McKinsey On Chemicals 3 FINAL PDF

McKinsey on Chemicals
Number 3, 4 22 40
Winter 2011 Chemicals changing Innovation in Improving pricing
competitive landscape chemicals: An interview and sales execution
with Dow Cornings in chemicals
Stephanie Burns and
Gregg Zank
10 32 46
A capital-markets Capturing the lean Kick-starting organic
perspective on energy opportunity growth
chemical-industry in chemical
performance manufacturing
McKinsey on Chemicals is written Editorial Board: Florian Budde, Copyright 2011 McKinsey & Company.
by consultants in McKinseys global Philip Eykerman, Bob Frei, All rights reserved.
chemicals practice together David Hunter, Tomas Koch, John Warner
with other McKinsey colleagues. This publication is not intended to be
Editor: David Hunter used as the basis for trading in the shares
This publication offers readers of any company or for undertaking
insights into value-creating strategies Art Direction: Veronica Belsuzarri, any other complex or significant financial
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Number 3, Winter 2011
4 10 22
Chemicals changing A capital-markets Innovation in
competitive perspective on chemicals: An interview
landscape chemical-industry with Dow Cornings
performance Stephanie Burns and
High energy prices and
Gregg Zank
the global economys Long-term analysis shows
eastward shift are that capital markets base Dow Cornings CEO and
creating new chemical- valuations of chemical CTO talk about successful
industry leaders who companies above all approaches to new-
play by different rules. on past operating product and business-
Newcomers must build performance, and that model innovation.
capabilities to sustain there is little difference
their success, while over time between the
incumbents must sharpen specialty, commodity,
their value propositions. and diversified segments.
32 40 46
Capturing the lean Improving pricing Kick-starting
energy opportunity and sales execution organic growth
in chemical in chemicals Even in a recovering
manufacturing Some chemical companies economy, many companies
Companies can adapt have blind spots when see only limited potential
lean tools and approaches it comes to steering sales in organic growth. But by
to improve energy and they pay for it in targeting micromarkets
efficiency and capture lost margins and growth. and reorganizing the sales
significant savings An approach built force to prioritize growth,
in the current environ- around a more granular companies can achieve
ment of high energy level of insights makes it growth rates well above
prices. possible to improve the overall market.
execution and boost
returns.
2
Introduction
Florian Budde,
Tomas Koch,
and John Warner
changing competitive landscape shows how high
energy prices and the global economys eastward
shift are aiding the rise of new chemical
industry leaders, companies playing to different
rules than the incumbents that have led the
industry for the last several decades. While the
incumbents have focused on classic share-
holder value, the newcomers are more focused
on resource monetization and economic
development. If each type of company is to
thrive, the newcomers need to build capabilities
in management, innovation, and marketing
performance to capture their full potential, and
incumbents must adapt their strategies and
Welcome to the third issue of priorities to this new landscape.
Our second article takes another longer-term
Over the past year, the worldwide chemical perspective on the industry, in this case
industry has seen a rebound that has surpassed that of the capital markets. Our analysis of the
its most optimistic expectations. Demand period from 1994 to 2009 shows that the
remained strong in the major emerging markets, chemical industry has been a strong performer,
boosting the growing chemical industries in outpacing most of its major customer in-
those countries as well as generating export dustries in recent years. As A capital-markets
demand for established chemical production perspective on chemical-industry perfor-
centers in Europe, North America, and Japan. mance explains, the analysis contradicts one
But demand has also proved more resilient in element of conventional wisdom by showing
the developed world than had been feared in that there is no empirical basis for the commonly
the darkest days of early 2009. US producers in held view that capital markets favor less cy-
particular have confounded doomsayers and clical specialty-chemical companies over com-
ridden the shale-gas boom that has brought a modity or diversified companies. Instead, the data
low-price ethylene feedstock bonanza. show that capital markets base their valuations
overwhelmingly on past operating performance,
Nevertheless, the crisis has certainly affected the regardless of company type. We also analyzed
industry significantly. As our first article the capital-markets performance of a sample of
shows, it has accelerated shifts in the global companies through the crisis, an exercise that
industrys long-term makeup. Chemicals showed that markets rewarded companies that
Article title here 3
took rigorous actionagain underlining translation of lean principles to the area of

the markets focus on operating performance. energy consumption.
Proceeding from the general to the parti- Our last two articles focus on marketing and sales
cular, our next two articles address themes that topics. With the chemical industry in recovery
are consistently high on the priority list for mode and enjoying a volume and margin rebound,
senior chemical-industry managementinnovation marketing and sales is a particular concern
and energy. Innovation remains a major area for senior management. Improving pricing and
of opportunity for chemical companies, and one sales execution in chemicals describes
of the most successful practitioners of inno- an approach that enables companies to achieve
vation in the chemical industry is Dow Corning, greater transparency on product and account
though it is not necessarily among the profitability and sales-force actions; companies
best recognized as such because the company is adopting the approach have improved their
privately held. We sat down with Dow Corning return-on-sales performance, in some cases sub-
CEO Stephanie Burns and Gregg Zank, its chief stantially. The second article, Kick-starting
technology officer, to talk about their approach to organic growth, describes how to apply a
both new-product innovation and business- more granular lens to discovering new market
model innovationan area in which Dow prospectsmicromarketsand explains how
Cornings Xiameter brand has been a trailblazer. chemical companies can then move to capture
these opportunities.
Climate change has dropped down many CEOs
agendas in the year since the Copenhagen In this and future issues of McKinsey on Chemicals,
conference, and with it the urgency to reduce we will bring you the best of our thinking in the
energy consumption and in that way reduce field. We trust that you will find the publication
carbon dioxide emissions. However, energy prices thought provoking, and we welcome your feedback
remain at high levels, and energy savings and suggestions for topics to cover in addition
continue to present an important area that is to those we are already working on. Please write
worthy of focus. In Capturing the lean to us at McKinsey_on_Chemicals@McKinsey.com.
energy opportunity in chemical manufacturing,
we describe a new approach to improve energy
efficiency based on an adaptation and
Florian Budde (Florian_Budde@McKinsey.com) is a director in McKinseys Frankfurt office, global chair of the
chemicals practice, and leader of its Europe, Middle East, and Africa chemicals practice. Tomas Koch
(Tomas_Koch@McKinsey.com) is a director in the Seoul office and leader of the Asia chemicals practice. John Warner
(John_Warner@McKinsey.com) is a director in the Cleveland office and leader of the Americas chemicals practice.
4
Chemicals changing
competitive landscape
High energy prices and the global economys eastward shift are creating
new chemical-industry leaders who play by different rules. Newcomers must build
capabilities to sustain their success, while incumbents must sharpen their
value propositions to compete.
Florian Budde A major shift in the competitive landscape of the in a high-oil-price world, and privileged access to
worldwide chemical industry is under way as the most attractive consumer-growth markets.
new players from oil- and gas-producing countries
and the high-growth developing markets of While newcomers may be better placed than
China and India join the industrys top ranks in incumbent chemical companies in Europe, North
sales. The new players focus on resource America, and Japan, the shift creates challenges
monetization and economic development, in for both groups. If the newcomers want to
contrast to the classic shareholder value- establish themselves as industry leaders in the
creating goals that have historically informed the coming decades and fully realize the industrys
strategies of top players. wealth-creating and society-supporting potential,
they must evolve rapidly. They should move
Not only are these newcomers playing by different beyond simply monetizing their cost- and market-
rules, but they are also better placed to ben- advantaged positions to build capabilities that
efit from two of the key dynamics driving the will put them on more equal footing with incum-
industrys future: control of advantaged feedstocks bents when it comes to management, innovation,
5
and marketing performance. At the same time, Closely related to this is the third major change
to assure continuing success in this new the arrival among the chemical industrys
landscape, incumbents must reconsider their po- leadership ranks of companies based in
sition in the industry and adapt their strategies hydrocarbons-producing countries and in large,
and priorities accordingly. Newcomers and high-growth developing markets such as
incumbents that can take these steps will be well China and India. The simpler value propositions
positioned to ride the global chemical industrys of the new players are in some ways on a
continuing profitable growth trajectory. collision course with the value propositions of the
traditional players, and the disruptive potential
A changed industry of this development is only gradually coming
Coming out of the financial crisis and economic into view.
slowdown of the past two years, the global
chemical industry is seeing major changes. The The industrys leading incumbents have operated
first relates to energy-price dynamics. The for the past two decades with similar goals:
chemical industry is confronting unprecedented striving to increase shareholder value based on
hydrocarbon price volatility. In addition, energy their technology portfolio and asset base, and
prices are significantly higher than they have been making opportunistic excursions from traditional
for the past two decadesand they are higher home markets to tap emerging-market growth.
than they were coming out of previous recessions. Whether the companies were based in Europe,
While there is little progress on climate-change North America, Japan, or South Korea has
regulation, which could add carbon taxrelated only added nuance to this common approach.
costs for chemical companies in certain regions,
the industry is nevertheless seeing increasingly In contrast, for governments and their production
pronounced divergences in gas and electric power subsidiaries from hydrocarbons-rich countries,
prices among regions. Overall, the degrees of chemical manufacturing represents an opportu-
cost advantage and disadvantage among regions nity to monetize advantaged feedstock re-
have increased. sources and build industries that will provide
jobs for their rapidly expanding populationseven
Second, the economic downturn has highlighted if it will have a detrimental effect on industry
the accelerating shift in the growth of global structure and profitability.
chemical demand from developed economies to
the developing world. While demand in For leading companies based in fast-growing major
Europe and the United States has not returned emerging markets, chemical production is seen
to pre-crisis levels and seems unlikely to do as a necessity to provide the products needed for
so until 2012, Chinas chemical demand increased continued economic expansion. Lower labor
by 6.4 percent in 2009 and by over 15 percent costs in these countries translate into competitive
in 2010. Meanwhile, new petrochemical capacity capital-investment and operating costs for
in the Middle East continues to expand, while these companies, many of which are owned by
plant-closure announcements have multiplied in the state or by families that have close ties to
Europe, Japan, and the United States. the government. These companies can establish
6 McKinsey on Chemicals Winter 2011
Building a worldwide market presence will require

that newcomers take steps to establish international
operations and build up the management skills
to run those operations successfully
production to capture local market growth, entry has been built on production, taking
and they are little concerned about any resulting advantage of their lower cost base to establish
global supply-demand imbalances for the a presence based on price in their export
chemicals in question. markets. This is a logical approach and a natural
entry point. But it tends to result in the
Importantly, both groups of newcomers include commoditization of the market and a strict focus
many government-backed companies. As a on the lowest price, and it therefore risks
result, these companies can invest on a scale that destroying a lot of the value that exists in the
is much greater than even the largest traditional market for the new entrants as well as for
chemical-industry players. existing players.
These changes have been building for years, but There have been numerous examples of compe-
their importance is hard to overstate. In sum- tition from new low-cost producers that has
mary, incumbents that have ridden growth in reduced prices well below the level that would
developed and developing markets are now assure them a foothold in developed markets,
undercut by powerful new rivals with access to in products as varied as polyethylene terephthalate
cheap feedstocks and the most attractive and fluorochemicals. Similarly, Chinese specialty-
growth markets. chemical products are often sold in developed
markets in North America and Europe on a
The new competitive dynamics pose important specification basis through third parties, which
questions for both newcomers and incum- means that the Chinese producers are cut off
bents about the steps they must take to assure from customers and have limited insights into
their continued success. For the newcomers, market dynamics.
the choices are arguably more straightforward
than for the incumbents, which have large As new players build their presence in the
legacy businesses to reposition. industry, they must develop capabilities to sustain
their growth and look more ambitiously at the
Newcomers must develop world-class kind of profile they want to create. As a first step,
capabilities they must establish their own R&D and inno-
For new producerswhether based in feedstock- vation capabilities, which will enable them to offer
rich countries or high-growth emerging- differentiated products and make them less
market countries with low labor costsmarket dependent on incumbents for technology.
Chemicals changing competitive landscape 7
Second, new producers must start to build overseas locations will be a new challenge for
marketing capabilities that will enable them to these players senior-management teams.
move beyond selling simply on low price and
reap the full economic benefits from their products. Incumbents must reappraise their
They must develop expertise in approaches opportunities and adapt
such as differentiated marketing, transactional Established producers in Europe, Japan,
pricing and value pricing, and sales-force South Korea, and to an extent North America
management. This is a need shared by all new will have to take steps to adapt to lower
producers, whether they are manufacturing overall demand-growth rates for chemicals
for export or meeting surging demand in in their home markets. Clearly, there are
home markets. segments of the industry in mature, developed
markets that continue to enjoy good prospects
Developing these capabilities will help new and that are relatively safe in the new competitive
producers get better returns from their current landscape. These divide into two main areas,
product range and avoid leaving money on upmarket and down-market, where there will be
the table from selling at unnecessarily low prices. niches that are relatively impregnable.
Doing so will become even more pressing as
new producers expand their portfolios to include The first area is chemical-industry segments
more sophisticated and higher-value-added in markets that require customer intimacy and a
products, from which they will want to extract high level of service support. Examples include
maximum value. flavors-and-fragrances companies that have de-
veloped superior customer insights and ex-
Becoming worldwide suppliers will require new clusive manufacturing know-how to support
producers to establish marketing and sales customer demands; coating companies that
capabilities in developed markets that are sophis- manage the painting of automobiles within the
ticated enough to support this type of product. production line; leather chemicals, where
Many of these products will require a completely the producer works closely with luxury-goods
different type of sales approachone that is makers; and water-treatment and construc-
capable of dealing with product-approval regis- tion chemicals. In all these cases, customer inti-
trations, gaining intimacy with customers macy makes them less vulnerable to inroads
product-development programs, and getting from low-cost offshore competitors. The second
products specified for these programs. area is a group of basic chemicals where the
low prices mean that importation is not viable;
Third, all of the above moves related to building a this includes such products as sulfuric acid,
worldwide market presence will require that hydrogen peroxide, industrial gases, and, to an
newcomers take steps to establish international extent, caustic soda. These are, and will continue
operations andmost importantbuild up to be, regional markets.
the management skills to run those operations
successfully. Whether such operations are Where incumbents must look especially carefully
established through acquisitions or built from is at the many market segments between
scratch, creating and running subsidiaries in the two poles. In many of these segments, lower
demand growth is likely to translate into the cover all domestic demand volumes, and for the
consolidation of players in certain sectors surviving incumbents that can manufacture
and capacity closures. Producers in Europe, domestically at below the cost of imports, this
North America, Japan, and South Korea evolution can be positive if it results in a more
have historically been net exporters of chemicals, clearly structured and disciplined market with
but for many product areas, their export cost pricing based on import-price parity.
position will become less and less competitive.
They already face cost disadvantages on raw It is also important to emphasize that across all of
materials and must confront disadvantages on their businesses, incumbents must work hard
two other scores: incumbents domestic plants for functional excellence with regard to low-cost
are not only in the wrong place to serve emerging operations and lean and effective marketing
growth markets such as China, but they also and sales. In the face of the growing competition
tend to be older installations that have intrin- from newcomers, incumbents cannot afford
sically higher costs than the new world-scale any slack in their businesses and must make sure
production capacity that is being installed in the they are top-class operators in all areas.
new growth markets.
Riding the new market-growth waves
Successfully managing the transition to this Next, incumbent companies must look beyond
lower-growth mode will require that their home markets and consider how they
incumbents evaluate their product portfolios can ride the dynamics that are transforming the
and manufacturing footprints. They must industrythe rise of chemical production in
also decide in which sectors they want to be con- feedstock-advantaged countries and the shift in
solidators, with an eye to becoming the last demand growth to emerging markets. Incum-
man standing, and in which sectors it would bents must ask themselves how they can
make more sense for them to be among the join up with the new players, whether by estab-
companies being consolidated. lishing a presence in a resource-rich country
or by building capacity in China and other high-
Companies must bear in mind that as the industry growth marketsor by doing both.
landscape shifts, the relative attractiveness of
products will change, with some more vulnerable They must then consider what they can do to
to the trends in the industry than others. They enhance and maintain their attractiveness as a
must look at their portfolios accordingly. Estab- partner. Many incumbents operate broad
lished markets are becoming net importers of portfolios of businesses; these companies must
a growing range of chemicals, as new feedstock- think about how they can clarify and best
advantaged producers can profitably serve these articulate the value proposition that they bring
markets. While imports frequently lead to lower to their potential partners. High on any list
prices and reduced margins in the short term, will be innovationcreating new technologies
this is not always the case in the long run, and productswhich has always been a route to
particularly if incumbents are willing to shut part profitable growth in the chemical industry
of their capacity. Imports are rarely able to and remains an area of strength for incumbent
Chemicals changing competitive landscape 9
chemical companies. Companies that have The global chemical industry has entered a new
technology that is needed by oil-producing coun- phase in its evolution, as players from oil-
tries to use in their new petrochemical plants producing countries and high-growth developing
will be best placed in any contest to participate in markets take their places among the industrys
joint ventures. And companies with know- leaders. These new players are focused on resource
how that is much in demand in rapidly growing monetization and economic developmentand job
emerging markets will be of greater interest creation in particular, in a number of countries
to those countries governments; they are thus rather than on traditional shareholder value, and
better placed to gain access to such markets. they thus play by a different set of rules than do
the industrys traditional leaders. As a result, the
Incumbents must also think about how the market competitive landscape is changing. Incumbents
access that they could provide in their home must recognize the shift under way and adapt,
market could be valuable to new producers. They while newcomers should build new capabilities to
should consider the best way to make this more fully deploy their strengths in the market.
available. One possibility is to act as a joint-venture
partner with a new producer in a way that As the world economy picks up speed after the
would enable the incumbent to gradually ramp crisis, senior managers are understandably
down its own production. preoccupied with navigating back to business as
usual. However, the shifts in the chemical-
Finally, incumbents must recognize the strategic industry landscape we have described above have
choices that they face. What kind of bar- arguably been accelerated by the crisis, as the
gaining chips does the company have, and what major emerging economies have recovered faster
types of chips might it want to develop? Is it than the developed ones. As a consequence, the
strong enough to stay independent? Should it window of opportunity for incumbents to engage
consider partnerships or alliances? Does a with newcomers could close sooner than
focus on the Middle East make more sense than a they might expect. The number of exceptionally
focus on China? And if a company decides to resource-advantaged countries is finite, and
focus on China, should it try to ally with a Chinese major emerging markets such as China may pursue
player or to establish a greater direct presence a policy of favoring domestic champions. Incum-
in China? Companies must think carefully about bents should use any momentum gained from
how to play their bargaining chips for maximum recovery in their traditional businesses to advance
value creationthese chips cannot be used their positions in the new industry landscape.
multiple times.
chemicals practice, and leader of its Europe, Middle East, and Africa chemicals practice.
10
A capital-markets perspective on
chemical-industry performance
Long-term analysis shows that capital markets base their valuations of chemical
companies above all on past operating performance. It also shows there is no basis for
the commonly held belief that investors prefer noncyclical specialty stocks.
Florian Budde, The long-running debate continues within the data from 1994 to 2009 for more than 100
Geert Gyselinck, chemical industry over which strategies offer the chemical companies worldwide, accounting for
and Christoph Schmitz
road to the best shareholder returns. Much approximately 70 percent of the total global
senior-management time has been taken up de- chemical-industry market capitalization.1 This
ciding whether to focus on a specialty, com- has enabled us to review the performance
modity, or diversified portfolio and whether to of individual companies (with figures adjusted
take the business closer to the customer, where necessary to make comparisons pos-
move upstream, or many other plays; a number sible) and the different chemical sectors, as well
of leading chemical players have recently as the performance of the chemical industry
made M&A moves to bolster their specialty profiles. relative to other sectors.
But what is the verdict of the capital markets, the The analyses show that capital markets do
arbiter of value creation, on these questions? not regard chemical companies sector affiliation
Since capital-markets performance provides the specialty or commodityas an indicator for
ultimate test of shareholder value creation, we superior or inferior performance. What does stand
compiled 16 years of financial and stock-market out is that capital markets are above all
11
focused on return-on-invested-capital (ROIC) construction, with electronics the only major

performance and its development over time, and customer segment to do better. This capital-
they base valuations on this performance rather markets performance suggests that the chemical
than on expectations of growtha dimension industry on aggregate occupies a desirable
where the markets are seeing little differ- point in the value chains in which it participates,
entiation between companies. Consistent across which enables it to capture its fair shareor
the period is that capital markets remain even more than its fair shareof value.
sensitively attuned to individual companies per-
formance trajectories. This was demonstrated This performance should ease the concerns of
dramatically during the crisis when, as the sidebar chemical-industry management teams that have
on p. 18 shows, companies that took aggressive been considering moving their companies closer
steps to cope saw their valuations rebound more to end consumers in the hope of gaining valuation
quickly than those of more passive competitors. upside in capital markets, since most customer
industries have been less successful at creating
Capital markets see chemicals as a value than chemicals. The performance should
strong performer also be a consolation to senior-management
The long-term data show that the often-held teams that have felt on the defensive in the past
perception of the chemical industry as few decades because of negative public
sluggish and unattractive is largely unjustified. perceptions of the chemical industry due to its
From a capital-markets perspective, the chem- environmental impact. These teams have
1 Our analysis covers 100 icals sector is a strong performer: shareholder been wondering how to gain favor from investors
chemical companies,
returns for chemicals have performed in line and the public by remaking their businesses as
each with sales of more
than $1 billion per year, with with global markets over most of the past 16 years, something other than chemical companies, at
an aggregate market cap-
italization of roughly $900
and outperformed the market average since least in name, as evidenced by the lack of newly
billion. Based on market 2004. The exception is the period around 2000, spun-off chemical companies with chemical in
capitalization at the end of
March 2010, this accounts when the dot-com bubble inflated technology their names. Capital markets, in contrast, appear
for an estimated 70 percent of stocks and the overall market. to have taken an unsentimental view on these
the total market cap-
italization for chemicals. issues; they are quite happy with the performance
In most of our analysis, we The fertilizer sector has performed particularly of the chemicals sector (Exhibit 1).
excluded Saudi Basic
Industries Corporation strongly on total return to shareholders (TRS)
(SABIC), given that its high
since 2006. While overall chemicals, excluding Not a growth play as an industrybut a
market capitalization
would have introduced a bias. fertilizer, showed a compound annual growth solid earner
We gathered various
performance metrics (for
rate of 5.8 percent per year between 2006 and Capital markets provide a valuable perspective on
example, total return to 2010, fertilizer achieved 39.1 percent. This has how the chemical industry should regard
shareholders, trading
multiples, return on capital, put fertilizer companies among the highest-valued itselfwhether it should still look at itself as a
cost of capital, and capital chemical companies. growth play or rather as a middle-aged industry
efficiency) but hand-adjusted
reported numbers to make that is past its best days. For many chemical-
possible easier peer Not only have chemicals outperformed the market company top-management teams, it has been
comparisons, for example,
correcting for nonrecurring in recent years, they have outperformed many somewhat painful to adjust to the reality
items, pension adjustments,
of their major downstream customer industries, that since at least the mid-1980s, the chemical
operating-lease adjustments,
and financial activities. such as automotive, consumer goods, and industry has been a mature industryalbeit one
McKinsey on Chemicals 2010

Capital Markets
Exhibit 1 of 7
Exhibit 1 The chemical industry has outperformed the market and

most of its customers in recent years.
Total return to shareholders, $

Indexed, 100 = December 31, 1993
1,000 Oil and gas

Electronics
Chemicals
800 Chemicals (excluding fertilizer)
Global market
Consumer goods
Construction and building
600
Automotive
400
200
0
1994 1996 1998 2000 2002 2004 2006 2008 2010
Source: Datastream; McKinsey chemicals capital-markets perspective, 2010 update
that is profitable, still growing, and earning its components of capital-markets valuation, ROIC
cost of capitaland the mantle of growth and growth expectations, across all companies
industry has passed to information technology in the analysis set. To do this, we calculated the
and other sectors. This has led to much soul- correlation coefficient between valuation (with
searching, as companies have attempted to find regard to its enterprise value to invested capital, or
the right balance between taking an innovation EV/IC, ratio) and operating profitability (ROIC
stancechemicals historic ticket to growthand before taxes). This calculation showed that in 2009,
focusing on squeezing cash out of their busi- the correlation coefficient was at the very high
nesses, an exercise further confused by the key level of 0.85, suggesting that the market was
enabling role of chemicals in many hot basing the largest portion of the valuation of
sectors such as solar and electronics. chemical companies on income performance, with
only a limited portion of the value attributed to
What do the markets say? To get to an answer, we variations in expectations for individual company
analyzed the relative size of the two key growth (Exhibit 2).
A capital-markets perspective on chemical-industry performance 13
Furthermore, our analysis shows that ROIC per- and diversified. Put another way, it is increasingly
formance became the key determinant of hard for chemical companies to make a credible
chemical-company valuation in the eyes of capital argument about growth prospects to shareholders.
markets over the past decade and that capital
markets have observed less differentiation in That does not mean the markets expect the
McKinsey
growth on Chemicals
expectations 2010
for companies across the industry to stagnate: on the contrary, the markets
Capital
three Markets
sectors that the chemical industry is expect companies to maintain at least 4 to 5
Exhibit 2segregated
commonly of 7 into: specialty, commodity, percent annual growth in a global market growing
Exhibit 2 Valuation of chemical companies happens on a show

me the money basis.
Commodity Empirical valuation tendency
Valuation level
Diversified Specialty
Enterprise value/invested capital (EV/IC)1
Other Companies linked to agriculture
Average WACC2
7.0
6.0
Valuation premium
5.0
4.0 Correlation
coefficient:
0.85
3.0
2.0
Valuation discount
1.0
0.0
0 10 20 30 40 50 80
Operating profitability
Return on invested capital before taxes, 2009E, %
1IC including goodwill, 2009E market data as of February 26, 2010; IC = 2008 adjusted for latest quarter (2009)
property, plants, and equipment; 2009 consensus estimate for earnings before interest, taxes, and amortization.
Note: EV = market capitalization + debt + minority interest and preferred shares total cash and cash equivalents.
2Weighted average cost of capital.
Source: Bloomberg; Datastream; McKinsey chemicals capital-markets perspective, 2010 update
overall at 3 percent. The overall capital-markets In addition, capital markets are attributing growth
view is that the industry is mature and that it prospects to Taiwanese companies well-placed
is unlikely that many companies will be able to to serve Chinese demand growth, to chemical
create outstanding growth stories, but markets companies in the high-growth enzymes sector and
certainly like the shareholder returns it provides. in research chemicals for the life-sciences
industries, and to chemicals and services for the
Rewarding individual growth stories hospitality industry.
This observation about the growth profile of the
chemical industry in aggregate, however, Thus in the markets view, the chemicals sector
should not obscure the fact that there are some does include areas with growth prospects.
growth stories that do impress capital However, to consistently impress markets, top
markets. The markets have rewarded such com- management must first make sure that the
panies with valuations that exceed their company excels in ROIC performance.
performance strictly based on income, which
means that value is being attributed to the A dynamic sector, where success gets
companies growth prospects. rewarded and weakness is punished
The capital-markets perspective underlines the
As mentioned above, the fertilizer sector has degree to which the chemical sector is dy-
recently enjoyed peak valuations and, along with namic. This is shown by the fact that there con-
other chemical companies serving the agri- tinues to be significant mobility across all the
culture sector, has made up the largest group of industrys valuation-performance quartiles
growth chemical companies in the immediate demonstrating value creation (as well as value
pre-crisis period. The agriculture sector received destruction) and making clear the high degree of
a certain degree of hype in the late 2000s with sensitivity with which stock markets are fol-
the general commodities boom, the biofuels fad lowing the performance of individual companies.
and related government subsidies, and food- For example, among top-quartile companies
shortage scares. This has resulted in capital- in 2008, fewer than half were in the quartile a
markets excitement about fertilizer stocks, decade ago. At the same time, 16 percent of
particularly those in the potash sector. Crop- top-quartile companies in 2008 had been bottom-
protection-chemicals and seeds companies quartile companies in 1998, while 25 percent
also rode the same wave of market enthusiasm. of bottom-quartile companies in 2008 had been
There continues to be significant mobility across all the

industrys valuation-performance quartilesmaking
clear the high degree of sensitivity with which stock markets
are following the performance of individual companies

Capital Markets
Exhibit 4 of 7
Exhibit 3 Capital markets remain highly alert to changes

in performance trajectory.
Distribution of valuations in the chemical industry: changes in one decade
Enterprise value/invested capital1 and where it came from2

distribution %, 1998
Median of quartiles, 2008
1st quartile
2nd quartile
16 3rd quartile
1st quartile 2.0 11 41 4th quartile
2nd quartile 1.2 32
3rd quartile 1.0
4th quartile 0.8 26

52
11
11
1 Including goodwill.
2 Excluding new entrants.
Source: McKinsey chemicals capital-markets perspective, 2010 update
in the top quartile in 1998. That mobility reflects What strategies best drive chemical
the nature of this complex and fragmented stocks performance in capital markets?
industry, where changes in end-user demands and What guidance does this analysis provide on how
raw-material costs give companies opportu- strategy correlates with strong performance?
nities to innovate and redefine their products and Since chemical companies strategies are hard to
services in specific markets and geographies. classify, competing as they do in a range of
product and geographic markets, we chose to
Thus, even though capital markets are showing an examine performance relative to some easily
increasing assumption that growth differentials measurable dimensions of how a company
between chemical companies are converging, if a operatedsuch as scale, product and portfolio
company changes its performance trajectory, focus, or geography. That analysis let us test
capital markets are perceptive and reflect these a number of hypotheses about what drives value
changes in valuations. As a result, some creation, defined as total return to shareholders,
companies move up and some drop down. The market-to-book valuation, and ROIC. Using data
message from capital markets to senior- from 1994 to 2009, there are a number of
management teams: do not rest on your laurels observations that can be made.
and if you are down, do not despair (Exhibit 3).

Capital Markets
Exhibit 5 of 7
Exhibit 4 Chemical segments perform roughly in line with one another.
Cumulative total return to shareholders1

$, indexed: 100 = December 31, 1993
500 Specialty
Diversified
Commodity
400
Compound annual
growth rate, %
300
Specialty 8.8
Diversified 8.0
200
Commodity 7.8
100
0
1994 1996 1998 2000 2002 2004 2006 2008 2010
1 Sample excludes Saudi Basic Industries Corporation (SABIC) and fertilizer companies.
Portfolio. Our analysis shows that all the chemical To achieve top-tier performance, portfolio seems
segments (specialty, commodity, and diversified) to play a rolebut it is not portfolio in the sense
performed roughly in line with one another from of specialty versus commodity. Instead, it is more
1994 to 2009. Capital markets have favored nuanced and specific to certain subsectors. It
certain segments during certain limited time is impossible to make comparisons at the level of
periods. For example, analysis that we undertook companies, as most companies have different
of the 1992 to 2003 period2 showed that portfolios, but it is possible to identify the per-
2See Thomas Augat, Eric
Bartels, and Florian Budde,

diversified companies performed best, followed by formance of individual businesses.
Multiple choice for the specialties; commodities performed worst.
chemical industry, www.
mckinseyquarterly.com, However, when we extend the analysis to 2009, it Our return-on-sales (ROS) analysis of individual
August 2003, and Thomas becomes difficult to identify a consistent trend businesses shows that while some sectors clearly
Augat, Eric Bartels, and
Florian Budde, Structural over time. Put another way, portfolio differences have higher ROS, the spread of performance by
drivers of value creation for specialties, commodities, and diversified sector participants is quite large. For example,
in the chemical industry, in
Value Creation: Strategies players have not translated into better or worse specialty electronic chemicals achieved higher
for the Chemical Industry,
performance; all segments are in line with one ROS from 2001 to 2008 than basic electronic
Weinheim, Germany: Wiley-
VCH Verlag, 2006, pp. 2739. another (Exhibit 4). chemicals. However, the variations in performance
around the average are substantial, and so lackluster sector, or, if the company is determined
performance has to be assessed on a company-by- to switch, make sure it can become a top
company basis (Exhibit 5). performer in the attractive sector. Presence in an
attractive sector is no guarantee of success
This holds a clear message for senior-management and neither does it provide an excuse for poor
McKinsey
teams. Beforeon Chemicals
rushing 2010
to abandon apparently performance in ROIC.
Capital Markets
dowdy sectors and trying to move into supposedly
Exhibit
more 6 of 7sectors, management must first
attractive Megatrends. One further portfolio-related
ensure that it cannot improve performance in the analysis that we undertook focused on whether
Exhibit 5 The average profitability of a business segment

is no guarantee of success: participants show wide
variations in performance.
Performance spread
around average
Segment1 Average return on sales in segment, 200108, %
10 0 10 20 30 40
Specialty electronic chemicals

Industrial and institutional cleaners
Flavors and fragrances
Catalysts
Cosmetic chemicals
Crop-protection chemicals
Pigments
Specialty Plastic additives
chemicals Coatings
Construction chemicals
Specialty polymers
Adhesives and sealants
Advanced composite materials
Water-management chemicals
Active pharmaceutical ingredients
Basic electronic chemicals
Bulk polymers
Commodity
chemicals Fertilizers
Basic organics/petrochemicals
Fibers
1Based on SRI segmentation.

Source: Bloomberg; Reuters; SRI International; McKinsey analysis
Lessons from the crisis:

The market rewards tough actions
and rigorous management
We analyzed capital-markets performance up of two segments: first, companies that

during the financial crisis to understand lessons were recognized as untouched by the crisis
on how companies should respond to challenges. (for example, companies making flavors and
We examined the total-return-to-shareholders fragrances and serving the food industry
(TRS) performance of a representative group of or high-end luxury-goods sector), and second,
22 chemical companies, from an all-time high on companies that visibly reacted to the crisis
June 17, 2008, to March 25, 2010. with cost-cutting and restructuring moves, which
set them up to come out of the crisis stronger
When the economic crisis started in autumn than before. Both these types of companies saw
2008, the initial response from the capital capital markets move their stock prices up,
markets was to drastically reduce the value of with top-quartile performers up 72 percent in
the chemical sector as a group, just as it did to the period.
all other sectors and to the market overall. This
phase continued through March 2009, with little At the other extreme were companies that were
difference between top-quartile performers hit hard by the crisis, primarily because of the
(TRS was down 48 percent) and bottom-quartile weakness of their balance sheets going into the
performers (TRS was down 66 percent). But crisis or because the capital markets recognized
when the capital markets started to get over their existing strategies would not be successful
the initial panic and recover their senses, in the new normal. Their valuations remained
they revised this initial judgment and showed depressed, recovering only 28 percent. In the
appreciation for the differences between middle were companies that did not react
individual chemical companies performance aggressively to the crisis and were waiting for the
and prospects. storm to pass. Many such companies had
robust business models, but by failing to make
This led to a segmentation of chemical rigorous moves to cut costs and improve
companies during the recovery phase from operations, they emerged weaker relative to
March 2009 to March 2010 (exhibit). At companies that seized the opportunity for action
one extreme was a group of companies made presented by the crisis.
These events provide a clear indication that While the crisis was a short period of exceptional
McKinsey on do
capital markets Chemicals
respond to 2010
individual stress, it confirms the enduring message of the
Capital Markets
companies situations and actions. Management capital markets: chemical companies should
Sidebar
teams thatexhibit
reacted decisively and took highly keep their focus on strong ROIC performance.
visible actions were rewarded by the markets.
Exhibit Patterns that emerged during the crisis show capital markets
favored companies that seized cost-cutting opportunities.
Median annualized total return to shareholders: all-time high to turning point1

%
1st quartile 24 Companies with rigorous and visible restructuring efforts

High-performing (niche) players that were dragged down
with the flow and have now recovered
2nd quartile 1 Players weathering the storm

Companies with robust business models that continued
to operate as usual after the crisis
Companies with limited or moderate restructuring
efforts but lasting exposure to the crisis
3rd quartile 16
4th quartile 38 Companies with tight liquidity and/or refinancing needs

Former growth stocks without a new post-crisis formula;
these players have been set back to normal
1From all-time high on June 17, 2008, to March 25, 2010; indexed with starting date of June 30, 2008.
capital markets have favored chemical companies the consistent message from capital markets is
that are linked to and riding global megatrends that any strategic move must focus on gener-
trends that are having a broad societal and ating good ROIC performance. Any move related
economic impact worldwide. Looking at market to megatrends must also bring strong ROIC
performance since 2005, we found that chemical performance with it for it to be viewed favorably
companies associated with two megatrends by the markets (Exhibit 6).
population growth and the unconstrained demand
for limited resourceshave outperformed over- Focus. Focused companies have performed better
all chemicals in capital markets. The first group in recent years than unfocused companies. We
consists of chemical companies that supply to define focused companies as those with more than
the agricultural and food industry (including 80 percent of sales in two businesses; unfocused
fertilizer, crop-protection-chemicals, and seeds companies are those with less than 50 percent of
companies), and the second group comprises sales in two businesses. The strong performance
companies with privileged access to natural of fertilizer companies has helped amplify this
McKinsey
resources on Chemicals
through 2010
backward integration. What trend, but even when fertilizer companies are ex-
Capital Markets
chemical-industry senior-management teams cluded from the analysis, the superior performance
Exhibit
must 7 of 7 however, before trying to hitch
remember, of focused companies stands out.
themselves to one of these megatrends, is that
Exhibit 6 Companies associated with megatrends outperformed

the broader market.
Cumulative total return to shareholders
$, indexed: 100 = December 31, 2004
700 Food-driven
Resource accessdriven
600 Chemicals overall
500
400 Compound annual growth rate, %
Food-driven 26.2
300
Resource accessdriven 14.2
200
Chemicals overall 8.1
100
0
2005 2006 2007 2008 2009 2010

Size. For specialty chemicals, size clearly matters: believed, for example, that investors prefer
larger specialty companies consistently out- noncyclical specialty stocks to commodities, there
perform smaller ones on TRS. For commodity is no empirical basis for such a claim. What
companies, larger companies outperformed does stand out, however, is that capital markets
smaller ones until the crisis, but since then, per- are taking a conservative view of chemical
formance has converged. companies ability to differentiate themselves with
regard to growth and instead are focused on
Region. Asian markets (excluding Japan) have companies ROIC performance and its develop-
done well because of growth in the region; ment over time. Markets are finely tuned to
economic growth translates into growth in demand changes in the performance trajectories of indi-
for the chemical industry. Europe has also done vidual companies, and winners must therefore
well, primarily because the European chemical remain on top of their game. While capital-markets
index is largely driven by German companies, performance in the past five years has shown
which have increased their productivity and taken chemical companies that ride megatrends have
away share from non-German competitors in excelled, experience has shown that capital-
the eurozone. Japanese companies continue to markets favorites can quickly change. The message
be weak, and North American companies are from the capital markets that endures, however,
somewhere in the middle. is that ROIC performance matters above all.
Our analysis of the 16 years of data shows that

capital markets do not regard chemical companies
sector affiliationspecialty or commodityas
an indicator for superior or inferior performance.
Put another way, although it is commonly
chemicals practice, and leader of its Europe, Middle East, and Africa chemicals practice. Geert Gyselinck
(Geert_Gyselinck@McKinsey.com) is an associate principal in the Antwerp office. Christoph Schmitz (Christoph_
Schmitz@McKinsey.com) is a principal in the Frankfurt office.
22
Innovation in chemicals:
An interview with Dow Cornings Stephanie
Burns and Gregg Zank
Dow Cornings CEO and CTO talk about successful approaches to
new-product and business-model innovation.
Bob Frei Dow Cornings performance in the past decade is large-scale plant in Zhangjiagang, China
and Chris Musso one of the more overlooked success stories (a joint venture with Wacker Chemie), which will
of the global chemical industry. Privately held by complement its large-scale plants in the United
Dow Chemical and Corning, Dow Corning States and the United Kingdom. Similarly, in
is the worlds top silicones producer and, through polysilicon, Hemlock Semiconductor is building
its majority stake in Hemlock Semiconductor a new plant in Clarksville, Tennessee, to main-
Group, the leading maker of polycrystalline silicon tain its capacity and cost lead.
(polysilicon), the raw material for computer
chips and solar cells. Dow Corning has historically What is new is the acceleration of the companys
seen steady growth, but in the past six years, sales and earnings trajectory. Part of this
its performance has accelerated dramatically, and is being driven by strong growth in demand in
innovation has played a key role in this. developing markets such as China. Dow
Cornings low-cost manufacturing base puts
Dow Corning has always grown by combining a it in a strong position to serve this demand, but
capability in low-cost bulk silicones with the company is not simply sitting back while
leadership in silicon-based specialty chemicals. it rides that wave. Instead, it has made a
It continues to follow this approach, with a new significant push in innovation to strengthen its
23
growth momentum. It has drastically redesigned 2010; sales hit $4.4 billion and net income was
and reenergized its new-product-development $615 million, putting it on a trajectory for its
approach, and at the same time has emerged as best-ever results in 2010.
a chemical-industry leader in business-
model innovation. Stephanie Burns, a PhD chemist, has been Dow
Cornings CEO since 2004 and has led these
In 2002, in the fading days of the dot-com developments. She and Gregg Zank, the companys
boom, Dow Corning took a bold gamble when it chief technology officer and senior vice presi-
launched Xiameter, a new business model dent, sat down recently at their Midland, Michigan,
comprising an online-managed, low-cost, no-frills headquarters with McKinseys Bob Frei and
sales channel for its commodity silicones, Chris Musso to discuss their perspectives on suc-
offering competitive pricing to customers willing cessful innovation in the chemical industry.
to buy in bulk, without research or technical
support. Plenty of other chemical companies were McKinsey on Chemicals: Where does
dabbling in e-commerce, but none embraced a innovation stand among your priorities?
business model that effectively divided the
companys products into two brands, as in this Stephanie Burns: Innovation is definitely one of
case, where there was the traditional Dow the very top priorities for the company. Its our
Corning on the one hand, offering customers futureits the way were going to grow. We divide
specialty silicones backed up by technical support the very substantial growth we have achieved
and R&D, and Xiameter on the other. over the past nine years into three categories, and
theres been a major innovation component to
Dow Corning confirmed the success of the new all of them. The first is momentum growth, which
business model in 2009 when it announced is directly linked to GDP expansion around the
a fivefold increase in the number of products it world, and Xiameter has brought us a lot of growth
offers via Xiameter. Meanwhile, sales growth there. The second is penetrating new geographies
based on new-product innovation has continued with our technology, and innovation plays an im-
to accelerate. portant role here because well often do for-
mulations that are specific for the geography or
The financial results bear this out. Dow Corning employ innovative business models that allow us
saw sales rise from $2.49 billion in 1995 to $3.37 to expand in a particular region. The third
billion in 2004, when it exited from its nine- category is more traditional, pure innovation
year Chapter 11 bankruptcy protection linked to new applications and products. All three cate-
breast-implant liabilities, a compound annual gories have contributed to growth, with the biggest
growth rate of 3 percent. Net income rose from shares driven by the second and third categories.
$153 million in 1995 to $289 million in 2004.
Its sales then rose 62 percent in the next four years, McKinsey on Chemicals: How has your
reaching $5.45 billion in 2008, a compound approach to innovation changed in the
annual growth rate of 13 percent, and its net past decade?
income increased more than two-and-a-half
times to $739 million. After a retreat in 2009, Stephanie Burns: Ten years ago, our innovation
results rebounded in the first nine months of approach was mostly the traditional, inside-out
materials-innovation approach. But we decided McKinsey on Chemicals: How did you deal
that this approach was not working wellwe with the challenges and cultural issues within the
really needed to deliver greater returns from our company when making this change?
strategic R&D investments. Reevaluating our
approach to innovation has been part of a complete Stephanie Burns: I think we have been suc-
rethink of Dow Cornings business. Dow Corning cessful in this because we defined a really clear
has always enjoyed respectable growth rates business modelXiameterfor our undiffer-
across most of its businesses, and for better or entiated business. We have been very clear on what
worse this led to an attitude in the company that brand represents and what its goals are for
that every business is a growth business, and an cash generation and contribution to the earnings
attitude to R&D spending where everyone gets of the company. That business model is all about
the same level of investment, and people across efficiency and quality of supply to our customers
the company felt almost entitled to a certain at a price point that allows them to really be com-
level of investment. petitive. Customers are not asking for a lot of
product innovation in that space, so that would be
But in the early 2000s, we could see that parts of an area where we are not going to put research
our portfolio were maturing and becoming less dollars, except toward process improvements.
differentiated, and the service-intensive specialty-
chemical approach to doing business was no At the same time, we have been very clear on the
longer wanted by parts of our customer base. Those differentiated side of the company about which
customers were mainly interested in the most areas we wish to invest in and what our customer
competitive prices for undifferentiated products, acceptance and financial expectations are, and we
backed by reliable supply. Seeing this and have shifted resources to priority areas.
recognizing that there was going to be more of
this trend coming was a major driver for us We had to communicate clearly that its just as im-
in our design of the Xiameter business model. We portant to work in area A as area B, and that
couldnt treat those more price-sensitive and both are critical to serve our customers. Were
innovation-insensitive customers the same as our going to create growth in each unit, but they
specialty customers. And so we separated our have different mandates and deliverables. It has
product offering into two brands: the Xiameter taken time to get the teams comfortable with
brand and the Dow Corning brand. this, but now people see the success and so they
are buying into it with great commitment.
Gregg Zank: And at the same time, we recognized
that we needed to rethink our approach to I think that one advantage we have culturally is
new-product innovation across all our businesses. that we have employees who are extremely creative
To get better returns, we saw that we couldnt and willing to try new things, and who do not
invest in every market the same, but we needed to resist change the way that perhaps they do in some
be selective and choose those innovation areas other companies. Weve worked hard on encourag-
where were going to get the biggest returns and ing the dynamic that its healthy to embrace change.
have the biggest impact on the company. It comes down to leadership and clarity of purpose.
Innovation in chemicals: An interview with Dow Cornings Stephanie Burns and Gregg Zank 25
Stephanie Burns Vital statistics (20032010) Fast facts

Born 1955 President Incoming chairman of the
Married, with 1 child American Chemistry
(20002003) Council
Education Executive vice president
Graduated with a PhD for global operations Member of the board of
in organic chemistry, GlaxoSmithKline and of
with a specialty in (19972000) the Society for Womens
organosilicons, in 1982 Director of the electronics Health Research
from Iowa State University and life-sciences
businesses and of science Appointed to the
Pursued postdoctoral and technology for Europe Presidents Export Council
studies at Universit in 2010
Montpellier 2 Sciences et (19941997)
Techniques, France Director of Named to Forbes.coms
womens health list of the worlds 100
Career highlights most powerful women
Dow Corning (19831994)
(1983present) Positions in laboratory
research, product
(2006present) development, science and
Chairman technology, and business
and (2004present) management
chief executive
This certainly has required changes in behavior. Dow Corningand add more clarity. We still
Take the salespeople in our specialty-chemical had some undifferentiated products managed by
business: their job out in the field is to do new- our specialty business, and by moving them to
business development and work with cus- Xiameter, we have been able to serve our cus-
tomers on new areas of growthits not to go in tomers with more clarity.
and sell existing products to existing cus-
tomers with the same application that theyve We will do that kind of fine-tuning constantly
sold for the past five years. So theyve had a real in the future. A product may currently be man-
change in their mandate. aged by our life-sciences business or industrial-
intermediates business, but as the products ma-
With our relaunch of Xiameter in 2009, not ture, were going to challenge the business every
only did we put more products into Xiameter but year: should that be a Dow Corningbranded
we also continued to fine-tune these two busi- product or should it be managed by Xiameter?
ness modelsXiameter and specialty-oriented And well move products over as appropriate.
Gregg Zank Vital statistics (200203) Reviewer with the National

Born 1958 Program leader for new- Science Foundation
Married, with 2 children business development
Member of the board of
Education (19852002) directors of the Michigan
Graduated with a PhD Positions in research, Molecular Institute
in inorganic chemistry in product development,
1985 from the University and new-business Member of Michigans
of Illinois at Urbana- management Climate Action Council
Champaign
Fast facts Recipient of the American
Career highlights Holds 30 patents for Chemical Societys Earle
Dow Corning innovations including B. Barnes Award in 2009
(1985present) those related to advanced
composites, rechargeable
(2009present) batteries, and high-
Senior vice president temperature thermosetting
polymers
(2003present)
Chief technology officer
and executive director for
specialties and technology
Meanwhile, we are getting new specialty products the undifferentiated area. For instance, do we have
from our innovation efforts to expand our intellectual property protecting our product,
Dow Corning portfolio that more than offset what or are there a lot of similar products on offer from
is moved to Xiameter. the competition? And when we go to visit the
customer, are we meeting with the new-business
McKinsey on Chemicals: How do you know developer or only with the procurement team?
when a product should move to Xiameter, and Thats a pretty strong signal right there.
what are the challenges and opportunities?
Stephanie Burns: But its important to rec-
Gregg Zank: Its not by our definition that a ognize that there is a huge opportunity in the
product is no longer differentiatedits our Xiameter model, not only in providing customers
customers and the marketplaces. That in turn with reliable supply at a certain price point but
reinforces the message within the company also for the company overall as the low-cost,
that we have to embrace this new business model. highly efficient supplier. We are winning at that
There are clear signals when a product is in low-cost game, and were going to continue to
win. Weve got fully utilized assets and efficiencies the same time, there may be a need to explore a
in our manufacturing operations that we believe new business model, packaging, or delivery
are the most competitive in the industry. method, for example, to successfully deploy a
product line in a certain region.
The offtake of the large, low-cost plants also
goes into our specialty business, where we develop Stephanie Burns: In business-model innovation,
finished, formulated products, and we get a lot our big aha came with Xiameter. That really
more value than just selling the basic inter- opened the door for us to think differently,
mediates. So the innovation that goes on in our and weve realized that new business models are
specialty plants that leverages this low-cost just as critical for new-product development as
position is a wonderful synergy. they are in the more mature parts of our business.
We deployed new ways of working with our
And at the same time, there are a lot of innovation partners: for instance, faster prototyping or finding
challenges posed by the Xiameter side of the different ways to more quickly establish
business. For instance, how do we get a product profitability. And in our polysilicon business, we
lines cost down to stay competitive and make have implemented new business models
the right level of return? Theres a lot of energy designed to ensure that we meet our needs and
and excitement going into improving manu- our customers needs.
facturing and process efficiency, as well as on the
business and commercial side. It can be just McKinsey on Chemicals: How do you steer
as exciting as new-product innovation. your new-product innovation approach?
McKinsey on Chemicals: What are your Gregg Zank: We want to focus on areas that are
thoughts on new-product versus business-model driven by large societal trends and needs in
innovation? the worldmegatrendsbecause we know those
trends are going to drive discontinuities in
Gregg Zank: Its not black-and-white. The days the marketplace. There are a number of areas we
are gone when you could just make a new are particularly interested in. These include
product and customers would beat a path to your health care and personal care, renewable energy,
door. To be successful in the marketplace construction, and electronicswhere we are
and establish a sustainable competitive advantage looking at the ever-expanding demand for devices
requires a combination of approaches. The key and the merger of electronics with other areas
for us is customer intimacy, which guides us as to such as photonics and biotechnology. And we are
which levers of innovation we should employ watching how megatrendssuch as energy scarcity,
how much new product and new technology, how urbanization, and othersinteract with these.
much new solutions, and how much business-
model innovation. Its also important to consider When youre tied into those discontinuities, it just
regional differences: mature products in one means the market opportunity is big. Youre
region may be innovative products in another. At not in there fighting tooth and nail using price and
other levers for a piece of a limited-size market that. Were not just saying theres a wonderful
instead youre in a market that is expanding megatrend out there in the demographic of an
rapidly. Light-emitting diodes (LEDs) are a great aging population and were going to invest all our
exampletheyre now showing up in flashlights, projects against it, but instead, were defining
displays, traffic lights, and in automobile exteriors where the opportunities are for Dow Corning.
and interiors, and they have the potential to Weve been improving that process and have
keep growing into areas of commercial and started to integrate it across the company.
residential construction.
McKinsey on Chemicals: How does the
Encapsulants for LEDs have been a great success process work?
story for us. We started the work in the late 1990s,
and it became a new-business program in the Gregg Zank: Our underlying challenge was to
early 2000s that was sheltered even though it was improve the way we develop a raw idea into
not making any money. We backed it because something tangible. The approach we now use is
we knew it was going to be a hit. We had key intel- to work very intensively for a highly com-
lectual property; its a very enabling tech- pressed period of time10 to 12 weeks. We will
nology; and we were ready to go when the market take something as large as the societal impact
was ready. Our encapsulant business has of an aging population and distill that down with
grown dramatically over the past five years. numerous interviews outside the company. We
dedicate a group of employees around the world to
We are on the lookout for developments that are undertake a lot of strategic marketingboth
truly going to be disruptive and try to tie technical people, who are in my opinion very good
ourselves to them. We constantly challenge our- early-stage strategic marketers because they
selves and refresh that list of the large trends ask a lot of difficult questions, and commercial
that we should be looking at, and then we ask, how folks. Then we have weekly meetings to say, what
can silicon-based materials provide a solution? have we learned about this area? Its got to be a
large opportunity, its got to get marketplace
Stephanie Burns: What weve been doing over acceptance within a certain time frame, and its
the past four years is to take these megatrends got to be something that is not incremental to
and apply filters that narrow them down to what what we are already doing. We assess the
really could be the opportunity, and identify applicability of our scientific tool kit against the
how best our technology and competencies match opportunity and create an early proposal.
Theres a level of research expenditure that must be

maintained even in tough timesits not discretionary
spending; its required
We pressure-test the proposals from the points of associated with them to represent a large area of
view of technology, the market, the supply chain, growth for a significant amount of time?
and whether it will still be a good opportunity if
some other external factors change. It is a difficult Stephanie Burns: We also have to take some
thing for the team to go through because they care managing the filtering part of the
want to chase five things and they only have time processthis is the painful part, where you have
to get two worked up as full business proposals. to let go of ideas early on that you dont think
But Im insistent that as we go through this, we are a hit and stay focused on the ones that look
capture and document all the things that we leave promising. When we started this process,
on the side as well, because they may be relevant our people got so enthused by innovation and
for some of our other existing businesses. In sustainability and improving our planet, and they
addition, the process can help us identify markets were buying in fast and looking at things that
that are starting to move and make us check if we we knew were not going to fly. But youve got to let
are in tune with them. Are they on our radar them expand the lists of ideas, so that they say,
screen, and how are we interacting in the value this is new and exciting, and to make sure theyre
chain of those markets? going along the path with you. You cant shut it off
prematurely; you have to let it run its course.
We undertake this process twice a year. In ad-
dition to identifying opportunities, it completely McKinsey on Chemicals: What are examples of
energizes the entire company, because there is megatrend-linked work?
not only a core team but also a broader team that
gets involved because there are Web calls for Gregg Zank: One of the problems with the aging
information, where people can contribute, so population is diseases that make bones brittle.
everybody is a part of it. We end up with a pretty So you can look at ways to protect the human
robust portfolio of initiatives as the process body from falls or ways to better enhance bone
cycle proceeds. growth in aging people. Since there is research
relating bone strength to silica intake, we said,
McKinsey on Chemicals: Have any cultural is there a way to help uptake of silicic acid or silica
issues emerged with the adoption of the into the body to help bones be less brittle? An-
megatrends approach? other is enhancing aging bodies efficiency in ab-
sorbing medicinal drugs, and so, is there some
Gregg Zank: The danger we have run into is not way to use silicones to help the uptake of drugs?
so much resistance as that everyone reframes
what was already going on to be part of a mega- Stephanie Burns: We also see megatrends
trend, and everything becomes a green-energy intersect. For example, one of the trends
project or an aging-population project. Thats why with an aging population is that baby boomers
we have these filters and say, OK, within the want to live in their own homes rather than
aging population, what are the big things that we in a nursing home. To take care of them and make
think we can have an impact on and that have sure theyre safe, third parties observe them
enough discontinuities and opportunities in their homes, and so there are new electronics
applications, as you get to surveillance Stephanie Burns: Id argue our chemistry

cameras and sensors. In other words, the elec- set is probably more complex than most
tronics megatrend intersects with the aging- companies, and our expertise in that chemistry
population megatrend. set allows us to do so many more things. I
am constantly amazed at the potential of silicon
McKinsey on Chemicals: Dow Corning technology to meet the needs of current and
seems to have shifted its R&D talent strategy to future advanced applications.
include more than just silicone chemists,
hiring physicists, materials scientists, and even I think we are able to build closer and stronger
industrial designers. How has this new relationships with customers because our
combination changed the innovation problem- silicon-based expertise can be so enabling for
solving dynamic? them. Take skin-care product makers: they
use thousands of different ingredients to make
Gregg Zank: Its a great new dynamic. When you formulations, but the silicone ingredient
combine a silicone chemist with a material enables that formulation to perform, and that
scientist, a ceramist, and a metallurgist, you get gives us privileged access to their research
some very robust technology debates, and you department. And weve deliberately built up
get to a good answernot yet necessarily the right a capability we call application expertise, where
answerbut one you have a lot more confidence we have scientists who are world-renowned
in, because you did not just charge down one path. experts in many of our customers applications.
In hair care, for example, we have globally
Stephanie Burns: Heres an example. We know a respected experts on how to test products on
lot of our customers buy our materials for the hair, and our personal-care customers rec-
aesthetic propertiesthe feel, or hand, as its ognize and respect these experts work.
called, the silky touch, the visual appearance. But
we realized that theres a whole element in how McKinsey on Chemicals: How much time do
customers make buying decisions that we did not you as CEO spend on innovation?
fully understand. When silicone ends up in a
piece of furniture or cookware, we dont know who Stephanie Burns: As CEO, I would say around
these people are who are selecting the product. 15 percent on a pure innovation basis, but
When a maker of handheld electronic devices looks innovation is part of everything we do, so it is
at silicones, they are looking for the customer difficult to estimate. I do have a very full
experience as well as the electronic-circuitry per- understanding of the innovation portfolio, which
formance, which we always focused on. So we is on all our major executive-meeting agendas.
brought in an industrial-design engineer who
thinks completely differently from a chemist or McKinsey on Chemicals: What does it mean to
physicist, and this brings a totally different have a scientist as CEO?
dynamic to the teams interactions.
Stephanie Burns: When I am out with R&D
McKinsey on Chemicals: Is being just in silicon folks and teams that are bringing projects
chemistry a limitation? forward, theres probably an ease of discussion
and a connectivity that takes place. The last Some of our big successes today had their
time I was with our compound semiconductor genesis back in the late 1990s. In tough economic
research team, for instance, I understood times, youre looking to squeeze anything
exactly what they were doing and the progress you can, and innovation is not immune to that, but
they have made in advancing silicon carbide theres a level of research expenditure that must
wafer-production technology. be maintainedits not discretionary expenditure.
Its required.
Most important, I think I probably have, com-
pared with a nonscientist, a better understanding
that this innovation stuff takes time to come
to fruition, and that youve got to keep these
investments consistent and you cannot flip-flop.
Bob Frei (Bob_Frei@McKinsey.com) is a director in McKinseys Chicago office, and Chris Musso
(Chris_Musso@McKinsey.com) is an expert principal in the Cleveland office.
32
Capturing the lean energy

opportunity in chemical
manufacturing
High energy prices and climate-change concerns are driving new
interest in energy efficiency. Companies can adapt their lean tools and
approaches to capture significant energy savings.
Frank Plasschaert, Between 1990 and 2009, chemical companies the industry over the past decade. European
Ken Somers, were among the many industrial and man- chemical companies, for example, have
and Gautam Swaroop
ufacturing companies that boosted corporate seen energy costs increase from 5 percent of total
performance by adopting lean production costs in 2002 to about 12 percent in 2009,
methods to optimize material and labor pro- driven primarily by rising oil prices, which have
1 The study, conducted from ductivity. Indeed, a multiyear study of how remained relatively high despite the
2005 to 2008 by McKinsey
well thousands of manufacturing companies in economic slowdown.
and the London School of
Economics, looked closely at North America, Europe, and Asia adopted
how well manufacturing
companies adopted proven
management best practices (including lean) Most companies have taken steps to lower their
best practices, such as highlighted just how important these practices energy intensity (the amount of energy
lean, and at the relationship
between these efforts are to a companys economic success (Exhibit 1).1 consumed per unit produced). The return on
and financial results. An efforts to optimize energy usage was gen-
early view on the research,
published in 2006, is de- However, most chemical companies that have erally three times greater in 2009 than in the
scribed in The link between adopted lean techniques have not incorporated, 1990s, and one major focus has been large
management and produc-
tivity, by Stephen J. Dorgan, or have only partly incorporated, lean techniques capital-investment projects to capture energy
John J. Dowdy, and Thomas
for increasing energy efficiency, even though savings, such as combined heat and power
M. Rippin, available at
www.mckinseyquarterly.com. energy costs have reemerged as a major issue for (CHP) plants. Energy-efficiency initiatives also
33
enable companies to cut carbon dioxide emissions, efforts first to holistically map out energy
thus providing companies with the means consumption at each step in their operating
both to do the right thing and to save money. processes or to identify specific energy
waste in their production systems, and then to
Traditional lean programs typically identify use lean techniques to focus on opportunities
savings that can be gained by improving every to reduce waste.
aspect of a manufacturing step, and this can
include energy savings. But in our experience, We have found that most chemical companies can
traditional lean programs enable companies substantially improve the overall energy effi-
to realize onlyon
McKinsey about one-sixth of
Chemicals their potential
2010 ciency of their operations when they apply lean
energy savingsleaving
Lean energy the rest on the table.
efficiency tools and approaches that have been trans-
Why? Few1companies
Exhibit of 3 are making systematic lated and adapted to cover energy use (Exhibit 2).
Exhibit 1 An analysis of the development of energy productivity over time

suggests substantial improvement potential.
Current Historical productivity New requirements

capabilities improvements to increase energy
productivity
Optimizing lead Factor input per unit of value added, indexed Including energy efficiency
and cycle times in optimization levers
and preventing 350 Labor Making energy
waste productivity consumption transparent
Managing Making waste detection
organization using 300 systematic
key performance Developing methods to
indicators (KPIs) 250 reduce waste
for quality and Incorporating energy
lead and cycle KPIs in management/
Material
times 200 productivity governance systems
Training and Building capabilities for
leading employees Energy continual energy-
in shortening lead 150 productivity efficiency improvement
and cycle times
and improving
100
quality
50
0
1960 1970 1980 1990 2000
Source: Bundesministerium fr Umwelt, Naturschutz, und Reaktorsicherheit (BMU) 2007; McKinsey analysis

Lean energy efficiency
Exhibit 2 of 3
Exhibit 2 Incorporating energy efficiency into lean methodology:

there are eight kinds of waste for energy.
Kind of waste Definition Example
Overproduction Producing excess energy (input Venting excess steam

energy that is unused)
Waiting Consuming energy while production Keeping stirrers at full speed in reactor
is stopped while production batch is analyzed
Transportation Inefficient transportation of energy Leaks and heat radiation in

steam network
Overspecification Process energy consumption Standardized reflux rates in distillation

(deliberately) higher than necessary columns for all product specifications
Inventory Stored goods use/lose energy Using uninsulated tanks in tank farms
where product must be kept heated
Rework/scrap Insufficient reintegration in upstream Redrying polymer fines

process when quality is inadequate that did not get coagulated in
drying process
Motion Energy-inefficient processes Excess oxygen in steam boiler

(inefficient processes)
Employee Failure to use peoples potential Employees not involved in developing

potential/intellect to identify and prevent energy waste energy-saving initiatives
Savings vary by sector, but typical savings for Taking the lean path to improving
chemical companies can be 10 to 20 percentand energy efficiency
in some cases, substantially higher. Importantly, Companies can realize these gains by incor-
all these savings can be achieved with limited porating energy-efficiency analyses and
investment and payback periods of three techniques into their existing lean approaches in
years or less. Energy consumption has tradi- four ways. First, they can focus specifically on
tionally been managed more carefully in energy consumption and then system-
the chemical industrys most energy-intensive atically identify waste as they would in any other
processes, such as steam cracking or ammo- lean program (Exhibit 3). Translating the lean
nia and chlor-alkali production, where energy is value-add identification methodology to the energy
a major cost element. Nevertheless, we have context, the approach here is to map energy
seen savings of up to 5 percent achievable in consumption at every step of a companys
such casesimportant gains on such large operating processes. The next step is to calculate
energy volumes. the thermodynamically minimum energy
Capturing the lean energy opportunity in chemical manufacturing 35
Lean energy efficiency
Exhibit 3 of 3
Exhibit 3 Building the theoretical limit for heat consumption

creates clarity on losses while identifying potential key
performance indicators.
Description
Heat consumed by
plants 1 and 2 100
Transportation Heat in steam is lost during transportation,

1 ie, through piping
Vented Steam vented because of plant

steam 6 imbalance for flash steam reuse
Modular
Heat Heat-exchanger insulation losses approach
Incidental exchangers 1 makes
technical limit
Exhaust Heat content of air entering scrubber work for both
gases complex and
13
simple sites
Offers potential
Radiation Radiation and air leaks of dryer shell to track
and air leaks 5 progress
through update
at regular
Availability Heat consumed by dryer when not running intervals after
1 standardization
Signals key
Performance Difference between actual performance and performance

best performance; no load losses present, indicators to
8 optimize at
as line runs almost 100% variable
frontline level
OEE EE1 Input/output Variation in moisture input and output
quality 1
Rework Heat necessary to reheat recirculated

2 fines in dryers
Theoretical limit for

plants 1 and 2 62 38%
1Energy efficiency (EE) linked to overall-equipment-efficiency (OEE) levers.

required for each process (its theoretical limit) remainder for 90 percent of the time, eliminating
and evaluate actual consumption against this the need to keep them heated when they were
theoretical limit. This analysis reveals where not being used.
energy is being wasted and how loss can
be avoided, and it also provides a powerful A second way companies can extend their lean
motivating tool for site personnel to push for programs to improve energy efficiency is by
new ideas. optimizing energy integration in heating and
cooling operations, moving beyond pinch
One US surfactant maker, for example, undertook analysis. A chemical company changed its process
a heat value-add analysis and found that only to release heat more quickly during polymer-
10 percent of the steam heat inputs were actually ization, allowing evaporation to start sooner and
thermodynamically required to make its products; saving energy on the subsequent drying stage.
90 percent were wasted. Once the causes of the The total savings from both steps amounted to 10
waste were identified, more than 20 measures percent and brought the production line close to
were planned to address the problem. These the industry cost benchmark. In another example,
measures would allow the company to capture a chlor-alkali maker undertook a number of
steam savings worth $600,000 per year, and the measures to avoid heat loss and to capture waste
investment would be paid back within three heat via heat exchangers that enabled it to
years. Loss of steam as it was piped around the raise the temperature of the brine solution so that
plant represented one of the largest sources of the electrolysis could attain a higher efficiency
waste, and it was addressed by insulating lines, level. The investment paid for itself in a year and
repairing steam traps, and simply repairing leaks. lowered energy consumption by 2 percenta
The measures also included writing a new significant reduction, given the size of the chlor-
algorithm for the software steering the companys alkali producers power bill.
heating and cooling control loop, making possible
5 percent savings on total steam consumption. A third way that companies can use lean ap-
This initiative alone resulted in $75,000 per year proaches is to identify process-design and equip-
of savings for just two days of the companys ment changes that can deliver greater energy
software engineers time. efficiency. As already mentioned, chemical com-
panies have responded to higher energy prices
In another example, a chemical producer was able with substantial capital expenditures to capture
to reduce the energy bill on its storage operation energy savings. Complementing this, lean
by 50 percent by reorganizing its tank-storage methodology makes an important contribution
strategy. Previously, it had operated multiple by helping to identify numerous smaller invest-
storage tanks, all of which had to be kept heated. ments that can add up to major energy savings.
By changing its storage procedurefollowing lean
thinking on optimizing inventory to minimize One chemical producer replaced traditional fixed-
waste, here with an energy focusit consolidated speed air compressors with high-efficiency
on a limited number of tanks and closed the variable-speed compressors, which led to savings
of up to 40 percent of electricity consumed to $2 million in additional boiler capacity. By

power its compressorspaying back the 200,000 improving consumption planning, it was possible
investment in less than two years. Another to make sure that demand would not pass the
company installed a blower-dryer combination to threshold that triggered pressure drops, and so
avoid using compressed air as a dry air source, the company was able to avoid making the
and it saved 30,000 a year for an investment of boiler investment. At another site, a company
50,000. And at another site, a company in- captured substantial savings when it was able to
stalled a new heat sensor that enabled it to better get an accurate demand forecast from a third-party
manage its energy outputagain having iden- user it supplied. Previously, the producer had
tified energy waste through the lean approach maintained steam production at the ready to meet
and achieved savings of 64,000 per year unpredictable demand from its third-party user,
for an investment of just 1,000. but once it knew the demand timetable, it was
able to put its boiler in power-saving mode
A fourth area where lean energy approaches can during downtime.
eliminate waste and capture savings is opti-
mizing the interface between producerssteam- To ensure that the gains are sustainable, companies
boiler operators, cooling-water-unit operators, must put into place a performance-management
and power suppliersand consumers. One system for energy efficiency that will provide an
chemical plant was reaching its boiler capacity objective basis for discussion. One company,
and experiencing pressure drops at demand for instance, spent about $300 million on energy
spikes, and it was therefore getting ready to invest a year, but it was having difficulties estab-
Focusing on theoretical limits stretches the

organizations aspirations for energy savings that
can be achieved with the existing asset
configuration and product requirements
lishing appropriate key performance indicators will quickly devolve into an analysis of variance
(KPIs) for energy because it had little sense that leads only to incremental changes. Focusing
of how KPIs would change in response to oper- instead on theoretically achievable energy
ating decisions. As a result, it did not change efficiencies and on the identification of specific
its KPIs for two years. Once the company under- types of losses between actual and theoretical
stood how it should correct for factors that positions enables a far more fruitful discussion
play a part in energy consumptionsuch as price on potential improvement levers. Such a conver-
fluctuations, product mix, and throughput sation will generate strong insights into the type
the company was able to install meaningful KPIs. and size of losses, and it forms a clearly quantified
With these in place, the company was then basis for relentlessly focusing on loss reduction.
able to make appropriate decisions and raise its
energy efficiency. Set up the right metrics. Frequently, the chal-
lenge for low-cost improvement starts with
Lean energy: The priority list insufficient energy-consumption metering and
for management energy-generation cost allocation. Improving
Implementing these lean energy-efficiency tools these enables companies to identify operating
and approaches will require some new manage- changes that lower energy usage, such as reducing
ment approaches. Senior management at chem- standby times. Better information about con-
ical companies will need to take several steps: sumption and cost allocation also helps in devel-
oping meaningful KPIs. With a combination of
Focus attention on operational improvements energy-efficiency planning and employee training,
versus the theoretical limit. In our experience, low-cost, sustainable savings can be achieved.
the most successful companies have moved their Relevant metrics would then include a clear cor-
managers from a benchmarking mind-set to rection for product mix, quality losses, and
one focused instead on opportunities and closing throughput variation.
gaps to theoretical limits for energy savings.
This stretches the organizations aspirations for Set targets for developing ideas. Companies
the energy savings that can be achieved with must signal the importance of energy-cost
the existing asset configuration and product re- reduction to employees and communicate this
quirements. Given the product mix and site opportunity in the existing language of lean,
specificity of energy production, transport, and and they should set targets to develop break-
consumption, the benchmarking discussion through energy-efficiency ideas. For instance,
they should emphasize the importance of Put teams of experts in place. Many of the
ideas that involve little or no capital expenditure leading players in energy efficiency have invested
and that are generated through frontline in developing coaches trained in the discovery
engagement with plant workers, cross-functional of energy waste, which is often invisible and tends
problem solving, and changes in mind-sets to be spread across an entire plant. Identifying
and behaviors. In addition, senior managers should that waste requires specific technical knowledge,
arm themselves with examples of what can be for example, steam production network
achievedborrowing ideas from industry peers economics or pinch analysis. In addition to
if necessary. technical knowledge, coaches must possess the
ability to tap into frontline knowledge in order
to identify solutions and mobilize personnel to
capture savings in a manner similar to typical
lean programs.
Frank Plasschaert (Frank_Plasschaert@McKinsey.com) is a principal in McKinseys Antwerp office, where

Ken Somers (Ken_Somers@McKinsey.com) is a consultant. Gautam Swaroop (Gautam_Swaroop@McKinsey.com)
is an associate principal in the Delhi office.
40
Improving pricing and sales

execution in chemicals
Some chemical companies have blind spots when it comes to steering
salesand they pay a high price in lost margins and growth. A sales-management
approach built around a more granular level of insights makes it possible to
improve sales execution and boost returns.
Joel Claret, It is well recognized that improving companies four main hurdles. First, although it is well
Dieter Kiewell, pricing and sales execution can have a significant established that sales profitability rather than
Soenke Lehmitz,
impact on profitability. Our data, covering more sales volume is key to a companys performance,
and Prashant Vaze
than 1,000 commercial performance-improvement some chemical companies still do not have
initiatives in a range of industries, show that a clear understanding of the profitability of
when they are successful, such initiatives typically geographical regions, product lines, and in-
translate into an improvement in return on dividual customers or transactions, which can
sales (ROS) of between 2 and 7 percent and lead guide pricing and sales decisions. This is not
to additional sales growth as well. In the chemical for lack of data: most companies have copious
industry, successful pricing and sales-execution sales information available through their
initiatives have mirrored these results in a variety enterprise-resource-planning (ERP) systems.
of portfolios that encompass both specialty But many companies are not able to orga-
chemicals and commodities. nize or interpret the data appropriately to pro-
vide transparency on profitability, and so their
What is specific to chemicals? Initiatives to im- sales representatives lack the right data to guide
prove pricing and sales execution must overcome them when they are agreeing on sales contracts.
41
Next, the chemical industrys asset intensity individual salespeople with only simple metrics,
encourages plants to be run flat out, generating which limits their ability to steer their sales
production surpluses, and companies fre- forces actions in the most effective way and
quently suffer leakage from their official pricing improve performance.
structure, as production surpluses must be
placed. If sales representatives are given incen- Boosting sales and pricing performance
tives based on volume or revenue, they are based on detailed and real-time market
likely to award ad hoc discounts and make other and customer insights
accommodations, such as offering free services, These hurdles represent substantial and inter-
to win sales. Sales management, meanwhile, has connected challenges that hold back many
difficulty precisely assessing the impact this chemical companies ROS performance. We
has on margins and enforcing behavior that will have found that the four-step approach described
maintain profitability. below can help companies tackle them and
improve performance.
Third, the chemical sector has had to confront
extreme volatility in raw-materials prices in Chemical companies that have adopted this ap-
the past several years, creating serious challenges proach have achieved substantial improvements
for products that are sold on longer-term con- in ROS, with the degree of improvement depend-
tract periods than the companys raw-materials ing on their starting point and on the type of
purchase contracts. Many companies do not business they are in. Companies mainly selling
have a clear understanding of which selling prices commodities in the spot market have seen ROS
should rise and by how muchor, importantly, improvements of 2 to 4 percent, while companies
how quicklyto pass along the cost increases and that sell primarily through individual customer
maintain profitability. Lacking this information, negotiations have captured improvements of 3 to
companies may find it difficult to provide appro- 6 percentage points of margin; companies that
priate and timely guidance to their sales forces on sell customized products and solutions have
the price levels needed to maintain profitability. achieved ROS improvements of between 5 and 8
percentage points of margin. In some very
Finally, some chemical companies have a sales- selective special-product and service cases, ROS
force skills gap. Their salespeople are good improvements of as much as 20 percentage points
at the traditional job of placing volume that keeps of margin have been captured, but this requires
their production plants loaded, but many sales a granular approach that allows players to identify
people have limited abilities to analyze sales data niche products and services where they have a
and limited negotiating skills to act on what true competitive advantage and where they can
the data show. This imposes a serious handicap on implement value-pricing approaches to capture
companies that want to move beyond simply the full potential value of their offering. These ROS
recouping their costs to capturing pricing that re- improvements have typically been achieved
flects the distinctiveness of their product and within two yearsand in some cases as quickly as
its value to different customer segments. At the within nine months.
same time, some companies are monitoring
1. Discovering the sales portfolios true profitability Factors that should be examined include the more
The first step that enables chemical companies obvious, such as sales prices, and the less
to make improvements in pricing and sales apparent, such as cost to servein other words,
execution is to establish full transparency into companies should make a full assessment of
the factors that drive the profitability and all the costs associated with supplying a customer.
growth of geographic regions, product lines, and Many of these costs are not immediately visible.
individual customers and transactions. The It is important to identify customer behaviors
analyses that must be carried out include the pro- that impose additional costs but that are not
fitability of customers by volume and segment, captured in ERP-based information. For example,
price performance and profitability across micro- a customer might make last-minute changes
markets,
McKinsey and on
changes over time2010
Chemicals with regard to an order that result in the chemical company
to margin, volume, and churn by customers and
Periscope incurring additional but hidden handling and
segments
Exhibit 1(exhibit).
of 1 logistical costs. Similarly, some customers make
Exhibit Achieving transparency into the drivers of profitability

opens the way for performance improvements.
per kilogram
Contribution margin per unit, Q3 2009Q4 2009
12.44 1.25 0 0.10 10.43
61.60 0.18 61.78 0 1.21 61.23 0.71 61.94
Average Lost Con- Volume Portfolio- Pricing Pricing Ex- Effects of Increase Con- New Average
margin business tinued effect mix effect up down change- dis- in tinued business margin
in Q3 business rate counting variable business acquired for Q4
in Q3, impact costs in Q4, overall
average average
margin margin
Source: McKinsey Periscope Platform

Improving pricing and sales execution in chemicals 43
extensive use of companies laboratory ser- that reflects the cost to serve, customer price sen-
vices and technical support, but these additional sitivity, and its competitive positioning. New
costs are often not reflected in the prices pricing guidelines, as well as go-to-market and
charged to them. service-level guidelines, should also be
established to reflect these profitability targets.
It is also important for senior sales management
to enforce a standardized approach to measuring Companies can also use guidelines to steer
account profitability across geographies. Fre- the sales force to capture premium pricing on
quently, different national sales organizations products if it is merited. For example, one
apply different metrics. These national differ- specialty-chemical company had a product with
ences make it difficult to effectively manage distinctive characteristics that provided benefits
performance across regional or global markets. in certain end-use markets that the company
knew gave it the opportunity to charge a higher
Building on this, companies can conduct further premium in those markets than in others. The
analyses on price performance and profitability company created guidelines for the sales force to
for individual customers compared with the capture that premium on the product in the
total portfolio, examine price leakages from gross particular application, backed up by differentiated
price to net price and then to contribution mar- branding of the product. It also started to
gin, and look at cost to serve and leakage for educate its salespeople about where to look for
different customers. These analyses provide a this type of value-pricing opportunity.
wealth of insights on the true levels of pro-
fitability of the companys businesses, and they When setting such guidelines, we have observed
can inform targeted pricing actions to capture that one effective approach is for companies to
the profitability improvement potential. simulate the impact of their price-setting actions.
This allows the company to model changes
2. Pricing to maximize value capture on in raw-materials and other costs and then enter
each transaction prices for a region, country, customer group,
Once the company has gained insights into pro- or product line. In this way, it can see the impact
fitability, it can start to address its sales per- on ROS coming from each change. A company
formance, and here pricing is a top priority. The that produces surfactants, which found that its
first area on which to focus is setting pricing ethylene oxide costs were increasing, was able
guidelines. These guidelines are created by de- to model how much it would need to increase
vising action plans for certain customer or pro- prices to maintain its margins and then set
duct groups; such action plans include deciding pricing guidelines accordingly for its sales force.
on target profitability levels and price points.
3. Steering the sales force to get the best
For example, if a company identifies that pro- possible deal
fitability at its small customers is too low because The third step focuses on sales execution. This is
of the additional complexity entailed in appro- an area where some chemical companies need to
priately serving this segment, it should reset its improve, particularly when preparing their sales
profitability targets for the segment in a way representatives for negotiations with customers.
We have observed that while chemicals sales focus on, for example, directing a salesperson to
representatives are good at the traditional skill of push volume sales in an area where price
securing sales volumes, many cannot negotiate increases have been going through easily.
confidently with their customers procurement
departments to secure price increases. Many reps 4. Establishing an integrated performance-
also lack the analytical skills to deal with sales management system across the sales process,
data. Given that chemical companies are selling to from the CEO to the salesperson in the field
many industries that have taken steps in recent Many chemical companies steer their sales efforts
years to strengthen their procurement depart- based on volume and on a superficial view of
ments, this puts chemical suppliers at a dis- the contribution margins that they earn, but this
advantage. Sales representatives must be trained represents a relatively crude instrument for
to look for ways that they can work with col- steering the sales organization. Once the steps
leagues in their operations, freight, and finance outlined above have been taken, best-practice
departments to fine-tune the offering that can be companies put in place performance-management
provided to the customer, closing leakages and systems that establish consistent key performance
tying up loose ends to improve service. indicators (KPIs) for all their commercial activities.
Such systems go into a high level of detail,
An effective approach used by some best-practice and the results are then consolidated into a single
companies is to provide the sales force with a reporting system. While companies often have
tool for quoting prices in real time, which arms different KPIs covered in different reports, an
the salesperson to get the best possible deal integrated system makes it possible to track
from the customer. The tools algorithm incor- everything in one consistent way. Management
porates pricing guidelines and supports the can monitor overall pricing performance and
salesperson in finding the deal terms that capture individual customers performance against tar-
the maximum value based on the suppliers gets, identifying the best- and worst-performing
distinctive position; it also includes the surcharges accounts and productsthe information is all at
needed to cover specific delivery and product- their fingertips in one system.
quality requirements for the customer. Addi-
tionally, the tool gives the salesperson infor- This kind of performance-management system
mationfor example, on different price, volume, also transforms sales-force mind-sets. Tradi-
and delivery-term packages, and on marginto tionally, performance dialogues with sales-
be able to propose deal alternatives. All of this people have focused on activities and volumes.
puts the salesperson in a position to negotiate With the new system, KPIs are aligned with the
confidently with procurement departments. goals of the sales organization and the sales
staff, and it becomes possible, for example, to
At the same time, sales management can use the monitor whether a salesperson captured the
tool to monitor sales reps in the field and maintain target price set for an account. This more compre-
an ongoing dialogue on sales performance, hensive system with new KPIs can provide regu-
reinforcing its intended messages. The historical lar feedback to support more effective
data that the tool collects can also show sales performance dialogues with the sales team
management which customers and salespeople to discussions that are focused on issue resolution.
Improving pricing and sales execution in chemicals 45
Beyond performance dialogues, the management Our experience has shown that when applying
system provides a generally more effective way for this four-step approach, the greatest benefit to
the company to steer the efforts of its sales force. senior sales management comes from the analysis
of a limited number of key indicators that have
Moving to higher ROS performance: the highest impact on ROS performance. We have
Success stories developed Periscope, a platform that provides
Once these four steps have been taken, we have tools and this type of focused information to
observed that companies are able to make support pricing and sales execution. Additional
substantial improvements in ROS performance. information is available at https://solutions.
Consider the initiatives taken by two chemical mckinsey.com/catalog/periscope.html and from
companies. The first, a diversified global chemical the authors.
company with a 500-person sales force, had
been contending with declining ROS performance Companies should also look at the potential that
for several years. This could be partly attributed can be achieved by integrating this pricing and
to increasing competition from new suppliers in sales-execution approach with a broader set
low-cost countries, but business segments not of improvement initiatives that cover all the
affected by such competition were also in decline. important dimensions of the commercial process.
The company embraced the approaches outlined These initiatives include attending to organiza-
and applied them to its commercial operations; tional setup and pricing processes, as well as
within 24 months, each of its business units looking at how the company works across its
experienced improvements in ROS of 2 to 5 different functions to resolve pricing and margin-
percentage points. management issues. The initiatives also cover
capability building for sales management and
In the second case, a European petrochemical frontline sales staff. This is a multiyear process,
company lacked full transparency on profitability but it can allow a company to capture significant
levels in certain customer segments and channels. additional margin independent of the chemical-
The transparency that was achieved using the industry business cycle, as well as to make
approach we have described showed the company silo-breaking, cross-functional improvements
that it could earn better returns by selling that can carry company performance to a
directly rather than through distributors for parts higher level.
of its business, and demonstrated that it should
enforce new price guidelines for selected customer
segments. Within six months, ROS had
improved by more than 5 percentage points in the
targeted segments and channels.
Joel Claret (Joel_Claret@McKinsey.com) is a director in McKinseys Geneva office, Dieter Kiewell (Dieter_Kiewell
@McKinsey.com) is a director in the London office, Soenke Lehmitz (Soenke_Lehmitz@McKinsey.com) is a principal in
the Berlin office, and Prashant Vaze (Prashant_Vaze@McKinsey.com) is a principal in the Antwerp office.
46
Kick-starting organic growth

Even in a recovering economy, many companies see only limited potential to
boost revenues and profits through organic growth. But there is a larger
opportunity to capture: by targeting micromarkets and reorganizing the sales
force to prioritize growth, companies can achieve growth rates well above
the overall market.
Maximilian Coqui, Chemical companies face two challenges when opportunities that are hidden when a more
Manish Goyal, seeking to grow organically in seemingly generalized or average view is taken of the larger
Jason Grapski,
saturated and highly competitive markets. First, market.1 This is as true for the chemical
and Soenke Lehmitz
many companies have trouble finding oppor- industry as it is for other industries and markets.
tunities. Second, even if they identify new areas
to pursue, they find it difficult to motivate their Why do chemical companies frequently fail to
sales forces to break old habits and take initiative. see these potential growth markets and
But while it is not easy to find growth oppor- translate them into new sales? One part of the
1 See Mehrdad Baghai,

tunities in such markets and transform the sales problem is that some companies do not do
Sven Smit, and force, companies should not give up. enough homework on market prospects and
Patrick Viguerie, The are not keeping up-to-date on the shifting
Granularity of Growth,
Hoboken: John Wiley & Extensive McKinsey research shows that re- customer base, notably when selling into
Sons, 2008, and Baghai,
examining markets at a more detailed or granular fragmented and changing markets. As a result,
Smit, and Viguerie,
The granularity level reveals large numbers of micromarkets that companies lack insights, in any particular
of growth, McKinsey
Quarterly, May 2007,
present substantial organic-growth opportunities geography, into where the fastest-growing and
www.mckinseyquarterly.com. well in excess of overall market-growth rates most profitable customers might be.
47
The second and related part of the problem stems The approach, Micromarket Management (M3),
from how companies handle their sales forces. has two main components. First, it adopts a
In the mature markets in which most chemical granular lens to target micromarkets and pinpoint
companies in developed countries operate, growth opportunities. Second, it focuses on
salespeople tend to have routine ways of looking actionable steps at the sales-force level:
at and dealing with their customers. Directives building strategies to pursue micromarket
from the top to prioritize new market segments growth, boosting sales-force effectiveness and
often get lost in middle management and providing incentives for the sales force to
are not transmitted to the sales force, and when pursue growth, and strengthening underlying
they are, salespeople do not know how to commercial capabilities.
follow through.
Defining and grouping micromarkets
The result is sales-force-led prioritization For many senior managers in chemical
of customer development based on the companiesin particular, those that serve a
ease of winning the customer, rather than an market sector growing in line with GDP in
approach built on prioritizing customers which multiple competitors are entrenchedthe
based on their potential contribution to profit- key question is where to find areas of growth.
ability. Making matters worse, many companies Getting to the right answer can be a major chal-
do not use an incentive system that rewards lenge for companies with hundreds or thou-
sales staff for seeking new growth accounts. sands of customers. For companies that have suc-
ceeded with this approach, the first step is to
Not surprisingly, senior-management teams at break the market down into manageable sub-
many chemical companies in developed groupsor micromarketswhere the prospects
economies view grappling with these challenges can be reviewed in detail. Such subgroups can be
as offering little growth. They see rallying based on shared characteristicsnotably, scale,
their sales forces once again to fight for gains in type of industry, or degree of service intensityor
this familiar territory as unrewarding trench simply on geography. One specialty-chemical
warfare. Instead, many senior teams prefer to company, for example, sorted its markets into geo-
focus on the seemingly more exciting prospects in graphical regions and then grouped customers
M&A and on investments in fast-growing and potential customers within each region by
emerging economies. industry type.
However, in the chemical industryas in a Once the micromarket segments are defined,
number of other industriessome companies are these companies evaluate the growth potential of
starting to show impressive results from a new each micromarketboth with regard to the level
approach that turns these shortcomings around. of penetration the company has already achieved
In chemicals, companies that operate in highly and the additional share that it can aspire to
fragmented specialty markets comprising large captureand of the markets underlying growth
numbers of customer niches have been or lack thereof. This can provide surprises. For
particularly successful using this approach. example, one chemical and services company with
a 20 percent share of the overall market dis- continent. To avoid becoming bogged down
covered it had share as high as 60 percent in some in the complexity of handling numerous micro-
markets, while in others, including the fastest- markets, successful companies combine micro-
growing market, its share was as low as 10 percent. markets with similar characteristics (including
Companies also assess the competitive dynamics growth opportunities) into a much reduced
in the micromarket, such as the number of and manageable number of peer groups, and
competitors and whether pricing in the then define a strategy for each peer group. In
market tends toward value-based practices or is most chemical sectors, that number is no more
just aggressively cost-based (Exhibit 1). than 8 to 10 peer groups in each of a companys
main regions.
McKinsey
A on Chemicals 2010
typical micromarket-definition exercise
M3
can generate dozens of micromarketsor even For example, a company specializing in inputs
Exhibit 1if of
hundreds the3company considers an entire for the agricultural sector (including crop-
Exhibit 1 Companies can use internal and external customer data to assess
current performance and identify attractive micromarkets.
The attractiveness of growth areas becomes more nuanced when

examined at the level of micromarket data
Market size Market penetration

$ million %
40 50
35 40
20 20 22
10 15
5
Growth Competitive-intensity index

% 100 = bad
7 73
6
52
3 36
2 2 22 28
A B C D E A B C D E
Micromarkets Micromarkets
Source: Disguised client data; McKinsey analysis

Kick-starting organic growth 49

M3
Exhibit 2 of 3
Exhibit 2 Define peer groups and assign strategies for the

micromarkets making up each peer group.
Gross margin relative to operating expenditure, $

Micromarket
5.0
Approach 2. Maintain 1. Invest to grow Peer-group strategy:
4.5
Set micromarket 1. Invest
productivity goals Invest in sales growth
4.0
based on 2. Maintain
peer-group 3.5 Improve productivity
average 3. Monitor investment
Reallocate Ensure payoff in capturing
investment to 3.0
new business
focus on 3. Monitor
2.5 4. Overstaffed investment 4. Overstaffed
markets with
Reduce expenses to meet
high potential
2.0 average peer-group
productivity
1.5
0 5 10 15 20
New-account opportunity, $ million
protection chemicals, fertilizers, and seeds) micromarkets exercise can be translated into
aggregated its 200 micromarkets in the United an actionable sales-development plan for the
States to 10 peer groups. These peer groups company. As will be explained in more detail, the
were built based on the characteristics of the peer groups can also be used to share best
farms that they were serving. Factors that practices across the sales force and to compare
were taken into account while building these different sales representatives performance.
peer groups included the size of the farms, the
relative density of the farms in a geographic Building strategies
area (for example, farms in the west were larger The next step is for the company to develop
and more spaced out than those in the strategies for its peer groups, which can then
east), and the type of product ordered by each be tailored for each micromarket. In one
of the farms. example, a chemical company grouped its 18
micromarkets into four peer groups and out-
This aggregation to a limited number of peer lined four related strategies, including invest,
groups is an essential step in ensuring that the in which the company sought to capture an
outsize share of growth, and maintain, in external resources and tap into information
which the companys strategy was to hold on to gathered by the sales force in the field. This keeps
its market share while maximizing operating the companys information on growth prospects
efficiencies (Exhibit 2). freshand hopefully ahead of its competitors
insights. With this enhanced resource in hand,
Developing the strategic plan involves taking the company made a scan of potential hospital
into account which micromarkets to focus on based client prospects, analyzing details down to the
on growth potential and defining how to capture number of beds in every hospital across a
the potential and to meet or exceed market country market.
growth. This results in a detailed plan that covers
sales-force allocation and in-market capabilities, Adding the sales-force-effectiveness
performance goals related to capturing new dimension
business and retaining old business, briefings to The next step is to ensure that the sales force
the sales force on how to approach new types of is allocated and provided with incentives
clients, pricing, and an implementation program. in ways that are aligned with the strategies
developed for the micromarkets. Having an
District managers translate the strategy into accurate view of the performance and capabilities
specific tactics for sales reps to use: for instance, of the sales force enables the company to act
identifying which accounts to pursue and how effectively on the leads created by the new
much time should be allocated to each. A com- micromarket data, so that it can match the best
panys pricing policy should reflect micro- salespeople with the best opportunities.
market opportunities, as well as the customer
life-cycle stage and purchase histories that Some best-practice companies monitor how much
predominate in the micromarket. In addition, time each salesperson has been spending with
marketing strategies should be sufficiently each account and conduct a skill/will assess-
tailored to provide a distinctive product or service ment of all sales and service reps, including their
suited to the traits of a given micromarket. For account conversion and retention performance. In
one chemical company, adopting this peer-group one company, district managers completed
and micromarket-strategy approach resulted in evaluations to assess each reps skill and will for
a tenfold increase in prospectsidentified po- new-business sales. Coupled with prior perform-
tential opportunitiesin some micromarkets and ance data (including new-account growth,
a narrowing down of realistic prospects in retention rates, and so on), this evaluation was
others (Exhibit 3). used to identify the role on the sales force that
each sales rep should be assigned to. The chemical
A key piece of the strategy is undertaking company evaluated each of its 3,000 sales and
detailed research on the best prospects in the service reps worldwide.
prioritized sectors. One specialty-chemical
company redeployed some sales-force resources Companies can then use the new understanding
to create positions for market-prospect re- of each micromarkets relative opportunity
searchers. These individuals scan data from in combination with each reps skill set to re-

M3
Exhibit 3 of 3
Exhibit 3 Companies should develop a comprehensive view of tangible

customer opportunities within each micromarket.
Apply a robust process to identify and prioritize and significantly increase the world of
opportunities in each micromarket opportunities for reps to pursue
In current client database

Newly identified opportunities
Investigate any account site that

Total identified purchases the client's products
Target Current
market Search more than 50 global and
Industry opportunities sales
local databases
$ million $ million
Identify more than 5,000
accounts per microdistrict
across 65 industries A 0.64 0.02
Identify exact locations and
B 0.62 0.27
calculate value per account
C 0.60 0.00
D 0.33 0.00
Examine opportunities the
Relevant client is interested in E 0.27 0.15
opportunities approaching in the midterm
but currently lacks the F 0.27 0.00
capabilities to address
G 0.20 0.02
H 0.15 0.00
I 0.14 0.00
J 0.12 0.03
Identifyopportunities where the
Accessible K 0.11 0.04
client has the right offering but
opportunities
economics do not justify L 0.10 0.13
immediate pursuit (eg, small
accounts, low-margin accounts) M 0.07 0.01
N 0.02 0.00
Total Current sales: 0.67

Target
opportunities that are an
Target Opportunities in database: 0.88
immediate priority and will be
opportunities
assigned to specific sales reps Newly identified opportunities: 2.76
Source: Client financials; external trade publications

One company not only doubled its rate of growth

over an 18-month period but also reduced
costs 5 percent, since it was able to deploy its sales
force more efficiently
allocate sales resources. This should result in reps levels (or bands) and calculate average market
skilled at gaining new accounts (hunters) share to understand the point of diminishing
spending their time aligned with the opportunity returns. These data were then used to set as-
for generating new business, while reps skilled pirations. For each micromarket, the client made
at maintaining existing business (farmers) an explicit decision on whether it wanted to get
concentrate on those accounts. This approach the most possible share points from added
improves sales growth and reduces waste of coverage or only increase coverage where bang
sales resources. At one company, the analysis for the buck was the largest.
showed a top-performing hunter was traveling
200 miles and spending 55 percent of his time Successful companies have also established
in an area where it now appeared that only improved performance-management systems.
25 percent of the opportunity existed. His work- These include defining new pricing and
plan was reorganized and his home base was service guidelines across accounts to ensure that
moved so that he was traveling only 50 miles and all accounts are held to a minimum level
spending 75 percent of his time in an area where of profitability. With regard to sales-force per-
75 percent of the opportunity existed. formance, best-practice companies have
created incentives for the sales force to pursue
The company also developed customized pricing the newly identified growth opportunities
and sales tools that could be adjusted depending and to look out for new growth opportunities.
on strategy. As a result, new customers in an They do this by evaluating the sales reps on
aggressive growth micromarket received lower leading indicators, such as how often they call
prices than customers targeted for service prospective customers and top-performing
renewals in moderate growth micromarkets. hunter reps increases in sales time, and on
lagging indicators, such as new-account
In another example, the agricultural-chemical generation and sales growth.
company conducted a detailed analysis that
plotted market share against sales coverage. This Again, the peer-group structure can play a valu-
analysis helped the company identify coverage able role here. Companies can measure per-
formance within peer groups of similar micro- reps to accounts in close proximity, as well as
markets, replacing the typical practice of changing time allocations to focus on more
simply evaluating an individual markets and profitable accounts and more sales (rather than
salespersons performance against a set of key service) activities.
performance indicators. This approach makes it
easier to spot major performance gaps and to Impact
validate hypotheses about the effectiveness Using this approach, one chemical company
of micromarket strategies and changing market doubled its rate of growth over an 18-month
conditions. In addition, the peer-group perspec- period while maintaining upward price momen-
tive can be used to share best practices across tum. It did this primarily by identifying its largest
the sales force and to compare different sales opportunities and then assigning sales reps to
representatives performance. capture them. The growth rate achieved was
three times higher than that of the underlying
Building the supporting organization to market, which mirrored the regions GDP growth.
drive and sustain the change The company also reduced costs by 5 percent,
In the third phase, successful companies build up since it was able to deploy its sales force more
the commercial capabilities required to execute efficiently, giving top sales reps more time for
their micromarket strategies. When assigning roles face-to-face selling instead of servicing accounts.
and responsibilities, we have observed that
companies tend to standardize some duties but Another chemical company turned around a
also allow for a degree of modification across decade of market-share losses after implementing
micromarkets. this approach. The client had lost a point or
more of market share for 10 successive years and
In addition, the need to build up certain capa- failed to capitalize on a booming market.
bilities to be able to pursue micromarket After launching this effort, the client was able to
opportunities is often recognized when pursuing hold market share steady for the first year;
this approach. Rather than adding overhead it has increased share by two to three points
to build capabilities, best-practice companies re- annually for each of the past three years.
allocate resources. One specialty-chemical
company shifted staffing allocations from lower- This approach has had significant impact in
priority sales territories to set up a new sales- industries beyond chemicals as well. A large
operations group to monitor its progress in each air-cargo operator was able to double the share of
of its regions (Americas, Europe/Africa/the wallet from key strategic customers along
Middle East, and Asia-Pacific). It also put in targeted trade lanes by following this approach.
place a marketing analyst to identify and track Similarly, a logistics player was able to grow
opportunities across one region and added a volume and price simultaneously, increasing
second analyst to prepare financial tools for revenues by 3 percent. In another case, a leading
real-time decision making in each micromarket. Asian mobile operator whose annual revenue
This included building maps and assigning growth had declined by 50 percent over two years
used the approach and is now on track to realize The approach outlined in this article makes it
revenue growth of 5 percent. possible for companies to generate new market
insights by combining granular micromarket
To support companies in the initiatives described data on growth prospects with specific and
above, we have developed a framework and a actionable steps that the sales force must follow.
number of tools, which are available as the M3 Chemical companies that have adopted the
approach. The M3 offering includes templates that approach have seen impressive organic-growth
can be used in micromarket analyses, frameworks improvements. Consider the alternatives: M&A
for aggregating micromarkets into peer groups, has a high failure rate. Expanding in emerging
and a number of sales-support tools. markets is expensive and requires extensive
new skills, while innovationthough a well-tested
route to growth in chemicalstakes time and
luck. Given all that, chemical-industry senior-
management teams should look carefully at
organic growth as a route to building their busi-
nesses and improving returns to shareholders.
They should also bear in mind that if they are not
paying sufficient attention to and defending
their core business, they may well lose it to a
competitorone that is willing to invest the time
and effort necessary to build it up.
Maximilian Coqui (Maximilian_Coqui@McKinsey.com) is an associate principal in McKinseys Munich office,

Manish Goyal (Manish_Goyal@McKinsey.com) is an associate principal in the Dallas office, Jason Grapski (Jason_
Grapski@McKinsey.com) is a principal in the Southern California office, and Soenke Lehmitz (Soenke_Lehmitz@
McKinsey.com) is a principal in the Berlin office.
February 2011
Designed by McKinsey Publishing
Copyright McKinsey & Company

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McKinsey on Chemicals

Illustrations by Jon Krause

took rigorous actionagain underlining translation of lean principles to the area of

Building a worldwide market presence will require

focused on return-on-invested-capital (ROIC) construction, with electronics the only major

McKinsey on Chemicals 2010

Exhibit 1 The chemical industry has outperformed the market and

Total return to shareholders, $

1,000 Oil and gas

Source: Datastream; McKinsey chemicals capital-markets perspective, 2010 update

Exhibit 2 Valuation of chemical companies happens on a show

There continues to be significant mobility across all the

McKinsey on Chemicals 2010

Exhibit 3 Capital markets remain highly alert to changes

Distribution of valuations in the chemical industry: changes in one decade

Enterprise value/invested capital1 and where it came from2

1st quartile 2.0 11 41 4th quartile

2nd quartile 1.2 32

3rd quartile 1.0

4th quartile 0.8 26

McKinsey on Chemicals 2010

Exhibit 4 Chemical segments perform roughly in line with one another.

Cumulative total return to shareholders1

Bartels, and Florian Budde,

Exhibit 5 The average profitability of a business segment

Segment1 Average return on sales in segment, 200108, %

Specialty electronic chemicals

1Based on SRI segmentation.

Lessons from the crisis:

We analyzed capital-markets performance up of two segments: first, companies that

Median annualized total return to shareholders: all-time high to turning point1

1st quartile 24 Companies with rigorous and visible restructuring efforts

2nd quartile 1 Players weathering the storm

4th quartile 38 Companies with tight liquidity and/or refinancing needs

Exhibit 6 Companies associated with megatrends outperformed

400 Compound annual growth rate, %

Source: Datastream; McKinsey chemicals capital-markets perspective, 2010 update

Our analysis of the 16 years of data shows that

Stephanie Burns Vital statistics (20032010) Fast facts

Gregg Zank Vital statistics (200203) Reviewer with the National

Theres a level of research expenditure that must be

applications, as you get to surveillance Stephanie Burns: Id argue our chemistry

Capturing the lean energy

Exhibit 1 An analysis of the development of energy productivity over time

Current Historical productivity New requirements

McKinsey on Chemicals 2010

Exhibit 2 Incorporating energy efficiency into lean methodology:

Kind of waste Definition Example

Overproduction Producing excess energy (input Venting excess steam

Transportation Inefficient transportation of energy Leaks and heat radiation in

Overspecification Process energy consumption Standardized reflux rates in distillation

Rework/scrap Insufficient reintegration in upstream Redrying polymer fines

Motion Energy-inefficient processes Excess oxygen in steam boiler

Employee Failure to use peoples potential Employees not involved in developing

Exhibit 3 Building the theoretical limit for heat consumption

Transportation Heat in steam is lost during transportation,

Vented Steam vented because of plant

Performance Difference between actual performance and performance

Rework Heat necessary to reheat recirculated

Theoretical limit for

1Energy efficiency (EE) linked to overall-equipment-efficiency (OEE) levers.

of up to 40 percent of electricity consumed to $2 million in additional boiler capacity. By

Focusing on theoretical limits stretches the

1 See Mehrdad Baghai,