Transcript: interview with A.G. Lafley

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Jeremy Grant, the Financial Times’ US consumer industries correspondent, interviewed A.G. Lafley, chairman and chief executive of Procter & Gamble. Mr Lafley was appointed chief executive in 2000, later becoming chairman. He sits on the board of General Electric. An edited transcript follows.

A.G. Lafley: P&G was 168 years old in October. So as an institution, we are older than three quarters of the nations in the United Nations and the fourth-oldest company in the Fortune 500. We had a well established – some might say well entrenched – culture. And although it wasn’t always articulated, we had a strategy, certain systems and a certain structure. So I sort of came into all of this as we were in the process of changing the strategy for the 21st century.

The strategy’s been Sesame-Street simple. We’ve made three “where to play” choices. They’ve served us really well. The first one is: we are not just going to profit from, but we’re going to grow from, our core.

The good news over the last five years is that we have basically grown the core businesses at the target external growth rates – 4-6 per cent revenue growth, 10 per cent earnings per share growth and we’ve turned 90 per cent or more of the earnings into cash.

The second choice was to migrate the portfolio of business toward beauty health and personal care. The reasons were really simple: demographics are driving those industries. Beauty alone is a huge industry, $150bn at least, worldwide.

The last choice that we made was the choice to serve more than the 1bn of the world’s consumers we were serving at the time [in 2000]. We were skimming the affluent households. When I joined the company in the mid-1970s Tide [laundry detergent] was a popularly priced and if anything it skewed a bit down market. When I came back from Asia and was crunching through all this data I was a bit surprised to see that Tide was now definitely a middle-class and modestly upper-class brand. That, plus my time in developing markets, said to me if we are really going to grow we’ve got to serve at least the next tranche. And so we focused on low income consumers.

We work real hard in the way we go to market with major retailers. It was the first place I went after I got this job - once I survived a board meeting the day of the first week, the press and the analysts and watched the stock drop on my first two announcements. I think when I was announced the stock dropped four bucks and when I made my first public statement it dropped another $3.85. A resounding endorsement.

But I went to see all the major customers in Europe and it was really sobering. We might have been their biggest supplier but we were a long way from their best. In fact one of our major customers in Europe said we were their worst because of our inability to ship cases on time. Another major customer cooled me in his conference room for two hours and then walked in and screamed at me for about five minutes, then he’d send in his number two guy. So they did a little good cop, bad cop on me. But it was great, I’m so glad I did it.

Financial Times: Are we essentially talking about a complete change at P&G in the space of five years?

Lafley: No, I don’t think complete because there was a lot of good that was part of the core culture. We did have a purpose that was focused on improving the every day lives of consumers we serve. What we needed to change was we were terribly internally focused. And that’s still honestly an issue. It’s an issue with any organisation, the bigger it is, the worse it is. We were intramurally as competitive as we were externally competitive. And frankly the people who were internally competitive were some of the ones that I weeded out; they just couldn’t get over it. I didn’t care if the babycare business was doing better than the coffee business. It was an irrelevant comparison. I cared whether the babycare business was the best babycare in the word versus Unicharm [of Japan], Kimberly-Clark.

And in Europe we were too European and in the US we were too American and they ended up being fiefdoms. We probably lowered the average age of leadership by about 7-10 years. I brought up younger leaders who’d spent a lot more time outside of their home country who had been on the ground in places where we didn’t have leadership and who were, I thought, more openminded, more externally focused – more inspirational, frankly, to their peers. Not the old fuddy-duddy style.

FT: Looking at how valuable those managers are for the company, in integrating Gillette, how have you tried to keep some of the value that’s inherent in them?

Lafley: It’s incredibly important. We’ll keep [Gillette chief executive] Jim [Kilts] for a year and that’s nice and that’s important and he’s clearly a proven leader and manager in our industry, but the critical guys are the people who have deep domain knowledge about the Gillette brand and blades and razors. At the leadership level we haven’t lost a single business category or business brand leader. Now we’re going to have to convince them that they’ve made the right decision. Some have committed and you can tell they are committed, others are test marketing us and they’re going to see how it goes.

FT: Have you done things differently this time to try and keep people on?

Lafley: We have. A lot of the companies that we acquired had an A team in their home region and they needed us to globalise, or regionalise their operations. But this is a company that was an A player. It’s been a little shocking on the P&G side because some P&G people are going and some plum jobs have gone to Gillette leaders but that’s the way it should be.

FT: There’s been some suggestion on Wall Street that the way you’re looking at Gillette is not so much as a traditional integration, but learning from Gillette.

Lafley: We’ve done this integration differently in virtually every way. We appointed their CEO and our CFO as joint leaders of the integration effort. We had integration teams with responsibility for every identified revenue and cost synergy. It wasn’t just “best of both” in terms of leadership management and staff, it was “best of both” in terms of systems. We both go to market effectively with retailers but we looked at their trade terms and trade promotion incentive programmes and we looked at ours and we said “you know, we like some things about their programme, we think it’s a little bit better than ours”. They like some things about ours and we are in the process of putting them together and we will go to market with what we’ll call some combined ‘best of both’ hybrid trade terms.

The other thing they [Gillette] do is they have a lot of mastery and continuity in their critical brand groups and we’ve tended to use our brand operations for development, for general manager development, for other managerial development and sometimes that means we don’t have the continuity that we really ought to have in some of the major brands.

FT: What’s been the reaction from the retailers now that they are looking at you combining and what’s the key thing that we should expect differently from the way you interact with them?

Lafley: The biggest change at Wal-Mart is that they’ll now have one integrated P&G/Gillette operation. I think, if anything, the retailers’ expectations will rise in areas like distribution, logistics, service levels, the ability to help them take inventory and costs out.

FT: Have any of them expressed any concerns about your increased scale and power?

Lafley: Not really, not to me. I mean obviously the strongest position is the blades and razors position. The truth of the matter is power has really shifted to the consumer and the shopper.

FT: Obviously retailers have consolidated and there’s more emphasis within retail on discounting, and then you’ve got the influence of brand and innovation on the other side. Have you got a general thought about the way in which there is a balance [to be struck]?

Lafley: We need each other. In other words a private label or retailer’s brand cannot exist without the branded comparison. Frankly when we do our job well we are not very vulnerable at all to private labels because our position broadly is middle of the market and up. Their position broadly is bottom of the market to the middle. And the manufacturers and brands that are in trouble are the ones that sell the number three to seventh, eight, ninth and tenth players. So we’ve had to rationalise our portfolio. When I was running the laundry business in the mid-1980s we sold 15 laundry brands in the United States. Today we basically sell four - and we sell the top four.

FT: How easy is this at the moment to get pricing?

Lafley: All the pricing we’ve taken so far has stuck with one exception. We rescinded our baby diaper pricing here in the US not because Kimberly-Clark didn’t move but because the private labels didn’t move. What we’re sharpening our pencils on is, is that because the big retailers put so much pressure on the private label manufacturers that they wouldn’t let them move? When you look at our price increases they have been running in the 4-7 per cent range, it’s not huge sticker shock. They are also in markets where there hasn’t been a lot of pricing for a couple of decades. Until we raised prices on laundry detergents, you could pretty much do a load of laundry in the US or UK for about the same price as you could 20 years ago. I mean, it’s been quite a good deal.

FT: What’s the interest of the private equity world in this industry tell you about the mood of investors and the climate at the moment?

Lafley: I think there are three things going on. One is the market is doing what it’s supposed to do, it’s searching for higher returns. The second thing is that there’s a lot of liquidity, there’s just an insane amount of money sitting around. I’ve actually been surprised. Ten, twenty years ago the private equity guys would be in and they would be restrained on the price they were paying for assets. Some of the prices that are being paid for some of these assets [now]? The guys who bought our [Sunny Delight] juice business, we’ll see how they do. The Oxydol [former P&G laundry detergent business] guys haven’t turned that into a profit yet, the people that bought Fit [fresh fruit cleaning spray] haven’t turned that into a profit yet. It’s not that easy. It does take a certain amount of domain expertise to run one of these businesses. And it’s not like a quality, fast-moving consumer goods company was running a schlocky shop.

FT: Where does Pringles fit in, can you see a time when you actually get rid of it?

Lafley: I obviously can’t comment on planned dispositions or acquisitions but … we have an operating total shareholder return target minimum. [We look at those businesses] that cannot grow 4-6 per cent on the top line and cannot deliver on a consistent basis their fair share of double digit earnings per share growth. The second thing I think we have a track record of establishing is [that] we won’t keep an asset if we can’t find a strategic linkage. So Pringles is an obvious question and honestly they’ve been on a fairly tight leash.

Now I will say three things. One is the snacks business is a pretty good business. Secondly, Pringles is unique and [PepsiCo snacks business] Frito[-Lay] has tried two or three times to dislodge us. We’ve been at it 30 years. And the third thing is that our US business last year, which is the biggest part of our Pringles business, delivered the Frito margin. If we can make market leader Frito-Lay type margins it’s going to meet my return requirements.

So then it comes down to: I need to create more value from exiting than I can create running it. What are the issues with exiting it? There’s a lot of tax friction, which is right out of the pockets of the shareholder. Maybe we could swap it. Right now we have a very lean management team and only two manufacturing sites. It’s a very efficient brand to run. There is a plan they have committed to us over the next two or three years. Just to be clear so we don’t pick on Pringles alone, in any given time we have a few businesses that are underperforming.

FT: Can we shift to advertising? There are a lot of shifts in the industry with Google and everything that’s happening. What do you see in terms of advertising effectiveness?

Lafley: Some things we’re relatively sure about and some things we’re learning about. Just as I believe the consumer has the power in the purchase chain, I think the consumer has the power in the consumption and media and message chain. And so the world is shifting from a push to a pull. She and he have a lot more choices. So they are going to pretty much consume communication - whether it’s an advertising message, an information message or an education message, whatever kind of message about brands and products in that same way - so we have to test being everywhere in that same way. So the first thing I would say is we have to test being everywhere she is, and that’s what we’re doing, so we’re working with Google, and we’re working with the folks in Japan who do all the communication on the cellphones because that’s where the kids are, they’re all over the cellphones. We run more in-store test with different retailers. So we’re trying just about everything. We’ve been to Nascar races, we’ve been to rock concerts, we’re in bars. We’re everywhere you might want to consider us. We will try anything and test anything. That’s the first thing. The second thing is we’ve got to figure out how to measure it.

FT: When the disposable nappy came out it was a world-changing innovation, it changed people’s lives in a way that hasn’t quite happened again. Is it possible to have another nappy-like innovation?

Lafley: I think it is, though not easy. We’re definitely poking around. I have a corporate innovation fund and this is where we take our swings on totally new technologies. I think they will come from biotechnology or nanotechnology or new chemistry. People ask me what I lose sleep over. If somebody advanced an alternative to solution chemistry for laundry and clothes all of a sudden, I’ve got an $11bn business that’s at risk. Every time some Korean scientist says he can microwave a shirt, we are there. There’s a lot of stuff going on, right? So we have to be all over that and experimenting with that.

I think in developed markets where we’re all going to live longer than we want, we’re going to want to look better and feel better so I think there’ll be some real opportunities. The problem is there’s a lot of hocus-pocus and a lot of dreams and wishes that are foisted upon us in the meantime.

But you know, watch material science, and watch transferring technology form expected industries into unlikely and unexpected industries. I’m always interested in new materials. I saw a fascinating new material on Monday morning which no I cannot talk about - an absolutely fascinating new material. We took an option on it for a relatively small price for a few years and it could end up being nothing or it could end up being something big. We had 30 days to look at it, and we had all the relevant scientists inside and outside look at it, and we brainstormed a whole range of possible applications and said “Okay, we’re going to take a run at this thing.”

I just want to get a look. If we get a look and we pass and it becomes big, shame on us. If we don’t get a look I feel like we didn’t even have a chance. So if you meet some really interesting inventors and they have some cool stuff, send them our way.

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