Trouble in Brand City

By Daniel Eisenberg

You didn't need to clip coupons to get a deal on Tide last week--or Pampers or Crest or Ivory. In fact, shares of Procter & Gamble, the maker of these top-selling household products, were marked down 30% in one breathless Tuesday morning on Wall Street.

The reason? Ostensibly because the $38 billion-a-year behemoth delivered some unexpected bad news--and Wall Street hates surprises--warning that its upcoming third-quarter earnings would fall 10% from the year before, instead of rising 7% as anticipated. For that transgression, Procter's shares were hammered, dropping $27 to $60 and shedding some $35 billion, or roughly a third of the company's market value. In the process, P&G helped drive down the already hurting Dow Jones industrial average 374 points.

P&G blamed the shortfall on a one-time confluence of factors, from a jump in the price of raw materials like pulp and oil to a delay in savings from a sweeping reorganization. "I see this as an aberration, and it will never happen again," CEO Durk Jager vowed. The Street's response, he said, was "not rational behavior."

But the P&G sell-off, rational or not, was very real evidence of the colossal shift by investors out of "old economy" stocks--brand-name, consumer-goods companies that make catsup and cornflakes and diapers and, yes, money--into "new economy" tech wonders that offer more promise than performance, but that nevertheless propelled the NASDAQ past 5,000 last week.

For years P&G's popularity on Main Street had been matched on Wall Street, where its steady, dependable growth and vaunted brand power, like that of many consumer powerhouses, made it a must for countless portfolios. Sure, wireless PDAs and baby websites may be cool, but you can't diaper the baby with a computer mouse, or clean up spilled milk with a virtual paper towel. "The rumors of the demise of national brands have been greatly exaggerated," says Jim Crimmins, worldwide brand planning director of ad agency DDB.

Yet consumer giants such as Heinz, Kellogg, McDonald's, Coca-Cola and Gillette have also taken a beating, falling more than 30%. The culprits: slowing sales and falling profits. Last Friday soap seller Dial saw its stock slip 22% after the company issued its own earnings warning. Dial is down 70% over the past year.

Based on any 20th century valuation model, the big brands are screaming buys, selling at huge discounts to the market. In the 21st century, things are different. Consider, for instance, how Wall Street values P&G's sales compared with those of a dotcom retailer. P&G's price-to-sales ratio: $2.12 of stock per dollar of sales. The same dollar's worth of Tide, say, sold through Priceline.com costs shareholders more: $26.11, based on Priceline's recent close of $94. And to own a dollar-size piece of the sales at fledgling dotcom grocery Webvan, you'll have to spend $228.67 on stock. P&G will earn about $4 billion this year. As for the dotcoms' earnings--are you kidding?

One thing the brands can't offer, though, is growth. Most will be hard pressed to increase sales more than 5%. Sales at Gillette, considered an innovator, actually fell 2% last year, and the company is considering unloading its underperforming stationery and Braun household-appliance divisions. In Battle Creek, Mich., Tony the Tiger isn't feeling too great. In the face of lower-priced store brands, more nimble competitors and a decline in demand, Kellogg's core cereal business has got pretty soggy. Coke, which created more shareholder value in the past decade than most other companies, has so far spent this year giving it back, one reason CEO Douglas Ivester was booted recently. Last fall P&G's archrival Unilever, whose massive arsenal includes Lipton iced tea, Dove soap and Wisk detergent, decided to jettison 1,000 subpar brands.

In today's hypercompetitive, low-inflation environment, where manufacturers have trouble raising prices, even the strongest brands aren't the predictable cash cows they once were. "Consumers want their brands, but at their price," says Prudential Securities food analyst John McMillin. While P&G's core brands are still quite dominant--the No. 1 or No. 2 household product in some 30 categories--there isn't much room left to grow in the mature U.S. market. Emerging markets were supposed to pick up the slack, but the economic crises in Asia and Latin America have largely derailed those plans.

CEO Jager knows that in the new economy, P&G has to move faster. The hard-charging Dutchman, who started the job a year ago, has unleashed a plan to get ideas from lab to market in two years instead of the typical five to 10. He's also trying to jazz up the staid P&G ads of the past, which scientifically compared the benefits of Pampers or Bounty with those of Brand X. Jager wants what he calls a softer, more "right-brain selling approach."

You wouldn't know it by last week's market massacre, but Jager is doing a pretty good job so far. He's pushed out a wide array of new products, including an electrostatic mop called the Swiffer and a fabric deodorizer dubbed Febreze that are each on track to rack up some $400 million in sales in their first year. He hasn't been shy about growing through acquisitions either: he's already shelled out $2 billion for high-end pet-food maker Iams, and he recently tried to snatch the pharmaceutical firm Warner-Lambert from Pfizer.

Assembling a sexy portfolio of products, though, is only half the brand battle. Manufacturers still have to rely on retailers, which have gained the upper hand in the past few years as they've consolidated. "There's been a clear shift in loyalty from the manufacturer to the retailer," says Burt Flickinger III, managing director of Reach Marketing. Giants like Wal-Mart, Target and Kroger now largely dictate the terms. At the same time, they've devoted more resources to popular in-house store brands, which now account for 20% of sales. Wal-Mart chairman David Glass, a national brand fan, faults manufacturers who have "quit delivering as much value as they did."

The Internet wouldn't seem to help matters. The explosion of new media and the continual fragmentation of the audience make it harder for mass marketers to get their message out. After all, P&G invented the soap opera to hawk its wares efficiently to a large TV crowd. Jager and other marketing honchos, though, maintain that the Net presents more opportunities than threats. With the Net's ability to target, the argument goes, consumer brands can build closer relationships with the right customers. For instance, P&G's new beauty site, Reflect.com lets surfers order products tailor-made for their skin.

Now that almost anyone can build a virtual storefront, Jager claims, trusted, known quantities have their best days ahead--especially once some of the speculative dotcoms disappear. In his view, "the word branding will be replaced by bonding." For now, though, Jager and his fellow beleaguered brand managers need to work on their bonds with Wall Street.