adidas Group Online Annual Report 2006

Interview with the CEO

2006 was a truly exciting year for the adidas Group. With the acquisition of Reebok, the Group broke through the € 10 billion sales mark for the first-time. During the year, the adidas brand captured the world’s attention with its dominant presence at the 2006 FIFA World Cup™. Significant progress was made at fully integrating the Reebok brands and organization. The Group continued to improve operational efficiency and financial strength and delivered 26% earnings growth. In the following interview, Herbert Hainer, adidas Group Chairman and CEO, reviews 2006, and discusses the Group’s strategic and financial outlook.

Herbert, 2006 was a big year for the Group. What were the stand-out moments and events of the year?

2006 was without a doubt the most exciting year in my tenure as CEO of the adidas Group. We chose the name “setting the pace” for this annual report, because that’s exactly what I believe we did in 2006 – and by the way what I challenge my Group to keep doing every day.

In February, we welcomed Reebok into the adidas family, adding a powerful new dimension to our Group. Integration and change management quickly became two of our highest day-to-day priorities. Although there are still many challenges, we made important strides in putting the right people and processes in place to ensure we maximize the long-term opportunities this milestone acquisition presents. While all this was going on, adidas reigned supreme at the 2006 FIFA World Cup™ during the summer taking product, communication and execution to new levels. And let’s not forget TaylorMade-adidas Golf, which also delivered industry-leading top-line results and gained market share in several categories. Financially, too, the year was a record one with sales surpassing € 10 billion for the first time and net earnings growing an outstanding 26%, which would have been even higher excluding negative accounting impacts from the first-time inclusion of Reebok.

The 2006 World Cup left a huge impression with millions of people around the globe. What was its impact on the Group?

In every respect, this World Cup was a tremendous success – for fans, for Germany, and for adidas. We clearly scored with consumers, breaking sales records for footballs, boots and national team replica products. There were more players in the tournament wearing adidas footwear than any other brand. And our brand communication made a step change, with spectacular onsite advertising. Independent research confirmed that adidas was the hands-down winner in brand recognition among the 15 official partners, and our major competitors. All of this meant that we were able to extend our market-leading position in the world’s favorite sports category, growing football sales by more than 30% to over
€ 1.2 billion.

And the success reverberated throughout our organization. Our sales momentum continued, and in some regions even accelerated, well after the event. I am really proud of these results, and they serve as an inspiration and a reminder to all of us of what we can achieve with the proper focus, dedication and hard work. We have raised the bar at managing these types of events, and we will lift our game to achieve new heights with the UEFA EURO 2008™, 2008 Beijing Olympics and the FIFA World Cup 2010™ all on the horizon.

Your multi-brand approach is unique to the industry. What advantages do you see from this strategy and what role does Reebok play in driving its success?

A multi-brand strategy is not a new concept for the adidas Group. We have more experience than anyone else in the sporting goods industry when it comes to utilizing different brands to attack different market segments. And now with the Reebok acquisition, we have taken this strategy to the next level. We know that there is also a limit to how far a single brand can be stretched in a particular product category, segment or demographic. Brand management is our core competency and we believe that with a small number of top-notch brands, we can mean more to more consumers. And in the long term, this is what market leadership is all about.

Within our Group, adidas is recognized as the altruistic, premium performance brand with a strong emphasis on team sports. Reebok will be positioned within our portfolio to appeal to consumers who define sport outside traditional convention, prioritizing comfort and fit and celebrating individuality in sport and life. Reebok will be our brand that focuses on breaking the barrier of combining sport and lifestyle, with extensive crossover collections that utilize the brand’s unique positioning with both women and American sports. And TaylorMade-adidas Golf will continue to dictate the pace of innovation in the golf industry with the power of the TaylorMade and Maxfli brands in golf equipment complemented by the strength of adidas Golf in soft goods.

There is a lot of attention being focused on Reebok’s current trading. What are you doing to reinvigorate the brand?

My vision for Reebok is simple and no different than my vision for our other brands: make the brand desirable, with a clear focus on performance. Reinvigorating the Reebok brand will not be an overnight process and it will take several seasons before we really have the brand firing on all cylinders. There are short-term challenges which are compounded by difficult conditions in Reebok’s core markets. These and negative accounting impacts were the reason why Reebok was not earnings accretive in the first year, despite the underlying profitability of the business. We have told you that we will make investments to address these issues and to provide additional support to strengthen the brand over the coming quarters.

Our first big product initiatives will hit the market in the second half of 2007. Here our focus will be on running, women’s and apparel. We are launching two new marketing campaigns, “Run Easy” and “Best On | Best Off”, and will leverage our strong portfolio of partnership assets such as NFL, MLB, Peyton Manning, Thierry Henry and Scarlett Johansson to deliver the Reebok proposition to the consumer. At the same time, we are also refining our distribution strategy at Reebok to ensure we are where it matters most to our consumers. By broadening our presence in all major retail formats, particularly in sporting goods and better department stores, we will reduce the brand’s historic dependence on specific customers and channels to provide a more balanced and flexible distribution base. We will also create new excitement with Reebok-CCM Hockey and Rockport. These two tremendous businesses are performing well and by leveraging the capabilities of the entire adidas Group, we will open up new avenues and opportunities for growth.

You once again delivered significant growth in North America in 2006. What are your expectations for 2007 and beyond?

In North America, both adidas and TaylorMade-adidas Golf delivered excellent double-digit growth for the second year in a row. Reebok had a more difficult time with lower consumer appetite for classics product, and intensified competition in the family footwear segment where the brand has been traditionally overrepresented. During the second half of 2006, the market environment became more difficult and less transparent. And it’s clear that in 2007 market conditions will be more challenging for all of our brands in the region. Nevertheless, I am confident our Group has the tools in place to be successful in this important market. We have worked hard in recent years to broaden our product offering and enlarge our distribution base, and we have clear potential to significantly improve the position of all our brands. Growing our business profitably is our guiding principle in this market. At adidas, although our backlog development is negative in footwear, we are seeing positive sell-through at the retail level, particularly in running, which leaves us confident we will grow sales again in 2007. Reebok meanwhile should benefit from new product and campaign initiatives in the second half of 2007.

What about TaylorMade-adidas Golf? What are the opportunities and challenges for this business segment in 2007?

Our innovative strengths in this segment have allowed us to grow and increase market share in an otherwise challenging space. 2007 will be an exciting year for the golf industry, with several new technologies from many market players. And I’m very confident that TaylorMade-adidas Golf will again be at the forefront when it comes to bringing stimulating, technologically advanced product to the consumer. Look at our two new drivers, the r7® SuperQuad and the Burner® driver, which have been the two most played new clubs among professionals on the PGA Tour since we launched them in January. To fully capitalize on the momentum, we’ve also introduced a major marketing campaign supporting these product launches. We are not only scoring in the critical metalwoods category, but also expect to generate strong growth with our golf balls as well as our apparel and footwear offering. We are gaining market share in many categories and I am fully convinced that our team at TaylorMade-adidas Golf will deliver € 1 billion in sales in 2010.

Over the last year, you announced several new retail initiatives. Why are you placing so much emphasis on this area of your business?

The most successful companies are those that operate close to the market. But, for us, close is not enough. We want to be closest. At adidas, our own-retail activities are setting the pace in providing the best consumer experience, with creative new formats and interactive fitting technologies. But it is important to remember that 85% of our product is presented to the consumer through our extensive distribution and retail partner base. Going forward, a clear priority is collaborating even more with our partners to enhance every point-of-sale experience. We want to get closer to the consumer in these channels, but also to open up new opportunities and help increase the efficiency and profitability of our retail partners. We are definitely leading the industry here. Whether it be shop-in-shop initiatives, for example with JJB in the UK and Dick’s Sporting Goods in the USA, or partnership agreements like those we have with INTERSPORT in Europe, our goal is to increase our impact at retail.

And we won’t stop there. In order to be closest to every consumer, we will raise the game of our entire organization. In particular, through our “World Class Supply Chain” initiative, we will enhance our supply chain capabilities. We will focus on speed, agility and connectivity. This includes building capabilities to share sell-through data from our customers directly with our suppliers. Our efforts will make us more demand-driven and increase our retail and consumer focus. In the end, when consumers enter a store – whether it be our own stores, our retail partners, or online shopping – they should always be able to find the product they want in the color they want and the size they need.

How do you see 2007 shaping up from a financial point of view?

In 2007, I am confident we will build on the successes of 2006 and make further important strides towards achieving our goals. Despite less favorable retail conditions in North America and a more selective approach to distribution in key European markets, robust growth in emerging markets will drive a mid-single-digit top-line increase for the year. Gross margin will expand strongly as a result of improvements at all brands, the realization of synergies and the absence of negative accounting effects. We will invest a major portion of these gains to strengthen our organization, accelerate brand building at Reebok and continue own-retail expansion. Through the growth of our underlying business and disciplined balance sheet management, we will grow earnings at a rate approaching 15%.

Looking further out, what are the biggest opportunities you intend to seize going forward?

I am excited by the challenges but most importantly the opportunities for our Group in the next three to five years. There is a clear momentum building at all brands that will become more visible in the second half of 2007 and beyond. As an industry leader in the emerging markets, we have a solid platform to exploit the vast growth potential these markets have to offer. Our sponsorship of the 2008 Beijing Olympics will be just one example of how we will take these markets by storm. The Reebok revitalization will gain momentum with each new season of improved product, brand communication and distribution. We will achieve our integration targets of € 500 million in revenue and € 175 million in cost synergies by 2009. The Group is moving in the right direction and I am confident we can deliver on our medium-term guidance. But this is just the start, as far as I am concerned. With all our brands at the top of their game, we will be a formidable force in shaping the future of our industry.

Thank you for this interview, Herbert.