UK: BTR BREAKS THE MOULD.

UK: BTR BREAKS THE MOULD. - BTR's new vulnerability to the bracing climate is doubly worrying as its top men retire and its traditonal stock of homegrown replacements runs out.

by Andrew Lorenz.
Last Updated: 31 Aug 2010

BTR's new vulnerability to the bracing climate is doubly worrying as its top men retire and its traditonal stock of homegrown replacements runs out.

It was a corporate culture like no other in British industry. For almost 30 years, through economic booms and recessionary busts, BTR went its own way, impervious to business fashion, impermeable to outside influence. In the late 1960s and the 1970s, as British industry retreated from its imperial export markets and lost ground at home, BTR grew worldwide. In the 1980s, as directors' salaries soared, BTR's remained frugal by comparison. In the early 1990s, when both hostile takeover bids and diversification were out and agreed deals and focusing on core businesses became the vogue, BTR launched a £1.5 billion aggressive takeover for Hawker Siddeley which hugely expanded its range of manufacturing interests. And all the time, as the clamour for Cadbury-style corporate governance intensified, BTR set its face determinedly against the appointment of non-executive directors from outside the company.

No one, apart from the corporate governance purists, really minded. For what BTR delivered over these three decades was a performance that was second-to-none. Not only - like Hanson - did it grow into one of the 10 largest corporations in Britain, but - unlike Hanson - it retained a premium rating from the stock market. Fund managers marvelled at its ability to manage inflation, to emerge from recessions with its competitive position enhanced, and above all, to make a return on sales - BTR's own key performance yardstick - greater than any of its demi-peers. A few analysts questioned some of its accounting techniques, notably its use of acquisition provisions - but no one doubted its unparalleled ability to make manufacturing assets sweat cash by the bucketload.

For public purposes, everything changed on 8 September last year. That day, BTR announced that pre-tax profits in the first half of 1994 were up by 12% to £616 million - much less than the City had been expecting. The shares slumped by 44p, or 11.5%, to 338p - their lowest level since December 1993. Alan Jackson, BTR's chief executive, Bob Faircloth, chief operating officer, and Kathy O'Donovan, finance director, pinned blame on five specifically disappointing subsidiaries. But what perturbed the City was the statement by Norman Ireland, BTR's chairman, that 'overcapacities in many of the group's markets, together with raw material cost increases, are giving rise to pricing pressures which will continue to make the improvement of margins difficult to obtain in 1994'.

In the eyes of investors, that remark dislodged the cornerstone of BTR's historic premium rating - its unrivalled ability to grow returns on sales. Most manufacturers struggled to make double-figure margins; BTR, by contrast, had restored margins close to their historic peaks of 17%. Now Ireland was signalling that higher margins would be hard to win. BTR, it emerged, was as vulnerable to the cost-price squeeze of the prevailing business climate as any of its less celebrated counterparts. To the City this realisation came as a huge shock. In the ensuing three months, BTR shares underperformed the stock market by 24% - the worst sustained period for the stock since the group began its long rise to prominence. The more extreme BTR critics began to talk of a gathering crisis in the camp.

Such loose talk was banished in the first two months of 1995, when BTR reversed the late-1994 trend to outperform the volatile market. The rally culminated in early March, when Ireland was happy to report a full-year profit of £1.546 billion - above expectations. The shares, which had slipped below 300p after the autumn shock, climbed back to around 320p. Yet that still left them well adrift of the 400p-plus peak they hit 18 months ago. There is no escaping the change in City sentiment. From being a copper-bottomed guarantee of premium performance, BTR is now an unknown quantity. There is a double reason for this disturbing unpredictability: BTR is facing a seismic shift in its business environment; and the people who must lead BTR's response to this fundamental change will be men with no previous connection with the company.

The momentous news came in January, barely four months after the half-year results shock. Ireland announced that when he and Jackson retire (Jackson at the year-end, Ireland in May 1996), both will be replaced by outsiders. Ian Strachan, aged 51, deputy chief executive of the mining giant RTZ, will become chief executive, while the search is now under way for two non-executive directors to come from outside the group, one of whom will succeed Ireland as chairman.

By a supreme irony, it is Ireland - one of the modern BTR's founding fathers - who has broken the mould he himself helped to shape. But the BTR chairman had little choice but to wield the demolition man's hammer. With his dark, three-piece suits and his deliberate, almost reticent manner, Ireland may cut an anachronistic figure in the image-obsessed corporate universe of the mid-1990s. But that old-world style conceals one of the shrewdest brains in British industry. No one knows his company better than Norman Ireland. And what he realised, shortly after succeeding Green as chairman two years ago, was that for the first time in its modern history, BTR's own cupboard was bare of heirs to his and Jackson's crowns.

Ireland's own appointment, bringing him back from the chairmanship of Bowater, the packaging group, had delayed the inevitable moment when BTR would have to confront the long-term succession question. His return was a smart move. Jackson, whose home base remained his native Australia, was less than three years into the chief executive role and was not truly a candidate. Lionel Stammers, a long-serving BTR executive, was a possibility. But Ireland was the obvious choice: he had remained a non-executive director of BTR since retiring as finance director in 1987 and moving to chair Bowater. WithJohn Cahill having been displaced as chief executive by Jackson, Ireland was the last survivor of the quartet - Sir Owen Green, Ireland, the late Don Tapley and Cahill - that had built the empire. Ireland himself had been primarily responsible for the legendary financial reporting system through which the top team kept a vice-like grasp of the sprawling business. Now, his task was to ensure that the disciplines that had made BTR great could successfully be transferred to a new top management generation.

Ireland seriously began to address the issue about 15 months ago. Veterans Hugh Laughland and Gordon Yardley were both too close to retirement to take on the chairmanship. Jackson, 58, had made it clear that he intended to retire to Australia at 60. Bob Faircloth, as chief operating officer, Jackson's deputy, could have been a candidate but he also had family ties - at home in North America. As for the chief executive post, all of the three internal candidates - Chris Burns, Paul Buysse and John Thompson - were too inexperienced to take on the job. 'Knowledge of the company is one thing,' says Ireland. 'But you also need a fairly in-depth relationship with the City. That's something we didn't have from the internal people, and we think that in today's world it is fundamental.' O'Donovan, who does know the City well - and has had a few prickly encounters with analysts and fund managers - was not considered for the job. So BTR had no choice but to call in the head-hunters.

Ireland and his colleagues are still looking for a chairman. Among those mentioned are Sir Robin Biggam, head of cables and construction group BICC, and Roger Hurn, chairman and chief executive of Smiths Industries, the medical, aerospace and industrial equipment company. Biggam is well respected by Ireland: he offered him the finance director's job when he stepped down in 1987 but Biggam was already committed to BICC. Significant as the chairmanship will be, however, its importance pales by comparison with that of the chief executive.

Green once described the ethos of BTR executives like this: 'Our culture was quite home-grown - not homespun - that's too cosy a word. We looked inside ourselves. We were all well-read, but none of us had been to Harvard. Of all the companies that I know, we import very few people. We acquire through the acquisition process a whole lot of new managers. We have never deliberately gone for highly educated people. It has never been a requirement that when someone joined us, he had to be a degree person. We were much more concerned with the ability to do the job. Status really doesn't come into it. Competence is the thing we are after.'

Strachan's competence is not in question: he has a high reputation for his work at RTZ. But his curriculum vitae reads like the antithesis of the classic BTR executive: a double first from Christ's College, Cambridge; a master's degree in public affairs from Princeton; even a short spell as a teaching fellow at - yes - Harvard. Then 16 years with oil leviathan Exxon in the US, Japan and Hong Kong, and a period with insurance brokers Johnson & Higgins, before joining RTZ eight years ago and handling subsidiaries in Australia, Latin America and the US. Strachan lost out to Bob Wilson in the 1991 contest to succeed Sir Derek Birkin, now RTZ chairman, as chief executive. But he played a leading role in implementing RTZ's strategy of refocusing and expanding its core mining business, and in communicating that strategy to the City.

Strachan, who joins BTR in July as managing director and will take over from Jackson at the year-end, will be familiar with the task of breaking into a homegrown culture: he was the first outsider to join the RTZ board. The key question is not so much how Strachan will take to BTR, but whether BTR will take to him and his fellow outsiders, the chairman and the other new non-executive. The process may be made all the harder because of the harsh environment in which it will be carried out.

Despite 1994's sound figures, BTR's world has changed profoundly. All the elements that made the group pre-eminent - the exceptional management of inflation, the megabids that preyed on large but under-performing companies, the skill in handling the confrontation game between supplier and customer - are now being turned upside down in today's bracing business climate.

Inflation management was the ultimate secret of BTR's success. Through the 1970s and the 1980s, the group always ensured that it got its price increases in first and in full. That created a virtuous circle in which it was always ahead of the game, generating margin improvements that sustained the shares' premium rating - opening the door for mega-takeovers of more lowly-rated companies which initially depressed BTR's margins but provided the feedstock for a new round of improved returns on an enlarged sales base. If inflation management caused a showdown with a customer, so be it. On one occasion, BTR's Dunlop Automotive subsidiary, a manufacturer of steel wheels, insisted on passing a 16% rise in steel prices through to Austin Rover. Rover accounted for 75% of Dunlop's sales, but BTR never batted an eyelid when Harold Musgrove, Rover's then-managing director, refused to pay up and threatened to take the business elsewhere. No wheels were supplied and soon the Rover assembly-line ground to a halt. Musgrove removed half the business - and paid the price-rise on the other half.

The Rover case exemplifies how much BTR's world has changed. Raw material costs may be rising, but in a climate where increasingly global competition constrains output price rises, BTR's ability to pass such cost increases through is limited. Moreover, today's motor industry has moved away from old-fashioned confrontation with suppliers: inspired by the Japanese, partnership sourcing is now the vogue. That means guaranteed, long-term supply contracts, but with in-built price decreases. Where the motor industry leads, other sectors are following. As a company dedicated to industrial manufacturing, the ramifications for BTR are immense. All the more so because of its credo that it would never chase volume at the expense of price and margin.

The other great pillar of BTR's growth - the megabid - has also been weakened in the 1990s. The easy prey on which BTR fed - Thomas Tilling, Dunlop, ACI in Australia, Hawker Siddeley - is now much harder to find. Ireland says: 'In the 1970s and up to the middle of the 1980s, there were more inefficient companies around where you could get in and hammer the cost structure pretty quickly.' And more sophisticated shareholders are demanding a higher price for takeover success, he notes.

Not that BTR has abandoned the hunt. Nor will it necessarily mark time until Strachan takes charge. Jackson recently acknowledged that BTR was on the prowl when he noted that many companies were 'hugely overpriced'. Even after its recent $618 million acquisition of Formica, the floor coverings company, BTR's gearing is still below 50% - an historically low level for the group. It has the firepower to launch a £1.5-£2 billion cash bid. And it is still stalking several possible targets, including Lucas, the motor and aerospace components group which it almost bid for instead of Hawker. But Ireland accepts that BTR can no longer live by acquisitions alone, even £2 billion giants. 'Because of BTR's size, acquisitions alone cannot sustain the group. To do that, we would have to make an acquisition of 50% of our size every three or four years.'

Under the Jackson-Faircloth regime, BTR started to emphasise organic development. With low inflation, margins can only be increased by cutting process costs and/or developing new products that can command a premium. Green's dictum about innovation - be a good second, not a poor first - has been jettisoned in the bid to become a good first. Hawker Siddeley, Ireland says, has moved BTR up the technology scale into such areas as elec-tronic controls. Investment, in both new products and state-of-the-art processes, is at an all-time high. Capital spending exceeded £500 million last year for the first time.

'At one stage, it was sacred for us to invest no more than depreciation,' says Jackson. 'That is changing quite dramatically. We now have four greenfield plants under construction. In the last four years, our cap ex programme has been directed at productivity improvements but we are now looking to expand in other parts of the globe.' Such expansion in high-growth areas like the Far East - where Jackson has planted the flag in China with two significant bottling ventures - will help offset the price pressures in the developed world. Meanwhile, margins have been bolstered by the disposal of low-return distribution companies in Britain and the US, and three other businesses which do not fit the definition of industrial manufacturing - Dunlop Slazenger sports and consumer goods, Tilcon aggregates and a 51% stake in a Taiwanese bulk chemicals operation - will be sold if the price is right.

One article of faith, the doctrine that return on sales is paramount, is already being amended. 'What are people wanting from BTR?' Ireland asks. 'Are they wanting improving profits or improving margins? If you reduce profits, you reduce earnings per share so the logic in the 1990s is improving profits. At the end of the day, I believe shareholders should be satisfied with trusting the management to produce earnings growth and dividend per share growth. Whatever tools you use to achieve that must be those that you believe are correct at that time in a company's development.' And, he reassures investors: 'There is no reason to think that the best of BTR characteristics are under threat.'

Ireland's guarantee carries the authority of one of Britain's most influential, and unsung, industrialists. Nonetheless, investors are likely to reserve judgment until they can be sure that the keys of the BTR kingdom have been passed into safe hands. Shareholders will also bear in mind Green's assertion six years ago: 'As long as the top executive in our company can come from within the ranks, can be a man who is really nourished in the BTR ethos because it makes sense, that way the company will just carry on. There won't be an end to it because it will be a corporate body, a separate corporate entity with its own life. There will be personalities in our company, not just grey figures, but it will be the BTR system that will go on.' At the time it seemed to be no more than simple reassurance.Today to those concerned that the group is entering unfamiliar territory, it sounds more like a warning.

Andrew Lorenz is deputy business editor of the Sunday Times.

BTR: Financial facts

Turnover/Profit before tax and interest * (£m)

Turnover Profit

Industrial 2,536 396

Transportation 2,188 348

Construction 1,350 205

Control & electrical systems 977 197

Consumer related 2,060 329

Corporate activities 333 71

Total 9,444 1,546

Turnover/Profit by location* (£m)

UK 2,235 384

The rest of Europe 1,284 135

The Americas 2,853 527

Australasia 1,801 297

Asia 698 91

Africa 240 41

Corporate activities 333 71

Total 9,444 1,546

*year to 31 December 1994.

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