Beyond Mainstream

The Winners
How chemical companies deliver superior shareholder value

July 2014
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The Winners

THE BIG 3
1 Strategy framework
The Winners' Analysis is a framework to understand historical performance
and to develop the future corporate strategy of a company
p.3

2 Winners
Winners are companies that consistently deliver superior risk-adjusted
profitability and growth
p. 6

3 4 characteristics
Four characteristics common to Winners are Business Leadership,
Strategic Coherence, Financial Scale, and the Proven Ability to Execute
p. 8

Corporate
strategy
guide
p. 7

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The Winners' Analysis

Over the last 15 years, our extensive strategy work in the Chemicals in-
dustry has led us to take a deep look into how Chemical companies create
value for their shareholders the main objective of publicly traded
corporations in North America and Europe.
Given the wide range in shareholder returns across the industry (median returns of 15.6% per year for the top
quartile vs. 0.2% for the bottom quartile), we set out to answer the following three questions:

1. W
hat are the financial performance metrics which drive shareholder returns?
2. Who are the companies which consistently deliver top-tier financial performance
relative to the industry ("Winners")?
3. Can we identify the key strategic attributes common to the "Winners"?

The result of this multi-year effort is a product which we refer to as the "Winners' Analysis". It provides a diag-
nostic framework to understand historical performance as well as a blueprint for future corporate strategy devel-
opment and execution.

Inputs Outputs
Strategic Financial Shareholder return
characteristics performance1) performance 2)

Invested capital growth Invested capital growth

8% 12%
Business Strategic Financial
leader- coherence scale
ship
Profitless growers Winners

Proven ability to execute

5%
Underperformers
10%
Cash generators

Risk-adjusted profitabilit y Risk-adjusted profitabilit y

1) Mapping of risk-adjusted profitability and growth of 91 companies over 1997-2013

2) Average shareholder returns (capital gains and dividends) of all the companies in each quadrant over 1997-2013
Source: Capital IQ, Roland Berger

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What are the financial performance

metrics which drive shareholder value?
Shareholder value is driven by growth or explicitly, are analyzing its profitability and growth
and risk-adjusted profitability potential, and adjusting these metrics for risk. Typi-
cally, investors will develop a financial forecast to build
The main goal of publicly traded companies is to cre- a free cash flow model. Revenue growth will be used
ate value for shareholders in the form of share price as the growth metric, EBIT margin percentage as the
appreciation (capital gains) and dividends. Per finan- profitability metric, and the cost of capital represent-
cial theory, shareholder value is driven by investor ex- ing the risk adjustment.
pectations of future financial performance. Although We believe the best metric to analyze growth is the
share prices tend to change with earnings announce- real growth in the invested capital of a company, which
ments and one-off events in the short-term, we find represents the capital on a company's books which fi-
that they are primarily driven by the net present value nances its assets. It is a better metric to measure
of investor expectations of long-term financial perfor- growth as opposed to revenues, which is more com-
mance, particularly in mature exchanges like those monly used. Revenue trends can be misleading due to
found in North America and Europe. A price volatility, driven by raw material fluctuations
When developing their expectations of financial (common in the chemical industry) or supply and de-
performance of a company, investors, both implicitly mand dynamics. Invested capital growth measures the

correlation between expected value1) and market value for S&P500 companies
Enterprise value [USD m]
1,000,000

10,000

100
100 10,000
R =86% 2
1,000,000
Expected value [USD m]1)
1) Net present value based on 2012 investor expectations of future financial performance (cash flows) from 2013-2024
Source: S&P500, Roland Berger

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growth in assets and represents additional investment B

into the enterprise, and is not as affected by raw ma- The right metrics to measure growth,
terial price changes. B profitabilit y, and risk
We believe the best metric to measure risk-adjusted
profitability takes the difference between the return on Invested capital
invested capital (ROIC) and the weighted average cost Total Debt + Total Equity
of capital (WACC). It is better than EBIT margin because
it is a normalized metric, which measures not only prof-
itability, but the amount of capital required to generate Risk-adjusted profitability
the profitability. EBIT margins provide no perspective on ROIC WACC
the capital intensity of a company and therefore may be
misleading when comparing companies with different
models. For example, for an investor looking at two com-
panies with USD 1,000 in sales and 10% EBIT margin, ROIC WACC
(Return on (Weighted Average
the one requiring USD 200 of investment is more attrac- Invested Capital) Cost of Capital)
tive than the one requiring USD 2,000.
[Cost of Equity
NOPAT x Equity
(Net Operating Profit + (After Tax Cost of Debt)
After Tax) x Debt]
Invested Capital Invested Capital

Source: Roland Berger

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2
Who are the companies which
consistently deliver top-tier
financial performance relative
to the industry ("Winners")?
Any t ype of company can "win" in the Interestingly, the choice of an industry segment does
broader chemicals industry not drive financial performance: any type of company
can "win" in the broader Chemicals industry. Each
We have been using the two metrics described above chemical industry segment Commodity, Specialty,
in combination to plot the growth and risk-adjusted and Diversified as defined by SIC classification is al-
profitability of 91 companies headquartered in North most equally represented in the Winners' quadrant.
America and Europe over the last 15 years our "Win- In summary, we believe our Winners' matrix is a
ners' Matrix". 22 companies stand out as having both powerful tool, as it provides relevant comparisons of
superior growth in invested capital and superior the financial performance of companies to explain dif-
risk-adjusted profitability. By design of our Winners' ferences in shareholder returns. It should be noted
matrix, these companies deliver superior shareholder that in the short-term companies may jump from one
returns over the same period. We call these companies quadrant to another as they execute their strategy. For
the "Winners". Unsurprisingly, the set of Winners in- example, a Winner over the longer 1997-2013 time pe-
clude investor favorites such as Ecolab, 3M, Mon- riod may temporarily move to the Profitless Growth
santo, Albemarle, and Balchem. quadrant after completing a transaction: the compa-
Beyond the "Winners", our matrix allows us to de- ny's invested capital will grow instantaneously but its
fine three additional quadrants: "Cash Generators" risk-adjusted profitability may decline initially as syn-
consistently generate returns above cost of capital but ergy capture often takes time or its new capital struc-
have subpar growth in invested capital; "Profitless ture increases its cost of capital.
Growers" achieve above-average growth but with re-
turns below cost of capital, and "Underperformers" lag
the industry along both metrics.
Cash Generators have outperformed Profitless
Growers from a shareholder return standpoint (10% vs.
8%). This suggests that investors in the chemicals in-
dustry have been rewarding profitability over growth,
likely related to the maturity of the Chemicals industry:
when applying our Winners' analysis to other industrial
sectors like equipment manufacturing or oilfield ser-
vices, we have observed different results.

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A guide to corporate strategy

Chemical companies which aspire to become Winners can use the Winners' Analysis both as a diagnostic frame-
work to understand historical corporate performance as well as a blueprint for future corporate strategy
development and execution.
Companies should begin by assessing their portfolio against the four Winners' characteristics to explain their
financial and shareholder return performance relative to their peers. As they go through this process, companies
should ask themselves:
>> Am I setting the agenda in my businesses? (Business Leadership)
>> Am I the clear high value owner of my portfolio businesses? (Strategic Coherence)
>> Am I relevant and efficient? (Financial Scale)
>> Do I deliver results? (Proven Ability to Execute)

This assessment highlights the key issues which the company's strategy needs to address. Companies can then
use the Winners' characteristics to develop their corporate strategy using a hierarchical approach. We believe
that Proven Ability to Execute is a threshold requirement: some companies in our analysis underperform despite
having all three other characteristics. Business Leadership is the most important attribute, followed sequentially
by Strategic Coherence and Financial Scale: the majority of Underperformers have Financial Scale but lack Busi-
ness Leadership positions. The following four steps summarize our recommended approach.

1
Determine the company's strategic intent
>> Characterize the company's overarching value proposition
>> Develop a vision for the company

2
Develop business unit options which drive Business Leadership positions across the portfolio
>> Develop an understanding of the core competencies for each business in the portfolio
>> Characterize how/where these businesses can leverage these competencies to create, capture, and defend value

3
Assemble Strategically Coherent portfolio options: combinations of business unit options
which are coherent with the intent
>> Select the business unit options which align with the company's overarching value proposition and vision
>> Group these business unit options to create portfolio options each portfolio option consists of businesses
with Business Leadership positions and that are coherent with the strategic intent
>> Identify processes and standards which promote the company's overarching value proposition across
these businesses
>> Evaluate the other businesses: are they critical in the transition towards the company's vision (because of
cash flow or Financial Scale)
>> Develop short-term plans to exit incoherent businesses which are not critical in the transition

4
Address gap to Financial Scale
>> Assess size gap of portfolio to Financial Scale, excluding incoherent businesses
>> Define corporate options to address size gap
>> Promote the clarity of the portfolio risk-reward profile by developing and communicating long-term plans,
timing, and conditions for exiting incoherent businesses which are critical to the transition

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3
Can we identify the key strategic
attributes common to the "Winners"?
"Winners" share four strategic charac- mechanism, and often set pricing, in their chosen mar-
teristics: Business Le adership, Strate- ket segments of participation. C
gic Coherence, Financial Scale, and the Winners drive Business Leadership by combining
Proven Ability to Execute. three elements. Firstly, Winners possess a compre-
hensive understanding of the core competencies in
A. Business Leadership: each business. Secondly, Winners develop a unique
Winners set the agenda in their business model which leverages these competencies
areas of participation to both create value for their customers and capture
and defend this value for them. Thirdly, Winners focus
Winners own businesses which are leaders in their their participation in customer segments in which this
fields of play: they have the ability to set the agenda business model is advantaged, with the total size of
across their entire portfolio of businesses. In each of the customer segments large enough to allow for busi-
their businesses they possess a true competitive ad- ness unit scale, i.e., the business is viable even by fo-
vantage enabling them to define the price-setting cusing exclusively on these segments.

C
Winners' % revenues from Business Leadership positions, 20131)
Winners vs. Underperformers2) [%]
Reporting segments with Business Leadership
100
3M Industrial & Transportation, Health Care, Consumer Products
86 14
Albemarle Polymer Additives, Refining Catalysts, Bromine Derivatives
100
Balchem Choline chloride for Food & Nutrition and Industrial applications
95 5
Ecolab Global Institutional, Global Industrial, Upstream and Down-
stream Oil & Gas within Global Energy
100
Monsanto Agricultural Productivity
93 7
Winners1)
48 52
Underperformers2)

Leader Participant
1) As of December 31, 2013 for most companies
2) Average weighted by sales
Source: Capital IQ, Roland Berger

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Winners' Business Leadership manifests itself in

the financial performance of their reporting segments, Winners possess
which achieve leading market shares or the high-
est-level of risk-adjusted profitability in the broadly a comprehensive
defined markets for the products that they sell.
Let's look at the Global Institutional business of understanding of their
Ecolab to illustrate this. In our view, the business es-
sentially has three core competencies. It conducts core competencies,
systematic controls of the inputs (manufacturing, ser-
vice, etc.) to drive consistent performance at the cus- develop a unique
tomer and support the customer's brand. It also pos-
sesses comprehensive expertise around the hygiene, business model that
energy, and water system (problems and solutions),
spanning across consumables, equipment, services. leverages these
Finally, it maintains a deep understanding of its
customers' business models: Ecolab is able to identify competencies, and
which set of activities its customers may not consider
as "core", i.e., not the prime focus of their customers' focus their participa-
internal set of capabilities. For example, a restaurant
may want to focus on the quality of food and dining tion in market
experience instead of handling the hygiene processes.
This knowledge positions Ecolab to price its offering segments where
based on how much value its customers ascribe to
having a supplier take over these non-core activities. the business model
Ecolab has converted these competencies into a
unique model. It creates value by providing assurance is advantaged
around hygiene as well as water and energy conserva-
tion, which supports the customers' brand promise
globally. Customers such as Marriott choose Ecolab for
the "peace of mind" that Ecolab will consistently pro-
vide the highest standard of hygiene. The latter is an
essential attribute to the Marriott experience and
brand which differentiates a Marriott hotel from a local
roadside motel for example. Marriott also knows Eco-
lab can best promote and drive water and energy con-
servation. Therefore, Marriott chooses to hand over to
Ecolab the keys to their entire set of non-core pro-
cesses related to hygiene, water, and energy.
Ecolab captures value by selling bundled solutions
tailored to specific customer needs and priced at the
value customers ascribe to the reduction of the risk,
instead at the value of the individual components of
the bundle. Ecolab may therefore have different prices

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for the same offering to two customers which value the Ecolab has defined the price-setting mechanism in
reduction of a hygiene risk differently. Ecolab defends its chosen market segments of participation, where
value by fostering a homogenous culture through stan- customers need assurance: pricing is set by the value
dards and processes, continuously innovating and ac- of risk-reduction. Ecolab's closest competitor, Sealed
quiring to maintain or extend its knowledge of the hy- Air (formerly Diversey, acquired by Sealed Air in 2011),
giene, water, and energy system, and strengthening is forced to align itself to this mechanism, but, without
key customer relationships. Even the highest levels of a comprehensive portfolio offering, it cannot always
the Ecolab organization may have account manage- provide the full bundled solution which is paramount
ment responsibilities for example, Ecolab's C-suite to assurance. As a consequence, it does not achieve
fosters relationships to its customers' C-suite. the Ecolab price premium and its margins are lower.
Finally, Ecolab's Institutional business focuses its Local competitors like Tennant and Zep which partici-
participation on customers that value the assurance pate in the segments of the market where customers
described above. Typically, these are large-scale cor- prefer to buy individual products or services realize
porations such as hotel chains, restaurants, hospitals significantly lower margins as well, because these seg-
which understand that managing the risks and costs ments are not large enough to allow for business scale.
associated with ancillary services such as hygiene, Ecolab's leadership in their chosen areas of market
water, and energy, is essential but not their core com- participation radiates influence over the broader Insti-
petency, and thus preferentially outsourced. Ecolab tutional market.
elects not to participate in the segments of the market
in which customers prefer to buy individual products
and services (and not assurance). D

D
Ecolab's Business Leadership in Global Institutional

Business model
Core competencies Value create Value capture Value defense Participation focus area

Ability to Consistent results Repeat business Standards and

drive consistency to support processes
customer brand Long-term
contracts

Expertise around entire Ability to solve all Bundled offering Innovation and Customers that
hygiene, water, and problems M&A value assurance
energy system

Deep knowledge of Tailoring to Value pricing Key account

customers' ecosystem customer needs management
driven by all
levels of the
organization

Source: Roland Berger

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B. Strategic Coherence:
Winners are the clear high value Strategic Coherence is
owners of their portfolio businesses
derived from the
Winners have Strategic Coherence: they are the clear
high value owners of their portfolio of businesses. This combination of a clear
means that their businesses have a higher value in
their portfolio than to another company. Therefore, strategic intent, a
Winners' portfolios are valued more than the sum of
their parts in the long-run. Of the 12 chemical compa- portfolio of businesses
nies we identified as 'Winners' which also have diverse
portfolios1), 10 had 2013 market enterprise values that enables the
which exceeded the sum of the value of their individual
businesses as derived from comparable multiples2). intent, and a parenting
Strategic Coherence is derived from the combina-
tion of a clear strategic intent, a portfolio of busi- advantage over
nesses that enables the intent, and a parenting advan-
tage over these businesses. these businesses
B.1 Clear strategic intent
Winners have clear strategic intent: they articulate a
clear vision which describes what they want to be, sup-
ported with a distinct, overarching value proposition
which captures what they stand for as a company. Eco-
lab's vision is to be the leader in water, hygiene, and
energy technologies and services. Its overarching
value proposition is to provide assurance to its cus-
tomers by managing its customers' non-core water,
hygiene, and energy-related processes.
Monsanto seeks to be a leading enabler of "Sus-
tainable Agriculture"; its value proposition consists of
solutions which drive agricultural productivity for farm-
ers. Non-Winners may articulate a vision, but often
lack a clear identifiable value proposition. Before the
sale of its Consumer Products and the announced sale
of its Agrosolutions business, it was not clear to inves-
tors what Chemtura stood for as a company. It lacked
a clear value proposition across its portfolio, selling a

1) 10 of our 22 Winners are focused companies with a single business

reporting segment
2) Individual business unit comparable multiples adjusted up or down
based on business leadership

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mix of plastic, lubricant, and fuel additives to industrial production and water conservation to oil & gas com-
customers, agrochemicals to farmers, and pool chem- panies. It addresses customers' corrosion issues on
icals to retail channels. As a result Chemtura traded at production sites or pipelines, or treating crude oil at
a discount to the sum of its parts. With its portfolio refineries. Much like hygiene management and water
management actions and its new focus on additives, conservation may not be the core competency of the
Chemtura now provides a clearer value proposition hotel or restaurant chain customers, the choice of a
with a focus on ingredients which promote durability, chemical treatment to resolve an oil and gas produc-
safety, cleanliness, and efficiency in its customers' tion problem such as corrosion is generally not within
products. Its market valuation is now in line with the the expertise of the oil & gas operator. E
sum of its parts. We believe a disproportionate amount of attention
is given to the synergy potential of businesses within a
B.2 A portfolio of businesses portfolio rather than the coherence of these busi-
that enables the intent nesses to the strategic intent. In our view, synergies
(production assets, customers, markets) help maxi-
Winners' businesses are coherent to their strategic in- mize the value of a strategically coherent portfolio or
tent: they operate similar business models and sup- enable a buyer to ascribe value to an acquisition tar-
port the company's overarching value proposition. For get, but should not be paramount to the strategic ra-
example, all of Ecolab's businesses operate a "cus- tionale behind a combination or a divestiture.
tomer intimate" business model, which provides as- Once a company has defined its strategic intent, it
surance to its customers. We discussed Ecolab's then needs to focus on building a portfolio of busi-
Global Institutional business earlier. Looking at Eco- nesses that is coherent to this intent. Since the journey
lab's new Global Energy business (which resulted from towards a coherent portfolio may take time, incoherent
the merger of Nalco and Champion), it is interesting to businesses businesses that are not aligned with the
note that it also provides assurance of hydrocarbon company's value proposition and/or operate a differ-

E
Ecolab's fraternal businesses supporting the overarching value proposition

Fraternal businesses Common business model Overarching value proposition

>> Comprehensive portfolio Assurance of...

Global Institutional >> Solutions focus

Hygiene, water, and
>> Bundled pricing energy conservation
Global Industrial >> Distribution network
>> Flexible and redundant supply chain
>> Repeat business with large customers Energy production and
Global Energy water conservation

Source: Roland Berger

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ent business model may yet have a critical role to representative from the oil and gas side of the busi-
play during the transition. For example, a cash cow ness. As such, the team has the depth and breadth of
business can be retained by a company during the functional and industry experience to successfully de-
transition to fund the growth of its coherent business. liver the "assurance" value proposition in all the sec-
Incoherent businesses can also provide efficiencies to tors in which Ecolab operates.
the overall corporation during the transition, in the Furthermore, the Corporate Management of Winners
form of Financial Scale, which is explained later. Win- possesses functional experience and skills that are
ners tend to promptly divest businesses which are nei- aligned to the positioning of their portfolio of businesses
ther coherent nor have such a cash generation or effi- along the product lifecycle or maturity curve.
ciency role to play in the transition towards the For example, if a company has a large proportion of
strategic end-state. revenue from businesses that are positioned along the
"mature" to "declining" part of the continuum, it makes
B.3 Parenting advantage over sense that the Corporate Management have the neces-
these businesses sary skills set and experience to "fix" the businesses
(e.g. product, asset, geographic, and end-use market
As we described above, the portfolio of a Winner rationalization) to establish a more sustainable leader-
shares a common business model across its portfolio ship position for the future. Having a Management team
to drive a clear over-arching value proposition to its that has strong experience in the "growth" domain
customers. The Corporate Management of Winners would be a misfit with the above example and lead to
typically has strong competencies and industry knowl- execution issues. F
edge to deliver this business model successfully
across different businesses. For example, Ecolab's
management team largely comes from its Global Insti-
tutional and Global Industrial businesses, but has one

F
Management competencies over the product lifecycle

Industry volume
Growth Mature Decline

"Fix"
"Maintain" competencies
competencies

"Grow"
competencies

Time
Source: Roland Berger

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C. Financial scale: point of sale. This drives a liquidity risk premium for
Winners are relevant to investors the associated companies' cost of capital: investors
expect to be compensated for taking on this addi-
Winners have Financial Scale: they are relevant to in- tional risk. G
vestors, which enables them to efficiently and compet- Winners address the inefficiency in financial mar-
itively raise capital: in our analysis, Winners' median kets, and achieve relevance to investors via the combi-
annual cost of capital was 9%, significantly lower than nation of size and clarity of their risk-reward proposi-
Underperformers at 12%. In theory, in efficient finan- tions. It is important to note that our definition of scale
cial markets, all stocks would see similar levels of li- is more than just about size: companies like Balchem
quidity, i.e., the levels of supply and demand for each with revenues under USD 500 million in 2013 turn up
stock would be large enough to ensure that the price of in our Winners' list.
the stock is not be affected by its sale.
In practice, financial markets are inefficient and
not all stocks face the same degrees of liquidity. In
particular, smaller market capitalizations tend to see
lower levels of liquidity: the sale of a small portion of
their stock can change its price: the associated com-
panies' "true" value is then typically determined at the

G
Market inefficiency in selected indices1)

Bid-ask Return2)
Financial Market capitalization [USD bn] spread1) [1997-
market index 0 5 10 20 30 450 [basis pts] 2013, %]

0.7
12 8
Increasing liquidity

Russel 2000

1.0
SmallCap 600 8 8

3.7
MidCap 400 3 10
Increasing cost of capital

16.7
S&P 500 2 6

130.6
Dow Jones 1 5

Median
1) Difference between bid and ask prices relative to ask price over Apr-15-2013 through Apr-15-2014
2) Total shareholder return based on dividend adjusted share price growth from Dec-1997 through Dec- 2013
3) Russell 2000 has 8 companies above USD 5 bn in market cap
Source: Capital IQ, Roland Berger

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Cost of capital C.1 Size

Winners' median annual cost of capital was 9%,
significantly lower than Underperformers at 12% Winners drive Financial Scale via achieving larger
market capitalizations. The greater a company's
market capitalization, the more likely it is to be in-
cluded in well-known, actively traded financial indi-
ces such as the S&P500 and the Dow Jones Indus-
trial Average (DJIA) in the US, the FTSE100 in the
UK, or the DAX in Germany. Inclusion in such indices
generally enables companies to achieve greater rel-
evance to investors: it projects trust and implies that
the company's stock will be actively traded by inves-
tors trying to replicate or exceed the performance of

9% 12% the index. It also drives higher analyst coverage

which makes information about the company more
widely available. The associated higher trading vol-
ume increases the liquidity of listed stocks, ulti-
Winners Underperformers mately driving to a lower cost of capital.
We find that Winners are more likely than Under-
performers to have larger market capitalizations, and

>60% <20% therefore achieve higher representation in actively

traded indices: in our analysis, more than 60% of Win-
ners were part of large or mid-size capitalization indi-
ces, compared to less than 20% of Underperformers.

Capitalization indices
More than 60% of Winners were part of large or
mid-size capitalization indices, compared to less
than 20% of Underperformers

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C.2 Clear risk-reward

propositions Winners drive
Winners also drive Financial Scale through the pro- financial scale via
vision of a clear risk-reward proposition to inves-
tors: the portfolio of Winners provides a clear view larger market capital-
of how their profits may grow (rewards) and how
they may fluctuate (risk). Investors value this clarity izations (size) and a
as it allows them to build their own investment port-
folios based on their own objectives: term of the in- clear risk-reward
vestment, growth or income strategies, etc. Winners
achieve such clarity in two ways. Companies like proposition
Monsanto provide a risk-reward proposition that
closely mirror a particular sector cycle, enabling in-
vestors to easily buy this sector exposure. H
Winners may have a portfolio that is exposed to
different sectors but still provides a very consistent
overall risk-reward profile. For example, Balchem's
businesses (Food, Pharma and Nutrition, Animal Nu- H
trition and Health, ARC Specialty Products, and In- Monsanto earnings compared to
dustrial Products) are exposed to Health & Nutrition Agrichemicals industry1)
and Pharmaceuticals.
Normalized EBIT

400

300

200

100

-100
2009 2010 2011 2012 2013

Monsanto AgChem industry

1) Earnings measured by quarterly EBIT and indexed starting on

12/31/2008; Agchem industry consists of 55 US and European
companies with public financials classified by SIC code as "Fertilizers
and Agricultural Chemicals"
Source: Capital IQ, Roland Berger

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Although these industries are different, they are

both driven by non-discretionary spend and there-
fore relatively acyclical. This drives stability in the
earnings of Balchem's businesses and provides clar-
ity to investors around its overall risk-reward propo-
sition. Conversely, for Ashland, the businesses in the
portfolio are incoherent from a risk-reward stand-
point: they are exposed to different industries with
unrelated cycles (Industrial & Institutional, Con-
struction, and Consumer). It is interesting to note
that Ashland is addressing this issue with the recent
divestiture of its Water business (exposed to Indus-
trial & Institutional trends). I

I
EBIT volatilit y profile
Comparison of EBIT volatility profile of Balchem and Ashland businesses [%]1)

Balchem Ashland
120 120
100 100
80 80
60 60
40 40
20 20
0 0
-20 -20
-40 -40
-60 -60
-80 -80
-100 -100
2011 2012 2013 2011 2012 2013

ARC specialty products Food, Pharma, and Nutrition Specialty ingredients Water technologies
Animal nutrition and health Performance materials Consumer markets

1) Calculated as percentage difference to mean

Source: Capital IQ, Roland Berger

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D. Proven abilit y to execute: shortly after being spun off by Pharmacia in 1997, Mon-
Winners deliver results santo stated its vision to become the leading provider
of sustainable agricultural solutions. Everything that it
Winners deliver superior results by developing and im- has done since has been aligned with this vision: its
plementing strategies to drive Business Leadership, acquisitions of multiple seed trait companies and its
Strategic Coherence, and Financial Scale. We believe expansion into new regions. Monsanto's clear commu-
there are four key facets to execution: i) clear commu- nication of its vision and strategy to investors has al-
nication of the strategic intent, ii) disciplined approach lowed investors to develop informed earnings expecta-
to achieve competitive advantage, iii) active portfolio tions, and has positioned Monsanto favorably to meet
management, and iv) systematic standardization of or exceed these expectations. Our analysis of Winners
functions and processes. highlights a similar track record of consistently beating
investor expectations over the last 15 years. J
D.1 Clear communication
of the corporate vision D.2 Disciplined approach to
and strategy achieve competitive advantage
Winners clearly communicate their strategic intent and Winners follow a disciplined approach to identify
successfully execute against it. By providing investors and deploy their competitive advantage as de-
with line of sight into their future trajectory, Winners scribed in section 1 to drive Business Leadership:
manage investor expectations. As mentioned earlier, they understand their core competencies and how to

J
Earnings beats vs. misses1)

19% 24% 37% 20% 23% 29% 49%

81% 80%
76% 77%
71%
63%

51%

3M Albemarle Balchem Ecolab Monsanto Winners2) Underperformers1)

Beats Misses

1) Defined as EPS announcement vs. consensus estimate from 1999-2013 on a quarterly basis when available (otherwise yearly)
2) Through 2013 Q3
Source: Capital IQ, Roland Berger

18 Roland Berger Strategy Consultants

 think act
The Winners

translate them into an advantaged value proposition

and business model. They actively segment the mar- Winners prove their abil-
ket to refocus their participation, based on where
their value proposition is relevant. ity to execute by clearly
While much of the execution is driven by the busi-
nesses themselves, Winners provide adequate corpo- communicating their
rate support (resources or capital) to their businesses
to attain leadership positions, by organic and/or ac- strategic intent, pursu-
quisitive means. In general, businesses tend to indi-
vidually develop organic growth plans which they are ing a disciplined ap-
comfortable that they can deliver. We have found that
a higher level of organic growth is often achievable if proach to achieve com-
the corporate function is willing to support and incen-
tivize "stretch" targets. petitive advantage,
For example, in the oilfield chemicals industry where
sales are very relationship-driven, we have worked with actively managing their
companies where the corporate function decided to
fund the expensive recruitment of sales teams to accel- portfolio, and systemati-
erate top-line growth. The corporation only transferred
these costs back to the business unit once the revenues cally standardizing their
materialized. The businesses would not have been able
to bear these costs by themselves whilst meeting their functions and processes
performance targets in the short-term.

D.3 Active portfolio K

management Winners vs. Underperformers1)

Transactions per company [% of total transactions]
Winners engage in active portfolio management to
drive Business Leadership, Strategic Coherence, and 30
Financial Scale. Winners typically transact almost
twice as much as Underperformers, with a mix of bolt-
on and large acquisitions, as well as divestitures. K

0.4 0.7
12
They pursue bolt-ons to build, maintain, and ex- 10
7
tend their Business Leadership positions. For example,
Ecolab has executed more than 40 bolt-on acquisi- divestitures per divestitures per
tions in its Global Institutional business over the last acquisition acquisition
15 years to build and maintain its comprehensive ex- Winners Underperformers
pertise and offering around the hygiene, water, and
energy systems.
The majority of Winners also conduct large, transfor- Acquisitions Divestitures
mational acquisitions. While these transactions provide 1) Based 22 Winners and 22 Underperformers from January 1997 to
April 2014
Winners with Financial Scale, the main driver is generally
to either accelerate the pace towards Business Leader- Source: Capital IQ, Roland Berger

Roland Berger Strategy Consultants 19

 think act
The Winners

ship (e.g. PPG's acquisition of Sigma-Kalon) in their ex- Approximately 80% of the divestiture activity of
isting businesses or to acquire new leadership positions Winners consists of "bolt-offs", sales of businesses
which are coherent with the company's strategic intent with USD 100 million or less in revenues, typically
(e.g. Albemarle's acquisition of Akzo Catalysts). In con- representing an exit from geographic or product line
trast, Underperformers tend to pursue large acquisitions positions. Winners' divest large businesses even
primarily to achieve Financial Scale, without necessarily though these may have leadership positions to en-
checking the Strategic Coherence box first. L hance Strategic Coherence. For example, Henkel sold
Since Winners pursue acquisitions with strong Cognis in 2001 to make its portfolio coherent with its
strategic rationale and integrate acquisitions well, strategic shift towards consumer products. The pro-
they tend to divest significantly fewer properties rela- ceeds were subsequently used to fund the purchase
tive to their number of acquisitions: the ratio of dives- of Dial, a North American consumer care company,
titure per acquisition is 0.4 for Winners compared to two years later.
0.7 for Underperformers.

L
Transformational acquisitions
Select Winners
Deal % of acquirer's pre-deal EV/EBITDA multiple
market cap
Buyer Target

Accelerate LIN BOC 198% 6.0x 10.7x

pace
towards CRDA Uniqema 63% 10.7x 18.4x
Business
Leadership VAL Lilly 62% 9.2x 10.5x

IFF Bush Boake 43% 7.3x 14.2x

HEN Dial 39% 6.9x 11.7x

PPG Sigma-Kalon 23% 8.5x 9.5x

SHW Thompson Minwax 22% 9.6x

EMS Axantis 13% 16.9x

MON Seminis 11% 11.4x 12.4x

Add new ECL Nalco 69% 10.8x 11.3x

Strategically
Coherent
Business ALB Akzo Catalysts 61% 7.6x 8.9x
Leadership
position LONN Arch Chemical 36% 7.6x 10.5x

SIK Sama 19% 6.5x 13.3x

Indicates when the acquired or target company was valued higher than buyer
Source: Capital IQ, Roland Berger

20 Roland Berger Strategy Consultants

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The Winners

"Bolt-offs" D.4 Systematic standardization

Approximately 80% of the divestiture activity of of processes and centraliza-
Winners consists of "bolt-offs", sales of busi- tion of key functions
nesses with USD 100 million or less in revenues,
typically representing an exit from geographic or Winners deploy corporate processes across their busi-
product line positions nesses and centralize key functions, enabling them to
strengthen their parenting advantage over their portfo-

80%
lio of businesses, and achieve efficiencies in their indi-
rect costs. For example, 3M supports its overarching
business model, centered on innovation management,
with a set of corporate standards and processes ap-
plied across all of its businesses. Its "30% Rule" stip-
ulates that 30% of each business's revenues must
come from products introduced in the past 4 years. Its
research engineers can spend as much as 15% of their
Since 2012, we have seen many chemical compa- time pursuing their own creative ideas. 3M also em-
nies announce portfolio management actions focused ploys a defined resource and capital allocation pro-
on improving the clarity and transparency of their cess, as well as an incentive system across its busi-
risk-reward proposition to investors. For example, FMC nesses to support the generation and development of
has recently decided to split into two companies, New new ideas.
FMC which will comprise FMC's specialty businesses This systematic approach to standardization and
(Agricultural Solutions and Health & Nutrition busi- centralization enables Winners to achieve scale econ-
nesses), and FMC Minerals which will consist of FMC's omies in their sales, general, and administrative costs
former commodity businesses. The different growth (SG&A): over the last 5 years, Winners spent 47% of
parts of the former company were exposed to very dif- their gross profit on SG&A, vs. 67% for Underperform-
ferent forward risks and cycles. By splitting, FMC now ers. It should be noted that the ability to deploy stan-
provides investors with separate, clearer risk-reward dard process and centralize key functions will be sig-
profiles and improves its relevance to investors de- nificantly enhanced if a strategically coherent portfolio
spite the smaller size of each new entity. is already in place.

Roland Berger Strategy Consultants 21

 think act
The Winners

The Winners' Analysis is based on

business and financial fundamentals
and is universal in its application.

In summary, our Winners' Analysis identifies and char-

acterizes the discrete characteristics shared by Win-
ners, which enable them to consistently deliver top-tier
financial and shareholder return performance relative
to the industry in which they participate. It is based on
business and financial fundamentals and is universal
in its application: we have completed similar analyses
for two additional sectors industrial equipment and
oilfield services and observed that Winners in these
industries share similar characteristics. Detailed re-
sults of our analyses in these sectors will be published
in forthcoming articles.

Authors: Fred Choumert, Shashin Shah, Cliff Baratta,

Jonathon Wright

We also wish to recognize and appreciate the numerous rounds

of feedback, suggestions, and input that we have received from
our North America Chemicals and Oil & Gas team in particular
Rob Henske, Vijay Sarathy, Hitesh Chelawat, Yiqun Bai, and Prachi
Jalan as well as our Graphic Designer, Stephanie Tortomasi.

22 Roland Berger Strategy Consultants

 think act
The Winners

About us
Roland Berger Strategy Consultants

Roland Berger Strategy Consultants, founded in 1967, is one of the world's leading strategy consultancies. With
around 2,700 employees working in 51 offices in 36 countries worldwide, we have successful operations in all
major international markets.
Roland Berger advises major international industry and service companies as well as public institutions. Our services
cover all issues of strategic management from strategy alignment and new business models, processes and orga-
nizational structures, to technology strategies.
Roland Berger is an independent partnership owned by around 250 Partners. Its global Competence Centers
specialize in specific industries or functional issues.
At Roland Berger, we develop customized, creative strategies together with our clients. Our approach is based on
the entrepreneurial character and individuality of our consultants "It's character that creates impact".

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The Winners

Publisher The authors welcome

your questions, comments
Roland Berger and suggestions
Strategy Consultants GmbH
Mies-van-der-Rohe-Str. 6 FREDERIC CHOUMERT
80807 Munich Principal
Germany +1 617 869-8771
+49 89 9230-0 frederic.choumert@rolandberger.com
www.rolandberger.com
Shashin Shah
Principal
+1 857 204-2511
shashin.shah@rolandberger.com

Cliff Baratta
Consultant
+1 617 615-1823
cliff.baratta@rolandberger.com
Roland Berger Strategy Consultants
Two International Place Jonathon Wright
25th Floor Partner
Boston, Massachussetts 02110 +1 617 650-7144
USA jonathon.wright@rolandberger.com

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