Dueling Fools
Battlestar Gillette-ica
March 24, 1999

Gillette Bull's Rebuttal
by Louis Corrigan ([email protected])

It's hard to argue with Warren. Gillette might look more attractive if it just made razors and blades, collected the 38% operating margins from that business, and bought back stock until there wasn't any left. Next time I talk to the other Warren (Buffett), I'll see if he can't get Gillette's board to rethink the capital allocation!

I'm being facetious, of course, but Warren's right. None of Gillette's other businesses are quite as sharp as the blades biz. Then again, few businesses are. But let's look at some stats. In 1998, 78% of Gillette's sales came from product categories in which it is the world leader versus just 64% five years ago. Impressive. Toothbrushes don't sound so sexy, but the firm's Oral-B line has been its fastest growing category, doubling to $1.2 billion in sales over the last five years.

Gillette has nearly perfected the art of gaining market share through continuous innovation and new product introductions. Some 47% of sales last year came from products launched during the last five years, and that figure should top 50% this year. One could correctly question the R&D spending if it wasn't producing results, but it is.

Management knows, too, that segmenting a market by introducing premium products presents the risk that competitors will undercut you and steal market share. In this regard, the move to press this stratification strategy in the battery market is an instructive ongoing experiment. When Duracell introduced the new Ultra batteries last February, Ralston Purina's <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: RAL)") else Response.Write("(NYSE: RAL)") end if %> Energizer group claimed its Advanced Formula batteries were 10% better than the Ultras but would sell for the same price as the old Energizer line.

A year later, after apparently suffering a loss of market share to Duracell, Energizer reportedly is adopting the segment approach. This is pretty interesting. Energizer, at least, seems to think the best way to compete will be to accept Gillette's rules for the game. Knocking the Energizer bunny off its inexorable course suggests the strength of Gillette's strategy, technology, and marketing in the battery unit -- Gillette's second most important, accounting for 26% of sales and profits. As Coca-Cola <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: KO)") else Response.Write("(NYSE: KO)") end if %> has proven, you don't have to monopolize a consumer market to control it. Gillette's share of the battery market is reportedly about 41% worldwide and 48% in North America and Europe.

Will the company be hurt in a recession? Sure, a bit, but probably a lot less than other big cap stocks. Last year was rotten for Gillette given that the markets outside of North America and Europe that account for a third of sales were in recession and the sales these regions did produce didn't translate well into dollars. Plus, the company was transitioning its major business unit. As a result, earnings really stunk it up, coming in... up just a penny per share. That's exactly why you do pay a premium for a company like Gillette: really bad ain't all that bad.

Also, Gillette continues to control operating expenses. Recent restructurings involve the rollout of a new SAP <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: SAP)") else Response.Write("(NYSE: SAP)") end if %> enterprise system that, along with other initiatives, should save the company perhaps $200 million a year by 2002. Of course, the real story is potential growth as far as the eye can see, especially in emerging markets. Did you know there are now 1.2 billion folks living in China? Who better to capture such markets than the world leader.

Next: The Bear Responds