Coca-Cola Co. (KO) finally delivered some good news. On Apr. 19 the beverage giant reported that first-quarter earnings dropped less than expected, thanks to strong performances in China, Russia, and Brazil. The stock got a nice kick as a result.
Now if only Coke could sort out its German problem. Sales in Europe's biggest consumer market fell 12% by volume in the first quarter, on top of a 15% decline in the fourth quarter of last year. Coke's woes in Germany are holding back the company's earnings recovery. The country accounts for about 3% of worldwide sales, and about 6% of total operating profit, according to independent analyst estimates. "You can boil down Coke to 10 markets that matter most, and Germany is certainly one of them," says Robert van Brugge, an analyst at brokers Sanford C. Bernstein & Co. in New York. "Germany will continue to be a challenge for the balance of the year," acknowledged Coca-Cola CEO E. Neville Isdell during the company's earnings Webcast on April 19.
It will be hard to reverse the momentum in Germany. Coke still dominates the German soft-drink market, with 55% of retail cola sales last year. But that is down from 62% in mid-2003, according to market research firm GfK and Lebensmittel Zeitung, a trade publication. When the Atlanta company took a $374 million charge for its Europe, Middle East, and Africa unit last year, it blamed it primarily on the weakness of its German business. Coke's market share is likely to improve as it recoups shelf space at Germany's all-powerful discounters, but Brugge and other Coke watchers think it will take the company years -- and hundreds of millions more in write-offs -- to turn things in Germany around.
That task will fall largely to Dominique Reiniche. A former brand manager at Procter & Gamble Co. (PG), Reiniche is currently president of Coca-Cola's bottler for Britain and northwest Europe. On May 1 she will take charge of Europe from company veteran Alexander R.C. "Sandy" Allan, who is retiring.
For starters, the French businesswoman will have to reverse the ravages caused by a poorly thought-out recycling law that took effect at the beginning of 2003. The law was meant to get consumers to return non-reusable soda containers to stores for a refund of 0.25 euros, or 33 cents. But retailers hated the law, which obligated them to take back bottles or cans bought at other stores without adequately compensating them for the cost. Rather than cope with the unwanted returns, the big discount chains such as Lidl and Plus responded by yanking Coke and other brands from their shelves, and pushing their own store brands instead. Then they refused to restock Coke until it delivered products in specially designed containers -- a way of ducking the obligation of redeeming containers purchased at rival chains.
Coke balked at first, insisting its distinctively shaped bottle is key to its brand identity. The company eventually relented, but its products didn't reappear on shelves of Lidl, the second-biggest discounter, until March. PepsiCo Inc. (PEP), which reacted more quickly and delivered the special bottles, notched up its share of retail cola sales to 15%, from 11% in 2003. An amendment to the deposit law that will take effect in mid-2006 will require stores that sell nonreusable bottles to redeem all such bottles. Still, analysts believe it will take some time for Coke to reap the benefits, as German consumers adjust to yet another change in the rules.
Coke and Pepsi still have to jostle for shelf space with discounters' own brands. Store-brand colas account for 17% of the market in Germany. The country's biggest discounter, Aldi, carries practically nothing but in-house brands -- and no Coke. What's more, the discounters, which together command a 38% share of retail food sales, use their clout to squeeze profit margins brutally. A liter of Coke costs 10% less at a discounter than even at a hypermarket. "The whole world is flocking to the discounters, and prices remain under very high pressure," says Florian Sperling, a market analyst for the Nonalcoholic Beverages Assn. in Berlin.
A RISKY STRATEGY
Coke's plan to claw back share in Germany hinges on its nine local bottlers. Traditionally, the company prefers to leave the capital-intensive bottling and distribution business to independent partners. But Coke execs now believe they have to operate differently in Germany. The company already exercises management control over the linchpin of the operation, Berlin bottler Coca-Cola Erfrischungsgetränke, which churns out 65% of all Coke products sold in Germany. Now it has notified the rest of its regional bottlers that it will not renew their contracts, which expire between 2007 and 2011, and is in intense talks about acquiring their networks.
Consolidating the organization, which will cost an estimated $2 billion, will eliminate the laborious negotiations that have slowed new product launches. Bottlers gripe that they don't have the resources to cope with a nonstop flow of new drinks and containers, from cherry-flavored Powerade to mango-flavored Nestea. "The current structure means that speed in decision-making and execution is not fast enough," says a Coke spokesman in Berlin.
The consolidation strategy carries risks, however. Critics contend that it could upend the relationships that local bottlers have built up over the years with outlets, ranging from mom-and-pop retailers to soccer clubs. "The value of a truck driver knowing a restaurant owner, and being able to drop off deliveries at 7 in the morning because he has a key to the back door -- that kind of trust built up over the years goes away if the local Coke guy is replaced by an anonymous sales office located three hours' drive away," says a manager at one independent bottler. Still, Coke is betting that the efficiencies that come with running its own show will turn its fortunes around. Things certainly couldn't get much worse.
By Jack Ewing in Frankfurt