Driven To Succeed

The stakes have never been higher in the ultra-competitive driver market, where companies are taking huge risks in hopes of hitting it big

Imagine standing on the 18th tee at Pebble Beach Golf Links. The ocean is on your left as the hole bends around the bay for its entire 543 yards. The more water you bite off with each shot, the better chance you give yourself to birdie, or maybe even eagle, the hole. But get greedy or mis-hit a shot, and you end up on the rocks -- the classic risk-and-reward golf hole.

It is much the same story in the market for drivers. As the pressure to perform has ratcheted up across the whole economy and especially for publicly traded companies, golf equipment manufacturers have taken big risks to develop a hit driver. The rewards are tremendous, but the cost of failure can be huge.

"To do well, to support your other activities, you need a big driver success," says Sean Toulon, executive vice-president and general manager at TaylorMade-Adidas Golf, a division of Adidas-Salomon. "For us, that is even more true. As the driver business goes, so goes the company."

If that is the case, then Toulon's team is moving his company in the right direction. From the middle of May through the end of August, golfers have bought more than 38,000 TaylorMade r7 quad drivers and its sister r7 quad TP at a minimum price of $480 (the r7 quad TP retails for $750). Both are well above the average price paid for a metal wood -- $178 in August, according to the research firm Golf Datatech -- and for that same month they accounted for one-half of all clubs that sell for more than $300.

The reason is relatively simple. The r7 is an ingenious blend of technology and marketing that has captivated the market's attention. The attraction of the r7 lies in the ability each golfer has to modify the weight distribution within the all-titanium head by moving four weighted cartridges with a specially designed wrench to different locations, depending on what kind of ball flight the player wants. The TP version supplies more weights and, the company believes, more chances for the golfer to create an ideal ball flight.

Leigh Bader, co-owner of Pine Oaks Golf Course near Boston and, one of the leading sellers of golf equipment on eBay, thinks that the r7 is the right club at the right, techie time. "The audience is mostly male, and they love their tools," he says.

What a difference a few years make. In 1999, Callaway was dominant, accounting for almost a third of all drivers in use, led by the Great Big Bertha, and its successor, the Biggest Big Bertha. Through the summer of 2003, Callaway's share had declined by a third, according to the latest Darrell Survey research. But Callaway's tailspin is not simply a result of TaylorMade's success. It is also a function of the less-than-overwhelming reception that its recent driver releases, including the titanium/composite ERC Fusion, have received. "Callaway used to dominate the driver segment six to seven years ago," says Callaway Golf President and COO Patrice Hutin. "Maybe we have taken our eye off the ball a little bit."

Bader delivers a more detailed critique. "Callaway's issues are textbook of a technically capable company that was disconnected from the market," Bader says. "There has been a disconnect between research and development and product development. They weren't taking the pulse of society in general and then drilling down to golf to see what the market would accept."

Says Tim Conder, a senior leisure analyst for A.G. Edwards: "They've fallen behind the R&D curve," he says, harsh criticism for a company that prides itself on its technological prowess. The Big Bertha driver in 1991 led to the Big Bertha fairway wood, which led to the Big Bertha iron in 1994 -- all of them groundbreaking and all of them putting the company in a leading position in those categories. "They're just out with a hybrid," says Conder. "The [White Hot] 2-Ball [putter] has been a phenomenal success [for Callaway's Odyssey brand], but it's a little long in the tooth. You have to continually innovate, whether it's perception or reality."

As the largest pure-play public golf enterprise, Callaway's results are available for all to see. The most obvious casualty of the company's poor performance was Ron Drapeau, who resigned Aug. 2 as chairman and CEO. Since reporting that second-quarter sales and earnings would not meet expectations, Callaway twice has revised its earnings guidance. Wall Street was quick to judge those actions. On the days after the revisions, Callaway's stock declined 21 percent and 16 percent, respectively.

TaylorMade's r7, meanwhile, has been making news since May 16, when it was used by Sergio Garcia to win the EDS Byron Nelson Championship. The same week it became the most used driver on the PGA Tour a month after being introduced. But not all news has been good. TaylorMade's first quarter was weak, punctuated by an operating loss. Not long after that came a series of resignations and reassignments in top management, which the company and individuals involved say were unrelated to company performance. President and CEO Mark King remained unscathed and in charge.

What King and his competitors are facing is a market in which a hit -- any hit, even a single or a double -- is important, but the stakes of striking out are enormous. The reason for that is simple. The metal-wood market has gotten significantly more competitive the last five years. Since September, 1999, metal woods from Cleveland Golf (a division of Skis Rossignol SA), Cobra Golf and Titleist (divisions of Fortune Brands), Nike Golf, and Ping have more than doubled their combined market share, to 28 percent. All five of those companies have revenue of more than $100 million, which in the $3 billion retail golf equipment market makes them big players. Throw in Callaway and TaylorMade's combined share of 36 percent and you account for nearly two-thirds of the market. It's an economic landscape that is all about trading share points.

"It's a mature, consolidating market at retail and manufacturing," says A.G. Edwards' Conder. And in that market, "the guys who win are low-cost producers and those who make something people have to have." Despite the success of the r7 and the potential of Fusion, it's not clear how much room there is for product differentiation. "Realistically, the leap from wood to stainless steel was big," Conder says. "From stainless to titanium was big. But will the leap from titanium to composites and titanium be revolutionary?"

Callaway believes the Fusion composite/titanium technology is revolutionary. But the company knows how difficult the market has become. One thing Drapeau did before resigning was cut Callaway's prices on all its metal woods, including Fusion.

Casey Alexander, a special situations analyst for Gilford Securities, says prices will come down across the board during the next several years, and profit margins for drivers will be more in line with margins for other clubs. "We are in the salad days of the driver right now," he says.

TaylorMade's Toulon says that drivers are 20 percent more profitable than the rest of the company's clubs, and he is counting on that to continue. "We would do virtually anything, spend every nickel we have, to defend the driver, that's how important it is."

The company doesn't release R&D figures, but with more than 60 engineers on staff, TaylorMade's commitment to innovation is evident. Callaway also considers technological advancements key to the company's success, having spent an average of $31 million a year since 2000 on R&D, or about 4 percent of sales.

However, developing the next great driver isn't enough; creating demand for that club is part of the equation, too. Marketing takes many forms, but the most important component in golf is presence on the PGA Tour.

In May, 2000, Tiger Woods switched from a wound-construction Titleist to a solid-construction Nike golf ball and then reeled off four consecutive major-championship titles. Titleist responded that fall with the first version of the Pro V1. Within weeks nearly all of Titleist's staff players were using it. Consumer acceptance followed the next spring and has grown since then, through two updates and two additional versions.

Jim Thompson, president and CEO of Golfsmith International, the country's largest golf retail chain, says that Titleist is successful because its marketing approach is strategic. "They're a brand first. The only way to manage the ball business is to make sure it's validated on tour," he says. Thompson believes TaylorMade is taking a similar approach with the introduction of the r7. "Mark King is taking a brand view of TaylorMade, not a product view," Thompson says, and the company is investing in marketing that will accrue to the r7 as well as its successors.

How does TaylorMade follow up on the r7? "We are practicing relentless innovation," says Toulon. "We have launched more products in the last five years than in the first 20," with the strong implication that the pace won't slow. He knows that if you're standing still, you're falling behind.

In September the r7 was joined by two r5 drivers (street price: $329) in TaylorMade's line, as the company attempts to use the early success of its premium product to drive consumers to what it expects will be the meat of the market. (For good measure, TaylorMade said it would add an r7 HT -- high trajectory -- to the line as well.) It is a risk to assume golfers will connect the dots that the company has so carefully printed onto the market.

Since the month before the October, 2000, launch of its 300 Series of drivers -- a turning point in the company's recent performance -- TaylorMade's unit share in metal woods has increased by a little more than 41 percent, according to the latest Golf Datatech research. At the same time, the average price paid per wood has increased nearly 19 percent.

But the halo effect of a successful driver goes beyond that category. Since June, 2001, the month before TaylorMade launched its 300 Series irons, the company's share in irons has remained static. However, the average price paid per club has increased almost 24 percent.

Although the r7 is a terrific driver for tour-caliber players -- just ask Vijay Singh what he has been hitting off the tee since mid-summer -- it is not for everyone. There are more forgiving drivers on the market, and although some golfers love tinkering with the weights, others might find it too complicated. The r5 is a bigger-headed driver, and the weights are permanent.

Unfortunately for golf retailers and their inventory positions, TaylorMade is not alone in trying to win new consumers by coming out with a lot of new products. The shelf life for new drivers proves just how difficult the market has become. Titanium drivers unveiled in 1999, 2000, and 2001 averaged 17 months at their original retail price, according to Golf Datatech. Drivers introduced in 2002 and 2003 lasted an average of 10 months at full retail. Great Big Bertha, the first hit titanium driver, stayed at its premium price point for 33 months.

Ken Morton Jr. is director of retail and marketing for Morton Golf LLC, which operates three municipal golf courses in Sacramento, Calif., and is recognized as one of the country's leading golf retailers. "It's confusing to retailers and to consumers. It's become like buying a new computer. [A club] is obsolete the minute you open the box," Morton says. And it forces retailers to push prices as low as they can to attract customers.

Toulon recognizes the difficulty. "Not everything we have done has made sense to our customers, and we're focusing on that," he says. Other manufacturers are not likely to sit around to see how that situation works itself out. Callaway's Hutin believes that eventually his Fusion drivers will compete with TaylorMade. "The Fusion as a technology platform is very successful," he says. "The first product was as successful as we expected, but it was not a runaway success. We could have done better."

One of the first steps in challenging TaylorMade was the September signing of Phil Mickelson to endorse Callaway products, including his promise to play a second generation of the Fusion. Still, using one player for brand validation can be tricky. Mickelson's performance at the Ryder Cup with Callaway's Great Big Bertha II driver and Big Bertha fairway woods was criticized.

Hutin would not specify when Mickelson will switch to the updated Fusion, but he remains bullish on the product. "We have demonstrated to ourselves through our work with Phil that the platform is extremely powerful and flexible. It will definitely give him great benefit, but it will also benefit other players," Hutin says.

Who knows whether Mickelson or Woods or world No.1 Singh will make the difference or whether Fusion or weights or some as-yet-undeveloped material will promise greater distance and accuracy. What is clear is that well-funded competitors, retailers who drive down prices, and consumers who have so much choice of solid products are making the big players in the market work harder for their success.

"Are the stakes higher today?" Morton asks. "For those on the top, yes. With the game not growing, the odds of increasing market share aren't great. The only way to go is backward. Callaway did a fantastic job of staying on top," he says. "But brands like Cleveland and Cobra have lots of potential growth. They can afford to bite it off in small chunks and keep growing."

By Mark S. Murphy

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