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The Recasting Of Alcoa


The Corporation

THE RECASTING OF ALCOA

Paul H. O'Neill has never been coy about flouting cherished traditions. Four years ago, O'Neill left his post as International Paper Co.'s president to join Aluminum Co. of America as chairman, becoming the first outsider in the company's 103-year history to call the shots. Although O'Neill knew precious little about the aluminum game, he quickly refocused Alcoa on its notoriously cyclical aluminum businesses, while reassuring investors that there would be no more wild earnings gyrations on his watch. Critics figured that O'Neill was in for a few unpleasant surprises. But Alcoa's return on equity has averaged 15% since he arrived on the scene, 50% above the average of the previous decade.

Now, O'Neill has set in motion forces that will truly leave his imprint upon the world's largest aluminum producer--for good or for ill. On Sept. 2, he will begin a massive overhaul of management meant to refashion Alcoa into a highly decentralized outfit. At a management powwow in Pittsburgh in early August, some 50 worldwide senior executives were stunned to learn that O'Neill planned to give Alcoa's 25 business-unit managers unprecedented leeway to run their businesses. Also, two levels of top management would be wiped out. Says Australian business-unit manager Robert F. Slagle, one of the fortunate 25: "We felt liberated."

BROAD AX. O'Neill is certainly interested in liberating Alcoa from its old hierarchical chain of command. Frontline managers will get plenty of decision-making authority--but also the accountability that goes with it. O'Neill expects all of Alcoa's various business lines--it makes everything from aluminum sheet for beverage cans to aerospace parts--to score significant gains over their rivals within two years.

O'Neill is moving quickly on other fronts, too. To extend Alcoa's reach in the faster-growing European and Asian markets, he has set up joint ventures with foreign partners. And to smooth out Alcoa's earnings performance, O'Neill and his team are negotiating longer-term metals contracts. They also have set up an innovative variable-rate dividend plan to reward investors who stay with the company during economic downturns. The payoff from all of this: O'Neill believes Alcoa may be able to deliver $1 billion more in annual operating profits by 1995.

O'Neill's gambit, inspired by his own often-unconventional thinking about management, is hardly risk-free. He's counting on untested line executives to muster the managerial skill and knowhow to quickly ratchet up quality and efficiency to world standards. And he's pouring on the demands at a time when aluminum prices are at a five-year low, after plunging over 30% this past year.

MAVERICK. Meanwhile, O'Neill may drive some experienced hands from Alcoa. Gone are the offices of president and three group vice-presidents, along with two dozen staff jobs. What remains of senior operating management is a three-person chairman's council, which includes two of the former group vice-presidents. In other words, while the reorganization is designed to give frontline managers more say, it also leaves the 25 business-unit heads reporting directly to O'Neill as chief strategist.

Not everybody is overjoyed by the 55-year-old O'Neill's vision for Alcoa. On July 30, President C. Fred Fetterolf, a 39-year aluminum veteran, abruptly retired, citing disagreements with O'Neill over "business principles." O'Neill says that Fetterolf, 63, left because "there was no need for a president under this structure." Fetterolf declined to comment.

O'Neill's messy break with Fetterolf marks yet another milestone in his journey to make over Alcoa from an old volume-driven metals company into a nimble collection of world-class industrial and consumer aluminum businesses. That transition started in April, 1987, when Alcoa's board ousted CEO Charles W. Parry and passed over Fetterolf to hire O'Neill. O'Neill managed to persuade Fetterolf to stay on to help him revamp Alcoa. "Now, Paul no longer needs Fred," says a former senior executive. Another former executive believes other displaced managers will leave, too.

As a company outsider, O'Neill was well-suited to shatter the old corporate mold at Alcoa. And he has hardly followed the career track of the conventional corporate chieftan. A California State University at Fresno-trained economist, O'Neill spent much of his early career in the federal government, eventually rising to the post of deputy director at the Office of Management & Budget before joining International Paper in 1977. O'Neill was widely mentioned in 1988 as a short-list candidate for Deputy Defense Secretary in the new Bush Administration. And some wonder whether O'Neill still harbors ambitions for a Cabinet-level posting.

O'Neill's penchant for bucking the system has sometimes backfired, though. In late 1989, when raw aluminum prices sank, rivals such as Reynolds Metals Co. and Alcan Aluminum Ltd., began discounting their finished aluminum sheet, used to make beverage cans. O'Neill gambled that Alcoa could keep its prices higher on such a value-added product. He was wrong: Alcoa lost $100 million in sales. "It was time to test the conventional wisdom," says O'Neill. He adds that Alcoa has won back all the business it lost.

WILDLIFE STEW. His headstrong ways have raised eyebrows on other occasions, too. He pulled Alcoa out of the U. S. Chamber of Commerce in late 1990 because of the group's opposition to Bush's fiscal policy. A year ago, against advice from his public-relations staff, O'Neill crashed a Washington press conference called by the National Wildlife Federation. Standing among reporters, he angrily charged that Federation President Jay D. Hair had unfairly labeled Alcoa as a toxic polluter.

O'Neill had a point. He rightly noted that aluminum oxide, the target of the group's criticism, had been removed from the Environmental Protection Agency's list of toxic chemicals. O'Neill was also infuriated by the implications of such a charge, for he has made environmentalism and worker safety a crusade at Alcoa. But he was embarrassed in July, when the company pleaded guilty to violations of New York State hazardous-waste laws and agreed to pay $7.5 million in criminal and civil fines.

O'Neill's biggest challenge has been to convince investors that recessions will not automatically weigh down Alcoa's earnings. Although Alcoa's profits dropped 43% to $178 million in the first half of 1991, that was a fairly robust performance considering that the company lost money during the last recession. Still, investors normally flee basic-materials companies during downturns. To keep shareholders on board, Alcoa will now guarantee a 40~ quarterly dividend. But it will also pay out 30% of any annual profits above $6 a share. At around 70, Alcoa stock is up some 40% from its 12-month low last fall.

The relatively strong performance owes much to Alcoa's growing agility at riding out the swings in its business. Alcoa is now extending the contracts under which it sells commodity raw materials--such as aluminum ingots and alumina, the powder from which the metal is smelted--from the standard two years to three or four. O'Neill has also slashed Alcoa's long-term debt by 40%, saving $56 million a year in interest.

O'Neill is also turning his attention overseas. Aluminum consumption in Europe and Asia is growing at 3% to 5% a year, compared with domestic growth of 2%. So, he's seeking a slew of joint ventures in Hungary, Korea, and Taiwan. Alcoa's most dramatic deal so far is a 50-50 partnership with Kobe Steel Ltd. to build a can-sheet plant in Japan. The partners will also explore new applications for aluminum in autos, a huge potential market.

Although progress has been steady, O'Neill is frustrated by the slow pace. Soon after arriving, he pledged that Alcoa would earn $6 a share in the worst of times. But analysts estimate Alcoa will earn closer to $4.20 a share, or $358 million in all, on about $10 billion in revenues, in 1991. O'Neill admits that Alcoa still hasn't managed to give itself enough of a cushion against a downturn. "We can do a lot better at the bottom of the cycle," he says.

'NO HIDING.' To help change that, O'Neill is abandoning Alcoa's "continuous improvement" strategy, in which the company constantly tinkered with its aluminum manufacturing to improve efficiency and shave costs. Now, he's looking for more dramatic improvements. And he figures that unfettering the frontline managers is the way to make those improvements happen. He raised the line managers' spending authority to $5 million from $1 million or less. He demanded that every business unit--from primary aluminum and aerospace alloys to beverage-can sheet and aluminum siding--begin sharing information and working together more closely.

What does O'Neill expect his managers to do with their newfound autonomy? For starters, he has ordered his business-unit heads to close the gap between Alcoa and world leaders in all their businesses by 80% within two years. If they do, the results could be startling. For instance, if Alcoa improves its efficiency in the production of rolls of sheet for beverage cans from the current 70% to the 80% world standard set by Kobe, Prudential Securities Inc. estimates it would mean a penny or two more for each of Alcoa's 1.7 billion pounds of can sheet. Those pennies add up--namely, to $1 a share, or $85 million in extra annual profits.

Will O'Neill and his new team pull it off? They had better: The restructuring has O'Neill's name emblazoned upon it. If things unravel, "there will be no hiding," says William S. Cook, an Alcoa director and former chairman of Union Pacific Corp. Firebrand that O'Neill is proving to be, he probably wouldn't want it any other way.

O'NEILL'S ALCOA

JUNE, 1987

Paul O'Neill becomes the first outsider to run Alcoa. Begins closing high-cost plants and takes a $166 million write-off

JUNE, 1988

Refocuses Alcoa on its core aluminum business and scraps diversification into new materials such as composites

JANUARY, 1989

Following a new profit-sharing plan tied to U.S. aluminum profits, Alcoa institutes a novel floating-dividend plan to protect investors during cyclical downturns

AUGUST, 1991

Wipes out top management layers and gives business-unit managers more decision-making clout. President C. Fred Fetterolf retires, citing differences with O'Neill over the strategic direction

DATA: BWMichael Schroeder in Pittsburgh


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