDA before it can nies a sufficient market potential to profitably develop and
be marketed and sold. However, because of the existence of market a medication specifically focused on curing these
the European Union (EU), it is possible that a medication headaches. Tension-type headaches, while the most prevalent,
may be approved in member nations without being profes- are generally capable of being combated with over-the-counter
sionally assessed and analyzed by each countrys respective medications such as aspirin and ibuprofen and hence, likewise
regulatory body. This means that if one member nations do not offer Glaxo a profitable market for which to develop
(e.g. Swedens) regulatory body approves a medication, the a prescription product. Migraines, on the other hand, are
applying pharmaceutical company can either ask the other suffered by an estimated 26.3 million people in the U.S.,
EU member nations to recognize Swedens approval or 5 million people in the U.K., and at the time of Glaxos
apply to each member nation separately. If one member launch of Imigran/Imitrex, were not effectively treatable with
nation approves a medication, then all of the countries in the over-the-counter medications.
Mutual Recognition procedure have the same prescribing Migraines are complicated combinations of intense pain
information. However, if a medication receives independent (usually on one side of the head) and neurological symptoms
approvals, then the prescribing information will be unique in like visual problems, nausea, vomiting, and sensitivity to light
each country. The difference can have an effect if applying and sound, which often reduce the sufferers productivity and
in each country separately produces slightly different results concentration and in some cases render the sufferer bedrid-
in the trial phases (e.g., perhaps the trials show that a med- den. In the U.K. about 18 million working days are lost to
ication is more effective for its desired indication during migraine sufferers a year. In the U.S. approximately 10 mil-
trials in the U.K. as compared to similar trials performed in lion migraine sufferers were bedridden for more than 3 million
Sweden). days per month and experienced 74.2 million restricted activ-
ity days per year (as of 1989). Such statistics translate to lost
Marketing workplace productivity ranging from $5.6 billion to $17 billion
In general, products are marketed and advertised solely annually in the U.S. and sick pay and replacement person-
toward the final consumer. This makes sense since it is the final nel costs of 750 million in the U.K. annually. Hence, in the
consumer that ordinarily has the final say as to whether he/she early 1990s, Glaxo took advantage of the market potential for
will actually purchase the product. However, pharmaceuticals migraine-specific prescription drugs.4
are marketed to physicians and hospitals that in turn decide if
they will prescribe the medication to their patients.
4 At the time of Glaxo Wellcome Inc.s entrance into the market for pre-
U.S. vs. U.K
scription migraine medicines, although doctors were prescribing drugs for
Although it is illegal for pharmaceutical companies to adver- migraines, these drugs were not migraine-specific but rather were drugs
that were developed for general pain relief.
tise their products directly to patient/consumers in the U.K.,
738 Case 21 The Headaches of GlaxoWellcome
EXHIBIT 3
GlaxoWellcome Worldwide
Migraine Franchise
$m
1,200
1,000
800
600
400
200
0
1993 1994 1995 1996 1997 1998
ThreatsThe two main threats to Imigran/Imitrex are Exhibit 5 shows how Naramig/Amerge specifically com-
that of competition and cannibalization. Glaxo was aware that pared to Imigran/Imitrex as a migraine medication.
Zeneca was close to marketing a competitor triptan called
Zomig. Since Imigran/Imitrex had been on the market for EXHIBIT 5
over four years, Glaxo felt that Zomig would be marketed as a
second-generation triptan (an improved version of Glaxos Imigran vs. Naramig
first-generation Imigran/Imitrex). Imigran/Imitrex had also
experienced some cannibalization effects between its 3 line MEASURE ORDER (best first)
extensions (see Exhibit 3).
Speed of onset Imigran > Naramig
The Underdeveloped Migraine Market Peak efficacy Imigran > Naramig
Consistency of response Imigran > Naramig
As of 1997, the fact of the matter, was that approximately 90
percent of migraine sufferers were not being medicated with Tolerability Naramig > Imigran
a triptan (see Exhibit 4). This meant that many people were
still taking ineffective OTC drugs to combat their migraine Incidence of chest pain Naramig < Imigran
pain. Accordingly, Glaxo considered the market for triptan
drugs to have great potential. Incidence of recurrence Naramig < Imigran
EXHIBIT 4
Migraine market = underdeveloped Naramig/Amerge SWOT
Glaxo considered the strengths, weaknesses, opportunities,
48 million migraine patients
and threats of Naramig/Amerge to be the following:
586 million migraine attacks/year
StrengthsAlthough not as powerful as Imigran/Imitrex,
Triptan Rx = 10% Naramig/Amerge was effective in relieving migraine pain.
60
Its biggest strength, relative to Imigran/Imitrex was its mild-
ness; the side effects caused by Naramig/Amerge were sub-
stantially less compared to Imigran/Imitrex, which gave it
user friendly image. Its long duration of pain relief gave
Naramig/Amerge a low rate of recurrence; 67 percent of
526 patients require only one dose of Naramig/Amerge over a
24-hour period. Naramig/Amerge was able to be marketed
Million Attacks as a true second-generation triptan (an improvement on the
first) since Glaxo was the company that had introduced the
first triptan medication.
Since its introduction in 1993, Imitrex/Imigran had clearly
played a role in defining patient expectations. However, WeaknessesThe major weaknesses of Naramig/Amerge
combining its awareness that Zeneca was in the process of were twofold. First, it had a slow onset of action. This of
developing Zomig and the fact that Glaxo, as a company, was course would turn off patients looking for fast relief. Second,
always looking to bring new medications and improvements Naramig/Amerge had only been developed in tablet form and
to the forefront, Glaxo had worked on developing a second- therefore lacked marketability in terms of line extensions.
generation triptan of its own. Company research revealed that
for a new triptan product to be successful, patients and doctors OpportunitiesThe market opportunity for Naramig/
would require it to be as effective as Imitrex/Imigran but with Amerge was quite obvious. At the time of Naramig/Amerges
a longer duration of pain relief and a lower side effect profile. approval, only 10 percent of all migraine attacks were being
treated with triptan drugs. This meant that 90 percent of
NARAMIG/AMERGE migraine sufferers were either not being treated at all, or
Naramig/Amerge, Glaxos second-generation triptan, was treated with relatively ineffective medications.
actually being developed prior to the launch of Imigran/
ThreatsLike Glaxos first-generation triptan, Naramig/
Imitrex.7 Amerge/Naramig, only available in tablet form,
Amerges biggest threat came from Zenecas Zomig. Although
tested to have both a longer duration and a lower side effect
it was unclear how successful Zomig would be in stealing
profile than Imigran/Imitrex. Although Naramig/Amerge
Glaxos market share and expanding the market through sales
was considered by Glaxo to be a better triptan than Imi-
to the untapped 90 percent, what was clear was that Zomig
gran/Imitrex, in reality, there were attributes of Naramig/
was likely to be approved in both the U.K. and the U.S. prior
Imigran that were inferior to those of Imigran/Imitrex.
to Glaxo obtaining approval for Naramig/Amerge.
COMPETITION
7 Glaxo, as with Imigran/Imitrex, used the brand name Naramig in the
When Glaxo Pharmaceuticals acquired Burroughs Wellcome
U.K. and the brand name Amerge in the U.S. for this new triptan drug. in 1995, they had already launched Imigran/Imitrex (1993).
This decision was once again a product of market research.
740 Case 21 The Headaches of GlaxoWellcome
However, Burroughs Wellcome was also developing a triptan powerful means of maximizing market share, Palmer was
of its own. When the takeover took place, the Federal Trade unsure of the logistics of such an approach and worried
Commission (FTC) forced Glaxo Wellcome to divest one of about the ethical considerations of focusing the promotion
its triptan formulations because of antitrust implications (i.e., of their product in areas based on factors such as socioeco-
monopolization). Having already successfully marketed Imi- nomic status. Also, Palmer considered the fact that such a
gran/Imitrex, Glaxo Wellcome of course chose to divest the strategy may overlook patient needs.
triptan that Burroughs Wellcome had developed. (Burroughs 3. An Alternative: Whereby Glaxo would market Naramig as
only completed about 55 percent of the clinical trials.) an alternative to Imigran/Imitrex, (e.g., superior; different;
Zeneca purchased the rights to this incomplete triptan and similar). The pros of the Alternative strategy were that
finished the further development and application process of it could detract from competitor noise, and could in fact
what came to be Zomig. Glaxo had the following assumptions devalue the image of the second-generation triptan. This
about Zomig: latter aspect may be an effective way to combat Zomig.
Like Naramig/Amerge, Zomig had a lower recurrence rate The biggest drawback of this strategy was the idea that if
than Imigran/Imitrex. there were no clear message (in terms of the medication
that was best for migraines) it could lead to confusion and
Zeneca would be successful in marketing Zomig as a second- hence hurt Glaxos image.
generation triptan even though it was the companys first
triptan. This was simply an issue of timing. 4. Replacement: Whereby Glaxo would discontinue the mar-
keting of Imigran and focus solely on Naramig. This option
Zomigs efficacy was comparable to Imigran/Imitrex. fit well with the overall concept that Naramig was an over-
Zomig would be launched in both the U.K. and the U.S. all superior drug to Imigran. It would also allow Naramig
prior to Naramig/Amerge gaining approval in both markets. to gain all the benefits of a new compound: second-
PRODUCT POSITIONING: U.K generation, safety, and low recurrence. However, Palmer
worried about the confusion that would accompany such an
Sir Benjamin Palmer sat in his office weighing all the infor- approach and if a Replacement strategy would devalue
mation he had just learned in the marketing meeting. There Glaxo Wellcome in the eyes of physicians and hospitals.
was only question to be considered; the considerations were
5. Dont Launch: Whereby Glaxo would only continue to
complex; the answer to that question was crucial: the success of
market Imigran and never launch Naramig. Although this
a major product line of Glaxo Wellcome hung in the balance.
strategy might class all triptans as the same, negating
How should Glaxo Wellcome U.K., position its new triptan
Zomig as a second-generation, Palmer had already made
Naramig?
up his mind that not launching Naramig was a waste of an
Palmer wondered how U.K. hospitals and doctors would
opportunity and of resources that went into developing the
react to Glaxos promotion of Naramig when Imigran had been
medication. There was also the consideration that Zeneca
the gold standard for the past 4 years and had captured 91
would still be able to accomplish marketing Zomig as a
percent of the prescription migraine medication market share.
second-generation triptan and leave Zeneca with an open
Palmers bigger concern was how to position Naramig with
field.
respect to Imigran in order to capture the 90 percent of the
market that was untapped (see Exhibit 4). Although Naramig Naramig in the U.K.
was considered to be a better triptan than Imigran, perhaps
Palmer and his team chose a Replacement strategy for
there were new patients who would be partial to the charac-
Naramig. This involved ceasing all promotion of Imigran
teristics of Imigran. Just as important was what positioning
(except to the extent of sales for patients who were already
strategy would be the most effective in fighting off the attack
using Imigran) and positioning Naramig as the recommended
of Zenecas Zomig that Palmer expected to be launched in the
starting place for migraine patients. Palmer felt that replace-
U.K. prior to that of Naramig.
ment was the best way to attract triptan-nave patients and
Palmer had been presented by the marketing team with
capture the untapped market. Glaxo focused the promotion
five positioning strategies for Naramig:
around Naramig as a patient-friendly medication providing
1. Based Segment: Whereby Glaxo would target its market- patients with the best relief on the market.
ing efforts toward different patient types. (e.g., adolescents; The results showed that the replacement strategy met
elderly; chronic migraine; Imigran/Imitrex nonresponders; Glaxo U.K. expectations. Naramig proved to be effective for
and patients who do not tolerate Imigran). Using such a migraine headaches in the majority of patients. In terms of
strategy would allow Glaxo to promote Naramig where the 90 percent untapped market, Naramig was preferred by
Imigran was weak to increase market share. At the same 67 percent of previous non-triptan users. Exhibit 6 shows
time, though, it was not clear as to how the market should worldwide sales of Glaxo Wellcomes two triptan drugs. It is
be segmented, or how able physicians would be to identify clear that the replacement strategy thwarted the growth of
such segments. If in fact physicians had trouble identifying Imigran, and that Zomig and Naramig were both successful in
the different patient types, the effect may be to confuse the expanding the market.
prescribing process. PRODUCT POSITIONING: U.S
2. Distribution Based Segment: Whereby Glaxo would seg-
Mark Glackin was now faced with the same decision that
ment the market based on distribution channels. (e.g.,
Palmer was faced with 8 ? months earlier. What was the best
hospitals only; clinics only; private channels; less wealthy
strategy to market Amerge with respect to Imitrex in the U.S.
areas). Although Glaxo considered this option to be a
Case 22 Benetton 741
EXHIBIT 6 would have to consider this difference along with the differ-
ences in the respective health care systems. Would Glaxo U.S.
Sales (m) Triptan Revenue be successful in using DTC advertising to offer a portfolio of
700
migraine medication to various types of migraine patients, or
662.12 671.797
should the U.S. follow a similar replacement strategy as the
600 U.K. and position Amerge as the best migraine medication
539.451
500 available. Glackin considered the same 5 options for Amerge
400
positioning as Palmer had considered 8 ? months earlier for
362.346
Naramig:
300 282.588
1. Clinical/Patient Based Segmentation
200 194.304
2. Distribution Based Segment
100 6054
35 3. An Alternative to Imitrex
8
0 4. A Replacement for Imitrex
1993 1994 1995 1996 1997 1998
Imigran Zomig Naramig 5. Dont Launch Amerge at All
DISCUSSION QUESTIONS
market? Glackin had several considerations to keep in mind
including the results of the Replacement strategy chosen 1. Why is GlaxoWellcome introducing a second migraine
in the U.K., and the effect of Zomig as a competitor. As was medication?
the case in the U.K., Imitrex had largely defined the market
2. How should GlaxoWellcome position Naramig in the U.K.?
for migraine medication and had been quite successful in cap-
turing customers. Glackin also expected that Zomig would be 3. Was the actually chosen strategy (option #4) the best deci-
launched in the U.S. prior to that of the approval of Amerge. sion?
The U.S. had recently legalized DTC advertising. Glackin 4. How should GlaxoWellcome position Amerge in the U.S.?
C ASE 22
BENETTON
COMPANY BACKGROUND industries, and combines this know-how with the strong iden-
tity and image of world-leading sports brands that have been
Benetton was founded as a single shop in Italy in 1965. Three
incorporated through the acquisition of the Benetton Sport-
years later the company expanded into France. Eventually,
system business. These sports brand names are encompassed
Benetton spread throughout Europe and by 1979 it was estab-
under the Playlife label and include Rollerblade, Killer Loop,
lished in the United States. Benetton Group S.p.A is a unique
Prince, and Nordica. The clothing sector includes casual and
global group that is a part of a larger organization known
sportswear, consisting of the Sisley, United Colors of Benet-
as the Edizione Holding Group. This is the holding com-
ton (UCB), and Undercolors of Benetton brands, which are
pany through which the Benetton family has ownership in
mainly produced and distributed by the Automated Distri-
many different businesses including hotels, publishing, and
bution Center in Castrette, Italy, the factory that produces
real estate. The Edizione Holding Group as well as the Benet-
over 90 million items of clothing each year. There are pro-
ton Group was founded by the Benetton family, which is made
duction facilities in France and Spain as well. These finished
up of four siblings: Luciano, Chairman; Gilberto, Deputy
and packaged products are the dominant production cate-
Chairman and Joint Managing Director; Carlo, Director; and
gory for the company and are distributed directly to the
Giuliana, Director, who own and run the company as shown in
Benetton Groups 7,000 retail stores located in 120 coun-
Exhibit 1. Lucianos son, Alessandro, is also one of the eight
tries, of which only 55 stores are owned by the company,
Directors.
with the remaining stores independently owned and oper-
This global Benetton Group specializes in designing and
ated. The second production category for Benetton comprises
manufacturing of clothing within the textile-apparel sector of
the sports equipment and performance-wear item and a third
category encompasses items such as footwear, bags, and acces-
sories. Benettons overall turnover amounts to about 4,000
billion lire.
This case was prepared by Eunjung Jenny Chun, Juliet Freedman, and
Recently, in 2003, the company initiated an effort to diver-
Nicole Parker and updated by Sonia Ketkar of the Fox School of Business
and Management at Temple University under the supervision of Profes- sify away from its main clothing business by moving to acquire
sor Masaaki Kotabe for class discussion rather than to illustrate either Italian highway operator, Autostrade.
effective or ineffective management of a situation described (2003).
742 Case 22 Benetton
EXHIBIT 1
THE BENETTON GROUP
Edizione
80% control
Gilberto Benetton
Luciano Benetton Carlo Benetton Giuliana Benetton
Edizione Chairman/
Chairman Internal Production Activities Creative & Design
Vice-Chr. & Dir. Benetton Grp.
Italian Senator Technical Areas Operations
Financial Areas
PRICING AND LOGISTICS to think they will be happy through the purchase of the com-
panys products. This strategy challenges Benetton to come
In the mid-1990s Benetton adopted a strategy of price-
up with a selling theme that appeals to all consumers and
reduction worldwide. The strategy was designed to enable
overcomes local biases. Through this strategy, the Benetton
the company to guarantee its clients an ever more suitable
Group has developed advertising campaigns that are interna-
and competitive supply of products. Simultaneously, Benet-
tional, homogeneous, and characterized by universal themes,
ton decreased production costs. This combination of price and
which have been not only a means of communication but
cost reductions resulted in an 8 percent increase in both items
also an expression of the time. Through its universal impact,
produced and sold in 1994. Benetton also has an extensive
the company has succeeded in attracting the attention of the
system of outlet stores in which to sell clothing at significant
public and in standing out among the current clutter of images.
discounts, as a result of the price cuts.
In the late 1990s Benetton restructured its distribution net- Sport and Event Sponsorship
work in order to implement a new system that would integrate
One of the avenues through which Benetton communicates
a logistics system in which the warehouses are the systems
to all of its customers is sports. Benetton Sportsystem was
junction and are part of the distribution system rather than just
renamed Playlife in 1998. This division houses the famous
places for storing facilities. The new system would eliminate
brand name product lines, (i.e. Prince), and reflects the Benet-
fragmentation of inventories across the world by concentrating
ton Groups involvement in the sports arena, focusing on
the finished goods in three sorting centers, one in the U.S., one
the world of sports from skiing and in-line skating to ten-
in Italy, and one in the Far East. The automatic distribution
nis and snowboarding. Through the Playlife label, Benetton
system handles over 30,000 packages a day and is managed
designs sportswear clothing as well as state-of-the-art sports
by a 10-member staff, rather than a traditional system that
equipment to meet the technical demands of various athletes
requires a staff of 400. These new automated systems, along
and athletic teams. Benetton sponsors sporting teams in the
with the production facilities, have improved the efficiency
areas of basketball, rugby, volleyball, motorcycling, and until
and speed of customer service, and reduced transport costs by
recently, the Formula One racing team, which was just sold.
more than 10 billion lire in 1996. One feature that was crucial
Many young athletes acquire their first taste of sport in the
to Benettons success in its early years was its advanced dyeing
variety of junior clubs teams sponsored by Benetton. In addi-
process, whereby the finished product could be dyed instead
tion, Benettons success in communicating through sports can
of dyeing the yarn first. As tastes in color changed with the
be seen by its efforts in developing sport facilities. In 1985,
whims of the fashion industry, this innovative dyeing system
the sport center at La Ghirada outside of Treviso, Italy was
allowed Benetton to establish a customized production system
built and is used today by all enthusiasts. Also, the Palaverde,
that keeps up with the latest market trends.
a multifunctional complex, was opened in 1983 and is used for
COMMUNICATIONS sporting events as well as concerts, shows, and cultural activi-
ties with a capacity for a 6,000-member audience. Playlife, in
Benettons communications strategy was developed as a result
essence, is the passport to the Benetton world, a new way of
of the companys desire to produce images of global concern
embracing every-day life in the spirit of sport.
for its global customers. The communication strategy targets
issues rather than clothes as the leading player, with a portion Colors Magazine
of the advertising budget devoted to communicating themes
relevant to young and old people worldwide. The company Benetton communicates through its award winning, bimonthly
claims, We realized some time ago that we had a unique magazine, Colors. It is distributed in six bilingual editions in
tool for communicating worldwide, as we are present in 120 Europe, the United States, Latin America, and Asia.
countries, and that it would be cynical to waste it on self-
Fabrica Project
serving product promotion. We trusted in the intelligence
of our customers worldwide and decided to give space to The company also communicates through the Fabrica project,
issues over redundant product claims. Benetton believes it which is a workshop environment and a center of communi-
is important for companies to take a stance in the real world cations for a group of twenty students selected from countries
rather than use its advertising budget to encourage consumers around the world. Research into future trends and new ideas
Case 22 Benetton 743
is conducted among the students, who actively research the the fiftieth anniversary of the Declaration of Human Rights,
field of communications. which was approved by the United Nations General Assembly
on December 10, 1948.
Image Advertising
Unlike the traditional advertising for most companies, Benet- EXHIBIT 2
tons images do not have a copy or a product, only the HIV POSITIVE
companys logo. The ads do not tell an individual to buy Benet-
ton clothing or even imply this! Their ads simply attempt to
promote a discussion and create awareness about global issues
that might be overlooked if conveyed through other channels.
However, as far as their products are concerned, the company
advertises through its many strategically placed stores, its cat-
alogues, and fashion editorials that display them directly to
the consumer. Also, there are public relations offices in all of
the countries that have a liaison with fashion editors. These
offices utilize traditional marketing techniques to ensure the
products receive the necessary exposure or sales personnel,
among other criteria.
MARKET SHARE and draw in younger, more cost-conscious customers. The deal
fell through however, when Sears pulled the clothes off the
Americas
shelves due to consumer complaints and boycotts regarding
During the 1980s Benetton expanded aggressively into the Benettons antideath penalty campaign in February 2000.
United States, opening some 500 stores and outlets. This Overall, Benettons strategy in the United States has not been
rapid expansion caused numerous management catastrophes very successful. Sales in North America fell by 17 percent
resulting in unhappy retailers and declining revenues. Specifi- by the end of the third quarter of 2002 as compared to that
cally, Benetton encouraged retailers to open stores that were in 2000.
located too close to one another which subsequently led to
self-cannibalization. Additionally, advertisements such as the EXHIBIT 4
one showing the U.S. President with AIDS lesions caused SALES BY BRAND, 2001
many loyal American customers to boycott Benetton stores.
2001
In addition to operational blunders, Benetton was also guilty
of making fashion errors as well. In the mid 1980s, their largest
selling items in Europe were their brightly colored sweaters.
When the sweaters were introduced into the United States
as the companys signature product, it was a disaster. Subse-
quently, Benetton had to readjust their shipments and designs
to fit North American tastes. A combination of this issue
along with overexpansion led many retailers in the late 1980s
United Colors of Benetton
to take legal action against Benetton, charging that they had
Sisley
encouraged too many stores to be built too close together and
Rollerblade
failed to supply them adequately.
Prince
By the early 1990s sales in the United States had decreased Nordica
sharply. Benetton was producing clothing targeted to a Killer Loop
younger generation of 18- to 23-year-olds in the U.S.; how- Playlife
ever, they were not accustomed to paying the higher prices Other(intimate, sleepwear, swimwear, etc.)
charged by Benetton. This was a generation that was brought
up on GAP pricing strategies, which were lower and more
affordable than Benetton, and therefore, found Benettons In addition to North America, Benetton also began to
prices too high for their budget, while others were unaware establish a presence in South America and the Dutch Antilles
that Benetton also sold designer dresses and suits. (Saint Maarten) during the mid-1980s. This move was a strate-
After having 350 of its 500 stores closed by 1995, Benetton gic success, for a number of reasons. Much of South America
grew increasingly aware that they were targeting the wrong still held strong bonds with Europe, such as consumers tastes
market in the U.S. To combat the negative sales growth, in fashion. Countries such as Brazil, Argentina, and Colombia
Benetton began offering a more diverse clothing line and embraced the Italian label and therefore, Benetton had found
installed a point-of-sale system, which allowed the stores to a market full of loyal customers. However, Latin America was
feed information on sales back to the Italian headquarters. In hit severely by an economic recession during the late 1990s,
addition, in 1998 Benetton began offering its first intraseasonal which reflected negatively on both clothing as well as sporting
collections to increase its ability to respond more quickly to goods sales in most of South America.
changing market trends. By 1999, the point-of-sale system had
proven to be such a success that they had begun to test an Europe
upgraded system that would report not only the item sold but During the 1980s Benetton flourished throughout Europe.
also its size and color. Sales had increased at a double-digit growth rate and during
In 1997, Benetton made a strategic move by acquiring 57 some years even reached 25 percent. However, much of that
percent of the Sportsystem division from Edizione, and later changed during the 1990s when sales growth began to decrease
purchased the remaining shares in 1998. This acquisition pro- down into the single digits. The decline in sales, specifically
duced a large boost for U.S. sales due to its large market in 1995, can be attributed to a number of factors, including
for sporting goods equipment. To support this latest acqui- the European recession, which caused sales growth to decline
sition, they launched a $27 million marketing campaign (see sharply in certain markets (see Exhibit 5).
Exhibit 4 for sales figures). Germany, the market, that suffered the most during the
An attempt to gain a larger share of the U.S. market mid-1990s, was also Benettons largest market. In 1994, Benet-
was made in 1998 when Benetton signed a deal to form a ton released two of its most controversial campaigns, the
joint venture with Sears Roebuck and Company to design a Croatian Soldier and HIV Positive. Both campaigns fol-
line of less expensive clothing that would be sold in Sears lowed Benettons mission to support social causes and increase
department stores. The joint venture was part of a larger awareness on global issues but both also managed to provoke
strategy to expand in the United States without having to strong ill-will feelings toward the company, whose reputa-
open new Benetton stores. Sears and Benetton introduced tion was already faltering due to the recent store closings
last summer a new line of juniors, childrens, and mens in Germany. By late 1994, retailers in Germany began to
apparel, called Benetton USA, in 450 Sears stores; the line notice a decline in sales and profits. Claiming the decrease in
was expected to generate $100 million in sales in its first year operating profit was due to self-cannibalization, extreme price
Case 22 Benetton 745
EXHIBIT 5
SALES BY REGION
SALES BY REGION
$3,000,000,000
$2,500,000,000
$2,000,000,000 Europe
$1,500,000,000 Americas
$1,000,000,000 Other
$500,000,000
$0
89
90
91
92
93
94
95
96
97
98
99
2,000
2,001
cuts, and tasteless advertising (which was causing boycotts in average, the existing megastores each occupied 6,000 square
Germany), many German retailers began to publicly criticize feet; however, some megastores are much larger such as the
Benetton and two store owners even refused to pay for their Milan store, which has over 32,000 square feet. Benetton,
merchandise. In mid-2002, a German high court barred the which had around 7000 franchisees all over the world, plans to
companys HIV advertising campaign and referred to it as continue this strategy in 2003 to move toward directly oper-
anti-competitive. ated stores, mainly megastores with a lot of retail space. The
Benetton, however, attributed a decline in sales to a com- company attributes the need for this change to the changes
bination of many different factors such as the European in consumer behavior, which indicated that customers need
recession and poor management on behalf of its franchises. more space and color and light in the retail store. Benetton
Benetton did acknowledge that their pricing strategy did result plans to have 300 megastores around the world by the end
in price cuts, but justified it by claiming that they were neces- of 2004.
sary in order to maintain market share. In addition, Benetton In 1998, Europe generated 70.7 percent or $1.69 billion
also sued these two store owners for nonpayment of the mer- of Benettons volume. Industry analysts had predicted that
chandise ordered. Both store owners countered the lawsuit, European consumer spending would increase between 1998
claiming Benetton was liable for the loss of sales, which they and 2000. Estimated consumer spending was expected to
felt, was attributed to Benettons advertising strategy. The increase by 2.4 percent in Italy, 2.5 percent in Germany,
store owners lost the case and were required by the court to and 2.3 percent in France. However, contrary to prediction,
pay Benetton $600,000 for the merchandise ordered. Overall, in 2001, Europe generated only 68.7 percent of total vol-
1994 was not a good year for German Benetton retailers, ume.
as their sales dropped 16 percent or $35 million in 1994. To
Other Countries
counteract the negative sales growth in Germany, Benetton
began restructuring their sales network to create a network Benettons presence in developing nations grew heavily in the
that would be more in tune with their guiding principles of mid-1990s. In line with their strategy to conquer new mar-
business sense, creativity, and dynamism. This entailed replac- kets, Benetton opened new stores in Angola, Ethiopia, Nepal,
ing many of the smaller outlets with bigger multiproduct stores Pakistan, Syria, the Ukraine, and Vietnam, making Benetton
as well as recruiting new franchisees. the first Western company present in these local markets. In
Also in 1994, Italy and France were embroiled in contro- addition, 50 new stores were opened in China and the number
versy over disputes with Benetton. Santomo Alligliamento, of stores in Korea reached 100 by the end of 1994.
one of the largest operators of Benetton stores in Italy, sued In the mid-1990s, Asia was seen as Benettons largest
Benetton for late shipment of garments, as well as for not opportunity for growth, especially since its performance in
changing their product lines as frequently as their competi- America was hardly satisfactory. However, sales began to
tors. Despite this, sales still increased in Italy, increasing decline in the late 1990s as a result of the Asian financial crisis.
slightly less than 4 percent in 1994 and 13 percent in 1995. In 1998, the Far East accounted for 13 percent of total sales,
During this same time period Benetton was forced to pay with Japan accounting for 7 percent or $168 million. This is
$28,500 to AIDS patients in France, after a Paris court ruled a significant drop from 1997 in which Japan alone accounted
that the HIV Positive campaign was an abuse of freedom for 17 percent of Benettons total sales. The decline is largely
of expression and a provocative exploitation of suffering. a result of significant damage to the sales of Benettons Sport-
Despite negative publicity surrounding lawsuits in some system division, which relies heavily on Asian markets. In
European countries, Benetton still managed to achieve a sales 2001, Asias contribution to total revenues fell to 9.3 percent.
growth rate of 34 percent. The opening of megastores in every Korea was another market significantly hit in 1998, where
European capital by the end of 1995 supported this growth. the entire market might have been lost if Benetton had not
The strategy of the megastore is to gain a larger share of the reacted quickly. By setting up a manufacturing and distribut-
market by offering clothes for the entire family. By 1999, on ing joint venture with a local Korean operator, they were
746 Case 22 Benetton
able to circumvent a complete loss of their Korean market. only 16 percent, or $384 million, of Benetton sales in 1998 and
However, the decrease in Asian clothing sales had little impact 15.6 percent in 2001.
on the companys overall clothing sales, mainly attributable The total Japanese market for apparel was estimated at
to the fact that Asia accounted for only 15 to 17 percent of approximately $35 billion as of 1999. The apparel market in
Benettons global clothing sales. Profits would have risen 33 Japan was growing at 10 to 15 percent annually until 1996,
percent rather than the actual 18 percent if Sportsystem had despite a slow economy and a stagnant domestic apparel
not suffered such a loss from the Asian financial crisis. market since the early 1990s. In particular, Japans apparel
However, in spite of the financial crisis that occurred in the imports enjoyed a remarkable increase of a 15 to 20 per-
late 1990s, Benetton announced in 1998 its plans to open three cent annual growth until 1996. Japans gross domestic product
new megastores in Japan beginning in the spring of 2000. The (GDP) registered a real growth rate of 0.9 percent in 1997.
strategy was based on a dip in property prices, which would This was the first time in three years for the figure to fall below
allow Benetton to buy property in Japan relatively cheaper one percent and was the lowest level among major devel-
than in the past. oped nations. According to 1997 statistics compiled by the
Ministry of Finance, the major countries from which apparel
OPPORTUNITIES
is imported and their respective percentages of the import
Communication Sources market are: China, 69.4 percent; Italy, 8.2 percent; Vietnam,
3.6 percent; Indonesia, 2.5 percent; and the United States,
Europes Internet commerce industry is starting to pick up,
2.4 percent. The high market share from China and Viet-
following the lead by the United States, where over 70 per-
nam is due to Japanese manufacturers increasing use of their
cent of the worlds e-commerce business took place over the
joint-venture sewing mills in these countries, where lower-cost
past year, according to market research company International
labor is available. Imports from Italy were stable over time
Data Corporation. The research firm Jupiter Communications
due to the deeply implanted good brand image of Italian
reported online retail sales in Europe would reach $3.3 billion
fashion among Japanese consumers. Italian apparel compa-
in 2002, up from $165 million in 1998. In December 1999,
nies are currently trying to regain their 1980s position in the
when Benetton announced it would begin selling products on
Japanese market through the creation of classic-casual types
the Internet, its share surged nearly 13 percent, resulting in
of womens wear at reasonable prices. Benetton, looking to
its largest one-day rise in more than one year. Online sales
capitalize on its Japanese customers, has targeted this market
will allow the company to access markets where it has low
as an opportunity for future growth based on economic and
penetration and where e-commerce is more developed, such
cultural aspects such as their loyalty to Italian brands and
as in the U.S.
the countrys growing economic status. Since Japan is a high
In India, Benettons advertising is concentrated on a
context country, Benetton should see this as an opportunity
renewed focus of communication. Benettons image in India
to extend on their already strong relationship as Japan moves
was considered a discounted brand, since they usually limited
into a period of economic growth.
their advertising to only two end-of-season sales. However,
recent television commercials were received positively by both France
franchisees and consumers. This kind of positive feedback
There appear to be numerous opportunities for companies to
could result in a new opportunity for Benetton by focusing
successfully penetrate the French market to gain market share.
more on media channels such as television and radio, rather
The size of the apparel market in France has been growing
than billboards or magazines.
over the last three years, as well as increasing amounts of the
In addition, Benetton had great success with their two-
total exports and imports. Benetton could capitalize on this
tiered approach, specifically with the launch of their Sportsys-
growing demand for apparel among the French population.
tem division. This approach was taken in order to gain a larger
share of the U.S. market without having to abandon their
APPAREL MARKET IN FRANCE
traditional image campaigns. By allowing their U.S. retailers
more flexibility when choosing which advertisements to use
(MILLIONS U.S. DOLLARS)
for a selected campaign, they were able to circumvent any 1997 1998 1999
potential loss of market share and also retailer dissatisfac-
tion. Benetton could use this strategy when developing future Total market size 37,739 37,850 38,228
campaigns. Total local production 15,130 14,800 14,948
Japan Total exports 22,260 22,295 22,740
Total imports 29,043 30,164 31,068
To increase sales in the future, the U.S. and Japan should lead Total imports from U.S. 1,452 1,206 1,218
the way as an opportunity for increasing Benettons total rev-
Exchange rate: USD 1.00 FF 5.75 FF 6.00 FF 6.10
enues, even though the company expects Italy and Germany
to remain its top two markets. Japan is currently recovering
from a financial crisis, which should lead to increased oppor- Belgium
tunities for future growth in Benettons sales and profits. The Consumer spending in Belgium is picking up after over five
Asian financial crisis dramatically affected sales of Benettons years of flat, and even depressed, consumer demand levels.
sporting goods line in Japan, causing a 10 percent drop in sales Consumption grew 3.6 percent in 1998, due to increases in real
in 1998, and 17 percent in 1997. This required Benetton to income per household and consumer confidence. Economic
acquire more sportswear revenues in the U.S., which produced forecasts are pointing to steady growth of about 3 percent for
Case 23 Two Dogs Bites into the World Market: Focus on Japan 747
C ASE 23
EXHIBIT 1
CREATOR DUNCAN MACGILLIVRAY WITH, GLASS OF ORIGINAL
DRAUGHT TWO DOGS
EXHIBIT 2
EARLY COMPETITORS IN AUSTRALIA
expansion program in 1995. Its first market entry was into Following its U.K. market success, and utilizing its pro-
the United Kingdom. In the Northern hemisphere summer of duction base within the European Union, TWO DOGS
1995, riding on the back of the close historical and cultural commenced export from the U.K. into continental Europe
connections between Australia and the U.K. (including com- including Denmark, Finland, France, Germany, Italy, the
mon language and similar legal and regulatory systems), the Netherlands, Norway, Sweden, and Switzerland.
first eight shipping containers of TWO DOGS arrived in the Around the same time, in June 1996, TWO DOGS
U.K. TDI initially adopted a direct export strategy, selecting commenced its U.S. market entry. Learning from the U.K.
and appointing a relatively small but well-established English experience and also due to high import duty on alcoholic bev-
cider maker as its exclusive distribution partner. The appear- erages, TDI adopted a licensing strategy incorporating local
ance of TWO DOGS incited massive consumer interest, production from the start. By 2001, with annual sales around
such that it was impossible to meet the surging demand given the one million cases, TWO DOGS was voted as one of the
the six-week shipping time from Australia. Therefore TDI Hot Brands in the U.S. by Impact magazine.
quickly moved to a licensing strategy, allowing TWO DOGS The third key market in TDIs international expansion
to be produced in the U.K. Within six months of its official program was Japan. TDI realized it needed distribution
launch in May 1995, TWO DOGS outperformed the initial strength to be successful in Japan and in 1997 formed
annual sales target of 300,000 cases, and went on to achieve an exclusive import and distribution agreement with Kirin-
one million cases in 1996. Seagram, a joint venture between Japans leading brewer
Case 23 Two Dogs Bites into the World Market: Focus on Japan 749
Kirin and international spirit company Seagrams. A direct PRODUCTS AND BRANDING
export strategy was possible due to the relative proximity
Product
of Japan to Australia, only two weeks away by ship. Brand
awareness was built gradually, first in Tokyo bars only, then TWO DOGS is a fermented beverage made with real
expanding nationally. By 2000, TWO DOGS distribu- lemons. No alcohol or spirit is added at any stage during
tion had extended from bars into most major convenience the brewing process as all the alcohol is derived from the
stores, and achieved the one million case sales benchmark fermentation. While the flagship is the Australian Original
in 2001. Lemon Brew, other flavors have been developed to expand
the range including Orange, Apple, Raspberry, and Blackcur-
TWO DOGS PATH TO INTERNATIONALIZATION
rant brews, all with around 4 to 5 percent alcohol content.
TWO DOGS rapid internationalization is rare for a small TWO DOGS is packaged in a variety of single serve packs
company. By 1997 TWO DOGS had built a product pres- to suit the market conditions with bottle sizes ranging from
ence in over 35 countries serviced by production across three 250 ml to 355 ml and draught product is still available in
continents, for which a detailed list is shown in Exhibit 3. selected markets. Examples of some TWO DOGS products
Overall, TDI has been able to achieve its rapid expansion are shown in Exhibit 4.
by combining direct export strategies with licensed produc- Following its unusual name, a key feature on the pack-
tion within some key markets, alleviating the need to invest in aging is the distinctive TWO DOGS brand logo, shown in
capital equipment by utilizing its partners excess production Exhibit 5. Depicting two bulldogs, the logo communicates fun,
capacity. honesty, and companionship to consumers, and is used as a
TWO DOGS strive for internationalization can be vehicle to position the brand as irreverent and mischievous,
attributed to MacGillivrays entrepreneurial nature combined capturing the perceived larrikin nature of Australians.
with his background in commodity trading and shipping busi-
The Alcoholic Fruit Beverage Market
nesses. As with most entrepreneurial activities, TDIs early
expansion took place with limited capital. The alcoholic fruit beverage market seems to have emerged
In February 1997, Pernod Ricard acquired TWO DOGS, less than a decade ago. With its sweet flavor along with mod-
ensuring a strengthened resources base that has allowed TDI erate alcohol content, core consumers were young adults and
to pursue its global expansion and brand-building activities. women who did not like beer or the taste of traditional wine
By 2001, the retail value of the TWO DOGS brands sales and spirits. In particular, the young adults to whom these
approached A$100 million, the majority being in overseas drinks appeal often demonstrate low brand loyalty and switch
markets. brands readily, in search of novelty. This type of lifestyle
EXHIBIT 3
TWO DOGS INTERNATIONAL NETWORK IN 1997
Australian production serves U.K. production serves markets
opportunities in: Europe:
Australasia, Asia and Middle East Great Britain
New Zealand Scotland
China Ireland
Hong Kong Austria
Japan Bermuda
Singapore Cyprus
Taiwan Denmark
Malaysia Finland
Thailand France
United Arab Emirates Germany
Bahrain Gibraltar
Sri Lanka Greece
Papua New Guinea Italy
Guam Malta
Netherlands, Belgium, and
U.S. production serves North and Luxembourg
South America: Norway
United States Spain
Canada Sweden
Brazil Switzerland
750 Case 23 Two Dogs Bites into the World Market: Focus on Japan
EXHIBIT 4
EXAMPLES OF TWO DOGS PRODUCT RANGE, IN 330 ML
AND 250 ML BOTTLES
within 20 to 30 age group was estimated to be about 19 million2 Based on this, TDI sought a local company with a well-
and accounted for 15 percent of the total population of Japan. established network to distribute TWO DOGS in Japan. The
formal selection process included an initial search, cost and
Economy risk analysis before a decision was made. After investigation,
Japan is the worlds second largest economy, after the United TDI identified the major companies in the Japanese liquor
States. The Japanese economy is 12 times that of Australia but industry, and through its international contacts arranged an
has remained in a prolonged state of recession for the last few introduction to Kirin-Seagram Ltd, a subsidiary of Kirin Brew-
years. Private sector demand remains sluggish due to uncer- eryJapans leading beer company. Aside from its strong
tain economic times. Despite stimulus packages introduced distribution capability, Kirin-Seagram was evaluated highly
by the government, Japans economy remains stagnant, which for its marketing expertise in the liquor industry, as it was
has led to fundamental changes in business structure such as clear to TDI that a very close understanding of the Japanese
the breakdown of traditional interlinked (keiretsu) business consumer would be necessary for success.
relationships. Together, TDI and Kirin-Seagram carried out more exten-
Nevertheless, Japanese consumers per capita income is sive research based on consumer surveys and focus groups of
among the highest in the world (A$ 70,000 in 1999)3 . The rel- different age groups. The research focused on taste, pack-
ative size of the Japanese market (in terms of population and aging, and labeling. Feedback from the research showed
affluence) coupled with its small agricultural resource base positive reactions from respondents. They liked the taste and
presents a good opportunity for food and beverage exporters. responded to the TWO DOGS logo positively as cute.
Japan is Australias largest foreign trading partner with mer- Based on this research, TDI proceeded confidently to launch
chandise exports from Australia worth A$21.3 billion in 2000, TWO DOGS in Japan with Kirin-Seagram as its exclusive
and the composition becoming increasingly diversified with distributor in 1998.
processed foods and beverages4 . Secondary Research
Therefore, despite the fact that Japans economy was in a
state of long-term recession, TDI determined that per capita Even after launch, ongoing product testing and consumer sur-
income was sufficiently high that consumers would be able to veys were conducted to ensure the brand continued to retain its
afford foreign luxury products, such as TWO DOGS. appeal with Japanese consumers, and to evaluate the effective-
ness of advertising campaigns. Consumer surveys conducted
Political and Legal Environment soon after launch found that Japanese consumers found the
Overall, Japan has a high level of political stability. Fur- 350 ml TWO DOGS bottles too large; TDI reduced the
thermore, although the Japanese government has little direct bottle size to 250 ml, and even though the smaller bottle was
involvement in the operation of the private sector, through sold at the same price, paradoxically, sales increased.
its ministerial bureaucracies, it maintains tight supervision of In addition, brand-tracking data were periodically gathered
firms via regulation and mandatory administrative guidance5 . using independent research companies to conduct surveys
However in regards to trade barriers, the deregulation trend every six months. Consumers would be surveyed on a range of
is in favor of foreign exporters; for example, the customs duty dimensions including their level of brand awareness (whether
will be abolished on beer and low malt effervescent alcoholic they had heard of TWO DOGS) and advertising awareness
beverages in 2002.6 (whether they could recall seeing a TWO DOGS ad), as
TDI obtained specific information regarding the customs well as their recent drinking habits and purchase intentions.
classification of its product and the applicable customs duties Consumers awareness of the TWO DOGS brand rose from
and liquor taxes in Japan, in order to calculate whether the 40 percent in April 2000 to over 80 percent by June 2001,
landed unit cost of its product appeared commercially viable. demonstrating the success of an intensive national television
campaign that was run over the same period. From a com-
Industry Trends parison of the same data collected on other alcoholic drinks,
Finally TDI considered broad consumption trends especially it was possible to also evaluate whether TWO DOGS was
of alcoholic beverages. TDI found that from 1990 to 1997, increasing its awareness and purchase intention relative to
beer consumption was declining, spirits were flat, while wine competitors, which serves as an indicator of improving market
was growing rapidly from a small base. These changing con- share and market positioning.
sumption patterns indicated that drink trends were shifting, ADAPTATION OF THE MARKETING MIX
and could indicate an opportunity for low alcohol drinks such
as TWO DOGS. Product
Primary Research The TWO DOGS Lemon Brew product required no adap-
Having identified that Japan was an attractive market, TDI tation to meet the requirements of the Japanese market.
needed to assess whether the TWO DOGS product would Japanese consumers liked the taste, appreciated the unique
appeal to Japanese consumers. The first step was to attend concept of a naturally fermented lemon brew, and the for-
Foodex in Tokyo, the worlds largest food and beverage trade mulation met the necessary regulatory requirements for its
show, which offered the opportunity of conducting a large liquor classification. Later, after Lemon Brew was established,
number of taste trials directly with Japanese consumers of other flavors of TWO DOGS were developed or adapted
various ages, gender, and socioeconomic status. This initial specifically for Japan. The first, launched in 2001, was TWO
consumer feedback was positive; most people seemed to like DOGS Blackcurrant Brew which needed to be renamed
the taste of TWO DOGS. Cassis Brew as the Japanese did not recognize the word
752 Case 23 Two Dogs Bites into the World Market: Focus on Japan
Blackcurrant. Then TWO DOGS Lychee Brew was its initial launch, so it has built a relatively strong presence
developed specifically to appeal to the particular tastes of in metropolitan bars, western-style restaurants, but also in
Japanese consumers. Izakaya chains (casual Japanese pubs). After this, TWO
DOGS distribution was expanded into the off-premise with
Packaging
a key focus being convenience stores, such as 711 and Family-
Notwithstanding the inclusion of Japanese language on the mart, as this is where the majority of the young adults targeted
labels, there are two areas in which TWO DOGS packaging by TWO DOGS tend to shop, perhaps on their way out to a
had to be substantially adapted in order to succeed in the party or while coming home from work. TWO DOGS is also
Japanese market. The first was the bottle, which included the sold in supermarkets, where it is available mainly for those
adjustment of bottle size from 350 ml to 250 ml as well as a who enjoy consuming the product at home. With its relative
change from its traditional green glass to clear glass bottles, premium price, discount stores are not a targeted channel for
which are considered easier to recycle in Japan. The second TWO DOGS.
was a series of changes to the bottle cap: the original prod-
Price
uct had a crown-seal cap (like beer) which requires a bottle
opener. When TWO DOGS distribution was extended to Retail prices for most consumer goods are relatively high in
the off-premise, the cap was changed to a ring-pull cap Japan; therefore it is expected that TWO DOGS is relatively
which is able to be opened by hand and therefore more con- more expensive than in its home country. In Australia one 330
venient. However Japanese consumers were unfamiliar with ml bottle of TWO DOGS can be purchased at about A$2.00
ring-pull caps and found them difficult to open, so finally the dollars in the off-premise and A$5.00 in the on-premise, while
product was changed to a screw cap as found on soft drinks. in Japan the 250 ml bottle is priced (in Yen) equivalent to
Exhibit 6 shows the different TWO DOGS bottles and A$3.50 in the off-premise and up to A$9.00 in bars. The key
caps sold in Japan at various times. pricing issue for TWO DOGS in Japan is its premium price
against most of its competitors. Locally made chu-hi drinks
Place
are priced at Yen 130 while TWO DOGS is around Yen
The distribution channel for liquor can be divided into on- 220 per bottlea 70 percent premium. This pricing is in line
premise and off-premise. On-premise refers to outlets with the premium positioning of the brand and is influenced
in which consumers buy and consume the product in the same by several factors:
place (i.e., on the premises) such as pubs, discos, bars, and
restaurants. Off-premise refers to retail stores in which the
Support to position its brand as premium brand.
products are consumed away from the point of purchase such
as convenience stores, specialty liquor stores, and supermar- Heavy spending on advertisement and promotion
kets. In Japan, the TWO DOGS brand was established in Cost of adaptation of products on bottle size and cap
the on-premise exclusively for the first eighteen months after Cost of importing the product.
EXHIBIT 6
PACKAGING CHANGES FOR JAPAN (FROM LEFT TO RIGHT):
350 ML WITH CROWN CAP, 250 ML WITH CROWN CAP, 250 ML
BOTTLE WITH RIPCAP, AND 250 ML BOTTLE WITH SCREW CAP
Case 23 Two Dogs Bites into the World Market: Focus on Japan 753
EXHIBIT 7
TWO DOGS POSTER IN AUSTRALIA
EXHIBIT 8
TWO DOGS POSTERS IN JAPAN
754 Case 24 ABC Chemical Company Goes Global
The ongoing economic recession in Japan will continue 2. What effect would lowering its price have on its brand
to erode consumer purchasing power and confidence; luxury positioning?
goods will suffer as consumers move toward cheaper products. 3. Would lowering its price require TWO DOGS to change
This is already becoming evident: consumption of cognac and to a licensing strategy? If so, should local production be in
premium whisky is declining in Japan. Since TWO DOGS Japan? Or in nearby Asian countries with lower manufac-
was launched in 1998, there has been massive growth in the turing costs, such as China or Thailand?
sales volume of cheaper products, such as Can Chu-Hi and
4. What other options does TWO DOGS have? Could the
Hyoketsu Chu-Hi. These locally made Japanese brands are,
company change to a multi-brand strategy by introducing a
in convenience stores, almost half the price of fully imported
new brand targeting the low-end segment?
TWO DOGS.
DISCUSSION QUESTIONS
1. Should TWO DOGS maintain its premium price and thus
risk losing volume growth to cheaper products during the
recession?
C ASE 24
Maintaining quality standards similar to other ABC Chem- certify that he/she is not aware that any other employee has
ical Company plants violated the code.
Maintaining company code of conduct and ethical standards Portions of the Purchasing section of the code of conduct
are reported below:
Disadvantages include: Relationships between ABC Company and its suppliers
should be based on mutual respect and integrity. These rela-
One to two years to build a facility, slowing speed to market tionships should be maintained at the highest standards of
(competitors already producing, including North American business ethics. [. . .] Under no circumstance may an ABC
and European manufacturers who have partnered with local employee misrepresent a competitive situation to a supplier.
firms as well as thousands of small local competitors) ABC Company does not require nor does it expect any form
Exporting from U.S. facilities at a loss of entertainment, promotional gifts or holiday cards as a con-
dition for doing business. It is strictly prohibited for an ABC
Lack of local partners and knowledge may impede entry
purchasing agent to solicit any gifts or entertainment or accept
into market
spontaneous nominal gifts valued in excess of $50; accepting
While ABC Chemical Company builds their factory in any cash gift; traveling at a suppliers expense or participating
China they will continue to supply Asian customers from their in a supplier-sponsored training seminar that is extravagant in
North American manufacturing facilities, at a substantial loss nature. [. . .] Any supplier or employee who suspects that an
due to logistical and transportation costs. ABC employee is not operating within the Code of Conduct,
should promptly report their suspicion anonymously to the
COMPANY OVERVIEW ABC Compliance Hotline at 1-800-123-4567.
ABC Chemical Company is one of the worlds largest man- The General Code of Business Conduct repeats, in part,
ufacturers of specialty chemicalstechnologically sophisti- the provisions mentioned in the Purchasing Code, and adds
cated materials that find their way into applications in a the following:
variety of major markets. Consumers never see most of Gifts of cash or property may not be offered or made to
ABCs products; rather, they are used by other industries any officer or employee of a customer or supplier or any gov-
to produce better-performing, high-quality end products and ernment official or employee unless the gift is legal, nominal in
finished goods. The history of ABC Chemical Company has value (less than $50) and approved in advance by a Director or
been a series of innovative technical contributions to science Business Executive (in most countries it is illegal to make gifts
and industry, usually taking place behind the scenes. to government officials).
Markets where extensive use is made of ABCs products Conflicts of interest: any employee who has a financial inter-
include the paint and coatings industry, electronics, household est or performs work for a company with which we do business
products/detergents/personal care, water treatment, adhe- or compete, must disclose such conflict to the respective Director
sives, plastics, and salt. In every corner of the world, ABC or Business Executive.
products are Quietly Improving the Quality of Life. Securities Transactions: at times, some ABC employees
In the late 1990s, ABC acquired two great compa- may become aware of confidential information that has not yet
niesRonlea (name changed), a maker of electronic chem- been disclosed to the general public. In those cases, the infor-
icals, and Tomro International (name changed), a global mation must be held in strict confidence. Those who became
producer of specialty chemicals and salt. aware of such information may not buy or sell company stock,
ABC has sales of approximately $6 billion and more than nor advise others to do so, until the information has been made
17,000 employees. It operates nearly 140 research and man- available to the general public.
ufacturing locations in 27 countries. The company has more Safety, Health and Environmental laws: ABC conducts its
than one hundred ISO 9000 and more than twenty-five ISO worldwide operations and manufactures its products in a way
14000 EMAS registrations around the world. Worldwide head- as to not harm the environment and the health and safety of its
quarters are located in the United States. ABC is a Delaware employees, customers and the public. ABC is also committed
corporation whose stock is traded on the New York Stock to complying with all local applicable laws and regulations.
Exchange under the symbol ABC. Accounting records: ABCs financial statements and the
ABC is committed to being a good neighbor and responsi- books of record on which they are based must accurately reflect
ble corporate citizen. At various places on their web site there all corporate transactions. All receipts and disbursements must
are discussions of a number of initiatives, including Responsi- be accurately reflected on the accounting books, and ABCs
ble Care, Community Advisory Committees, and activities records must disclose the nature and purpose of all corporate
centered on the health and safety of employees, customers, the transactions. [. . .] ABC employees are instructed to cooperate
communities where they are located, and the environment. fully with both internal as well as external auditors and withhold
no information from them.
ABC CHEMICAL COMPANYS CODE OF CONDUCT Other accounting and internal control provisions pertinent
ABC Company stresses the importance of its code of conduct to the case study are as follows:
to each employee worldwide. The code is strictly embraced
and enforced at all levels of the organization: from the CEO
and the Board of Directors to each entry-level salaried staff 1. Bank accounts: the corporate treasurer must approve the
position. In fact, once a year each salaried employee is asked establishment of all bank accounts.
to: 1) sign the Code of Conduct and certify that he/she has not 2. Financial arrangements: the corporate treasurer must
violated any of the ethical provisions contained in it; and 2) approve all financial arrangements with banks such as:
756 Case 24 ABC Chemical Company Goes Global
loans, sales or purchases of securities; dealing in foreign 10. Accounting records: all corporate transactions must be
currency; etc. reflected in the accounting records. Any fictitious or unau-
3. Cash disbursements: every disbursement (with the excep- thorized entries are strictly forbidden.
tion of petty cash) must be supported by an approved INDUSTRY OVERVIEW
Purchase Order or Check Request. The full name of the
payee must be recorded on the payment. Checks may not Powder Coatings (dry paint), a relatively new technology,
be made payable to cash, bearer nor the individual is an economical and environmental improvement over the
approving the transaction. traditional liquid paint. It is mostly used by Original Equip-
ment Manufacturers (OEMs) and by small custom job-
4. Employee compensation: all payments to employees must
shops.
be justified based on services rendered. Employees may
The application characteristics of powder coatings provide
not be asked to refund a portion of their compensation or
superior consistency and uniformity of finish. They provide
spend it in an illegal or unethical manner.
extremely tough, durable coats, enhancing the high-quality,
5. Billing: all shipments must be billed promptly and accu- value-added image of consumer products. In general, per-
rately. formance properties such as impact resistance and corrosion
6. Cash receipts: all checks made payable to the Company resistance of powder coatings are better than liquid paints.
must be deposited in an ABC checking account promptly. Powder-coated parts resist cracking and peeling during han-
Checks received from customers may not be endorsed dling and normal service use. In many cases, merchandise is
to a third party as a means of payment for our pur- specifically being advertised as powder coated because of
chases. the quality image it projects.
7. Sales agents and commissions: only respected and compe- Environmental issues are of significant interest and impor-
tent agents or distributors may be hired to represent ABC tance to the government and general public today. Unlike
Company. All commission payments must be properly many liquid paints, powder coatings are compliant with envi-
recorded on the accounting books with full documentation ronmental regulations. Liquid paints often contain solvents,
including the name of the payee, the commission rate, the which can contribute to air pollution and, in some cases, ozone
product sold and the customer orders involved. Cash pay- depletion. Powder coatings are free of such pollutants. Wet
ments, payments to unnamed individuals or disguised bank painting processes can generate sludge, which must be dis-
accounts are not permitted. posed of into hazardous waste landfills. Properly formulated
powder coatings generate no such hazardous waste. The con-
8. Consultants: all engagements with consultants and advisors sumer can feel good about buying a powder-coated product,
must be based on ABCs needs for technical or profes- which is environmentally responsible.1
sional assistance. The background and professional ability The global powder coatings market registered an estimated
must be scrutinized carefully before engaging a new con- $3.5 billion in sales in the year 2002. The three major markets
sultant. All invoices received and paid must accurately are Europe (with sales of $1.3 billion), North America (with
describe the services rendered and the basis for the fees sales of $1 billion), and Asia Pacific (with sales of $0.85 billion)
charged. (see Exhibit 1).
9. Unusual business transactions: all transactions outside the The global powder market is dominated by three major
normal course of ABCs business (sale of scrap material, players (see Exhibit 2):
leasing of buildings and equipment, entering into a new
business activity, etc.) must be authorized by a Business 1 Source: ABCs website.
Unit Manager or a Vice-President.
EXHIBIT 1
GLOBAL POWDER COATINGS MARKET
$200 $150
North America
$1,000 AGR 6-7%
Europe
AGR 3-4%
$850 Asia Pacific
AGR 12-15%
Latin America
AGR 10-12%
Rest of World
AGR 10-12%
EXHIBIT 2
GLOBAL POWDER MARKET POSITIONS
ABC Company
6%
Delco
11%
F
5%
P
4%
G J
H B 3%
2% T V 3%
3% 3% 3%
1. Wooden Shoes, a Dutch company, is the market leader higher price per pound. ABC Chemical Company is the mar-
commanding 13 percent of the worldwide market. Wooden ket leader in North America, specializing in highly customized
Shoes is the leader in Europe and in Asia Pacific. and specialty powders. ABCs strengths are:
2. Delco, a U.S.-based corporation, owns 11 percent of the Color-matching abilities
global market, with a second-place position in all three
major markets, including Asia.
Speed of delivery
establish a presence in the new market, ABC faces losses due are access to cheap raw materials (petroleum-based resins),
to shipping charges and tariffs, as well as having to lower lower environmental regulations, competitors and customers
price in order to compete against local Asian manufacturers are already there, and the access to cheap unskilled and
capable of producing at a fraction of ABCs costs. semi-skilled labor. All of these factors would allow ABC to
maximize its profit potential.
EXHIBIT 3 ABC Chemical Company had been considering several
ASIA PACIFIC MARKET POSITIONS sites in China, all along its populated and developed east-
ern shore (see Exhibit 4). Markets that met the final cut
ABC Wooden Shoes Delco
0% 9% 4% included Guangzhou, Shanghai, and Fuzhou. Each market
F had its strengths; Guangzhou benefited from its proximity to
3%
Hong Kong, which led to capitalistic laden tendencies in this
N
3% part of China that might help ABCs business operations from
a functional standpoint. The port provided access to major
shipping routes to the rest of the world, which was attractive
D
3% to ABCs customers. Fuzhou had similar attributes and was
close to Taiwan as well. Shanghai was a major port city and in
1,000+ Others
78% the areas surrounding it, much manufacturing capability was
present and much new construction was taking place.
In the end, ABC chose to locate in the Shanghai region of
China. While each market would serve ABCs needs, manage-
ment felt that Shanghai made the most sense based on their
current needs and future expectations. Management guessed
that many potential future customers would likely choose to
CHINASHANGHAI REGION enter China or expand their presence in China via a Shanghai
The rationale to locate in Asia was driven by several factors, area production facility. Thus, ABC would be close to many
most notably the increasing size and importance of the powder of its customers and be able to ship to them quickly at a low
coatings market in the Pacific region and the ability to enjoy cost. Furthermore, the infrastructure between cities in China
lower labor costs. Additionally, the logistics of shipping U.S.- is quite poor. Shanghai is centrally located along the coast and
produced powder coatings to Asia made selling to the Asian thus if land-based transportation options broke down, ABC
market in a profitable manner impossible. Since this region could utilize ocean-based shipping options to serve China.
is home to much manufacturing as well as several developed Another important benefit was that Shanghai provided good
and emerging markets, ABC needed to have a production geographic proximity to most other Asian manufacturing and
facility in Asia in order to serve that region. In fact, its major consumer markets in Japan, Korea, and Taiwan.
competitors are already operating there! BUSINESS PRACTICES IN CHINA
When choosing which country in Asia from which to oper-
ate, the answer quickly became obvious: China. China is Ideologically, China is a socialist country, but in an economic
home to the lions share of the manufacturing facilities that sense, the country is displaying some capitalistic tendencies.
require powder coatings. Traits common to China that are not The country has been willing to embrace some concept of a
all present in most other Asian countries being considered free market in order to foster economic growth. Examples of
EXHIBIT 4
CHINA AND NEIGHBORING REGIONS
Case 24 ABC Chemical Company Goes Global 759
this relaxing of ideology may be seen simply in the fact that The United Nations Code of Conduct on Transnational
foreign multinational corporations (MNCs) are operating in Corporations
the country.
Despite the fact that China has opened somewhat, there Over time, these accords have set up a series of explicit guide-
are still systems (both stated and implied) in place, which lines for the behavior of international companies in countries
restrict freedom for economic growth. In the more official in which they operate; outlining codes of conduct, basic obli-
sense, Chinas equity markets are closed to private startups gations, and upholding policies benefiting basic human rights.
and there is widespread piracy, restricting economic growth. The broad categories regulated are employment practices,
As well, the government maintains price controls in over consumer protection, environmental protection, political pay-
twenty industries, censures the press, and does not allow full ments, and basic human rights.
Internet access. Unofficial systems in place in the country, The political payments section is most germane to ABCs
which tend to impede efficient markets, are the nuances of entry into China. The various accords noted above speaking
getting things done, namely bribery and facilitating payments. on this topic say the following:
In China, there are many rules, but not necessarily laws.
The rules are subject to change at anytime by anyone, pro- MNCs cannot pay bribes or make improper payments to
vided you have the right access to government officials willing public officials
to alter their views. Additionally, there are multiple govern- MNCs should avoid improper or illegal involvement or
ment agencies/ministries with overlapping jurisdictions. The interference in the internal politics of host countries
main government body is known as the State Council, which is MNCs should not interfere in intergovernmental relations.
the highest administrative body in the country. Other govern-
ment agencies that have an effect on commerce, particularly While these guidelines were expected to limit corruption,
international trade, include the Ministry of Foreign Trade and bribery remains pervasive. The United States went a step fur-
Economic Cooperation (MOFTEC), State Administration for ther than the U.N. dictates and passed the Foreign Corrupt
Industry and Commerce (SAIC) and the State Bureau of Practices Act (FCPA) in 1977. The law specifically allows
International Trade (SBIT). facilitation payments, but does not permit bribery. This law
POLITICAL RISK IN CHINA makes it illegal for a U.S. citizen to make a corrupt payment
to a member of a government for the express purpose of
Countries that lack political stability or are inconsistent in the having that office grant a contract or other business back to
application of laws create a reputation among international the firm. The law also includes making payments to interme-
firms that they are more risky. While China has made great diaries (who would in turn make bribes on the firms behalf).
efforts to open its doors to international business, the country Penalties for individuals found guilty of the FCPA law include
is still considered very risky. This is because China does not five years imprisonment and a fine of $100,000. Firms can be
have an effective legal system, or reliable commercial code fined up to $2 million. Because bribery is often necessary to
establishing rules of commercial interactions and obligations. make things work in China, many U.S.-based firms could not
This is due to the fact that situations often fall under the juris- legally do business there.
diction of multiple government bodies, which often contradict
one another. These elements make firms less willing to invest POTENTIAL TARGET COMPANIES EVALUATED
large amounts of money. While the amount of foreign invest- In order to evaluate potential Chinese firms that ABC may
ment in China is large, metaphorically speaking, it amounts partner with, ABC hired the Shanghai office of PriceWa-
to no more than a toe in the water with respect to the value terHouseCoopers (PWC). PWC was hired to analyze the
these firms would be willing to invest if the government were accounting and business practices of a number of companies.
run differently. Two companies, Target #1 and Target #2 (names changed
CODE OF CONDUCT IN CHINA to protect confidentiality) rose to the top and a synopsis of
PWCs report follows.
Many nations have enacted legislation attempting to control PWC reported that part of Target #1s financial infor-
the behavior of domestically based firms in their operations mation was not reported to government authorities and tax
abroad. Such laws are meant to limit corrupt or immoral liabilities were under-recorded and underpaid. In fact, Target
behavior in dealing with other countries. The laws were #1 keeps two sets of financial statements. One set of financial
particularly expected to apply to dealings with second and statements is audited and used for external reporting purposes
third world countries. The most relevant international accords such as the basis for tax assessments. The second set is used
relating to this fact are for management reporting and includes revenue and assets
not reported on the external statements. To understand the
The United Nations Universal Declaration of Human magnitude of this phenomenon, PWC provided documenta-
Rights1948 tion showing that in the year 2000 Target #1 reported only
The European Convention on Human Rights1950 33 percent of sales and 12 percent of revenue on the external
statements.
The Helsinki Final Act1975
PWC advised that since a significant portion of the com-
OECD Guidelines for Multinational Enterprises1976 panys revenue and expenses was not reported to government
The International Labor Office Tripartite Declaration of authorities, significant tax liabilities [Value Added Tax (VAT)
Principles Concerning Multinational Enterprises and Social and income tax] are underrecorded and underpaid. In addi-
Policy1977 tion, penalties arising from these unreported tax liabilities
760 Case 24 ABC Chemical Company Goes Global
may be incurred as the above activities violated the Peoples PWC partners also found that Target #1s management
Republic of China (PRC) accounting and tax laws. has also been understating the reserves for doubtful accounts,
Local management further advised the PWC partner that and overstating assets. Both accounting practices should be
over 60 percent of Target # 1s sales were made to Taiwanese carefully examined by ABC company, as they have the effect
companies. Most of this revenue was not reported to PRC of inflating the market value of the Target company. Addi-
government authorities as sales invoices were not issued. As tionally, in 1997, Target #1 purchased certain equipment and
a common business practice in the Shanghai region, Target #1 machinery from its investor in Taiwan. These assets were
has agreements with these customers under which the sales exempt from VAT or custom duties according to PRC tax
revenue will be collected by Target #1s parent company in regulations. However, the exempted VAT and custom duties
Taiwan in foreign currencies (Taiwan New Dollars or Hong would become payable if these assets are sold within the next
Kong Dollars) from the customers parent companies in Tai- 6 years.
wan. When Target #1 needs cash, management will bring Other matters of concern are the following:
foreign currencies from its parent company to China without
declaring it to customs. Consequently, these foreign currencies 1. Target #1 provides kickbacks to customers to boost sales.
will be exchanged into Yuan Renminbi (Chinese Currency, Although management indicated that kickback payments
Rmb) in the black market. As these transactions violated the to customers were not a key incentive to promote sales, as
PRC foreign currency administration regulations, significant most of the customers are private companies, the amounts
contingent liabilities exist. recorded over the previous two years would be considered
Another major issue is the treatment of the VAT. As material by government officials.
required by certain customers, VAT invoices were not issued 2. Over 60 percent of sales are made to Taiwanese compa-
so that those customers can report less revenue and VAT nies. Management stated that Taiwanese firms prefer to do
liabilities to government authorities. business with other Taiwanese firms due to cultural reasons
Management advised that it is a common business practice and flexible payment arrangements and acknowledged that
in Shanghai that suppliers are requested not to issue sales it was very difficult for non-Taiwanese companies to sell
(VAT) invoices to customers. In 2000, 67 percent of Target # products to Taiwanese customers. Accordingly, the risk of
1s sales did not have VAT invoices. This enables customers losing Taiwanese customers may exist if ABC Chemical
to exclude these purchases from their official accounting Company acquires Target #1.
records and consequently exclude sales revenue from the 3. A proper accounting system has not yet been established
official accounting records and report less tax liabilities to in Target #1. Some accounts do not have accounting
government authorities. ledgers and financial statements are prepared manually
As this practice is not consistent with ABCs Code of Busi- from vouchers at period end. Additional investments to
ness Conduct, the risk of losing customers and sales revenue improve working efficiency will be required if ABC Chem-
exist should ABC Chemical Company take over Target #1s ical Company acquires Target #1.
business and insist on issuing VAT invoices to customers. As
a consequence, the following may occur: PriceWaterHouseCoopers was also involved in analyzing
1. Customers may terminate business with ABC Chemical the business practices of a second Chinese-based company
Company as VAT invoices are audit trails that may raise named Target #2 (name changed to maintain confidentiality).
the suspicion of the tax authorities and lead to the eventual Many of the issues found at Target #2 were similar to those
discovery of the previous improper practices. affecting Target #1.
Target #2 also keeps two sets of financial statements; one
2. Customers may be unwilling to pay VAT for purchases
for external and tax purposes, and one for management.
from ABC Chemical Company as they do not need input
Furthermore, as seen with the first target company, this enter-
VAT to offset their VAT liabilities. Accordingly, ABC may
prise does not issue VAT invoices in their entirety. In fact
have to absorb the VAT as part of the cost of sales. This
only 20 percent of sales are invoiced. However, in early 2001,
will lower ABC Chemical Companys gross margin. (For
Target #2 issued more sales invoices and only 37 percent of
example, if Target # 1 had to absorb VAT for customers in
its sales did not have VAT invoices. Management advised
2000, its gross margin would be lowered from 17 percent to
that the reason for issuing more invoices and paying more
6 percent).
VAT was to make local tax authorities believe that it was a
Furthermore, during a plant visit, PWC noticed returned good taxpayer so as to avoid a comprehensive tax audit. This
and obsolete inventories. However, no provision for inventory approach also led Target #2 to request its suppliers to invoice
obsolescence was made. Management estimated the costs of a higher percentage of their purchases in order to offset the
these obsolete or returned inventories to be Rmb 640,000. VAT charged to its customers. This created some tension with
These inventories either had quality problems or did not have Target # 2s supplier base.
market demands. As these inventories will be of little value As stated above, if ABC Company takes over the opera-
to ABC, ABC may wish to consider excluding these aged tions of Target #2 and insists on issuing VAT invoices in their
inventories from the proposed acquisition. Local manage- entirety, customers may terminate their business relationship
ment acknowledged that Target #1 has been utilizing obsolete since VAT invoices are audit trails that may raise the suspicion
inventories in production and this could cause quality prob- of the tax authorities and lead to the eventual discovery of
lems. Accordingly, sales returns and quality disputes may the previous improper practices. Another option would be for
occur in the future. In 2000, sales returns accounted for 2.5 ABC Chemical Company to absorb VAT into their cost of
percent of total sales. sales, thus lowering the overall profitability of the operations.
Case 25 DaimlerChrysler for East Asia 761
C ASE 25
automobile manufacturing country except the United States automobile manufacturers to start engaging in a wide range
exported more than 40 percent of its domestic production of strategic alliances and other consolidation tactics.
(see Exhibit 3). Also it is a known fact that Japan and South Chrysler was basically a North American company. It was
Korea had overcapacities in automobile production because strong in lower and medium priced cars, and very strong in
of Japans long recession and the Asian financial crisis in 1997. small trucks, minivans, and sport utility vehicles, but weak
In a combination of maturing markets and overcapacity it internationally. Daimlers Mercedes Benz was strong in the
would be very difficult for any company to grow by oneself. upper part of the automotive market in Europe, but not in
the U.S. Also, Daimler was considered to have an advantage
EXHIBIT 2 in environmental technology, which Chrysler lacks. Together,
AUTOMOBILE PRODUCTION they became a full-range auto company, capable of compet-
(UNITS BY THOUSAND) ing in almost every area, equipped with huge cash flow and
technology around the world.
1997 1998 1999
EXHIBIT 3
North America 14,694 14,572 16,066
EXPORT/DOMESTIC SALES RATIO
South America 3,870 3,503 3,186
IN 1999
Western Europe 15,453 16,782 16,939
Eastern Europe 2,468 2,400 2,453 Export Domestic Sales
Asia 17,516 15,014 16,343
Spain 81.1 18.9
World total 54,695 52,922 55,629
Sweden 80.1 19.9
France 67.8 32.2
Third, costs for developing new cars are mounting. Envi- Germany 64.6 35.4
ronmental technology such as an efficient engines, which cut UK 61.5 38.5
fuel consumption and CO2 emissions, and fuel cell technology, Korea 53.1 46.9
which eliminate CO2 emissions, is becoming a more pressing Italy 46.9 53.1
issue as people become more concerned about the environ- Japan 44.6 55.4
ment. Developing these new technologies is a huge investment US 9.6 90.4
for one company. Also, as the market matures, the demand for
passenger cars is becoming more and more diversified, and,
subsequently development costs for new models are rising as
GM AND FORD
automobile manufacturers try to accommodate the changes
in demand. Bigger companies can more easily bear these The two largest automobile producers, GM and Ford, also
costs, and it is easier to buy established names than to build had taken similar approaches as Chrysler, although in a
new plants in order to be bigger in maturing and overcapac- less significant fashion than DaimlerChryslers merger (see
ity markets. Considering these conditions, it was natural for Exhibit 4). In 1998, GM already owned a 100 percent equity
EXHIBIT 4
ACQUISITION ACTIVITIES IN GM AND FORD MOTOR
GM Name Nation Equity Stake
stake in Opel, which produced about one-quarter of all Ger- share in the Asian Pacific region, but a 20 percent share of the
man vehicle output, and a 49 percent equity stake of Isuzu, the world market and 10 percent share of the European market
ninth largest Japanese automobile manufacturer. Also, Ford (see Exhibit 5). Automobile sales earnings of GM and Ford
owned a 34 percent equity stake in Mazda, the fifth largest in Asia are minus $218 million for GM and plus $133 million
Japanese automobile manufacturer, and 100 percent equity for Ford, respectively (see Exhibit 6). These amounts are not
stakes in Jaguar and Aston Martin, small but respected U.K. very exciting when compared with almost $6 billion income
automobile manufacturers. for each companys automobile sales.
After the merger of Daimler-Benz and Chrysler, GM
DAIMLERCHRYSLER IN ASIAN PACIFIC REGION
increased its holding in Suzuki Motors of Japan to 10 per-
cent in September 1998, and acquired a 20 percent equity DaimlerChrysler sold only 50,000 cars in Japan out of 4.9
stake in Fuji Heavy Industries, makers of Subaru automo- million productions (see Exhibit 7). This is just 1 percent of
biles, of Japan, and acquired a 100 percent equity stake in production and a 0.8 percent share of the Japanese mar-
Saab of Sweden in January 2000. Ford also acquired Volvos ket although its Mercedes-Benz was the best-selling foreign
(Sweden) passenger car division in 1999. Furthermore, GM made car in Japan. Also the annual report listed no Asian
announced its intentions to acquire a 20 percent equity stake manufacturer or important subsidiaries in the area except one
in Fiat, which is sixth in market share, on March 13, 2000. company in India. In conclusion, while GM and Fords pres-
However, after all this GM, the largest automobile man- ence was weak DaimlerChrysler had no significant presence
ufacturer in the world, still holds only a 4 percent market in the Asian region in 1999.
EXHIBIT 5
VEHICLE UNIT DELIVERIES (UNITS IN THOUSAND)
North America 19968 36% 5706 28.6%
EXHIBIT 6
INCOME IN AUTOMOBILE MANUFACTURING IN FORD MOTOR CO. AND GM IN 1999
Ford Total North America Europe Latin America Others
EXHIBIT 7
DAIMLERCHRYSLER UNIT SALES (UNITS IN THOUSAND)
M-B Passenger Chrysler Commercial Total
EXHIBIT 8
SUMMARY OF THE EAST ASIAN MARKET IN 1998
2) GDP per 3) Cars per 4) Domestic 5) Domestic 6) Export
Country 1) Population Capita 1000 people Sales Production Ratio
EXHIBIT 9
PRODUCTION (THOUSAND CARS)
1997 1998 1999
Country Total Cars CVs Total Total
EXHIBIT 10
JAPAN BY MAKE IN 1999 (NOTE: IMPORTS IN 1999 WERE 271,000.)
2) Domestic 3) D. Sales:
1) Domestic Production Market Export:
(Thousand cars) Share Overseas
Manufacturer Cars CVs Total for Cars Production
THE EAST ASIAN MARKET affected each companys financial status. In addition, some
companies have not yet solved their domestic manufactur-
Production of motor vehicles in Asia reached 16,344,000 cars
ing overcapacity problems after shifting their manufacturing
in 1999, and accounted for 29 percent of the world production.
capacity overseas. Also it is suggested that economies of scale,
The East Asian Market with a population of more than 1.7 bil-
estimated to be 5 million annual production units for one
lion is categorized into four groups: Japan; Korea and Taiwan;
group, will be necessary for surviving in the coming environ-
ASEAN countries; and China. The general characteristics
mentally friendly and IT-oriented market of the 21st century.
are that Japanese and Korean automotive manufacturers are
In Japan only Toyota meets this criterion so far. As a result,
being restructured and realigned while Chinese and ASEAN
consolidation is advancing in the domestic market with distinct
markets with huge growth potential are attracting most of the
divisions along worldwide groupings so that Toyota, Honda,
major players from all over the world. More specific features
GM, Ford, DCM, and Renault groups are emerging and com-
are discussed below (see Exhibits 8 and 9).
peting against each other in Japan and abroad (see Exhibits 10
and 11).
Japan. Japan is a developed country and the domestic mar-
ket is mature with 11 automotive manufacturers. Production
Korea and Taiwan. In order to recover from the downturn
in Japan experienced its second straight year of decline in 1999
due to the Asian financial crisis, Korean manufacturers are
due to weak exports under the impact of the strong yen, and
now being restructured and realigned. Daewoo Motors has
due to a downturn in domestic sales. This trend has gradually
EXHIBIT 11
JAPANESE AUTOMOTIVE MANUFACTURERS
ALLIANCES WITH WORLD MAJOR PLAYERS
Daihatsu
51.2%
50%
VW Toyota NUMMI
Car supply 33.8% Car
Hino supply 50%
Suzuki 10%
Isuzu 49% GM
20% 49%
Fuji SIA
Isuzu
51%
100% 100%
Honda UK Honda Honda USA
34% 97.1%
DCM Mitsubishi MMMA
(Plan)
36.8% 100%
Renault Nissan
22.5%
22.5% Nissan D. Ford
50%
Ford Car Mazda 33.4% AAI
supply 50%
in Europe
766 Case 25 DaimlerChrysler for East Asia
been the subject of intense offers from GM, Ford, Daim- groups and 6 to 7 middle size groups. The industry is not
lerChrysler, and Renault. Recently Ford received exclusive mature and the demand for trucks still strong (see Exhibit 15).
negotiation right from Daewoos creditors. Hyundai has also
taken a stake in Kia Motors. Taiwanese manufacturers suf- EXHIBIT 14
fered less because of a lack of investment in manufacturing TAIWANESE SALES
capability, and lack of an export-driven market. Both domestic
Capital Sales in
markets are getting mature (see Exhibits 12, 13, and 14).
Automaker Participation 2000
EXHIBIT 12 China Motor (Mitsubishi) 14.6% 35,348
KOREAN PRODUCTION BY Kuozui Hua Tung (Toyota) 46.6% 64,094
MAKE (THOUSAND CARS) Yue Loong (Nissan) 25.0% 72,733
1997 1998 Lio Ho (Ford/Mazda) 45,331
San Yan (Honda) 13.5% 37,343
Hyundai 1,301 845
Kia 614 363
EXHIBIT 15
Daewoo 607 411
CHINESE PRODUCTION (THOUSAND CARS)
Daewooshop 156 248
Samsung 42 Market
Others 140 45 1998 1999 Share Alliance
100%
As outlined, the East Asian auto market is quite diverse. In
(Plan)
this market several trends exist. First, there is the presence of
Kia strong regional players like those in Korea. Second, East Asia
is home to several national car manufacturers like Malaysias
GM Daewoo Proton. Third are the global brands and manufacturers in
Japan that not only have a history of exporting to markets
Alliances
Renault Samsung in East Asia but also have long-standing technical and equity
tie-ups throughout the region. Finally, until recently, is the
Source: 1999 Nihon Jidosha Kogyo total lack of any significant presence by major American or
European manufacturers in the area. This has allowed exist-
ing regional players to consolidate their brand name and sales
ASEAN countries. Due to the Asian financial crisis in 1997, channels in this market.
the production in ASEAN nations, consisting of Indonesia,
Malaysia, Thailand, and India, decreased to 70 percent of DAIMLERCHRYSLERS STRATEGY FOR EAST ASIA
the peak level recorded in 1996. It may take 3 to 5 years As Exhibit 16 shows, DaimlerChryslers vehicle platform and
to recover to precrisis levels, even though each country is sales pattern are extremely weak in East Asia. The Asian cri-
seeking to stimulate domestic demand by changing policies sis presented the opportunity to quickly change this without
from protectionism to liberalization. Japanese manufacturers forcing DaimlerChrysler into investing in costly ground-up
dominate ASEAN countries, except Malaysia. However, the production and sales channel facilities, or an expensive acqui-
markets still attract some major players due to the high growth sition. Initially DaimlerChrysler pursued Nissan, but fear
potential in these markets (see Exhibits 8 and 9 shown earlier). over the actual extent of Nissans debt problems convinced
Schrempp to pass on Nissan. Honda was also considered,
China. Although most automotive manufacturers are inter- but Hondas desire to remain independent as well as the
ested in the huge potential of the Chinese market, it will potential for cultural differences scuttled the negotiations.
take some time to penetrate into the market mainly due to Convinced of the need for a partner Daimler initiated discus-
the Chinese governments strict control. The government sets sions with Mitsubishi Motors in Japan. Mitsubishi seemed the
pricing limitations and regulations on local content and tariffs optimum partner due to its long-standing relationship with
to prevent ease of entry by outsiders. There are 2 to 3 big Chrysler.
Case 25 DaimlerChrysler for East Asia 767
EXHIBIT 16
DAIMLERCHRYSLERS WORLDWIDE FOOTPRINT
Production Sales Revenue
Location Vehicle Type Locations Locations (Mil EUR) Personnel
EXHIBIT 17
DAIMLERCHRYSLERS PLANNED WORLD CAR PROJECT
Production Production Target Estimated Production
year Location Market Volume
In March of 2000 DaimlerChrysler and Mitsubishi agreed and will develop a small car platform world car for East
to a strategic purchase where DaimlerChrysler would acquire Asian and other markets (see Exhibit 17). In two dramatic
34.4 percent of Mitsubishi for $1.86 billion. This will give Daim- moves DaimlerChrysler made significant progress in achiev-
lerChrysler needed access to small car engine and platform ing its stated goal of increasing sales in East Asia to 25 percent
technology, and to existing sales channels. More importantly, of total revenues.
according to the March 27 joint press release, the strategic
DISCUSSION QUESTIONS
purchase will mean that DaimlerChrysler Mitsubishi will have
a 10.4 percent market share in Japan and a 9.4 percent market
1. What are the strengths and weaknesses of Daimler-
share in other parts of East Asia. Not satisfied with the Mit-
Chryslers strategy?
subishi deal DaimlerChrysler initiated a strategic tie-up with
Hyundai Motors of Korea. For approximately $486 million 2. How should DaimlerChrysler-Mitsubishi brand itself in
DaimlerChrysler Mitsubishi will obtain a 10 percent stake Asia?
in Hyundai and a seat on its board. In exchange Hyundai 3. What cultural issues will DaimlerChrysler have to over-
and DaimlerChrysler will engage in a 50:50 joint venture to come to succeed with its strategy?
develop commercial vehicles and trucks for the Asian market,