After Years Behind the Scenes, Chinese Join the Name Game
Manufacturers Buy Rights To Famous Trademarks, Hoping for Fatter Margins
By GABRIEL KAHN
Staff Reporter of THE WALL STREET JOURNAL
online.wsj.com
In 1905, in a backyard factory in Cleveland, workers began making vacuum cleaners for a company that became known as Royal Appliance Manufacturing Co.
Almost a century later, Royal, which established the popular Dirt Devil brand, stopped making almost all of its vacuums in Cleveland because it realized it was cheaper to pay a Chinese company to do it.
Dirt Devil's departure would have been a relatively minor chapter in the grand exodus of American manufacturing to China. But this year the Chinese company that got the contract to make Royal's vacuums acquired something potentially even more valuable: It bought Royal and the Dirt Devil brand name, too.
Other Chinese manufacturing companies are also starting to buy the brand names of products that they formerly only produced. In some cases, they acquire the company, as with Nakamichi stereo gear, in others they get an exclusive licensing deal, as with Benetton eyeglass frames.
Hong Kong-based Techtronic Industries Co., the company that bought Royal and Dirt Devil, also grabbed the Ryobi tool brand from the parent company, Ryobi Ltd., in every market but Japan. As with Royal, Techtronic had been making Ryobi products for years. The Hong Kong company also bought two brands with products similar to ones Techtronic already made: the Homelite outdoor-products brand from Deere & Co. of Moline, Ill.; and the VAX brand of floor-care products, formerly owned by England's VAX International Ltd.
The purchase by Chinese manufacturing companies of Western and other foreign brands signals an important shift in the supply chain forged during the past three decades between the West and Asia. While such deals so far aren't numerous, conditions are ripe for many more, pointing to what may well be the next major phase in China's industrial evolution. Instead of constantly trying to lower their production costs to increase margins, Chinese companies are now trying to capture brand value -- the ability to sell their products at a higher price directly to consumers who are willing to pay for a recognized label. If this trend continues, it means more dollars paid for brand-name products will wind up in China.
BRAND NAMES
Some Asian-based manfuacturing companies that have recently acquired rights to international brands.
COMPANY BRAND INDUSTRY
Techtronic Industries Ryobi*, Homelite, Dirt Devil, Royal, Regina Power tools, outdoor products, vacuums
Grande Holdings Nakamichi, Akai, Sansui Consumer electronics
Moulin Benetton, Revlon, Sisley, Reebok, Nikon Eyeglass frames
Vtech Holdings AT&T wireline phones and accessories Consumer electronics
Sources: WSJ research, the companies
*In every market except Japan
Several factors are responsible for the increasing Chinese purchases of American brands. Many U.S. companies -- particularly those that own midsize brands such as Dirt Devil -- have been under pressure as Asia's cheaper, no-brand goods flooded into the U.S. and competed directly with American brands. Major U.S. retail chains have played these weaker brands against each other, demanding bigger discounts, faster delivery and lower inventories.
In addition, Chinese factories themselves are feeling the trickle-down effect of this pressure. The country's rapid development has produced an oversupply of factories, forcing Chinese manufacturers to vie with one another to produce the same goods for the American and European markets. The intense competition has driven down prices and made their margins razor thin.
"We looked at our product lineup and we saw this trend of shrinking margins, greater competition," says Christopher Ho, chairman of Grande Holdings Ltd., a Hong Kong-listed consumer-electronics manufacturer, which supplied Sony Corp., Pioneer, JVC and others.
Grande snapped up three Japanese electronics brands in bankruptcy proceedings. Its margins on those lines are between 8% and 10%, compared with 3% to 4% on the products it makes for others.
Similarly, Hong Kong firm Moulin International Holdings Ltd. in 2001 bought the licenses to a portfolio of brands including Benetton, Revlon and Sisley, from three European companies that were struggling.
In general, the Chinese companies acquiring foreign brands have been focused on making products, not marketing them. And managing brands sometimes puts them in unfamiliar territory, as they must respond to the changing tastes of consumers half a world away.
In the course of its brand-buying spree, Techtronic has increasingly moved away from its roots as a no-name, low-cost Chinese manufacturer and toward an integrated marketing and sales company. It deals every day with major U.S. retailers such as Home Depot Inc. and Wal-Mart Stores Inc. as well as European retailers. Since its first acquisition in 1999, Techtronic's revenue has risen more than threefold to $1.2 billion last year; profit has almost tripled in the same period, to $53 million.
At this stage, Techtronic maintains the same close relations with its Royal unit that it developed as a supplier. The U.S. subsidiary, based in Glenwillow, Ohio, still handles much of the marketing for the Dirt Devil brand, although Techtronic has begun working in that area, too. Hong Kong staffers are more involved with retailers and have taken a bigger role in dealing with product design and presentation.
Techtronic was an early beneficiary of outsourcing from the U.S. It was founded in 1986 by German-born Horst Pudwill and his Macau-born partner, Roy Chung. Their first product -- made at a 60-man factory in Hong Kong -- was a three-piece electric-drill-and-screwdriver set for Sears Roebuck Co.'s Craftsman line. Within a year, the company's output tripled to a million pieces.
Techtronic then opened a two-story, cinderblock-walled factory in Dongguan, a city in southern China. Utilities were so iffy that the company had to set up its own water and electricity supply. The skill level of the workers "was nonexistent," Mr. Chung says. "People were straight off the farm."
But from its first contract with Craftsman, Techtronic showed an ability to keep quality high and costs low. It soon attracted other customers, such as Ryobi and American vacuum-maker Bissell, and for its first five years logged a heady annual growth rate of 25%. By the early 1990s, however, competition had increased and Techtronic's growth had begun to level off; prices for its products were dropping by 5% to 10% a year.
Mr. Pudwill, an engineer who came to Asia as a Volkswagen AG sales representative, began to grow concerned about the future. "We realized that we needed a brand," he says. Without one, Techtronic had to rely on the whim of the U.S. and European companies it supplied in order to boost sales. "How much would they spend on advertising?" he says. "What would they do about pricing? We had no influence at all."
His first opportunity came up in 1999 when VAX was put up for sale. Mr. Pudwill made a successful offer of more than $7 million; a year later, he acquired Ryobi's power-tool line for $106 million.
The Ryobi line forced Mr. Pudwill to confront for the first time the mysteries of marketing to countless do-it-yourself buffs across the U.S. He tapped focus groups and learned that Ryobi's low prices made consumers think of it as a budget brand. Mr. Pudwill raised prices by more than 30% and changed the somewhat tacky stenciled Ryobi logo to uniform lettering and color set in hard, clear plastic. "I wanted it to be like the Mercedes-Benz symbol," Mr. Pudwill says.
To improve distribution, he cut an exclusive deal with Home Depot. He got his staff thinking about how customers perceive Ryobi products by building replicas of Home Depot aisles in Techtronic's offices. Ryobi sales at Home Depot have tripled since, according to Techtronic.
That same year, Mr. Pudwill heard rumors that another of his major customers, vacuum-cleaner-maker Royal Appliance, also might be up for sale -- and with it the Royal and Dirt Devil brands. Mr. Pudwill had first met Royal's chief executive, Mike Merriman, at a trade show in Germany in 1995. That year the Ohio company had seen competition drive the price for one of its signature products, an upright vacuum, to less than $100 from $149.
After the trade show Mr. Pudwill called Mr. Merriman and said, "I'm going to save your company." Techtronic was offering to make for Royal a new low-price, slim vacuum cleaner called the Broom Vac. The two struck a deal and Royal began marketing the Broom Vac with a two-minute infomercial. It sold 800,000 units at $40 each, enough to finance a bigger marketing operation. An ad that showed Fred Astaire twirling across a ballroom with a Broom Vac ran during the 1997 Super Bowl. Sales soared, and Techtronic began taking over more of Royal's manufacturing.
For Royal, the decision to send some of its manufacturing overseas had been difficult. Even in the mid-1990s, most of its parts came from small tool-and-die shops scattered throughout the Cleveland area, with Royal's own factories doing the final assembly.
Like some of its competitors, including Maytag Corp.'s Hoover unit, Royal tried moving production to Mexico, in 1998, but quickly retreated because factories there didn't have the same network of component suppliers as China. "We were molding plastic in Texas and shipping it across the border to Mexico and shipping [the finished machines] back," says Mr. Merriman. The cost savings were minimal. "Horst said he could do it all at a lower cost," Mr. Merriman says, referring to Mr. Pudwill. Royal found that China led to other savings as well. The cost of developing the machine tools needed for a new product ran about $5 million in the U.S., says Mr. Merriman, but Techtronic could do it for $1 million.
As Techtronic began to absorb more of Royal's manufacturing, the two companies forged a closer relationship. "What we liked best about Techtronic was that they had more English-speaking people" than the other Asian-based factories Royal had dealt with, says Mr. Merriman. Techtronic also was using the same engineering software. "We could pass drawings across the Internet and they could visit [the factories] to make sure it was working out."
By combining Royal's understanding of the American market and Techtronic's manufacturing know-how, the two companies could take a new product from drawing board to store shelf in less than nine months, compared with 12 months previously. In the fast-changing retail environment, rapid turnaround time is becoming more crucial. "Wal-Mart will have five products on the shelf and one will go well and the others get pulled. Really quickly," says Mr. Merriman. If Royal doesn't roll out a new Dirt Devil model fast, "a Wal-Mart or a Target can say, 'You know I'm going to replace you because you guys are getting old.' "
In 2002, an investment fund that held a large chunk of Royal's shares wanted to cash out. Word began to spread and several Asia-based manufacturers expressed interest. Mr. Merriman concluded that Royal's best chances might lie with the manufacturer it already knew. He contacted Mr. Pudwill and told him Royal was up for sale. Mr. Pudwill knew this was his best chance to grab a major brand in the floor-care industry. "We made a very fast decision," he says.
But the prospect of being taken over by a Hong Kong company was causing ripples of unease among the 400 Royal employees in Ohio. On the morning of Dec. 17, 2002, the day that it was announced that Techtronic was buying Royal, Mr. Merriman spoke to workers at the cafeteria in the company headquarters.
He said the buyout would end up making Royal more competitive, not weaker. "People seemed to understand," says Tim Araps, Royal's vice president for human resources. It also helped that many Royal employees had been working closely with Techtronic staff for several years.
That same day, one of Royal's biggest competitors, AB Electrolux of Sweden, announced it was cutting 6% of its work force, more than 5,000 jobs. It too was trying to respond to cost pressures and the rise in no-brand competitors from China.
So far, Royal hasn't seen any large-scale layoffs since the deal went through in April, and the company still maintains some U.S. manufacturing operations to handle high-end production for some models. Meanwhile, Techtronic is on track to have its best year ever. Profit for the first six months of the year was $27 million, up from $21.8 million for the same period a year earlier.
Mr. Pudwill is still striving to realign his business away from just manufacturing to one that is more retail- and customer-oriented. He spends more time meeting with senior executives at major retailers such as Home Depot and Sears to ensure he is meeting their needs. "You can't say no to these guys," he says.
In the U.S., he has put money into after-sales service teams to handle repairs and defective merchandise -- something that wasn't as important when Techtronic didn't own the brand name. In Asia, he has bulked up his product-design teams so he can keep new products rolling off his assembly lines and into stores before sales start to dip.
Mr. Pudwill says the branding strategy has finally given him the control over his business that he always craved. "Marketing and product development is all ours," he says. "I would say the future of Asia depends on looking for brands."
Write to Gabriel Kahn at gabriel.kahn@wsj.com1 |
