Rohm and Haas Maintains Focus

Raj L. Gupta, chief executive officer of Rohm and Haas, is a realist. When other chemical company CEOs were claiming to see light at the end of the tunnel during the recession and subsequent slow recovery, Gupta seldom tried to gild his company's financial results.

When demand was down, Gupta said so. When the end was not in sight, he said so, and when raw material costs skyrocketed, he did not shy from saying so. "I'm a believer that things are not as good as they seem at the top of the cycle or as bad as they look at the bottom of the recession," he says.

Gupta has had plenty of practice affirming his belief. In 2001, the year the most recent recession began, sales at his company fell 10.8% from the previous year to $5.67 billion. And the company posted a deficit from continuing operations of $71 million, compared with $296 million in earnings the prior year.

There was some recovery in 2002, with sales rising just 1.0% to $5.73 billion and earnings rising to $210 million.

It was not until 2004 that earnings at Rohm and Haas rose above the 2000 level--but what an increase. Earnings last year totaled $496 million, compared with $296 million in 2000 and $288 million in 2003. The 2003-to-2004 jump came on a 13.7% increase in sales to $7.30 billion.

But in announcing the 2004 results in February, there was still a "however" in Gupta's remarks. "Of particular note," he said, "was the solid increase in selling prices, which have been essential to temper the continuing pressure from higher raw material and energy costs. However, selling price increases still lag those continually rising raw material costs, and as a result, our gross profit margins remain depressed."

The company has started off this year in a different position, and Gupta's remarks reflect this. "This was a very good quarter," he said in April. "We are successfully implementing price increases to recover the extraordinary run-up in raw material and energy costs, while maintaining tight control over operating costs. As a result, we were able to generate solid earnings growth and restore profit margins."

Earnings at the company in the first quarter improved almost 40% to $159 million on a 14.4% increase in sales to $2.02 billion. Earnings as a percentage of sales jumped to 7.9% from 6.2% in the first quarter last year.

Gupta tells C&EN: "We went into 2005 with what we thought was a realistic view indicating some slowdown in real demand. For instance, the electronic cycle still has not recovered, we knew that acrylic monomer supplies would be somewhat tight, and we entered the year with the view that oil and gas prices would stay high and that interest rates would continue to increase."

Looking at these factors, the company came to the conclusion that real growth--with the effects of higher prices and raw material costs stripped out--would be about 4% this year, compared with 7% in 2004 and 5% in 2003.

"As it turned out in the first quarter," he says, "and I believe it is the industry view, the less robust growth is not only a U.S. phenomenon, but also is occurring in Western Europe and Asia. I would say that our forecast was a little bit optimistic, but this is going to be a very good year."

Rohm and Haas has been setting the stage for recovery over the past few years. Like other chemical companies, it cut employment, bringing its companywide headcount down to 16,691 from 20,248 in 2000. The cuts in employment--plus pricing and other efficiency initiatives--have been necessary, according to Gupta.

"Look at earnings for most chemical companies, including Rohm and Haas," he says. "These firms have improved margins and profitability largely by price and efficiency improvements, not by demand. I don't think Rohm and Haas and other chemical companies could have survived the cost increases in oil and natural gas that we've seen in the past 15 months without significant forward pricing."

Pricing was a key component of the company's improved fortune. "We went into 2004 thinking that raw material costs would stabilize and perhaps even decline," Gupta says. "By April, we realized that they were not only going to move up, but they were going to move up a lot and stay there for a while."

THE FIRM took a couple of actions, according to Gupta. "We were determined and had the courage to get value for our products this time. We worked with our customers. I visited a number of customers and said: 'This is how we see the world. Here's what we see coming. Here's what we need to do. And we want you to be our partners, and you need to think about raising your own prices.' It was a collaborative effort with our customers."

Also, the company's investment in its SAP information technology system was a huge benefit, he says. "It allowed us to track our pricing and costs week by week and day by day, so there was no slippage in the implementation of these price increases. The industry has needed this type of discipline for a long time. I believe we've all been afraid to ask for what we believe is a fair value for our products."

The company's effort to improve cash flow has paid off over the past few years, according to Gupta, even though earnings have been erratic. Net cash from operations in 2004 was $882 million, down somewhat from $953 million in 2003, but still strong. The good cash flow has allowed the company to raise its quarterly dividend 20 years in a row, Gupta says, averaging 10% per year--a record that few companies can match. The firm recently announced another 16% increase in the dividend.

Part of the reason for the solid cash flow is that the firm has made a commitment to keep spending on new plants and equipment below depreciation. "Capital spending has been below depreciation for the past five years," he says, "and will stay below depreciation for the next five."

Gupta explains: "If you go back to the early to mid-1990s, our capital expenditures were about 10% of sales--or about $400 million for a $4 billion company. Now, they are in the $200 million to $400 million range, and we are a $7 billion company."

He attributes this ratcheting down to changes in company makeup and mind-set. "First," he says, "the business portfolio is very different than it was. It is less capital intensive than it was historically, and most of our environmental spending is behind us."

And very important, he notes, "most of our technical and engineering functions are focused on how we can continually debottleneck our plants around the world. That is free capacity. We really are expanding plant capacity by 3 to 5% per year with very modest construction costs."

BUT MORE structural changes have taken place. A big one is in the way the company does R&D. It has doubled R&D spending since 1997 but has concentrated that spending on three areas, according to Gupta. Of the budget, 40% goes into electronics, 25% to coatings, and 10% to develop emerging technologies, mostly in the nanotechnology area and novel biocides. The remaining 25% is spread around, but biocides get a significant piece of this percentage, too. And, Gupta says, the company is working on fewer projects that will have higher impact.

He adds: "The final thing that we have done is what I call joint ownership of business and technological functions. We used to develop nice products that customers didn't need, didn't want, and wouldn't pay for." The business side of the company was saying, "Find me another product, and I'll sell it."

Now, Gupta says: "Products and projects we work on have to have market specification, have to have customer validation early, and have to be jointly owned by business and technological. It's not sequential anymore. It has to be parallel. This is a change that you can't force on people one day and have stuff coming out the next; but we're counting on it to be a big success for us.

"Another change we made," Gupta adds, "is that we now have 37 technical centers around the world as less than 40% of those R&D dollars are spent on our central research site. Therefore, we are closer to our customers and more diversified as to location."

SET TO JOIN those sites next year will be a $30 million R&D center in Shanghai with an initial group of 300 researchers, commercial people, and support staff. Chief Technology Officer Gary S. Calabrese told stockholders at Rohm and Haas's annual meeting earlier this month that the facility "will anchor our research presence in the Asia-Pacific region and will give us the kind of exposure and access to talent that's so important to the development of relationships and partnerships with local companies, universities, and customers."

The research center is an indication of the importance that China is taking on for Rohm and Haas. "In 1992, we had one small joint venture plant in China and total annual sales of about $20 million," Gupta says. "This year, about 25% of our Asian sales will be in China, which translates to about $350 million to $400 million--a 20-fold increase. All of the plants we have there now are grassroots plants that we built.

"We are really there to focus on local demand, not exports," he continues. "We are serving local consumers, because as their standard of living rises, they tend to buy more and more sophisticated products. Also, we find that as manufacturing shifts to China, many of our U.S. and European customers have migrated there. Electronics is a classic example. The industry has moved to China, but most of the finished products come back to the U.S. and Europe."

He acknowledges that for services and some raw materials, China can be a lower cost source. Overall, he believes that in 10 years, the company's sales will be evenly divided among North America, Asia, and Europe.

In summing up the past few years, Gupta uses the same frank language he uses to discuss quarterly earnings. "I think it's ups and downs, and we have seen a lot of downs," he says. "But our focus is the same. How can we grow organically? How can we continue to improve efficiency? How do we continue to recruit and retain the best talent anywhere in the world? And how do we maintain financial strength so that we never become vulnerable?"