VideoNow for the Hard Part
It's now that AkzoNobel's major challenges begin. Although the company couldn't have foreseen the extent of the economic downturn, it's clear that there may have been more opportune circumstances in which to overhaul the business.
On the surface, the integration process is going well — in April the company increased the cost savings it expects from synergies in raw-materials procurement, overheads and the like from €280m to €340m. It also brought forward the deadline for achieving these by a year, to 2010. Nichols says there is still "loads left to do" at what he calls the "heavy end" of optimising manufacturing sites and supply and distribution channels. Most of the work will be in mature western markets, he adds, and should generate more cash that can be invested in emerging markets.
Though no strangers to M&A, integration on this scale is unfamiliar territory for AkzoNobel's current executive team. Indeed, during the six months that he stayed with the company after the takeover, Alan Brown, former CFO of ICI and now CEO of UK business-services group Rentokil Initial, says the AkzoNobel team seemed to be "learning as they went along," handling issues as they arose rather than "working to a masterplan."
Nichols agrees that the integration has been a learning curve. "We're continuously finding bits and pieces where we're adopting what we see as best practice, be it ours or ICI's," he says. For example, when the takeover was announced, analysts commented that AkzoNobel could learn a thing or two from ICI's strong working capital discipline. "The key difference was that ICI made working capital efficiency a top priority and incentivised people accordingly, whereas we included working capital within EVA [economic value added]," Nichols says. "We've learned from this and are putting more focus on working capital specifically, but without letting go of our EVA disciplines."
Integration aside, the downturn leads to two other tests for AkzoNobel. The first is the slump in M&A activity. AkzoNobel hasn't sold, as originally planned, ICI's National Starch, a business which serves the food industry. As Nichols points out, AkzoNobel doesn't bring "a core competence or scale to manage [National Starch] effectively." But in October, during an M&A drought and with no buyer in sight, the company announced that the business would stay with AkzoNobel until the dealmaking outlook picked up.
Nichols plays down the move. "In this market, we're not desperate to sell it," the CFO says. "For the time being, it gives me more cash flow and additional profitability. We're not in a distressed, firesale situation." Maybe so, but given that the point of AkzoNobel's restructuring was to streamline the company, hanging on to a business it had no intention of running clearly bogs down the plan.
So does the spread of the downturn to emerging markets. Like so many western companies, AkzoNobel has been at pains to point out that its wide geographic spread — emerging markets now account for 35% of revenue and nearly 40% of profits — will help it weather the downturn. But its focus on emerging markets looks shakey now that concerns are being raised about the strength of those economies. For its part, the International Monetary Fund predicts growth in emerging Asia slowing to 7.75% in 2008 and 7% in 2009, from 9.25% in 2007.
Still, Nichols maintains that the emerging markets are "where the real growth will come from" in the long term. Although growth forecasts for China and India are now much lower than they were a year ago, the CFO says that those economies still have an "unstoppable level of internal growth over the medium term," with "huge infrastructure projects and strong internal demand for some of the chemicals and coatings products we're producing." In November the company opened a new manufacturing plant for its coatings division near Bangalore to help increase annual revenue from the region, from €200m currently.
When Flat Is Fine
AkzoNobel has created a lot of work for itself by buying ICI. The irony is that if the company still had the sprawling structure of a few years ago, it might have been better placed to handle the current climate. Philip Bowman, CEO of Smiths Group, a UK industrial conglomerate, recently told reporters he was happy that a delayed restructuring plan meant he was entering the downturn "knowing that not all my eggs are in one basket," adding that "our mix of businesses makes Smiths better placed than most to resist the pressures of the downturn." The group's 2008 revenues and profits both rose from 2007 levels.
But AkzoNobel appears to be rising to the challenge. Its third-quarter results showed that despite a 23% drop in net income due to "one-off" hits, including a loss from selling certain ICI assets to meet antitrust rulings, revenues were up 8% from the same period in 2007. The company expects profits for 2008 to be close to the 2007 pro forma level of €1.87 billion. In a downturn, that kind of flat performance doesn't look so bad.
Next year will be tougher. As equity analysts at UBS point out, downturns tend to hit the chemicals sector with a delay of up to six months, so 2009 is the "key concern." A slump in housing markets in countries such as the UK, for example, could limit growth in the paints business. Nichols acknowledges that "signals are very difficult to read at the moment" around growth prospects. "At this stage, the potential severity of the economic cycle is unclear," he told investors at the last results presentation, adding that AkzoNobel will nonetheless focus on its targets of an Ebitda margin of 14% by 2011 and cost savings of €100m.
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