Australian Beverages Limited

Australian Beverages Limited (ABL) commenced soft drink manufacturing in 1937. During the 1970s and 1980s, the company expanded its beverage portfolio by entering into other non-alcoholic beverage categories, such as fruit and milk-based drinks.

Entry into the snack food market was recently undertaken in response to declining consumption of carbonated soft drinks (CSDs), the company’s traditional area of business strength. This move also enabled ABL to leverage its strong distribution capabilities to supermarkets, convenience stores and hospitality channels by adding adding such complementary food products to non-alcoholic beverages. Nevertheless, CSDs still accounted for 90 per cent of company revenue in 2004. Tom Dwyer, the current managing director, has been with the company since 2005.

He joined the company at a time when CSD growth was stagnating and shareholder confidence in the company was waning. This had resulted in the share price declining by 15 per cent in the two years prior to his appointment. In order to restore shareholder confidence, Dwyer established a strategic planning team within the company to assess the current product portfolio and identify organic and acquisition growth opportunities. From this review the importance of operational excellence was identified and strong investment was made in world class manufacturing facilities and systems.

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Process re-engineering was implemented to reduce costs of manufacture and time to market. Having finalised the integration of a snack food business acquisition just over 12 months ago, Dwyer is now aware that he needs to identify further growth options given predicted continuing decline in the CSD market. In January 2010 he asked the strategic planning team to undertake another detailed review of opportunities for future growth, specifically identifying products and markets where the company would have the capabilities for successful entry.

Bottled water was one industry that was identified, based on its complementary nature to the existing beverage portfolio. This industry had been identified as ‘of interest’ in the ABL’s first strategic review in 2005. At that time the market was deemed too small and unsophisticated. However, the Australia bottled water manufacturing industry has grown significantly since this initial review. Dwyer has requested a detailed review to determine whether entry into the domestic bottled water manufacturing industry is now a viable strategic option.

If deemed to be a viable strategic option, Dwyer also wants a recommendation whether the ABL should enter the industry by establishing its own operations or by targeting an existing competitor for acquisition in order to gain immediate market share. B. The Australian bottled water manufacturing industry 1 Bottled water is the fastest growing category in the non-alcoholic beverage market in Australia, with sales revenue of $1. 483 billion in 2009. The major segments of the industry include bottled still and sparkling water. Within these two segments, different packaging sizes and types are offered.

Water can be purchased in a range of single or multi-serve bottles including 600 millilitre, 1 litre or 5 litre bottles from the supermarket or convenience store. Bottled water is also available in bulk packs (that is: 10 litres or greater) for water coolers for home or office use. Different types of water also exist, from naturally sourced sparkling mineral waters to purified 2 and specialty waters. Manufacturing facilities for purified water are generally located in close proximity to major water utility suppliers to minimise the transport distance from the water source to the purification plant.

In contrast, most sparkling mineral water manufacturing plants are necessarily concentrated in close proximity to high quality mineral springs where the product is bottled at source, usually in regional locations. The bulky and relatively low value of the product as well as the high costs of transport mean that the manufacturing and distribution plants need to be located where there are major population centres. The Australian bottled water manufacturing industry is currently in a growth stage.

Growth has been achieved due to the increase in per capita consumption of bottled water, albeit from a relatively low base compared with other more established beverages. As consumers become more health conscious and change their drinking habits away from CSDs to healthier beverages, bottled water would increasingly become their drink of choice. 1 2 All figures are for the year ended 31 December unless otherwise stated. Purified water is water that has been produced by distillation, deionization, reverse osmosis or other suitable processes.

Page 1 of 21 As a result, sales of bottled water are expected to increase. Of particular significance in the industry has been the large number of new products that have been launched and accepted by consumers since 2005, making bottled water a dynamic and fast growing industry. 1. Evolution of the Australian bottled water manufacturing industry 3 A relatively new industry, the Australian bottled water manufacturing industry evolved out of the soft drink manufacturing industry during the 1990s. Soft drinks are those that do not contain alcohol.

Soft drinks are distinguished from hard drinks—beverages such as distilled spirits, beer or wine—by the simple fact that they do not contain alcohol. Given bottled water is a category within the broader non-alcoholic beverage industry, trends impacting this broader industry also impact on bottled water. Total non-alcoholic beverage revenue in Australia was over $10 billion in 2009, including CSDs, bottled water, fruit juices, energy drinks, sports drinks 4, ready to drink teas and milk beverages. Table 1 shows the market share of bottled water within non-alcoholic beverages over the past 10 years and predicted market share to 2014.

However, Australia consumption of bottled water is significantly lower as compared with the total consumption of the top 10 global bottled water consuming countries. Table 2 shows Australia’s per capita consumption compared with that of the highest consumption per capita countries in the world.

When compared to similar markets, such as the United States, Italy, France and Spain, this data suggests that the Australian market has potential for a higher rate of consumption and sales growth before it reaches maturity. It needs to be noted, however, that the drivers for bottled water consumption can differ. The climate or lack of clean drinking water impacts on consumption levels in countries such as Mexico and the United Arab Emirates. However, in Italy, France and Austria, for example, consumption of bottle water is driven by fashion.

A recent report by the Global Earth Policy Institute concluded that global consumption of bottled water rose 56. 8 per cent to 164 billion litres from 2005 to 2009.  Projection figures for the industry were provided by industry experts at the recent Bottled Water Institute of Australia’s “Future Focus” conference. Beverage designed to help athletes rehydrate, as well as replenish electrolytes, sugar and other nutrients, which can be depleted after strenuous training or competition.  Historical growth in bottled water has been derived from increases in total consumption, helped along by strong customer acceptance of new products launched over the past five years.

The increase in the total Australian population together with an increase in per capita consumption of bottled water has contributed to this historical growth. (Compared with other developed markets, however, growth in the Australian market has been achieved from a relatively low base). These trends are expected to continue in the future. Bottled water will therefore continue to increase as a percentage of the non-alcoholic beverage market.

This product type is now in the mature phase of its life cycle. It has experienced low growth over the past five years as more offices and homes install water filters as a result of improvements in filter technology. To counteract the decline in bulk water sales to offices and homes, bottled water manufacturers have developed new distribution channels for bulk water products. Increasingly bulk packs are sold in petrol station forecourts and supermarkets. To date, manufacturing capacity within the industry has meant that manufacturers have been able to meet growing demand using existing manufacturing infrastructure.

Production stockpiling has not occurred which has helped manufacturers protect their profit margins. They have been able to achieve an increased weighted average price per litre as all production is generally sold in the year it is produced, reflecting the strong demand growth. The average price per litre has also been influenced by new product launches during the past five years, particularly the range of premium 5 waters and smaller, more convenient packaging sizes that achieve higher average prices.  Bottled water manufacturing

The Australia bottled water manufacturing industry has similar manufacturing and distribution processes to the non-alcoholic beverages industry from which it emanates. There are several sources of water for bottling, such as underground springs, wells and water storages. The source of water plays a key role in the quantity and quality of bottled water that is produced. About 25 per cent of all bottled water comes from water storages that is tap water) that is further treated before 5 Premium waters are generally higher priced waters which have higher levels of purity or are sourced from natural springs.

Bottling at an average price of $2. 40 per kilolitre. The other 75 per cent of water comes from groundwater at an average price of around $1. 00 per kilolitre. In some Australian states, permits are required to extract groundwater. Bottled water manufacturers often contract out the actual extraction of water to external providers. The price of water in Australia compared with other countries and with other products is very low. It has become the subject of debate due to diminishing water supplies caused by extended drought conditions in Australia.

To increase water prices would be politically contentious and many consumers would argue that because water is a basic human need it should be free. It is significant to note, however, that Australians pay a thousand times more per litre for bottled water than they do for tap water of similar quality. Once water has been sourced, the next step is to filter and purify the water to remove organic compounds such as metal ions. These compounds can contribute adversely to the taste and odour of the water and to bacteria that may cause health problems.

Some water, mainly mineral water, is naturally carbonated at the source. However, more commonly, carbonation of both spring and purified water takes place in the factory (where both the treatment process and bottling occur). For other drink types (for example sparkling wines or beer) carbonation is achieved naturally during the fermentation of sugar into alcohol. However, for sparkling water, carbonation cannot be achieved through a fermentation process, as no sugar is added. It is therefore achieved by injecting carbon dioxide, into the water under pressure.

The pressure increases the solubility of the water and allows more carbon dioxide to dissolve than would be possible under standard atmospheric pressure. When the bottle is opened the pressure is released, allowing the gas to come out of the solution, thus forming bubbles.  After the water has been treated, and in some cases carbonated, it is transferred (if carbonated, this transfer occurs under pressure) to a filling machine. Here, bottles or bulk containers are filled and then passed by conveyor belt to a sealing machine.

Once sealed, the bottles are packed in cardboard boxes for transport. There are currently 22 bottled water manufacturers in Australia certified by Food Standard Australia. Some manufacturers operate on a contract bottling basis only, providing bottling services to companies that have their own brands or to supermarkets which sell private label products . However, a number of these bottlers do have brands of their own which they sell.  Bottled water is provided to consumers in a variety of packages. These may be glass, PET plastic (polyethylene terephthalate) or polycarbonate bottles.

Water can be purchased in a range of single or multiserve bottles from various outlets and is available in bulk packs for water coolers for home or office use. The technology required to bottle water is quite basic and widely available. However, to achieve the volume of manufacturing required to be cost competitive, the level of capital investment is large. Key improvements in technology have been focused on quality control and automation to meet the need for greater manufacturing efficiencies and the strict health and regulatory standards of food standards that apply across all Australian states and territories.

Environmental concerns are rising in relation to the disposal of empty drink bottles. With the increasing amount of water being consumed, the issue of the resultant bottle waste has become significant. In Australia, of the 118000 tonnes of drink bottle plastic used every year, only 35 per cent is recycled. In South Australia, where consumers can redeem a deposit for drink containers, the bottles made up less than 10 per cent of the state's rubbish, compared with 13. 4 per cent nationally.

Drink bottles also take up more space than other waste, comprising 38 per cent of total volume of litter. Recycling experts believe that the recycling of empty water bottles is hampered because most bottled water is consumed as a convenience beverage outside the home where recycling bins are not readily accessible. Following the success of reducing the use of plastic shopping bags it is thought that the introduction of a nationwide empty bottle deposit law would create the incentive to recycle bottles. This would also help to ease the burden on taxpayers who pay for the clean-up of litter. Private label products or services are typically those manufactured or provided by one company for offer under another company's brand. Private label goods and services are usually positioned as lower cost alternatives. Page 4 of 21 3. Industry segmentation The Australian bottled water manufacturing industry has two clearly defined segments:  Still water – this segment accounted for 76 per cent of consumption volume in 2009.  Sparkling water – this segment accounted for 24 per cent of consumption volume in 2009. 3. 1 Still water

Still water is generally consumed for hydration and thirst satisfaction at home, in the office or while travelling. Convenience is a major factor in the growth of the still water segment. It is used:  as an alternative to other packaged beverages when consumers want to moderate their calories intake and seek an unsweetened, clean tasting and natural product. Water is the best and healthiest form of hydration as it is a fat and calorie-free thirst quencher;  when consumers are not satisfied with the aesthetic qualities (for example, taste, odour and colour) of their tap water.

Many people wish to drink something that is refreshing, clean and pure, and avoid certain chemicals used in the treatment of public water supplies, such as chlorine and fluoride;  when consumers require the convenience of bottled water for their refreshment. This is especially the case with the development of more widespread leisure activities and the expansion of travel, for both business and pleasure; and  for nutritional and performance benefits, such as near waters 7 and mineral water supplements claiming to have the nutritional components equivalent to a bowl of salad.

Sparkling water is generally consumed as a refreshment beverage mostly while dining out rather than for hydration or thirst satisfaction alone. In the last few years, supermarkets have started to stock premium sparkling water brands. 7 Near Water - also known as functional waters. These are bottled water beverages which have nutrients added, such as fruit juices, vitamins or minerals to enhance the positive health benefits associated with water. While experiencing declining growth, sparkling water is still showing some growth, albeit at much lower rates than still water. This reflects the refreshment beverage nature of sparking water which is generally consumed at restaurants and cafes rather than in the home.

The majority of the sparkling water consumed is comprised of premium imported spring waters, such as Eau de Vivre, which is the world’s premier sparkling water brand. As such, the average price per litre for sparking water is substantially higher than that of still water (see Table 6). This reflects the increased cost of manufacturing required to carbonate the water, different closure types required to retain the carbonation, the cost of imports and the premium nature of this product. The increase in average price over the projection period reflects estimates in foreign exchange movements. Foreign exchange xperts forecast that the current high levels in the value of the Australian dollar are not sustainable and project them to decline in the future. Distribution trends Bottled water is sold by manufacturers to independent wholesalers, including specialist confectionary and soft drink wholesalers as well as grocery wholesalers. Figure 1 below illustrates the current industry distribution channels.

In the past few years, retailers have been increasingly buying direct from the manufacturer to reduce the cost of goods by eliminating the wholesaler margin from their purchase price. This has been facilitated by improved information systems that now provide timely information to manufacturers for production planning, thereby enabling them to engage in direct sales to a larger numbers of customers. The increase in direct distribution has been most notable amongst major industry competitors. Major retailers want to purchase from fewer, larger companies.

Beverage wholesalers, however, still play an important role in distribution for smaller bottled water manufacturers. These smaller competitors generally have a smaller product range and are unable to meet major retailer demands for inventory management and direct to store delivery.  Revenue ($m) Comments Supermarkets use online ordering systems direct to manufacturers, bypassing wholesalers in general. Major growth in this channel reflecting convenience purchasing. Main outlet for the purchase of single-serve products. Dominated by higher priced spring and mineral waters, including imported products. Bulk packaged water is the main product through this channel. Placed in schools, sports clubs and other public places or venues. Niche value added brands only due to high transportation costs (e. g. exports) or specific to single distribution channels.

Convenience stores (including petrol stations) Hospitality Home and office delivery Vending machines Other Branding is an important differentiator in the bottled water manufacturing industry. Existing competitors that have established brand names have an advantage over new entrants who have to spend heavily on marketing for brand recognition. Sales in convenience stores have always been an important distribution channel for soft drinks. This importance is growing, not only for soft drinks but also for bottled water, driven by the trend in more frequent convenience shopping for ‘time-poor’ consumers.

Success in the convenience store channel is critical for any new product to succeed. If the brand recognition is achieved, it is often quickly followed with brand extensions, leveraging the brand to offer new flavours and packaging. Once consumer demand is established in the convenience store channel, the move into the supermarket channel generally supports maintenance of profit margins, considering that supermarket buyer power is reduced when strong product demand has been established.

Manufacturers have had to respond to significant changes in consumer buying behaviour. Product distribution, presentation and availability has had to match these changes in order to maximise sales. Increasing quantities of product are now distributed through convenience stores and petrol stations. For example, bulk water packs were once sold via direct sale to offices. However, as more offices have installed their own in-built water filters, this channel has declined and there has been a shift to bulk water sales through petrol stations and supermarkets.

A key strategy employed by non-alcoholic beverage manufacturers to lock out rivals is the placement of vending machines and refrigeration units in distribution outlets. This ensures that their products are stocked and presented for the best possible sales whilst making it difficult for competitors to get refrigeration space. The distribution outlet has to invariably agree not to stock competitor products as part of the terms of using the refrigeration equipment supplied. Vending machines are increasing in variety, size, style and sophistication, depending on where they are located.

Distributors in some locations, such as private or non-government schools, have worked with the manufacturers to introduce the use of smart card technology for payment and therefore avoid the need for cash. Similarly, in the hospitality arena, manufacturers have to tender for the supply of beverages to key entertainment and sporting venues. Once a manufacturer has secured a contract with a venue, their product has guaranteed sales for a defined period of time. Quite often, patrons are not allowed to bring in their own beverages for consumption or are limited in the amount they are allowed to bring in.

Hospitality, through restaurants and cafes, is the main distribution channel for sparkling waters and it is also common practice for venues to be locked into one particular manufacturer. Exports and imports represent about 5 per cent of industry production. These levels are not expected to change in the future due to the high cost of transporting the heavy weight and bulk of water. The Australian bottled water manufacturing industry is protected to some extent from the threat of water imports due to the high volume and low unit value of water, even though water with no additives is exempt from tariffs.

For water that has added sugar or other sweeteners, there is a 5 per cent import tariff. The main distribution channel for imported waters is cafes and restaurants that primarily serve premium sparkling waters. Bottled water is a growing part of the non-alcoholic beverages industry. While the broader non-alcoholic beverages industry is growing, bottled water is growing at a faster rate due to increasing awareness of health issues. Research shows that people want better tasting and healthier alternatives to many of the soft drinks and sports drinks currently available.

Market research surveys suggest that over 90 per cent of Australians consume too many sugary and caffeine-based drinks. As bottled water is part of this larger beverages industry, it is important to understand firstly, the trends impacting on non-alcoholic beverage consumption overall, as well as the trends specifically impacting on bottled water consumption. 5. 1 Non-alcoholic beverages Consumption of non-alcoholic beverages in Australia increased from 179. 7 litres per capita in 2005 to 228. 5 litres per capita in 2009.

Per capita consumption trends for all non-alcoholic beverages generally follows consumption patterns in the United States. On that basis, there are still significant opportunities for growth in all non-alcoholic beverages, including CSDs. Currently, Australian per capita consumption is 63 per cent of the US consumption level. Increasing awareness of the obesity problem in Australia, as well as the firmly established focus toward health and wellbeing, is ensuring strong future growth for ’healthy’ beverages. This has resulted in the introduction of sugar-free or diet CSDs.

However, many older Australians are not switching to sugar-free versions of the CSDs they used to drink. Instead, they are moving to alternative beverages. Hence the general decline in the consumption of CSDs has also been accompanied by a rise in the consumption of beverages that are perceived to be healthy, such as fresh fruit juices, flavoured milks, energy drinks, sports drinks and ready-to-drink teas. Changing lifestyle trends, health consciousness and a growing ‘cafe culture’ have also contributed to an increased demand for these alternative beverages.

For example:  Freshly squeezed fruit juices, with fresh flavour attributes being preferred by the consumer. With the emergence of juice bars and a greater focus by manufacturers in establishing juice brands, consumption of juice products has increased. In the United Kingdom and United States, juice bar sales represent about 5 per cent of total juice sales in those countries. However, in Australia, juice bars are still only an emerging distribution outlet and offer a good opportunity for new product development and growth. Ready-to-drink teas, with their antioxidant properties being promoted, have become a popular ‘health’ drink. The Australian market for this product is currently 2 million litres per annum and predicted to grow to as much as 20 million litres over the next few years, particularly as the Australian population ages. Product development includes a variety of flavoured ready-to-drink teas.  Flavoured milk is a growth beverage. Data shows that Australians are each drinking, on average, nearly 0. litres more flavoured milk per annum than a year ago. Perceived health benefits of milk have contributed to this growth, and this is expected to drive continued growth in the future. Milk sales have increased by 6. 7 per cent with low fat brands performing particularly well. Last year, each Australian, on average, drank 9. 5 litres of flavoured milk - more than the per capita figure for any other country.  Both energy 8 and sports drinks 9 are growing products in a society that is increasingly health conscious and aspiring to be more active.

Energy drinks have had double digit growth since 2006 and the sports drink market has grown 14 per cent on volume and 20 per cent on revenue compound annual growth over the last three years. Beverages that are designed to give the consumer a burst of energy by using a combination of methylxanthines (including caffeine),vitamins and herbal ingredients.  Purified water with additives similar to those of sports drinks with the aim of providing hydration during sport.

Bottled water consumption has increased significantly over the past six years, but is still significantly below consumption levels of other developed countries including Europe and the United States. This indicates further opportunities for growth in Australia, primarily at the expense of CSDs and fruit based drinks, given the rising concern surrounding the link between CSD consumption and obesity, especially in children. One possible reason for the lower per capita consumption of bottled water by Australians is the relatively good quality of tap water available.

Tap water contains fluoride ions which have a positive effect on tooth decay. The drinking of bottled water, which is distilled 10 to remove element such as fluoride, is believed to be contributing to an increase in the risk of tooth decay. However, most people continue to cook with tap water and this should provide sufficient fluoride to prevent tooth decay. Alternatively, some people wish to avoid exposure to fluoride, particularly systemic ingestion of fluoride in drinking water, and may choose such bottled water for its absence of fluoride.

Nevertheless, surveys show that there is an increasing concern about the quality of tap water in Australia and that this is driving some growth in bottled water consumption. Growth is further supported by concerns about alcohol consumption and associated drink-driving accidents which has encouraged the consumption of non-alcoholic beverages, such as bottled water, when dining out. Females consume about 58 per cent of all bottled water in Australia. Young people, in particular females aged between 18 and 35 years, are the largest consumers of bottled water.

In general, bottled water consumers are more health conscious and socially aware. Studies have found that younger generations are far more diligent in drinking their recommended daily intake of water and men are less likely to think about water consumption on a daily basis than women. In addition, for young women, image is an important factor in determining consumption behaviour.

Distillation is the process of eliminating impurities by heating a liquid until it boils, capturing and cooling the resultant hot vapours, and collecting the condensed vapours. Due to the increase in health consciousness, water has also become a fashion accessory. Some consumers now carry a bottle of water with their mobile phone and iPod. Packaging is therefore critical. Small plastic bottles are preferable for many consumers as they are re-sealable, perceived to be more contemporary and can fit in car-cup holders. The convenience factor means that the most popular pack size is around 600 ml, as shown in Table 8 below.

This is an important consideration for convenience when travelling for business or leisure. In fact, it is the convenience aspect that has to some extent, driven the growth in bottled water. Increased future consumption of bottled water in the home is likely to result from continued growth in household disposable income in Australia.

This disposable income growth will also sustain growth of takeaway foods and restaurant meals, both of which tend to increase consumption of bottled water and fruit juice. However, while currently experiencing positive growth, total household expenditure on consumable goods is expected to slow in the future. This will adversely affect growth in discretionary spending on all beverages. However, a factor which contributes positively to growth in the sales of bottled water is the climate. The gradual warming of Australia’s climate is expected to support further growth in water consumption.

Bottled water is well positioned to benefit from the shift in consumer preferences towards healthier and natural drinks. Spring water is particularly popular in Australia because it is perceived to have come from a natural, pristine environment. This is reinforced by marketing that emphasises the pure and natural image of water. As well as purchasing more bottled water, consumers are also prepared to pay more; with 69 per cent of consumers recently surveyed believing quality is more important than price. New product development activities are targeting changing consumer lifestyle needs and the trend towards purchase convenience.

There are now numerous bottled water brands available in Australia, from international beverage brands to boutique 'rain farms'. The huge variety of waters and sources means that the bottled water market has a broad demographic reach. According to a recent consumer survey, at least 99 per cent of all Australians have tried or purchased bottled water in the last 12 months. The Australian bottled water manufacturing industry has pursued sales growth by developing products for niche markets. Smaller producers can supply relatively small segments with specialist or premium products.

Given the continuing concern about the use of artificial colourings, flavourings and preservatives, the industry is expected to develop a range of premium products better suited to the demands of the health conscious consumer. For example, pet owners can now buy ‘vitamin-fortified’ water specifically formulated for their canine companion. 6. Costs and gross margins Bottled water has the highest profit margins of all non-alcoholic ready-to-drink beverages. This is due in part to the strong growth that the industry has achieved.

Manufacturers are also able to sell all production in a year. Industry rivalry is relatively low, particularly as the major competitors are focused on supplying through different distribution channels. A percentage breakdown of costs in 2009 is as follows:  55. 2 per cent for purchases of supplies;  26. 8 per cent for marketing, distribution and selling costs;  12. 1 per cent for wages;  4. 1 per cent depreciation and administration costs; and  1. 8 per cent for utilities and rent. A net margin of 16. 3 per cent was achieved by the industry in 2009. Page 10 of 21

Purchases include water supplies, labels and other packaging materials such as glass and plastic resin bottles and closures which are generally purchased on 5 year contracts. One of the key costs is polyester (PET) resin for bottles; however, there is no forward market 11 for PET resin. As a commodity, PET resin has been subject to price rises over recent years, as the price of oil has increased. This is reflected in the minor decline in gross and net margins experienced by manufacturers in 2009, as shown in Table 9 below. Overall, however, the cost to create bottled water is relatively inexpensive.

Therefore, water is a more profitable product than other nonalcoholic beverage categories.Current levels of profitability are expected to continue. However, it is noted that as sales through the supermarket distribution channel increase, so too will the buyer power of these large retailers and this may have a negative impact on profitability levels.

At a recent presentation, ABL’s managing director, Tom Dwyer, commented: ‘The increasing power of major retailers will squeeze the small competitors in both the food and beverage businesses. Without modern technology, smart systems and economies of scale, it will be very difficult for small manufacturers to generate an acceptable return on capital employed and maintain current levels of profitability. ’  Industry key success factors and future predictions Industry experts summarise the following areas as critical to future success in the Australian bottled water manufacturing industry:  Distribution and lacement: Control of distribution channels through an established and comprehensive network of distribution outlets to gain access to end consumers is essential to ensure timely delivery, low costs and maximised product reach through effective placement. If not operating in a niche market, manufacturers must become a major competitor in the wider market. In general, a major competitor needs to have at least 20 per cent share of at least one distribution channel. Effective market orientation, product promotion, and advertising: Market research, product development and speed-to-market are important capabilities.

Successful competitors need to be able to clearly segment the market and develop products that reflect the requirements of different customer groups. The ability to effectively promote their brand and provide label and packaging design is also important. First movers with effective distribution have an advantage in that new competitors need to spend heavily on marketing to catch up. The effectiveness of strong advertising, a sophisticated distribution chain and a focused strategy is critical in influencing consumer choice.

Strong brand names contribute to the appeal of bottled water as an accessory as well as building a product's reputation for quality. Having these attributes allows manufacturers to win market share within particular consumer segments and charge premium prices. Economies of scope: Breadth of product range enables efficiencies in distribution, marketing and administration. Such efficiencies are gained when a competitor uses its manufacturing process to produce a wide range of beverage brands (and possibly also complementary products) which are provided as part of a total solution to the various distribution channel customers.

Being a total beverage provider to major customers is becoming more important as these major customers are increasing in concentration and prefer to deal with fewer larger manufacturers. Economies of scale: Economies of scale are very important for a low value product since high volumes must be produced and sold to maintain profitability. Manufacturers must have effective cost controls and access to the most efficient manufacturing and distribution processes, tracking technology and techniques to monitor sales and respond accordingly.

Economies of scale are particularly important for competitors who have undifferentiated products. Since unit manufacturing costs are an important element of profitability, it follows that economies of scale, based upon critical mass, are also important. Some manufacturers have commenced contract bottling for smaller industry participants in order to secure manufacturing volumes.  A forward market enables producers to lock in prices for a defined period of time, thereby providing certainty of costs.

At the recent annual Australian Beverage Congress, Alan Vaughan, an independent industry expert of 30 years’ experience, presented an extensive insight into the bottled water market and its future direction. Vaughan concluded his presentation with this comment: ‘The Australian and global beverage industries are in a period of growth and major transformation. In general, there has been a switch away from carbonated drinks to beverages with less sugar and additional functional benefits. To the younger customer, the older brands are looking a little staid, with bottled water and energy drinks viewed as more cool and exciting.

This is reflected in marketing and advertising campaigns. People these days are working harder and have greater commitments. Bottled water and energy drinks are replacing other traditional beverages because they provide refreshment as well as a functional benefit, such as re-invigoration, replenishing hydration and energy levels, improving mental alertness and enhancing concentration. These beverages appeal to everyone from partygoers to office workers, through to truck drivers. ’ C. Industry competition 1. Basis of competition The basis of competition for non-alcoholic drinks are primarily price, convenience and taste.

The main basis of competition by which bottled water competes against other beverages, such as CSDs, fruit drinks, sports drinks and energy drinks, is health appeal. Given zero or very low sugar content, both still water and near waters have successfully developed an image of being healthier than other drinks and this has driven growth in the industry. To a degree, home filters also serve as a source of competition, although mainly against the bulk water segment. Tap water is also an external competitor, with a clear advantage in price. Beverage marketing and display are beginning to undergo dramatic change.

There will always be the major conventional media promotions, but the consumer market is becoming much more time sensitive and there is a high level of competition from substitute products, mainly other non-alcoholic beverages. The major ways for industry participants to differentiate and compete successfully include:  Branding, image and breadth of product range: Recent growth in bottled water is related to the successful positioning of a number of brands as fashion accessories. Both media support behind the brand and the design of the bottle including the label contribute to the appeal of a product.

Breadth of product range is also important as concentration of major customers continues. Large retail buyers (both in the supermarket and convenience store channels) prefer to deal with large manufacturers or suppliers that can provide a large product range. Packaging: Convenience is a key benefit of bottled water. Hence bottle size, shape and functionality form a basis of competition. Bottles are designed with particular uses in mind, for instance some water bottles have a pop-top cap for ease of use when playing sport or training.

Distribution coverage: An ability to satisfy the needs of retailers, and obtain favourable terms such as promotional programs and stock positioning is important. Market share dominance of distribution channels is important as it allows manufacturers to diffuse the power of large buyers and maintain strong profitability levels. The ability to secure shelf space in convenience stores is also important, given that success in the convenience store channel is a precursor to getting new products into supermarkets. Taste: Especially at the premium end of the market, taste can be a basis of competition for both still and sparkling waters.

Use of market data: Access to and use of market data is also important. The larger the competitor the more likely they are able to afford retail check-out scanning data to understand what its customers are buying. In this way, manufacturers can ensure retailers replenish their stock as required. This provides larger manufacturers with an advantage of responsiveness and flexibility as they make use of this information and respond quickly. The Australian bottled water manufacturing industry is dominated by large beverage manufacturers.

Two of the major competitors are subsidiaries of global food and beverage conglomerates that are also major competitors in the non-alcoholic beverage market. Table 10 summarises the market share of the industry competitors in 2009. It should be noted that Australian Beverages Limited (ABL) is not currently in the Australian bottled water manufacturing industry, despite being a major competitor in the Australian non-alcoholic beverage market.  The industry has grown significantly to date. To keep industry profitability levels relatively high, the industry’s major competitors have tended to dominate one or two distribution channels only, rather than all channels. In this way, they hope to avoid strong head-to-head competition. This has assisted in keeping the overall level of industry rivalry relatively low to date.

However, this is expected to change in the future as consumption growth begins to slow. Several new competitors have entered the market over the last five years. Moreover, industry consolidation has occurred. Major industry competitors have acquired smaller competitors to increase economies of scale, scope, market share and profitability. In 2009, the four largest competitors accounted for approximately 82 per cent of industry revenue. No major change is expected to this trend in the future as further consolidation will be difficult due to the relatively high market shares held by the four major companies.

Regulatory concerns about restriction of competition will also affect further consolidation. Two of the competitors, Butlers Corporation and International Beverages, are owned by global food and beverage conglomerates that use Australia as the base for their non-alcoholic beverages operations in Asia. Industry experts believe that acquisition of either of these companies, to be used as a mode of entry into the industry and gain significant market share, is not possible. The parent companies will be unwilling to sell their Australian operations. The major industry competitors are summarised below.

A wholly owned subsidiary of a large multi-national listed company, Butlers Corporation commenced operations in the United Kingdom in the 1800s as the official chocolatier to the King. Operations were expanded throughout the 20th century to include other types of confectionary, biscuits, snack foods and non-alcoholic beverages. Geographic expansion was also undertaken. Butlers Corporation is now a global giant in its chosen products. Butlers established its operation in Australia during the 1950s. It has held the majority market share in the Australian confectionary, non-alcoholic beverage and snack food industries for the past 20 years.

The company entered the Australian bottled water manufacturing industry during the 1980s through the acquisition and consolidation of several state-based water manufacturers. This helped Butlers to become the first bottled water manufacturer to have national distribution. Page 13 of 21 Butlers has strong distribution capabilities given its broad product range. It is the largest supplier to convenience stores and the second largest to the hospitality distribution channels. Growth in its market share of the supermarket channel has also been strong over recent years, in particular through its well known still water brand ‘Olympus’.

The company also holds significant market share in the sparkling water segment, having obtained the Australian license for Eau de Vivre, the worlds leading sparkling water brand. One of the areas of focus for Butlers is innovation for all its beverages. This includes a large of number of soft drinks such as flavoured mineral waters, flavoured milks and fruit juices. Its broad product offering that includes complementary snack products, has been leveraged to achieve strong sales in convenience stores and through vending machines.

Hydrate Water is a privately owned company that originated in 1993 in Queensland. The company has access to natural springs in Queensland, New South Wales and Victoria, and a long term agreement with key water utilities in these states to access water when required. It distributes nationally from ISO 9002 quality accredited manufacturing facilities in Queensland, New South Wales, Victoria and Western Australia. The company has products in the sparkling and still water segments. The products include energy drinks, fruit juices and a limited range of high quality carbonated soft drinks.

It is also the manufacturer of the leading brand of still water, H2O, that is sold through the supermarket distribution channel. Hydrate is seeking a stronger presence in convenience channels. Its business model focuses on using its funds to support retailers so that the retailers can offer promotions, rather than spending on direct consumer advertising. The company has recently begun investigating the use of scanned retail data to monitor sales trends and adjust production volumes accordingly.

This investigation into scanning data is due to having run out of inventory at the end of last financial year when the manufacturing plant was closed for annual cleaning and maintenance. As a result, the company had lost some market share. A number of the company’s water products are targeted to the sporting and energy drink consumer. One of its best known brands, ‘Viva! ’, has a 72 per cent market share in sports water products. Hydrate Water has been able to leverage the high brand recognition of ‘Viva! ’ to successfully introduce flavoured water.

Similarly, Hydrate Water sells the leading brand in sparkling mineral water and has again leveraged this brand by introducing a number of flavoured mineral waters, including diet drinks. Both these initiatives have resulted in above average market growth for the company. The company is particularly well known in the industry for its packaging innovation and engineering design capability. Hydrate Water developed ‘Pop Tops’ - small plastic bottles that were very successful with young children as they fit perfectly into lunch boxes and have the advantage of being re-sealable.

The ‘Pop Top’ range increased its bottling turnover by 50 per cent. This product won the coveted Australian dietician award for ‘Best New Product’ when launched. It also received the Australian Health Foundation endorsement for its diet drinks. In addition, the company has been commended by dieticians for promoting products that address the increasing concerns of childhood obesity linked to CSDs. Hydrate Water was also the first company to introduce stackable bulk water packs for sale through supermarkets.

The management team at Hydrate Water have extensive industry experience, having a collective 80 years in the industry between them. Operations manager, Simon Miles, is well regarded in the industry and is currently the chairman of the Bottled Water Institute of Australia. Current owner, Jack Wells, has indicated he wishes to retire in the next five years, and has been grooming Simon Miles as his successor. An offer for acquisition was received from International Beverages last year, but Wells turned down the offer as he did not want to sell the Australian business he established to an international company.

International Beverages is the wholly owned subsidiary of a large multinational company and sells fruit juices, energy and sports drinks, water and soft drinks. Its initial entry into the Australian market was through fruit drinks. During the industry consolidation in the 1990s, the company entered the bottle water manufacturing industry through acquisition. Through its parent company, International Beverages has the licence to sell the world’s leading brand of bottled still water Aqua Grande, in Australia and New Zealand.

The company also sells the imported sparkling water brand San Vitale one of the most popular mineral waters bottled at the source. This product, in particular, has given the company a strong share of the hospitality channel. Company growth has been driven by new product development and product extensions which have leveraged existing capabilities and focussed on specific consumer requirements. The company’s latest successful product launch is calcium enriched water targeted at aged care facilities and nursing homes for women at risk of osteoporosis, a bone degeneration disease. 2. Fountain Springs Pty Limited Fountain Springs is a Sydney based company that has access to a naturally rising spring located in the Snowy Mountains in southern New South Wales. To date, the company has been unable to secure distribution and shelf space in major Australian retail outlets. This is because its product range is limited to only two pack sizes, 600ml and 2 litres. An export strategy was therefore developed with the assistance of the Australian Trade Commission (Austrade). Fountain Springs is now Australia’s largest exporter of spring water and better known overseas than in Australia.

In the past two years, the company’s bottled water exports have grown sales revenue significantly, having secured a contract with the major UK supermarket chain Besco. Growth is also expected through its expansion into UK convenience stores and petrol station channels which is planned for later this year. The UK was the first export market for Fountain Springs where it was able to leverage the perception of Australia as ‘clean and natural’. Since developing this UK market, the company has also been successful in developing business in the Middle East, South East Asia and the United States.

Given the cost of transport to these export markets, Fountain Springs has a niche strategy and sells only premium grade water in the 600ml and 2 litre pack size at a higher price. However, market research shows that there is still very low consumer awareness of its products and brand in Australia. To raise awareness, a cause-related marketing strategy has been adopted. Under this program, the company donates a percentage of its profits to partner charities in its chosen markets.

This has been central to the growing market awareness of the company in its selected markets. It leverages the networks and relationships of its partners to develop new business and sales. As a result of the company’s success in overseas markets their brand ‘Aqua Caliente’ is now being stocked in selected school canteens in Australia as a natural alternative to sugar laden CSDs and fruit juices. Given Fountain Springs did not have the capability to distribute directly to schools, it entered a distribution arrangement with a school food provider.

The company also altered its cause-related marketing strategy whereby it would donate a proportion of all bottled water sales in each canteen to the school. The money was to be used by the schools to purchase new equipment or facilities for the school. Despite the success of its export strategy, the company has had mixed financial results over the past few years. This has been largely due to set up costs associated with its export business and distribution arrangements in the UK. It is rumoured that the company is in financial difficulty.

Rumours abound that bankers have been requesting monthly audits of the cash position so that the company can maintain its line of credit. In addition, it is believed that its major UK supermarket customer, Besco, is demanding price reductions therefore squeezing margins for the company. Poor hedging of foreign exchange transactions with the company’s UK debtors has also contributed to its declining financial position.

The antecedent company was established by a group of enterprising pharmacists who had previously made carbonated soft drinks in their pharmacies which were then offered for sale in sealed bottles. The first manufacturing plant opened in Sydney in 1938. Business began slowly, but the arrival of American soldiers in Australia in 1942 had a significant impact on both sales and market acceptance of carbonated soft drinks. Australian Soft Drinks initiated its move into non-carbonated soft drink beverages in 1984 when it began manufacturing fruit drinks. This followed the acquisition of a fruit juice manufacturer in Victoria.

The fruit drinks’ business expanded nationally over the next 10 years. In 1990, Australia Soft Drinks entered the milk drink market with the purchase of manufacturing facilities from a dairy co-operative. The company officially changed its name to Australian Beverages Limited upon listing on the Australian Stock Exchange (ASX) in 1996, to reflect the broader beverage base of the business. In the years since its ASX listing, ABL has adopted a multi-beverage strategy wherein its product range has been expanded to cover all categories of the non-alcoholic beverage market.

However, bottled water remains outside this product range. The company has also moved into the manufacture and distribution of snack food products through its acquisition of several small businesses in 2004. It aims to strengthen distribution relationships with convenience stores and hospitality channels. These developments have resulted in ABL’s revenue composition to change from 90 per cent CSD-based in 2000 to 68 per cent CSD-based in 2009. The aim is to further reduce dependence on CSDs by 2015.

ABL intends to increase its market share of non-CSD beverage products so that CSDs will represent less than 50 per cent of company revenue as part of its multi-beverage strategy. Business strategy ABL’s vision is ‘To satisfy Australia’s thirst by being a manufacturer of non-alcoholic beverages for every occasion in every location’.

It is hoped that ABL’s position in the snack food market, which it recently entered via acquisition, would be made stronger by another potential acquisition in line with the general consolidation already taking place in the food and beverage supply industry in Australia. Such an acquisition would add further breadth to the company’s total product offering to its customers in all major distribution channels. Of all the competitors, ABL would provide the greatest share of beverage and snack foods.

By offering a broader product range, ABL expects to leverage its market power in soft drinks to sales of related products. It also aims to control product supply, apply discounts, introduce loyalty rebates or promotions, and secure conditions of use on supplied refrigeration equipment. As more Australians now drink different beverages at different times of the day, Dwyer highlighted his belief that a modern beverage company needs to be highly flexible in manufacturing, distribution and marketing as well as be able to operate in all product areas.

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