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In addition to investments in bottling and distribution infrastructure, the Comany also makes significant expenditures in support of their trademarks. Marketing is defined as anything that creates consumer demand for their products.
Integrated marketing programs are used to create awareness and product
appeal for their trademarks. These programs include activities such as
advertising, point-of-sale merchandising and product sampling.
Through
bottling investments and strategic alliances with other bottlers of their
products, the Company develops and implements integrated marketing programs
on a global basis.
In developing a global strategy for a Company trademark,
the Company performs product and packaging research, establishes brand
positioning, develops precise consumer communications and seek consumer
feedback
To maximize the impact of advertising expenditures, specific brands are assigned to individual advertising agencies, enabling the enhancement of each brand's global positioning, increaseing accountability and the efficient use of the Company's marketing expenditures.
During 1996, the Company's direct marketing expenses, which include consumer marketing activities, increased 12 percent to $4.3 billion.
Our success depends on having people who can identify and act on the vast opportunities that exist for our business. This means building a culture among our people in which learning and innovation dominate our business lives. To support this effort in 1996, we formed the Coca-Cola Learning Consortium, a group dedicated to working with the management of our entire system to make learning a core capability. The Learning Consortium will build the culture, systems and processes our people need to develop the knowledge and skills to discover and act upon opportunities better and faster than ever.
Economic profit and economic value added provide a framework for measuring the impact of value-oriented actions. We define economic profit as income from continuing operations after taxes, excluding interest, in excess of a computed capital charge for average operating capital employed. In 1996, we modified the calculation of economic profit to include both gains and losses on transactions relating to our bottling investments. As modified, economic profit now includes all of our identified value streams. Economic value added represents the growth in economic profit from year to year. To assure that our management team is clearly focused on the key drivers of our business, economic value added and economic profit are used in determining annual incentive awards and long-term incentive awards for most eligible employees.
During 1996, we began implementing a new tool to help us improve our performance - value-based management (VBM). VBM does not replace the economic value added concept; rather, it is a tool to manage economic profit. It requires us to think about creating value - in everything we do, every day. By focusing on value, we develop better strategies that help us create more value for our share owners.
VBM is a way of thinking, a process for planning and executing and a set of tools for understanding what creates value and what destroys it. It provides a set of fundamental principles that allows us to manage for increased value. With VBM, we determine how best to maximize value creation, not just in our business overall, but in every area of our business. We believe that a clear focus on the components of economic profit and on the driver of those components - VBM - is critical to our ability to maximize share-owner value over time.
We use several strategies to optimize our cost of capital, which is a key component of our ability to maximize share-owner value.
DEBT FINANCING
We maintain debt levels considered prudent based on our cash flow, interest coverage and percentage of debt to total capital. We use debt financing to lower our overall cost of capital, which increases our return on share-owners' equity.
Our global presence and strong capital position afford us easy access to key financial markets around the world, enabling us to raise funds with a low effective cost. This posture, coupled with the active management of our mix of short-term and long-term debt, results in a lower overall cost of borrowing. Our debt management policies, in conjunction with our share repurchase programs and investment activity, typically result in current liabilities exceeding current assets.
In managing our use of debt capital, we consider the following financial measurements and ratios:
Year Ended December 31, 1996 1995 1994 - ---------------------------------------------------------------- Net debt (in billions) $ 2.8 $ 2.6 $ 1.8 Net debt-to-net capital 31% 32% 26% Free cash flow to net debt 85% 82% 120% Interest coverage 17x 16x 19x Ratio of earnings to fixed charges 14.9x 14.5x 16.8x ================================================================
Net debt is net of cash, cash equivalents and marketable securities in excess of operating requirements and net of temporary bottling investments.
FINANCIAL RISK MANAGEMENT
Most of our foreign currency exposures are managed on a consolidated basis, which allows us to net certain exposures and, thus, take advantage of any natural offsets. With approximately 80 percent of our 1996 operating income generated outside the United States, weakness in one particular currency is often offset by strengths in others. We use derivative financial instruments to reduce our net exposure to financial risks.
We use forward exchange contracts to adjust the currency mix of our recorded assets and liabilities, which further reduce our exposure to adverse fluctuations in exchange rates. In addition, we enter into forward exchange and swap contracts and purchase options to hedge both firmly committed and anticipated transactions, as appropriate, and net investments in certain international operations.
Our derivative financial instruments are straight-forward instruments with liquid markets. We use primarily liquid spot, forward, option and swap contracts. We do not enter into derivative financial instruments for trading purposes. As a matter of policy, all of our derivative positions are used to reduce risk by hedging an underlying economic exposure. This policy mitigates certain risks such as changes in currency, interest rates and other market factors, including commodities, on a matched basis. Under this strategy, gains or losses on hedging transactions are offset by gains or losses on the underlying exposures being hedged.