monitor generating value chemicals

Possibility or Illusion?

Generating Economic Value in Chemicals

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Contents

I. Foreword and Executive Summary ............................................... p. 5

II. The Need for New Levers to Create Value .................................. p. 9

III. Lever 1: Recasting Innovation Management ........................... p. 15

IV. Lever 2: Targeting Customers Better ........................................ p. 25

V. Lever 3: Pricing for Value and Profit .......................................... p. 33

VI. Lever 4: Branding for Results and Premium Margins ........ p. 41

VII. Beyond the Customer: Managing Industry Dynamics ......... p. 49

I. Foreword and Executive Summary

For years, the chemicals industry has had to face deteriorating profitability and

has therefore generated very little economic value (see Chapter 2). The industry

has been very aware of this trend and has, in response, used various approaches

to try to improve the situation. A strong focus on costs, especially in manufac-

turing, has been complemented by M&A activities, with the objective of either

consolidating the industry or achieving backward, i.e. raw material, integration.

At the same time, as compared to the already difficult commodities situation, a

growing number of specialty chemicals producers have faced increasing com-

petition, downward pressure on prices, and diminishing margins. These are

typical symptoms of an impending “commoditization” of their products.

Unfortunately, the strategies used so far have not resulted in the improvements

hoped for. In this study, we present the results of a survey we recently conduct-

ed and propose new approaches to value generation in the chemicals industry in

order to decelerate and, where possible, reverse the negative trends described

above. Here, we focus on a number of levers which the chemicals industry has

not paid enough attention to thus far (see Exhibit 1).

As our survey reveals, the chemicals industry – compared to other B2B sectors

– pays too little attention to differentiation. Differentiation can not only be

achieved through R&D or new products, but also via the company presenting

The chemicals industry needs fundamental improvements to restore profitability

MONITOR GROUP 5

Exhibit 1: Illustrative Value Drivers in the Chemicals Industry

Source: Monitor Estimate

6 MONITOR GROUP

itself to customers in innovative ways, i.e. through customer targeting, market-

ing, focused value propositions, pricing, and branding. This study therefore

focuses on new ways of looking at innovation and differentiation.

Innovation (Chapter 3):

The intense and very competitive quest for product innovation has generally

neither yielded the breakthrough results hoped for nor contained or reversed

the ongoing commoditization. The industry’s approach to innovation should be

changed in three ways:

• Companies should take a more comprehensive view of innovation and apply the concept across the entire organization, not just in R&D

• Companies should formulate an explicit innovation strategy in order to provide overall direction, inspiration, and focus

• Companies should make more adequate use of R&D and innovation management tools

Customer Targeting (Chapter 4):

Companies throughout the industry are highly proficient in interacting with

their individual customers, but have difficulties serving the sum of customers,

i.e. the market, in a profitable way. Companies need to learn to leverage their

efforts and costs better by targeting the specific needs of entire customer seg-

ments, not only individual customers, as it is unlikely that any one customer

can sustain all the investments required to serve it in an optimal way.

• Companies should divide their markets into meaningful and action-able segments, i.e. into segments that define differing behaviors and needs, and which can be targeted separately and specifically by the orga-nization

• Specific value propositions must be developed according to these pref-erences and needs in order to serve each customer group in a targeted way

• The industry as a whole must become more customer driven in order to create more value

Pricing (Chapter 5):

Pricing is an important topic for the industry. Not only has highly aggressive

pricing driven down profitability, also, many companies have not even man-

aged to create value for themselves in the way they set their prices.

• Companies need to act in recognition of the importance of pricing as a key value generator for themselves and their entire industry


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• Consistent and value-generating pricing requires the definition of an underlying rational, dynamic pricing strategy

• Simplistic pricing tools that are driven more by cost than by value should be replaced or augmented with more sophisticated pricing tools as applied in most other industries

Branding (Chapter 6):

The chemicals industry attaches little importance to product and corporate

brands and the associated positioning of the respective product or company.

This neglect is risky given the importance brands and associations have for cus-

tomers in choosing their business partners. A brand summarizes the company’s

value proposition and the desired attributes that will define the company. As

such, a brand will provide trust, guidance, and a purchasing criterion for cus-

tomers. This is especially important for customer relationships in the chemicals

industry where the products or solutions sold are often critical components of

the purchasing company’s value chain.

• Companies need to proactively build their brand(s)

• Consistency needs to be established between the intended strategy, posi-tioning, the brand, and the company’s capabilities

• As a brand is built on what we do, not on what we say we do, the entire organization must be enabled to deliver an “on-brand” customer experience

• Branding, correctly applied, improves the bottom-line and is not the esoteric PR exercise it is commonly mistaken for

These four levers all have the same objective: to help companies differentiate

in the eyes of their customers, thereby escaping the trap of commoditization.

As a result, companies are able to demand higher prices for their products and

solutions based on a sound understanding of their products’ value contribution.

In addition to looking at the relationships between customers and companies,

the overall competitive environment should be influenced actively. Active and

conscious management of industry dynamics (within the bounds of anti-trust

legislation) could significantly increase the size of the available profit pools in

the various industry segments (Chapter 7).

It is crucial to begin learning to shift value from customers and customers’

customers to the industry and then to individual chemical firm. Unless a new

mindset around customers, differentiation, and competition emerges, the

industry will not manage to return to long-term positive value creation.


8 MONITOR GROUP

MONITOR GROUP 9

II. The Need for New Levers to Create Value

Very few players inside or outside the chemicals industry would argue that

the industry is in a good state. Figures underline this assumption. The indus-

try failed to generate significant economic value over the last five years1 (see

Exhibit 2). Moreover, shareholder returns over the last five years have been

far below what has been reached in other basic industries (see Exhibit 3). In

order to learn more about the industry’s view on value creation, the tools and

processes used by the companies, and their assessment of their own capabili-

ties, we recently conducted a survey among 40 European chemicals companies

active in the areas of commodities, specialties, and fine chemicals. Throughout

this study, we will use the results of this survey to describe current beliefs and

activities in the industry.

Economic profit generation in the chemicals industry is low and deteriorating

Exhibit 2: Economic Profit Spread of the European Chemicals Industry, 1997 – 2003

1 In 2003, the 52 European chemicals companies, for which data is publicly available, were on average not able to achieve returns above their cost of capital. With an economic profit spread of -0.25 percent, the industry even offset half of the smallvalue creation that had happened in the previous year with an economic profit spread of +0.5 percent. During the seven years from 1997 to 2003, these 52 companies together have generated an average annual economic profit of only 178 million Euros, with an average invested capital of 184 billion Euros.

Note: Industry classification based on primary SIC with 52 companies in the sample; pharmaceutical preparations excluded

Source: Global Vantage, Bloomberg, Barra, Monitor Analysis

10 MONITOR GROUP


Nevertheless, chemicals companies are

very confident of their own capabilities

Despite their low value generation, chemicals companies seem to be very con-

fident of their own capabilities. In our survey we found that a staggering 65

percent of the respondents, when asked to compare their own performance with

a self-chosen industry benchmark, judged their own company’s performance as

“very good” or even “as good as the industry benchmark’s” (see Exhibit 4). In

view of these results, it is difficult to believe that a deep sense of urgency exists

to improve the status quo of the industry.

Exhibit 3: Profitability in Basic Industries, 1998-2003/1999-2004

Exhibit 4: Companies’ Average Self-Ratings Relative to Benchmark Competitors (Survey Results)

1Top 10 companies by market capitalization, weighted, Apr 04

Source: Morningstar.com

Note: Industry benchmark = 10; self rating on a scale from 1 to 10

Source: Monitor Survey

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What are the reasons for this obvious discrepancy in perceived capabilities and

measurable results? There are two possible explanations. First, there may be

areas of weakness that the companies are actually aware of, but which remain

weak and which have a large impact on returns. Second, there may be areas

which are so far “off the companies’ radar screens” that shortcomings are not

even noticed. Both explanations will prove to be correct.

Within the generally very high rankings, three processes stand out as receiv-

ing somewhat lower marks: innovation management, managing inventions via

trademark creation, and pricing (see Exhibit 5). Here, the first two levers for

increasing profitability become apparent: managing innovation and pricing.

As we examined the industry’s perception of important value creators, cost

management and product innovation were deemed more important whereas

pricing, positioning and differentiation (i.e. branding and customer target-

ing) were considered less important (see Exhibit 6). While it is true that cost

reduction and product innovation have been used extensively and, in part, very

profitably in the past, they seem to have ceased generating much additional

value. Unfortunately, the industry has not yet started successfully focusing on

the additional levers, which might be able to make up for diminishing returns

on investments of the tactical ones. The lack of focus on differentiation is

Companies are aware of relative shortcomings in innovation and pricing

Exhibit 5: Companies’ Average Self-Ratings Regarding Specific Processes (Survey Results)

The industry’s evaluation of value creators reveals the hidden gaps: customer targeting and branding

1Precise average = 8.01


12 MONITOR GROUP


also evident in the companies’ very similar positioning. Little differentiation

exists even at the strategic level: Most of the “highlights” communicated to the

market are identical for more than 60 percent of the companies analyzed (see

Exhibit 7).

Exhibit 6: Relative Importance of Value Creators (Survey Results)

Exhibit 7: Publicly Communicated Strategies of 17 Large Chemicals Companies

1 e.g. through customer targeting (incl. market segmentation, better customer understanding, streamlining of offerings), and branding


1Industry consolidation, vertical integration, complemenation of portfolio, etc.

Source: Analysis of annual reports 2002

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The Need for New Levers to Create Value

So far, most chemicals companies are battling for customers and market shares

in the same (overcrowded) space with the obvious consequences for prices

and profitability. These companies have not yet learned to differentiate their

offerings via the way they understand and target their customers, through

developing differentiated and value-adding offerings, and by building their

brands. The industry is bound to protest against this statement. Nonetheless,

if brands were strong, if customers were targeted well, if segmentation worked,

more differentiation would exist with reduced commoditization and price ero-

sion. Hence, the other two levers required to address lacking profitability are

customer targeting and branding.

We believe that the chemicals industry players will not return to long-term

positive value creation unless they embrace a new approach to innovation man-

agement, customer targeting (addressing customers’ and customers’ customers’

needs more closely), pricing, and branding. A pure focus on the traditional stra-

tegic domains of the chemicals industry — customer relationship management,

product invention, M&A, and cost reduction — is unlikely to fully address the

value creation gap.

It is time to utilize new levers for value creation in the industry

14 MONITOR GROUP

MONITOR GROUP 15

III. Lever 1: Recasting Innovation Management

Innovation is crucial for any company. In Monitor’s 2003 survey on innovation

in the UK, executives called innovation “the life blood of our company” and stat-

ed, “Innovation is about wealth creation – that’s our only mission”. Innovation

is regarded as a crucial prerequisite for success in the chemicals industry as

well, as became clear again in our recent survey (see above, Exhibit 6). At the

same time, we found the companies to be dissatisfied with their proficiency in

innovation management (see above, Exhibit 5). The intense, very competitive

quest for product invention over the last decades – meant to reverse the down-

ward trend in profitability and ROI – has yielded mostly disappointing results.

There are three root causes for this lack of success:

1. a failure to seek innovation across the entire business rather than in R&D only

2. the lack of innovation strategy leading the organization to focus on incre-mental change

3. inadequate knowledge about, and disciplined use of R&D & Innovation management tools.

When addressing innovation and its impact on growth, most companies think

only of R&D. This narrow focus has two consequences. First, the R&D organiza-

tion is viewed as the exclusive source of innovation, which means that marketing

– representing customer needs and market requirements – is most often not

integrated sufficiently in the development process. As a result, new develop-

ments often do not meet the most urgent customer needs and may not find a

demand large enough to recover the investment. Furthermore, the organization

as a whole will not easily adapt the innovations and enthusiastically support

commercialization. Second, innovation efforts are focused almost exclusively

on technology and products. Why should innovation be limited to the resource

devoted to R&D, which is typically three percent of sales, instead of applying it

to the entire 90 plus percent of COGS and expenses? More broadly it means that

all other functions in the organization have a diminished role in innovation.

Clearly a major potential source of innovation is eliminated by this relegation.

Therefore, the concept of innovation needs to be extended to embrace the way

a company does business across the entire organization, so that all possible

aspects can be used to develop and extract maximum value from the market.

Viewed in this way, improved customer insights, more fitting value propositions,

improved business models, new distribution channels or financial competencies

should be just as much a focus of innovation and can contribute as much to gen-

erating value as the “classic” innovation area, R&D.

Three causes for unsatisfactory R&D results

Innovation management in chemicals is often reduced to R&D management

16 MONITOR GROUP

Partially due to the recent economic downturn, pressure on margins, and

increased scrutiny from shareholders and financial markets, chemicals compa-

nies are devoting an increasingly large share of their resources to research in

known and familiar, but crowded and therefore potentially highly competitive

areas. In addition, the industry continues to mature and management accepts

the inevitable by moving towards a risk-averse company culture – both on the

“vision”-level and in daily work and management. In the absence of a coher-

ent innovation strategy that would provide overall direction, inspiration, and

resources, any activities beyond the well-known territories will continue to be

perceived as an “ill-disciplined, unfocused accumulation of research projects”

which causes costs rather than as an investment in the future.

Neither basic nor more sophisticated tools of innovation management seem to

be known, accepted and used sufficiently by the majority of the chemicals indus-

try (see Exhibit 8). Our survey revealed that only 40 percent of the surveyed

companies have a structured process to identify development opportunities,

less than a third actively manage and enhance the value of their R&D project

portfolio, only slightly more than a quarter do structured post-R&D investment

reviews, less than a quarter have an active feedback loop with marketing and

sales, and less than one in seven companies apply the basic concept of product

life cycle management.


Innovation management is “incremental” and

lacks overall strategy

Innovation management tools are not

used sufficiently

Exhibit 8: Use of Tools Regarding R&D and Innovation (Survey Results)

1 e.g. real options


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Managing innovation well is a daunting task. Direction and focus need to be

provided, capabilities and resources built and managed, resources assigned,

timelines managed and market insights incorporated. To increase the innova-

tiveness of an organization and to address the three shortcomings mentioned

earlier in this chapter, many chemicals companies already use concepts such

as platforms, partnering, or the establishment of knowledge networks with

significant success. However, very few companies so far use the overarching

framework to address all relevant parameters in a coordinated way. There are

seven interdependent facets (see Exhibit 9) that need to be managed in an

integrated fashion in order to reap optimal benefits and reach a world-class

position in innovation. For a more detailed description of the diamond and its

components, please refer to the section “The Innovation Diamond” at the end

of this chapter.

Unlocking the value from innovation requires chemicals companies to rethink

their operating philosophy and build the systems, management culture and

capabilities required to create the value-generating innovations relevant to

their end markets. More specifically, this means:

• Get the basics right, use the appropriate innovation management tools in an effective way (see above, Exhibit 8), establish the appropriate orga-nization and company culture, develop appropriate metrics and set the right incentives.

• Re-invent what innovation means, not only technology, product, and process innovation, but also innovation in the customer interface such as differentiation, branding, marketing, customer segmentation, customer targeting, etc.


The “Innovation Diamond” shows the seven facets of increased innovativeness

Exhibit 9: The Innovation Diamond – a State of the Art Framework for Managing Innovation

Chemicals companies must unlock value by being truly innovative

18 MONITOR GROUP

• Develop a coherent innovation strategy and reprioritize invest-ments accordingly with less focus on incrementalism and more on next generation concepts and platforms.

• Be dogmatic about linking R&D to customers’ and customers’ cus-tomers’ evolving needs.

• Think about the generation of the highest value as embodied in the “Innovation Diamond”: use platforms, partnerships, and networks; pull together the necessary resources, competencies, and know how; gen-erate insights on customers needs, how competitors fulfill them, and what can be done earlier rather than later to generate additional value; establish good innovation processes/pipelines and allocate resources appropriately while actively managing innovation portfolios to discard value-destroying projects.

Benchmark against best-in-class

• For all innovation projects completed in the last five years, we know their incremental value to the company.

• We rely heavily on platforms, external partners, and networks to accelerate development and commercialization.

• We define and manage innovation at all levels; R&D, business models, serving the customer, etc.

• We have understood better than our peers to turn customer problems/issues into premium-price solutions.


MONITOR GROUP 19

THE INNOVATION DIAMOND

The following parameters or facets need to be managed in an integrated

fashion in order to reap optimal benefits and reach a world-class position in

innovation:

Facet 1: Use and management of portfolios must be expanded

Traditionally, the chemicals industry has been good at thinking along R&D

portfolios. However, the portfolio concept is usually limited to R&D projects,

and where portfolios exist, they are usually not managed sufficiently (see above,

Exhibit 8). A more diverse and compelling array of innovation topics within

the business portfolio is needed. This is directly related to a broader and stra-

tegic view of innovation, as is the case with the other facets of the diamond as

well. From a strategic viewpoint, portfolios of innovations (wherever they are

in the organization), R&D and business development projects, corporate devel-

opment opportunities as well as competencies, partners, products, markets,

processes, services, and ideas can and should be defined and managed. The

involvement of growth platforms, partners, networks, and customer insights

help significantly in establishing and managing these portfolios to increase the

growth and value potential of the organization.

A multitude of relevant parameters should be used to assess and manage these

portfolios. Useful and applicable parameters show the tradeoffs inherent in the

corresponding decisions, e.g. time to market versus likely reward, risk/reward,

or (technical) risk versus resources required for completion. Only by using and

managing such a wide array of criteria can the right balances be found, for

instance, between incremental and break-though innovation, or in-house proj-

ects and co-operations or buying options for technology.

For example, in the stagnating agrochemicals market companies have had to

react to the decreasing number of new active chemical ingredients leading to

blockbuster products. The rise of biotechnology provided not only new techni-

cal solutions, but also new business models such as focusing on seeds instead

of chemicals. The strategic choices to make were, and are, daunting. Should

the portfolio embrace only projects based on new technology, which is the road

Monsanto followed, or alternatively complement the traditional agrochemicals

business with biotech solutions and build up a balanced portfolio with invest-

ments in both areas, the choice made by most of the other big players such as

Syngenta, Bayer and Dow Agrosciences? Such a choice must be validated by

strategic insights and can only be driven through the company via rigorous

value analysis of the portfolio of opportunities relative to one another. The jury


20 MONITOR GROUP

is still out as to who had the best market insight and the portfolio to achieve the

best returns in the long run.

Facet 2: “Platforms” are best practice to develop focus and efficien-cy in innovation

Contemporary chemical organizations organized around business units often

do not bring together the know-how, resources, experience, financing, market

view, and business drive for market-oriented and successful innovation. Low

critical mass teams and “passionate individuals” tend to drive ideas or projects

toward often poorly evaluated opportunities. Due to lack of funding and poor

long-term market vision, these projects are often at risk of being abandoned

haphazardly.

Many organizations are now adopting a best practice where complementary

assets are brought together in “platforms”. Platforms are developed and formed

around topics that have a significant future impact on a company and its indus-

try and must be managed strategically.

A platform is an effective way to develop and allocate all the resources, both

inside and outside the organization, in order to develop a differentiated value

proposition for the customer. Platforms are allocated all necessary resources

to achieve their objectives. This may include financial resources, manpower

(including the right combination of capabilities, competencies, experience and

know-how), control over a shared asset (e.g. a plant in order to carry out test

runs for a certain number of days), intangible assets such as patents or tech-

nologies, access to the necessary decision makers and even certain customer

relationships so that joint developments or pilot tests in manufacturing, logis-

tics, marketing, or distribution can be carried out. Platforms in their ultimate

manifestation are virtual businesses, and if they prove their value to the enter-

prise, they undergo transition from monitoring mode to learning mode and

finally to business development mode.

DuPont was among the first companies to use platforms. In order to pursue

growth more actively, the company reorganized all its business activities into

five market- and technology-focused “growth platforms” in February 2002.

Focusing on electronic and communication technologies, performance materi-

als, coatings and color technologies, agriculture and nutrition, and safety and

protection, each platform has the critical mass to capitalize on strong market

positions, quality products and powerful brands. The change became necessary

when the Strategic Business Units (SBUs) introduced in 1992 were seen as too

narrowly defined to find significant growth opportunities. The broader-based

platforms represent “scientific platforms around market opportunities,” says


Platforms are clusters of technologies, competencies,

and market opportunities

MONITOR GROUP 21

DuPont chairman and CEO Charles Holliday2, and enable Dupont to bring

together their technology and offerings in new and innovative ways which were

not previously possible.

Facet 3: Partnerships provide complementary competencies, insights, etc.

Some crucial ingredients to driving innovation may just not be available within

one company. In such a situation, partnerships can and should be used to close

gaps and better leverage in-house competencies.

Partnerships can vary in depth, from “reactive partnerships”, established ad hoc

and in response to certain events, to “innovative partnerships” that are at the

heart of the respective partners’ strategies. The latter lead to intimate collabora-

tion throughout the two organizations, and often include joint investments for

shared products, capabilities and markets. The depth of partnership best suited

to a certain opportunity depends on its relevance for the participating compa-

nies. For example, for a polymer company, the external provider of packaging

material can be a close strategic partner for the development of innovative

materials and the efficient processes by which they can be produced. This kind

of situation probably thrives best with a strategic innovative partnership, where

both partners would commit to the application of significant crucial resources

over the longer term to ensure successful market penetration and the busi-

ness result. The more important the objectives and corresponding capabilities

become, the deeper partnerships need to be in order to be able to drive forward

the entire business(es) into otherwise inaccessible areas of innovation.

The concept of partnering is contrary to the often encountered NIH (not

invented here)-syndrome. Partnership commitment represents an organiza-

tional openness towards external influences to advance and maximize a busi-

ness opportunity. Consider Degussa, which has a long history of acquisitions

and divestments. Due to these frequent changes, the company had to get used

to repeatedly establishing deep working relationships with new entities, be it

newly acquired units or freshly spun-off companies. These experiences cre-

ated a very open company culture and a partnering attitude towards internal

and external partners. In this case, no company directive or overall strategic

decision existed. It was the establishment of an open culture that enabled the

company to draw the best out of its various resources. The pharmaceuticals

industry shows the way in not relying on internal innovation alone. Pfizer, for

instance, currently has over 50 technology joint ventures.


2 UMI, Chemical Week, December 18, 2002

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22 MONITOR GROUP


3 Degussa’s way of implementing platforms: To provide a basis for innovation across BUs, the company runs a maximum of three so called “project houses” that have a firm business plan and a time limit of three years. These project houses are jointprojects of various business units and are only established for ideas where a business potential of at least 50 Million Euro salesp.a. has been identified.

Exhibit 10: State-of-the-Art Development Pipeline

Facet 4: Networks enable the exchange of knowledge within and across company boundaries

The form of organization plays an important role in fostering innovation.

Traditional silo-like organizations inhibit the flow of insights, know-how, resourc-

es, and therefore innovation. More modern forms of organization, e.g. matrices,

have started to overcome these traditional disadvantages. As a further step in that

direction, networks allow the free exchange of information in the organization.

Platforms, on the other hand, are a way of bringing together the “ingredients”

necessary to drive forward a specific, already identified opportunity. Networks

are an organizational principle linking their members via widespread, point-

to-point and direct communication rather than via the hierarchical information

flows often present in today’s organizations. At the core of these networks is a

voluntary association based on mutual potential benefit, steered not by organiza-

tion design or formal systems, but by healthy self-interest.

Networks need not stop at company boundaries and can make use of exter-

nal resources such as universities, business partners or industry associations.

Consider Degussa’s description of its nanomaterials project house3, into which

it integrates external resources via a network approach. “Degussa is working

with nine German university institutes. The universities provide state-of-the-

art measuring technology and the results of their basic research, which they can

then test… in Degussa’s pilot plants. Thus, Degussa... can (capture the greater

richness of nanomaterials and deduce its practicality at an early stage to)

greatly reduce the developmental times for tailor-made nanomaterials.”

Facet 5: A good innovation pipeline provides high value capturing

Another lever for amplifying innovation is the active management of innovation

pipelines. The quality of an innovation pipeline is not only defined by the speed

with which ideas are brought from inception to commercialization, but also by

the value captured. A state-of-the-art innovation pipeline is characterized by

four attributes (see Exhibit 10).

MONITOR GROUP 23

First, a good pipeline possesses a “wide entry funnel”, driven by the broad and

enhanced insights gained by the concepts described above (platforms, customer

insights, partnerships, networks, etc.) (1). Second, development speed and flex-

ibility needs to be high (2). To ensure this, lead customer partnerships become

vital, as does rapid prototyping and “fast to failure or success” methodologies.

Third, the pipeline must be narrowed fast and substantially in order to concen-

trate resources on the most promising projects (3). Projects must be abandoned

as soon as they fail to pass the “gates” designed into the pipeline management

process. Lastly, the innovation and application potential of ideas under devel-

opment must be broadened (4). The cross-market view must be expanded

throughout the process, and non-core market opportunities and/or faster

access to more markets should be explored with partners or through licenses

etc. Obviously, the value of an efficient innovation pipeline is linked closely to

the other innovation concepts described earlier.

Even where the concept of pipelines is used, it often loses its effectiveness

during implementation. At times, non-uniform application of pipeline meth-

odology can confuse and render such techniques inefficient. BASF has avoided

these pitfalls by implementing their new innovation process globally and with

an intranet based support tool. The resulting process is relatively simple and

pragmatic. Tools such as forms, guidelines, and other information are available

via the intranet. In this way, the processes (and therefore the decisions) are con-

sistent. Furthermore, portfolios can be managed and their individual items can

be compared on a global level and are on the desktop of all relevant managers.

Facet 6: Insight into customers, competitors, and markets is key to successful innovation

A company’s innovations are only as good as its understanding of its custom-

ers, competitors, the market and technology developments. Every interaction,

partnership, or network-node location should be viewed as an opportunity to

extend the organization’s eyes and ears to the market. However, insight is more

than the knowledge of situations and the understanding of problems and needs.

To become useful and to foster innovation, this knowledge and understanding

must be combined with possible solutions to the problems and needs encoun-

tered. Insight is then the knowledge of how to add value by having a solution to

a customer’s problem, not only by understanding the issue itself.

Consider Air Products, one of the largest suppliers of industrial gases. Over

the last 30 years, their management and their internal business development

department have been actively seeking market opportunities and have provided

insights to both the business and the technology side of the company. In gen-


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24 MONITOR GROUP

erating and offering solutions to these opportunities, the company diversified

immensely and is now also active in the electronics business, low temperature

refrigeration, environmental technologies (e.g. the removal of pollutants from

heavy industry sites) and in waste/recycling technologies. The company also

integrated forward into manufacturing chemicals themselves and developed

innovative processes for the production of chemical intermediaries. This suc-

cessful diversification was only made possible by the way in which its globalized

business development brought to the surface customer and market based ideas

and married them with solutions across the business space.

Facet 7: Innovation needs an investment and growth attitude

In innovation, “investments” denotes the efficiency and effectiveness of use of

total resources – the resources available internally, the resources the company

can gain access to externally, and the investments into the innovation portfolio.

Leading innovators have started managing their property, plant and equip-

ment, human assets, intellectual property and intangible assets as fundamental

investments and cultivate them with a growth attitude.

One company that successfully used wise investments in resources to generate

fast growth is SABIC, the Saudi Basic Industrial Corp. SABIC was established

in 1976 to add value to Saudi Arabia’s natural hydrocarbon resources and today

is among the leading global petrochemical companies in terms of sales and

product diversity. This fast ascent is astonishing. SABIC’s success is based on

the way the company licensed world-class technology from the beginning. The

company became an expert in pinpointing, evaluating and selecting the best

available technologies and in negotiating hard in order to obtain the best pos-

sible terms. It managed its licensors to provide it with updates and the best in

terms of emerging technologies. Licensors trained SABIC employees – often for

free or for a nominal fee as part of the licensing agreement – and even operated

the plants for the first months until operations were stable and the staff was

properly trained. Success was founded in the realization that sufficient growth

could only be achieved with external assets and by implementing the chosen

path with the necessary dedication and single-mindedness.

To round off this multi-faceted approach to innovation and achieve highest

value in the continuous rich pipeline of innovations, the appropriate culture

must be established. Success must be measured and driven by intelligently set

metrics to enable the organization to reap its full innovation potential.


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MONITOR GROUP 25

IV. Lever 2: Targeting Customers Better

When it comes to interaction with its customers, the chemicals industry has a

mixed track record. On one hand, due to their long experience in handling key

customers on a personal and individual basis, the companies are very experi-

enced and successful in the areas of customer service and after sales service.

Our survey showed that various state-of-the-art tools are used by a large share

of the respondents and that satisfaction with the effectiveness of these tools is

high or very high (see Exhibit 11).

On the other hand, the individually-tailored, most often sales-force based treat-

ment is a very time-, resource-, and therefore cost-intensive way to serve one’s

customers. As products become increasingly commoditized, companies find

themselves in a highly competitive situation. This leads customers to demand

ever better prices or ever more specific services, both of which eat away at

margins, and suppliers have to keep up in order not to move their business

elsewhere. The companies end up in the catch-22 position of having to offer

individual service while maintaining competitive prices.

A promising way out of this situation lies in the combination of two activities.

First, the customer base needs to be segmented into meaningful and servable

segments, enabling the company to address groups of customers instead of

The industry treats the individual customer well …

Exhibit 11: Tools Used in Customer Service and After Sales Service (Survey Results)

… but fails to understand and serve the entirety of customers, i.e. the market


26 MONITOR GROUP


individuals and thereby lower their costs of service. Second, offerings that tar-

get the needs of these various segments have to be designed so specifically that

the company achieves differentiation from its competitors. Differentiation sub-

sequently enables the company to escape the commoditization and subsequent

price pressures in the industry and thus command premium prices for their

products and services. In this context, escaping commoditization does not nec-

essarily mean offering a different product. As the product itself is always only

one component of what the customer buys – other components could be price,

level of service, delivery speed or payment conditions, brand, product range

offered, technical support, distribution channel, order size, etc. – any change

in any of the components will create a different, differentiated “product” and

channel to market, which may meet a customer group’s specific needs and may

therefore be able to extract premium margins.

For this approach to work, companies have to understand their customers’ envi-

ronments, beliefs, behavioral patterns, and needs extremely well and tailor their

offerings specifically towards selected segments. Chemicals companies have not

traditionally used this market- and marketing-based approach sufficiently.

According to our survey, the market segmentations used today are largely “tra-

ditional”, based on regions, products sold, or end use (see Exhibit 12). None

of these variables generally provide real insights into customers’ behaviors

and needs (not to mention their economics), nor do they enable a company to

streamline its offerings towards specific market segments.

“Traditional” customer segmentation rarely provides actionable

insights

Exhibit 12: Tools Used in the Segmentation and Targeting of Customers (Survey Results)


MONITOR GROUP 27


What is required instead is an innovative segmentation that aims explicitly

at understanding customer behavior and needs in order to identify levers for

fulfilling these needs. Outside the chemicals industry, many companies use

innovative segmentation approaches that counter the drawbacks of traditional

techniques (see Exhibit 13). The main output of such an approach is a seg-

mentation map that defines meaningful and actionable segments by identifying

groups of customers that have similar behavior and needs within each segment.

Conversely different behavior and needs are distinguishable between the seg-

ments. For more details on innovative segmentations and their use, please refer

to the section “Effective Customer Targeting” at the end of this chapter.

Such an action-oriented segmentation can even be used to complement existing

segmentation frameworks. While the value proposition(s), customer targeting,

and the whole thinking around customer preferences are governed by the inno-

vative segmentation described above, existing organizational structures, e.g.

according to regions or products, may well be kept as they are.

Instead, innovative seg-mentations are needed that are meaningful and actionable

Exhibit 13: Tools Used in Customer Service and After Sales Service (Survey Results)

28 MONITOR GROUP

CASE STUDY

Innovative segmentation as an inspiration for new offerings

Implicitly, most chemicals companies in the commodities business have adopt-

ed a classical “ABC”-type customer segmentation. While products or regions

may be used as segmentation criteria officially, in essence the business system

is geared towards serving large customers most efficiently. Usually, smaller

customers are jettisoned, as their size does not warrant the kind of treat-

ment applied to the large ones. Their needs can also not be fulfilled efficiently

through an average distribution and service delivery system set up for serving

large customers directly. Consequently, distributors or agents have tradition-

ally been able to capture disproportional value.

However, when analyzing and segmenting the market – including numerous

interviews with both customers and non-customers – a major European manu-

facturer of polymers discovered a previously underserved segment and a way to

serve them profitably. This segment of small customers consists of experienced

buyers of a limited product range who do not need the frills of technical services

and who value reliable products at competitive prices. With these needs, they

fit neither of the existing distribution models. They are too small to be served

directly by the producer in a profitable way, but unwilling to pay the higher

distributor prices as they do not need most of the services offered.

Instead of continuing not to serve these customers, a new business model was

designed that offered a good value proposition to the customers while enabling

the producer to serve the segment profitably. An internet-based offering of

high quality products was created to accommodate both the segment’s price

sensitivity and its need for quality. As the customers are not interested in

complex, bundled services, additional services are offered, priced and paid for

individually.

Within a few months, and despite significant skepticism within the manufac-

turer’s sales organization, the offering managed to attract numerous new cli-

ents without margin erosion. The innovative customer segmentation therefore

did not only help identify a new class of customers, it also guided the design of

an attractive offering for this new target segment.

Straightforward as all this may sound, few companies actually undergo such a

process to question and refocus their way of addressing the market. For most

suppliers, the true understanding of customer needs can only be achieved

by actually going out and involving existing and would-be customers before

Customer-centered marketing can be

useful even in highly commoditized markets

Chemicals companies need to become

customer-driven organizations to

create more value


MONITOR GROUP 29

defining segments and thus the company’s market and marketing approach.

Ultimately, each customer wants to be catered to according to its specific

needs. Marketing and, more specifically, customer segmentation and targeting

is about understanding customer groups in such a way as to allow the seller to

provide a value proposition that serves the customer’s needs while at the same

time maximizing the seller’s profitability. No matter how important innovation,

processes and costs are for chemicals companies, they still have to learn from

other industries and become customer-driven organizations to escape com-

moditization and the resultant value destroying prized-based competition.


• We apply a segmentation methodology that reflects the behavior of cus-tomers, enabling us to develop value propositions that allow us to extract more value from customers and customers’ customers.

• We apply a segmentation methodology that is actionable in that we can iden-tify the customers we want to target and the means to target them with.

• We constantly bring new innovation(s) in our channel to market.

• Our entire organization applies a common concept to describe the behav-ior of customer segments which is then used to develop market-leading value propositions.

Effective Customer Targeting

Targeting customers and their needs well requires several steps. Innovative

segmentation is required to identify meaningful and actionable segments that

can be addressed individually. Behavior and needs need to be understood for

each segment and attractive value propositions need to be developed for those

segments that are attractive enough for the company to be served.

Innovative segmentation is “meaningful” in that the assignment of a customer

to a segment enables the company to predict that customer’s behavior and

needs. In a subsequent step, levers need to be defined, which induce changes in

the customer’s buying behavior (definition of “behavioral objectives”) and thus

stimulate the company’s targeted growth. Additionally, in order to be able to

assign the customers to segments, the segmentation also needs to be “action-

able”, i.e. the variables need to be observable, measurable and translatable into

immediate actions. Segments that are not actionable and display little or no dif-

ference in their demographics or other practical metrics make it impossible to

actually identify the customers that belong to a segment and prevent targeting

them with practical (sales or marketing) campaigns. Thus, “good segmenta-

A meaningful and actionable segmentation is the basis of customer targeting


30 MONITOR GROUP

tion” predicts customer behavior, uses dimensions that are easily observable

and measurable, and enables the company to target individual segments sepa-

rately and specifically to unlock hidden value.

In one chemicals market, for example, customer behavior and needs were

largely driven by their competitive position in the value chain (see Exhibit 14).

Requirements of the suppliers (among others the company that carried out the

segmentation to better serve their customers) depended on three variables. The

first variable consisted of how much pressure the companies were subjected

to by their customers, and the strategies they had adopted to cope with the

situations. The second important variable was their power position towards

their suppliers, and the third variable was whether they produced intermediate

products or products for end-use.

The “lean survivors” and the “lost generation” had the worst positions as they

were squeezed between strong suppliers and strong customers. The lean sur-

vivors, however, were still taken care of to a certain degree by their customers,

who – as professional purchasers – did not want a too unprofitable and there-

fore unstable situation to emerge in their supplying market. The lost generation,

who supplies into end markets, did not benefit from such considerations. These

fragmented consumers did not care about the situation in the supplying markets

and therefore pressure on the lost generation was enormous. While lean survi-

vors and lost generation superficially seemed to be in equally tight positions, the

“life insurance” given by their professional customers made the lean survivors a

Customers’ behavior and needs may be

influenced by their competitive positions

Exhibit 14: Example of Innovative Customer Segmentation


1 e.g. due to degree of consolidation, competition, or price pressures in own, suppliers’ or customers’ industries

MONITOR GROUP 31

more stable segment. Therefore, supplier relationships had a longer-term per-

spective, which in turn affected the way the segmenting company would serve

the segment.

Understanding the customers and their behavior therefore does not only

enable a company to develop appealing offerings for each customer group

(“value propositions”, see below), it also helps to distinguish between attractive

and less attractive segments from a strategic point of view, thereby directing

company and sales-force efforts in the appropriate direction. Practically, each

segment needs to be underpinned by various variables including market size

(volume, margins), channel to market, names of potential and existing custom-

ers, application, serving business unit, etc.

To target a chosen customer segment specifically, needs and behavior need to

be understood in more detail. What is the customers’ competitive environment,

what do they believe about the market, their customers and their suppliers,

what in turn are their requirements and how can a supplier help them best in

succeeding in their business? And what does the customers’ buying process look

like in this segment? Based on this understanding, the strategic positioning and

corresponding targeted value propositions need to be developed to extract

the maximum attainable value from the market. For this, standard marketing

components such as product (e.g., specific product range, quality, consistency,

or bundling), price, distribution channels, branding, positioning, and services

(e.g. delivery speed, warranties, technical service, etc.) are combined in order

to fulfill a specific segment’s needs in the best possible way.

In our example, more detailed analysis revealed that the lean survivors in the

example above had adapted quite well to their situation. The margin pressure

had led to industry consolidation and the remaining players had become highly

efficient. In order not to lose their customers, they focused on innovation and

looked to their raw material suppliers for corresponding support. However, as

innovations only bring short-term advantages – the powerful customers push

for sharing product improvements – and as this results in very little differentia-

tion potential, the players also needed to focus on cost reduction via good and

stable processes.

In this situation, besides the obvious adaptations to customer needs, there was

one additional promising way to increase the value to the customer and to the

company itself. This consisted of helping (selected, large) customers become

more profitable themselves and subsequently channel part of that additional

value on to their supplier. Two routes were followed. First, the company started

Detailed customer understand-ing determines the company’s “value proposition” for a segment


32 MONITOR GROUP

supporting the lean survivors in expanding their customer base and channeling

value from their customers to themselves, e.g. by providing new product devel-

opment support and helping expand into new geographical markets. Second,

the company worked together with lean survivors to streamline their cost posi-

tion and unlock hidden value, e.g. by rationalizing input products, conducting

efficiency audits, or working on a closer, more cost-efficient electronic order-

ing system. On an even higher level, a supplier in this position could help its

customer industry manage industry dynamics better and therefore increase the

profit pool available to the players4.

4 For more details on managing industry dynamics, please refer to Chapter 7, p.49.


MONITOR GROUP 33

V. Lever 3: Pricing for Value and Profit

According to our survey, the chemicals industry does not regard pricing as a

major value creator (see above, Exhibit 6), but nevertheless companies are not

content with their proficiency in this area (see above, Exhibit 5). Their percep-

tion seems to be justified. Highly aggressive pricing, prompted by a disregard

for the importance of maintaining the industry’s profit pools – the overall value

in an industry to be distributed amongst its players – and by a pure focus on the

individual company’s profit share, has driven down the profitability situation

of the entire industry (for details see Chapter 7, Managing Industry Dynamics).

Most importantly, many companies do not manage to create value for them-

selves in the way they set their prices.

The survey showed that various methods are applied to set prices at a strategic

level (see Exhibit 15). Also, on a more operational level, numerous forms of

sales measures and direct purchase incentives such as price discounts are used

(see Exhibit 16). However, both on the strategic and on the operational level,

traditional tools outweigh new, more sophisticated methods by far. Chemicals

companies are still focusing on selling “products” at a margin above costs.

Value-in-use pricing (i.e. pricing at a level to reflect the real value to the cus-

tomer) and trade-off based pricing models are not widely applied. The industry

is also only beginning to apply sophisticated dynamic real-time pricing models

applied e.g. in the airline industry.

The chemicals industry is dissatisfied with its profi-ciency in pricing

Current pricing is fairly simplistic and driven by cost instead of value

Exhibit 15: Tools Used in Pricing (Survey Results)


34 MONITOR GROUP

By focusing on volume and stability discounts, companies largely ignore the

lessons that could be learned from, e.g., fast moving consumer goods or the

airlines industry. There, companies focus on locking in clients via loyalty pro-

grams, stocks are managed actively using through stock clearance activities

among other things, or companies react rapidly to changes in demand (e.g.

prices vary depending on seasons, weekdays or even time of day). Even in

industrial goods more and more industries are fundamentally challenging pric-

ing protocols and practices, trying to adopt a more market oriented mindset in

their pricing policies.

The main pricing problem facing the chemicals industry is not the use of sim-

plistic pricing tools. It originates at a more fundamental level. Most often there

is no overall strategic framework that governs pricing at the corporate level.

Before a specific pricing tool can be applied sensibly, the strategic direction has

to be clear. Companies need to combine the toolbox of already existing pricing

tools within a consistent strategic framework aiming at both growing profit

share and maximizing the profit pool. To establish consistent, value generat-

ing pricing, a company therefore needs to use “strategic pricing”, i.e. design an

overall pricing strategy (interlinked with the overall strategy of the company),

derive its pricing system, and finally implement it in a stringent way. For more

details, please refer to the section “Strategic Pricing” at the end of this chapter.

Ultimately, companies do not want to be at the mercy of an anonymous mar-

ket to dictate their prices. Strategic pricing is therefore about maintaining

The main problem is the lack of an underlying

pricing strategy

Exhibit 16: Use of Price Discounts and Sales Measures (Survey Results)



Strategic pricing should put the power back in the

hands of the individual suppliers

MONITOR GROUP 35

(or restoring) a healthy price level in an industry (for details see Chapter 7:

Managing Industry Dynamics) and about setting one’s own prices intelligently

within such a disciplined industry setting. In order not to lose control over

pricing, companies need to avoid cost-based, formula-linked pricing, too high

transparency in non-commodity markets, market share obsession, and head-on

price battles. Only by viewing pricing as a strategic task, and only by combining

a profit share focus with the concept of maintaining the profit pool will chemi-

cals companies be able to restore price levels to a level at which the industry will

be able to make appropriate returns again.


• Price realization and price levels are strategic issues that are managed at board level, with significant influence on staff compensation – from the CEO down to the account personnel at the customer interface.

• Our pricing strategy and tools allow us to set prices at the maximum cus-tomers are willing and able to pay without any loss in value.

• Our pricing tools allow us to adjust prices and output faster than competi-tors, allowing us to maintain the lowest stock levels and highest average realizable prices in the industry.

• Our pricing tools are fully integrated in the value proposition for all the chosen segments we serve.

Strategic Pricing

An integrated comprehensive pricing strategy (see Exhibit 17) gives an overall

direction to a company’s pricing system. It therefore needs to answer fun-

damental questions about competitive and market positioning, competitive

behavior, and the company’s value proposition in its target segments.

Three sets of questions need to be addressed: First, the company needs to

define where it wants to position itself vis-à-vis its customers. For example,

is the company’s value proposition based on low prices, innovative technol-

ogy, or value-added services? Does the company define its product to be just

“chemicals” or does it want to sell product or process innovations, technological

know-how and solutions as well? Second, decisions need to be made regarding

the way the company wants to interact with its competition. Does the company

want to influence its own pricing actively, or does it want to be a pure price

taker and accept the price the market makes? If it wants to influence its pricing,

does it want to avoid or search for pricing confrontations? If it plans to avoid

An integrated pricing strategy is needed to provide overall direction


36 MONITOR GROUP

confrontations, does it want to establish the company as leader or follower?

Lastly, and aligned with its value proposition, the company needs to define its

source of value generation for shareholders. Does the company focus on profit

optimization, market share optimization, or does it work with a volume/utiliza-

tion focus?

As for the development of a competitive value proposition, a company has to

understand and segment the customer base with a pragmatic focus on customer

needs and purchasing behavior to understand how customers may react to

changes in pricing and competitive behavior. It also needs to understand the

entire value chain dynamics linking pricing strategy to overall market strategy.

A value chain and industry structure analysis is important to identify how the

value is distributed along the value chain, how to shift it, where in the industry

there may be untapped value, and how to capture it.

In a next step, companies should use the industry understanding gained from

the analyses described above to simulate future industry developments – e.g.

by applying adequate tools such as game theory, competitor simulation, and

scenario planning, depending on the specific situation, objectives, and time

horizons – and determine their best pricing strategy vis-à-vis these future

developments.

The company needs to understand the status

quo and possible indus-try developments

Exhibit 17: Process to Develop and Implement “Strategic Pricing”


1 e.g. value-in-use pricing, trade-off based pricing, dynamic pricing, etc.

MONITOR GROUP 37

The pricing system on an operational level is determined by the position a com-

pany chooses in the three strategic domains of value proposition, competitive

behaviour, and value generation. A pricing system can only be designed once an

overall pricing strategy – consistent with and part of the overall strategy of the

company – is in place. Within this strategy, the single pricing tools can then be

used in a pragmatic and aligned fashion in order to maximize both the industry

profit pool and a company’s share of this pool. Some of the tools that can be

applied are exchange based pricing, dynamic pricing, value-in-use pricing, and

trade-off based pricing tools (see Exhibit 18).

Interestingly enough, exchange based pricing does not exist in the European

chemicals industry. As opposed to agriculture or oil for example, in chemi-

cals there is no market providing the option to hedge or execute forward or

future sales so far, but a first initiative was started by the LME (London Metal

Exchange) to begin trading in plastics futures by mid 2005. A more transaction

based, objective, and responsive pricing mechanism would help companies

react faster, thereby balancing supply and demand better. This would, in turn,

lead to a reduction in both price movements and average stock levels. Clear

The pricing strategy guides the use of the individual pricing tools

Exchange based pricing and dynamic pricing can add value in commodities

Exhibit 18: Description of Various Pricing Tools


Pricing toolsExchange-based pricing Dynamic pricing

Value-in-use pricing

Trade-off based pricing

Description Trading chemicals and their respective derivatives on an exchange

Short-term adjust-ment of prices to adapt demand to supply

Pricing a product or service accord-ing to the value to the customers

Attaching attributes to create “different products” and pricing them differently

Advantages Options to hedge and mediate risk; transparent prices to steer supply

Good to maximize capacity utilization or to discharge overproduction

Pricing beyond cost-based approach, but dan-ger to be underbid by competitors

Pricing adapted to specific customer needs and preferences

Prerequisites Product specifi ca-tions unambiguous; many suppliers, many buyers

Diverse and large customer base

Moderate compe-tition; differenti-ated product and product benefi t to customers

Possibility to defi ne different product bundles with differ-ent customer benefi ts

Best for Commodities Commodities Specialties, fi ne chemicals

Specialties, fi ne chemicals

Examples• non-chemicals

• chemicals

• Commodity or metal exchange

• Plan of LME to start trading in plastics futures

• Airline industry • Ulcer drug Zantac • Mobile telephony: rates

• Advanced polyolefi ns

38 MONITOR GROUP

messages in the form of transparent prices could help companies handle their

production capacity better, both in terms of ongoing utilization and by avoiding

over-investment in new capacity.

In the absence of a functioning market as described above, a pricing mechanism

that could be beneficial for standard products or commodities is dynamic pric-

ing, similar to what is used in the airline industry. Dynamic pricing is a tactical

tool to adapt demand to capacity and stock by adjusting prices on a short-term

basis. First, price elasticity, supply, and demand are measured dynamically.

Then forecasts about the supply-demand balance over the next few days are

made on the basis of historical data, seasonality curves etc., and the best

prices in that scenario are determined. To improve results, it may be useful to

move away from sales-force based to stochastic forecasts. This helps to avoid

systematic mistakes by replacing them by “random” ones that are on average

more correct than systematically biased ones. However, this is only possible in

markets that display a customer base diverse and large enough to use stochastic

approaches. Dynamic pricing can also discriminate between single clients and

gives the option to price differently for different customers, depending on their

individual preferences and price sensitivities.

For specialties, other pricing tools should be used. Value-in-use pricing tries

to assess the value the product or solution has for the customer and prices

accordingly. Here, value for the customer can mean the fraction of value in

the final product or the downside for the customer (e.g. lost production time,

quality problems, possible recalls, etc.) if the product or solution is delivered

not at all or in a lesser quality. As value-in-use pricing does not primarily rely

on production costs, a company using this tool can be underbid by competitors

fighting for market share and accepting a lower margin. Value-in-use pricing

can therefore only work where the competition is moderate, i.e. not in commodi-

ties markets, where a competitor could always supply the goods in question and

therefore undermine the company’s pricing efforts. But even in specialties, the

temptation to underbid a competitor and try to gain market share is great. This

is where the “profit pool” idea comes in again. Offering the same product or

solution at cheaper prices may shift market shares, albeit often only temporar-

ily. Ultimately, however, it will damage the entire industry by driving prices

downwards, where pockets of value could have been upheld otherwise.

One of the most famous examples of value-in-use pricing was given by the

pharmaceuticals company Glaxo. When introducing its new ulcer drug Zantac

in the early eighties, the company decided to price it a whopping 50 percent

above SmithKlineBeecham’s market leading Tagamed. Glaxo justified its pric-

For specialties and fine chemicals value-in-use

and trade-off based pricing can be useful


MONITOR GROUP 39

ing with the fact that Zantac had significantly fewer side effects than Tagamed.

Here the value-in-use was obviously not given by the product’s value share of

a finished product, but by the better tolerance of end-users. The gamble paid

off, propelling Zantac into market leadership for the next decade and allowing

Glaxo to turn into a serious market player.

Trade-off based pricing can be employed where many additional attributes

can be attached to a product, i.e. where a product either is (by itself) or can be

made into (via attributes) a non-commodity. For trade-off based pricing, vari-

ous product bundles are defined by attaching, e.g. differing delivery schedules,

days payable, levels of technical service, or flexibility in order size. The custom-

er can then choose between a multitude of slightly different product “bundles”

at different prices. In this way, the value extracted from the customer can be

maximized.

Both value-in-use and trade-off based pricing result in prices that are not

transparent to the customers. This can only be maintained if the underlying

goods or the value for the customer differs from one client to the other, so that

direct comparisons are impossible.

Even where sophisticated pricing systems exist, their implementation and

daily use is often problematic. Acting with the necessary pricing discipline fre-

quently implies making difficult choices. One of these choices is the classic one

of letting go of an unprofitable account with a long-standing relationship. If the

customer has too little potential, he must be abandoned in favor of developing

accounts better suited for the company’s value proposition and chosen strate-

gic direction. For this to happen, communication and discipline are essential.

The company’s strategy – including the pricing strategy and its objectives

within the overall strategic framework – need to be communicated thoroughly

to the account managers. Only if these issues are clear and unambiguous, and

if the account managers internalize these concepts thoroughly, will they be able

to live the new system and make their decisions in accordance with the general

strategic direction. Most companies who have successfully implemented alter-

native pricing strategies and tools have managed it as a change management

effort similar to a large-scale corporate reorganization.

Strategic pricing can only succeed if employees com-mit to the logic


40 MONITOR GROUP

MONITOR GROUP 41

VI. Lever 4: Branding for Results and Premium Margins

For chemicals companies, as for many business-to-business companies, brand-

ing is not an obvious topic. After all, there are no mass consumers to be attracted

or mass markets to be convinced of a product benefit. Purchasing decisions are

made by professional buyers based on direct interactions, specific product per-

formance and price. However, these arguments underestimate the impact and

value of a brand, even in an environment such as the chemicals industry.

A brand is the sum of the functional and emotional associations about a prod-

uct or a company (corporate brand) that are held in the minds of customers,

company employees and key stakeholders, and that are based on their experi-

ences with the brand. Ideally, a brand gives customers trust in the product or

producer and therefore makes them more willing not only to buy the product

or solution, but to prefer it over competitive offers. The strength of a brand

can therefore be inferred (among other things) from customer behavior.

Companies with strong (product or corporate) brands can either command a

premium price for an otherwise identical product/solution or receive the bulk

of the business over a similarly priced competitor when price is a key purchase

factor and there are no other more substantive ways to differentiate and add

value for the customers.

Taking the current situation in the chemicals industry as an indicator, i.e.

decreasing profitability despite cost cutting, fierce direct competition, and

eroding prices, the strength of both product and corporate brands needs to

be questioned, as does the self-perception of high proficiency in this area (see

survey results above, Exhibit 5). This obviously does not mean that building a

strong brand is the one answer to all the problems mentioned above. However,

it is clearly one of the levers that can and must be utilized together with others

such as positioning and differentiation.

Our survey identifies how little importance the chemicals industry gives to

both product and corporate brands and the associated positioning of the

respective product or company (see Exhibit 19). None of the standard pro-

cesses is used by more than 30 percent of the respondents, and especially the

key tool of articulating a brand and its message corporate-wide is used by 13

percent of the companies only. Moreover, generally there is no overarching

corporate responsibility to be found for “branding/marketing”; this function

is mostly bundled into corporate communications or investor relations. With

few exceptions, the chemicals industry is not using the concept of branding

systematically.

Branding is a useful tool for decommoditizing an offering

Branding is virtually non-existent in the chemicals industry

42 MONITOR GROUP

This lack seems to be intentional. While the survey found differentiation

through innovative products to be very high on the industry’s agenda, posi-

tioning and differentiation through means of marketing were regarded as least

important value creator (see above, Exhibit 6).

A strong brand is something usually developed by typical consumer companies.

The most prominent example is Coca Cola, quoted as the most valuable brand

worldwide for decades. Nevertheless, Interbrand’s 2003 ranking of the world’s

100 top brands also includes companies from less obvious industries that gen-

erally have difficulties establishing a strong (mental) presence with classical

consumers. Admittedly, the list names only seven (mainly) industrial goods

companies such as IBM, GE, and Intel, six professional services companies (e.g.

Morgan Stanley, Accenture and Reuters), three banks/financial services com-

panies (e.g. Citibank, American Express) and three pharmaceutical companies

(e.g. Pfizer, Merck). However, except for the oil-companies BP, Shell, and Mobil

– and similar to, e.g., utilities companies – not one chemical company made it

onto the list, although one would have expected to see some famous names like

BASF, DuPont, Dow Chemical or Bayer.

Exhibit 19: Tools Used in Branding and Positioning (Survey Results)



MONITOR GROUP 43

In the chemicals industry, the concept of branding is applied far too little. A

strong brand summarizes the company value proposition and the desired attri-

butes that will define the company. As such it helps customers and external

stakeholders to develop a positive attitude towards the company, and provides

focus for the employees individually and the entire organization as a whole.

However, a brand is not built on what we say we do, but on what we do. After

defining what exactly the brand is supposed to convey, the entire organization

must therefore be enabled to deliver an “on-brand” customer experience, i.e. a

customer interaction that reinforces the image the customer wants to present to

customers, markets and employees. For more details on brands, their “activa-

tion” and their positive effects, please refer to the section “Effective Branding”

at the end of this chapter

Building a brand pro-actively – and that does not imply TV advertising or

glossy inserts in popular magazines – has many benefits. It means that a com-

pany proactively defines what it intends and stands for. That in turn steers the

actions internally and externally that create believability, credibility, and trust.

In the absence of pro-active steering, customers assemble their associations

randomly, e.g. from competitors’ information, rumors, and the press. The resul-

tant product or corporate brand will be fuzzy at best. Conscious branding, i.e.

the continuous process of proactively managing and communicating the unique

and relevant ways in which the respective product or company creates value for

its customers, therefore has the invaluable benefit of having the value proposi-

tion clearly articulated by the company, not by competitors and the market, and

thus reducing the risk of misinterpretation.

Companies need to reevaluate the way they think about branding – from an

expensive, misunderstood concept to a behavior-based activity designed to

increase company revenues. Branding in the overarching sense described

here encapsulates how an organization develops, guides and communicates

its behavior to optimize its share of business from customers. The difference

between this concept and what the chemicals industry has been practicing thus

far is significant. Product “branding” in the chemicals industry is largely about

patenting and licensing, while corporate brands get virtually no attention at

all. In reality, a strong corporate brand is especially important for the high-risk

industries mentioned above.

Applying this holistic concept of branding to a company is a difficult process,

as it encompasses the entire organization as well as customers and markets.

Different from many consumer goods industries, it is not necessary to use

a large marketing budget to “drill home” the new message. In this industry,

emphasis should be placed on understanding customers, articulating brand

Proactive branding creates value and provides focus

Better branding is needed to increase differentiation and build trust


44 MONITOR GROUP

intent and brand message, changing employees' perception and behaviour and

refocusing entire companies. Together with customer targeting and pricing

tools, branding – as it refers to aligning the organization closely with what the

chosen target segments want and delivering a specifically tailored, unique, and

consistent value proposition – builds much needed differentiation and enables

a company to avoid the trap of low and decreasing profitability.


• We measure and track the value of our brand.

• Brand is a key component of our value proposition and we know how much it is worth to our customers.

• Our front-line organization can articulate our brand’s intent and can exe-cute its tasks in a way that delivers “on-brand” experiences to customers.

• Our brand enables us to achieve above average margins.

• “Brand” is a board issue high on the agenda of the CEO.

Effective Branding

Branding is about connecting a name/logo with a positive association that

will support the company in its business. However, simply selecting appropri-

ate associations does not make a brand successful. Associations do not form

according to what people are told about the brand, but according to their own

experiences with the company and its products and services. Consistency

between the intended strategy, positioning, and brand on one hand and the

actually delivered experience (both externally to the customers and internally

to employees) on the other hand is critical for success. This has two conse-

quences. First, the strategic positioning of the company must be compatible

with what it can realistically deliver. Otherwise not only the brand, but also the

entire strategy will fail. Second, once the overall strategic framework fits with

the company’s capabilities, the entire organization must be enabled to deliver

an “on-brand” customer experience. Activating a brand in such a way must

happen on a very detailed, very operational level and is therefore a serious

change management initiative.

This change management part of a branding effort is the most time consum-

ing, most difficult and most often neglected aspect of branding. It requires not

only making the brand intent understood throughout the entire organization,

but also focusing all employees and processes on customer needs and how to

best fulfill them. Ultimately, the organization must be turned around to deliver

Branding is about “rebuilding the house”,

not “applying a new layer of paint”

A brand needs to be “activated” to be successful


MONITOR GROUP 45

“on-brand” customer experiences consistently, i.e. everywhere, all the time and

in all forms of interactions.

Internal resistance to such “brand activation” is often enormous. Not only

are most organizations inherently resistant to change. More fundamentally,

“branding” and “marketing” in general have a very bad reputation in most

industrial goods companies. Especially the business organization is usually

deeply suspicious of suggestions from marketing, corporate communication or

strategy departments and needs to be shown the economic impact of an improved

brand and “on-brand” behavior. Ultimately, one “test” can be used to determine

the validity and quality of the design and implementation of a brand: if the sales

force can explain the brand/positioning to a customer and use it to generate addi-

tional sales, then the branding exercise has been successful.

A brand that has been built successfully provides focus to the company. It has

two spheres of influence: the external sphere of influence includes the custom-

ers and key stakeholders, whereas the internal one encompasses the company’s

employees.

Externally, a brand summarizes the company value proposition and the desired

attributes that will define the company, i.e. “who the firm is and what it stands

for”. As such, it will provide trust, guidance and a purchasing criterion for cus-

tomers who need to decide on their business partner. This is much more impor-

tant in B2B customer relationships than in consumer markets and especially

crucial in industries such as chemicals where there is a strong focus on long-

term and personal customer relationships. Generally, the products or solutions

purchased are critical components of the purchasing company’s value chain.

What counts here is not persuasion, as in many consumer markets where value

is often created instantly after a purchase, but performance, which includes

product performance, reliability, and service, as well as financial stability, eth-

ics, and integrity as guarantors of a stable and long-term relationship. In such

a relationship, value is built over time rather than instantly. It is this value and

this performance that a (corporate or product) brand needs to capture and con-

vey in order for customers to have an immediate association with these attri-

butes. In this way, brands improve customer retention, enable the company to

charge a premium and thus even act as barrier to competition.

The second external component – stakeholders – is becoming increasingly

important in Europe, particularly for perceived “high-risk” industries like

pharmaceuticals, oil, energy, and chemicals, that have a potentially large envi-

ronmental and health impacts. The power of political activist groups, environ-

mentalists, and NGOs should not be underestimated. The economic impact of

Externally, a brand enables a firm to sell more than product specifications


46 MONITOR GROUP

these groups on a target company can be significant, be it through disruption of

processes, delays of approval, general purchase boycotts, or simply by tainting

– whether justified or not – the reputation of a company enough so that existing

and potential customers hesitate to be seen doing business with it. Regarding

these stakeholders, an extension of the corporate brand to include relevant

parameters can lessen the company’s vulnerability to a crisis.

Internally, the brand also summarizes the company value proposition and the

desired attributes that will define the company, i.e. “who the firm is and what

it stands for”. The implications are different. In an internal context, a strong

brand acts as a guiding force that helps the organization focus on delivering

products, services, and experiences that will exceed customer expectations

and thereby reinforce the brand in customers’ minds. It therefore enables the

company to use the power of what it wants to be and/or its reputation to drive

consistent actions throughout the organization. As an organizational steering

mechanism, a brand may thus achieve what the often blasé vision/mission

statements frequently fail to do. In addition, a strong brand helps significantly

in the areas of recruiting and retention, something especially important as

chemicals companies often lose the “war of talents” against industries that are

perceived to be more attractive.

Consider the case of a large energy service provider. The company had found

that neither it nor any of its four major competitors stood out in the minds of

its (mainly B2B) customers. The company conducted extensive research among

customers and non-customers in order to learn about customers’ needs and

complaints as well as competitors’ perceived positioning. As a response, the

company decided to position itself as possessing the innovations and expertise

to create opportunities for customers and deliver value-adding results.

In a second step, the customers’ experience with the company needed to be

changed in order to support and reinforce this image. One main focus was

the sales force, which customers felt contributed most significantly to their

perception of the company. Brand harming actions identified in the customer

interviews – for example repeated uncompetitive pricing, repeatedly submit-

ting proposals that do not address the customer’s actual request, or inconsistent

behavior among different customer touch points (e.g. marketers and traders)

– were eliminated. In addition, brand-building actions were defined. Rules and

processes were established on frequencies of visits, topics of visits or response

times for calls. A culture change was brought about to treat customers with

an unusual openness. For example, if a sales representative did not have the

option of submitting a competitive offer, for whatever reason, customers were

Internally, a brand is a strong steering mecha-nism to align the whole

organization

Example: A large energy service provider changed

internally to reinforce a new brand intent


MONITOR GROUP 47

informed of this fact upfront rather than sending uncompetitive quotes or

delaying an answer inappropriately. Unrealistic, vague promises were replaced

with direct and open answers and a constructive way of thinking through cus-

tomers’ problems. New sales support material conveyed the new messages.

An internal “brand education” program clearly explained not only the “new”

brand intent and the economic benefits of a strengthened brand/reputation,

but also the roles of the individual employees in achieving such a change.

The results of the branding efforts were very positive. Drastic improvements

could not only be seen in soft factors, where the company gained on key attri-

butes and jumped from an on-par rating with two other competitors to being

considered as the most favorite brand by a factor of two during the period

analyzed. The company also managed to increase sales by 20 percent in the

pilot areas and posted a significant market share increase while the primary

competitor’s shares declined.


48 MONITOR GROUP

VII. Beyond the Customer: Managing Industry Dynamics

These four new levers for creating value in chemicals – improved innovation,

customer targeting, pricing, and branding – all have the same goal, namely to

differentiate the company in the eyes of its customers and therefore allow it to

escape the ongoing commoditization and price erosion. As always, there cer-

tainly exist other areas of possible improvement. In addition to looking at the

relationships between customers and companies, the industry as a whole needs

work. A more active and conscious management of industry dynamics would

help improve the overall competitive environment significantly.

Managing industry dynamics is predominantly about increasing the value pool

of an industry, i.e. the total value in an industry to be distributed among its

players. The chemicals industry has been hit especially hard by commoditiza-

tion and price erosion, as seen in the overall lack of value generation in the

industry (see above, Exhibit 2). Contrary to common belief, industry environ-

ments can be managed actively and openly without resorting to illegal practices

such as fixing prices or market shares.

To increase the value pool of an industry, the distribution of value between two

industries, i.e. along the value chain, needs to be shifted. Several options exist

to achieve this, all of them achievable within the realms of competition law and

without any form of uncompetitive behavior or collusion. Implicitly, rules of

conduct can change when industry consensus emerges on long-term winning

gaming strategies. More noticeable are changes in capacity management or a

drive towards consolidation. The most explicit form may be cooptition, a hybrid

word – and concept – combining cooperation and competition. Cooptition is

what happens in industry clusters for example. Members of the cluster may

compete for customers, in marketing, and the development of technology into

marketable products, but may cooperate in market development and customer

education, raw material purchasing, or basic research to save costs and drive

the industry forward in ways not possible for the individual players.

CASE STUDY

In the airlines industry, for example, stabilization is sought through the cre-

ation of alliances such as British Airway’s oneworld or Lufthansa’s Star Alliance.

The value is created not only through shared services (both shared flights

and ground services), purchasing advantages or better value propositions

through harmonized flight schedules. Most notably, as each network generates

The industry has significant potential to improve its competitive environment

Through price stabiliza-tion, a disciplined industry can move value into their industry

Cooptition changed the shape of the airlines industry

MONITOR GROUP 49

50 MONITOR GROUP

increased revenues from its existing players, and as bonus programs make

the systems captive, inter-network competition has decreased. Together

with the obvious reduction of intra-network competition, this has reduced

the overall level of competition and has thus stabilized prices and moved

value into the industry.

In order to achieve price stabilization in an industry – or, more precisely, a

clearly defined segment or pocket of the market – with any of these concepts,

two prerequisites must be fulfilled. First, a clearly defined segment of the mar-

ket is needed, shielded by barriers against other parts of the market and new

entrants and therefore influenceable by the existing players. Naturally, this is

rarely the case. However, where there are no barriers between different seg-

ments, “ring fencing” can be used to create a well-defined market segment. Such

a “fence” can take the shape of special certification or qualification, government

regulation, or (most often) technology that is so advanced or necessary invest-

ments that are so high that only a few companies are able to keep pace.

Second, a strong industry leader must exist who can use its market influence to

achieve the necessary alignment between the market players. This leader must

be strong enough to force the remaining players into cooperation by exerting a

credible threat to “punish” those players who refuse to play by the new rules.

For this credibility to exist, he needs not only a lower cost base than the oth-

ers in order to be able to wage and win punitive price wars. He must also have

shown the managerial willingness to exert such an influence and follow up on

the threat.

Attempting changes in industry dynamics is a potentially risky undertaking.

Shifting balances from their current equilibrium can lead to destabilization and

can worsen the existing situation. Any such moves must therefore only be made

after a company has gained a deep understanding of the industry it is active in

and its relationship with adjacent value chain steps. When the analyses point

in the right direction, however, it is possible to improve industry dynamics in

a matter of months. Especially if an industry has suffered for a long time, sta-

bilizing initiatives from an industry leader can be quite welcome. The industry

leader should establish credibility in the industry, act consistently and clearly

account for the benefit of all players, as opposed to basing decisions purely

on self-interest. Otherwise, trust cannot be established and its moves will be

undermined, continuing to worsen an already highly competitive and often

unprofitable environment.

Improving industry dynamics needs a funda-mental understanding of

the status quo

A well-defined market segment and a strong

industry leader are prerequisites


MONITOR GROUP 51

For years, the profitability situation in chemicals has been unsatisfactory.

Prolonged low value generation will convince rational investors to cease

providing funds. Industry attractiveness decreases not only for the financial

community, however, but also for employees and especially for talented and

motivated leaders. At that stage, the downward spiral would become very dif-

ficult to reverse.

We believe that the chemicals industry players will not return to long-term

positive value creation unless they manage to shift value from their customers

and customers’ customers, first to the industry and then to themselves. Unless

a new mindset around customers and competition emerges, another survey in

five years will yield the same, largely unsatisfactory results. Furthermore, it will

identify the industry’s incapability to deal with the challenges posed by devel-

opments in both their customers’ industries and their own industry.

Chemicals companies will have to react soon


About Monitor Group

Founded in 1983 by Professor Michael Porter and colleagues at Harvard

Business School, Monitor Group is a leading global strategy consulting fi rm

with more than 1,000 consultants in 29 offi ces around the world. Since its

founding, Monitor Group has remained focused on a core mission: Apply-

ing leading-edge analysis to help its clients defi ne robust strategies as

well as actions to transform these strategies into sustainable advantage.

Monitor’s clients are primarily from the fi nancial services, chemicals, phar-

maceuticals, telecommunication, automotive, consumer goods, retail, and

media industries.

While primarily focused on strategy consulting, Monitor Group has con-

tinually developed a broader portfolio of professional services. Building on

a strong foundation in corporate and competitive strategy, Monitor Group

has honed leading edge skills in marketing strategy, organizational analy-

sis, corporate fi nance, and private equity.

Contributing authors:

Bernd Altpeter, M2C, Frankfurt; Frank Blithe, Monitor Group, Munich;

Steffen Gackstatter, IMI, Munich; Tarek Haddad, Monitor Group, Munich;

Andrew Harris, Monitor Group, London; Marc-Oliver Mewes, Monitor

Group, Paris; Bob Pagano, M2C Cambridge, MA; Igor Stychinsky, Monitor

Group, London

Written in collaboration with Sibylle Pollehn, Monitor Group,

Munich

monitor group

Gerhard Prinsloo, Vice President of Monitor Group, Munich, has

advised clients globally on Corporate and Business Unit Strategy,

M&A, and Organization issues. He has worked in numerous capital and

technology intensive industries including chemicals, metals, mining &

minerals, industrial goods and fi nancial services. He is currently a member

of various Monitor content communities and is also responsible for lead-

ing Monitor Group’s activities in Eastern Europe and Russia.

Thomas Kipp, Vice President of Monitor Group, has advised clients glo-

bally on issues related to Corporate and Business Unit Strategy, Marketing

and Sales Strategies and Innovation Management. He has worked in numer-

ous industries including chemicals, automotive, postal and logistics, rail and

fast moving consumer goods. He is based in the Munich offi ce.

Dr. Tony Hamer, Vice President of Monitor Group, London, heads up

Innovation Management in Europe and assists clients globally on com-

pany strategy with special emphasis on the role of innovation to develop

and support valuable differentiated strategic options. He has worked

extensively in the petrochemicals, chemicals and the energy industries

and has held senior business and technology management positions at

Exxon, Union Carbide, Olin, and the Gas Research Institute. Tony also

advises clients in specialty chemicals, coatings and adhesives, bio- and

advanced materials.

If you are interested in knowing more about the study, please contact:

For additional copies, please email us at: [email protected]

John Diener

Monitor Group

Suite 808, Millennium Tower

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Anthony May

Monitor Group

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6-8 Harbour Road, Wanchai

Hong Kong

Tel.: +852 - 22 84-80 00

monitor group

Gerhard Prinsloo, Vice President of Monitor Group, Munich, has

advised clients globally on Corporate and Business Unit Strategy,

M&A, and Organization issues. He has worked in numerous capital and

technology intensive industries including chemicals, metals, mining &

minerals, industrial goods and fi nancial services. He is currently a member

of various Monitor content communities and is also responsible for lead-

ing Monitor Group’s activities in Eastern Europe and Russia.

Thomas Kipp, Vice President of Monitor Group, has advised clients glo-

bally on issues related to Corporate and Business Unit Strategy, Marketing

and Sales Strategies and Innovation Management. He has worked in numer-

ous industries including chemicals, automotive, postal and logistics, rail and

fast moving consumer goods. He is based in the Munich offi ce.

Dr. Tony Hamer, Vice President of Monitor Group, London, heads up

Innovation Management in Europe and assists clients globally on com-

pany strategy with special emphasis on the role of innovation to develop

and support valuable differentiated strategic options. He has worked

extensively in the petrochemicals, chemicals and the energy industries

and has held senior business and technology management positions at

Exxon, Union Carbide, Olin, and the Gas Research Institute. Tony also

advises clients in specialty chemicals, coatings and adhesives, bio- and

advanced materials.

If you are interested in knowing more about the study, please call one of the authors.

For additional copies, please email us at: [email protected]

Monitor Group

Michelin House

81 Fulham Road

London SW3 6RD

Great Britain

Tel.: +44 (0)20 - 78 38-65 00

Monitor Group

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80539 Munich

Germany

Tel.: +49 (0)89 – 2 55 48-0

monitor generating value chemicals

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