Can Coke Avoid Mistakes and Reach Its Potential?

One of the most successful companies in the world is reorganizing again in an attempt to return to the earnings growth of former years, even as it realizes that its rapid advances for most of the 1990s were based on short-term moves that sacrificed long-term needs.

Coca-Cola Co. last week announced that it was organizing operations into three global geographic regions plus a fourth division devoted to new business ventures.

Also, Coke’s chief operating officer resigned and the Atlanta-based company went outside its own ranks to hire an executive to run new businesses, which include joint ventures with Procter & Gamble and other companies aimed at generating new products for Coke to distribute through its matchless worldwide bottler network.

All those moves by Chief Executive Douglas Daft, who has led Coke for only a year, are meant to implement new policies that Daft hopes will repair relations with Coke’s bottlers and give the company annual profit increases of 15% and more--a target it last hit in 1997.

Many Wall Street analysts and expert observers think Coke will have a hard time regaining such growth. They question its ability to market juice and bottled water products and to increase growth of soft drink sales in a slower world economy.

That’s one reason Coke stock is down more than 40% from the all-time high price of $87 a share it reached in 1998. Coke closed Friday at $51.50 on the New York Stock Exchange.

Ignominiously for Coca-Cola, the stock market is more enthused these days over the prospects of PepsiCo Inc., maker of rival Pepsi-Cola, which has been hitting its profit goals since reorganizing in 1997.

Nobody questions Coke’s long-term potential. The company holds 50% of the global soft drink market. More than 60% of its $20 billion in annual sales and more than 70% of its $3.7 billion in operating income come from outside the U.S., where new markets are developing in the most populous countries on Earth.

That such an impressive company faces challenges holds lessons for all businesspeople and investors on setting targets for profit growth and developing products for rapidly changing world markets.

Daft, 57, a native of Australia who has worked mainly in Asia in his 24 years at Coke, is shaking things up. By splitting operations into divisions for the Americas, Asia and Europe plus Africa, he aims to drive decision-making to local employees and away from headquarters in Atlanta, where Coke was founded in 1891 to market a pharmacist’s soda fountain concoction.

The joint ventures with P&G;, Nestle--in coffee and tea drinks--and Disney, in new drinks for kids, are intended to bolster Coke bottlers by giving them new products to put through their distribution systems.

Coke’s bottlers are unique in world business. Those in the U.S. hold contracts in perpetuity to add sweetener and water to the concentrate they buy from parent Coca-Cola. Many overseas bottlers date to World War II, when Coke persuaded the U.S. government to ship the soft drink wherever military forces went. By many estimates, the Coke system has created more millionaires around the world than any other business.

But in the last decade, parent Coca-Cola abused the bottler system by hiking concentrate prices at times when the bottling companies couldn’t pass along price increases because large supermarket chains such as Wal-Mart, Kroger and the European company Royal Ahold had taken over pricing power at the retail level.

Coke’s policies angered the bottlers and hurt them financially, says Tom Pirko of Bevmark, a Santa Barbara consulting company. And the policies hurt parent Coca-Cola, which has equity stakes in many bottler companies. Last year, Coke’s bottler equity accounts showed a loss of $289 million.

Why did a smart company try to profit at the expense of its partners? Because Coke had set high targets for profit growth and benefited as the stock market cheered a mature business that had rejuvenated itself into a growth company. Coke’s stock rose sixfold in the early to mid-1990s, and Chairman Roberto Goizueta, who led the firm from 1981 until his death from cancer in 1997, was hailed as a hero.

Investor Warren Buffett, whose Berkshire Hathaway company is Coke’s largest shareholder with 200 million shares, in 1996 complimented Goizueta’s “incredible job in creating value for his shareholders.”

But flaws in the strategy came home to roost in the late ‘90s. Goizueta’s successor, M. Douglas Ivester, was shuffled out of office at the end of 1999 and Daft was appointed to revive Coke’s fortunes.

Companies get in trouble when they look to history and say we must meet goals we achieved in the past, says Warren Bennis, professor at the Marshall School of Business at USC and author of “Managing the Dream” (Perseus Books, 2000) and many other books on management.

“Targets are set by the stock market demanding earnings growth to support a rising stock price, which benefits company executives through stock options,” adds Professor Edward Lawler, also of USC’s Marshall School.

But stock market favor can be fickle. Even as Coke promises renewed growth, many analysts are neutral to negative on the stock. Analyst Patrick Schumann of the Edward Jones & Co. brokerage says it will take time for Daft to repair relations with bottlers and government agencies in many countries that were bruised by Coke’s aggressiveness in recent years.

Others note that Coke has been slow to keep up with changing tastes. In bottled water, Coke’s Disani brand ranks only fifth in market share. Given its immense bottler system, why should any Coke product be No. 5, experts ask.

Coke never developed the full potential of Minute Maid juices, which it has owned since the 1960s. PepsiCo, with Tropicana, acquired in the late 1990s, is ahead of Coke in juices.

So Daft is putting juices into the venture with P&G; and looking to that company’s product development skills to give Coke bottlers new drinks and snacks to sell.

What lies ahead? Coke has come back before. In the 1960s, Coke bottlers were slow to adopt different-size bottles while Pepsi gained market share with a variety of sizes. So Coke’s board installed J. Paul Austin, a Harvard Business School graduate, as chairman. Austin brought modern management to the venerable company.

Now the board, led by Buffett, Wall Street’s Herbert Allen and representatives of families that built Coke over a century, has installed Daft.

The board has given Daft an incentive package under which he could earn 1 million shares of stock if growth in earnings-per-share averages 20% over the next five years, 500,000 shares if growth averages 15% and no stock at all if earnings growth averages less than 15%.

Will such targets spur Coke and make Daft rich or lead Coke astray again? One way or the other, one of the world’s best-known companies will hold lessons for all in the next five years.

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James Flanigan can be reached at jim.flanigan@latimes.com.

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Gone Flat

Coca-Cola Co. is trying to renew the rapid profit growth it knew in the early to mid-1990s. In the last few years, flaws in strategy caught up with the company, causing sales growth to flatten and profit increases to falter.

Total sales

2000: $20.5 billion

Earnings per share

2000: $0.88

Source: Company reports

The Real Thing: A No-Growth Stock?

Coca-Cola shares peaked in 1998 and have since bounced mostly between $45 and $65, amid Wall Street’s concern over the company’s near-term earnings growth. Long-term investors in Coke have seen no net appreciation in their shares in more than four years. Coca-Cola shares on the New York Stock Exchange, quarterly closes and latest Friday:

$51.50 Source: Bloomberg News