By  on April 19, 2010

BASEL, Switzerland — Tag Heuer worldwide president and chief executive officer Jean-Christophe Babin is celebrating the Swiss watchmaker’s 150th anniversary with a declaration of independence.

Famous for its sports watches and chronographs, worn by celebrities and sports figures ranging from Steve McQueen to Tiger Woods and Maria Sharapova, the brand this year is spotlighting a lesser-known facet of its identity — a tradition of technical expertise.

“This anniversary for us is a fantastic occasion to unveil a truth that few people are aware of,” Babin explained. “We have been one of the few brands paving Swiss watchmaking with some of the most remarkable inventions, patents and innovations since the 19th century and we have, last but not least, a superlative mechanical movement know-how which is more and more the name of the game in our trading-up strategy.”

It’s a significant point at a time when rival Swatch Group, which supplies the watch brand with many of its movements, is threatening to turn off the supply tap. Babin’s message to the industry is clear: Tag Heuer can do just fine on its own.

Whether that is accurate is debatable, industry analysts said. But Babin is playing high-stakes poker with Swatch, the world’s biggest watchmaker, which owns brands such as Omega, Breguet and Blancpain.

Like the rest of the sector, Tag Heuer, owned by luxury group LVMH Moët Hennessy Louis Vuitton, has seen its sales growth derailed by the global economic downturn. But with “sweet spot” pricing of $1,000 to $5,000, the brand has proved less vulnerable than some of its pricier competitors, such as Rolex.

Babin said Swatch “very fairly” supported Tag Heuer’s growth between 2000 and 2008, allowing it to shift production from around 99 percent of quartz watches in the Nineties to more than 50 percent mechanical watches.

Tag Heuer remains one of the biggest clients of ETA, the Swatch subsidiary specializing in movements such as the Valjoux 7750 chronograph, used in Tag Heuer models that include the Aquaracer and Carrera.

“In the last five years, seeing how quickly we developed mechanicals, they have been very openly informing us that we should really envision other sources of supply, including internal,” Babin said. “So we decided to start our own project, but in parallel, we decided also to develop new partners.”

Tag Heuer recently hired 50 people and opened two workshops to develop and produce the Caliber 1887, its first in-house movement, which initially will be fitted in 50,000 Carrera chronographs.

It has increased reliance on other suppliers, including Swiss movement makers Sellita and Soprod, and independent watch component maker Dubois Dépraz. Tag Heuer also collaborates with fellow LVMH brand Zenith on calibers.

“I think we are the only watchmaking company in Switzerland relying upon six different suppliers,” Babin said.

“And ETA is still the main one, but from close to 100 percent of supply of mechanical movements just five years back, this year they will probably still represent the majority, but probably 60 percent,” he said. “And then it’s more up to them than up to us.”

Swatch announced in 2002 that it would phase out the supply of watch movement kits, known as ébauches, to the rest of the market. That move will be completed at the end of this year.

Swatch Group chairman Nicolas Hayek said last year he wanted to go further by stopping deliveries of its entire range of components, arguing that Swiss watch brands have relied too heavily on Swatch and failed to invest enough in developing their own know-how.

Similarly, such a move would take years to implement, since Swatch’s dominant position means it must consult the Swiss Competition Commission before taking any decisions that will have a significant impact on the market.

Nonetheless, Hayek’s comments sent shock waves through the Swiss watch industry, which remains largely dependent on Swatch, despite a growing number of brands producing their own movements. Although such a decision would have huge implications for Tag Heuer, Babin was sanguine.

“We could pretty quickly substitute their volumes between ourselves, Sellita, Dubois Dépraz and Soprod — not in 12 months, but not in 10 years either,” he predicted. “We hope we won’t be forced to do it because there are some products, namely the Valjoux, which play a very important role in our assortment, so if we can still have the privilege of buying it, we will happily buy it.”

If Swatch carries through on its threat, Tag Heuer plans to ramp up production of its own caliber.

“From the 50,000 capacity we have built for that caliber, we’ll step it up to 100,000,” Babin said. “You know, it’s just a matter of money. Tag Heuer is a very profitable company, so we generate cash, so investment is not a big issue for us.”

Just how much cash Tag Heuer generated last year is not known, since LVMH does not disclose results for its individual watch brands.

Sales for the luxury group’s watches and jewelry division fell 13 percent last year on a reported basis and 19 percent at constant exchange rates to 764 million euros, or $1.06 billion at average exchange rates for the period, as retailers sharply cut back inventories.

The division’s operating profit for the period plummeted 47 percent to 63 million euros, or $87.8 million. At its annual results conference in February, LVMH said Tag Heuer’s sales fell in 2009, but it succeeded in maintaining market share.

Babin noted the brand actually increased its share in the U.S. Figures provided by LGI Network, which tracks luxury spending, show that in the 12-month period ended in February, Tag Heuer had a market share of 26.2 percent in the $1,000-$5,000 watch segment, up 170 basis points versus the same period a year earlier.

Jon Cox, watch analyst at Kepler Capital Markets in Zurich, said Tag Heuer most likely benefited from consumers trading down from more expensive brands. Whether the company has the resources to operate without the logistical support of Swatch Group is another issue, he added.

“That’s probably the $10 million question everyone is asking at the moment,” Cox said. “Tag and LVMH have very deep pockets, so they can obviously develop their own movement, but you’ll probably find what it does is eat into the profitability of the watches, because they have to do everything from scratch. I think it’s more of a negotiating ploy.”

Tag Heuer does not provide production figures but, based on the LVMH results, Cox estimated it manufactures about one million timepieces a year, meaning it will take some time to find alternative suppliers to Swatch Group.

Tag Heuer’s financial position is sufficiently comfortable that, unlike many other brands, it is not slashing its prices.

Last month at the Baselworld watch and jewelry fair, the industry’s biggest annual gathering, the company emphasized improvements in the perceived value of its timepieces. It introduced new features at various price points, such as updated straps and buckles, and value offerings, including the ladies’ Formula 1 stainless steel and ceramic watch that will retail from $1,200.

This strategy, combined with a relatively generous margin, makes the brand a favorite of retailers as the watch sector climbs out of its worst crisis in three decades, Cox said.

Tag Heuer takes a proactive approach to slow sellers, which it buys back from retailers to channel into its global network of 14 factory outlets in a strategy intended to prevent the timepieces from ending up on the gray market at large discounts.

“Initially, people were very skeptical regarding our approach, but I think it’s a very pragmatic, mature, responsible approach to acknowledge that not all products will be successful,” Babin said. “I mean, we have to be realistic and humble.”

The ceo even managed to give a positive spin to the collapse of watch retailers in the U.S. market last year.

“It’s always easier to reach a solution with retailers disappearing than having a tense discussion about closing a door,” he said, wryly. “Obviously, losing partners last year was not so good for our sales. On the other hand, on a more long-term perspective, it has sped up a process on which we are very focused, which is gradually reducing distribution.”

Tag Heuer aims to eventually cut the number of its U.S. doors to 900 from 1,200. It lost some 200 points-of-sale because of the crisis last year, but reopened 80 in order to maintain a presence in key markets.

Worldwide, the brand is focusing distribution on high-growth emerging economies such as Russia, India and China. “All in all, the number [of doors worldwide] remains stable at around 5,000 because we are streamlining and increasing productivity in the West, and we are booming and expanding in the East,” Babin said.

Among its 2010 launches, Tag Heuer has high hopes for the Carrera 1887 Chronograph, the first watch to feature its in-house caliber, which will launch in July at a retail price of $3,900.

“Usually, manufacture movements command much higher prices because the costs are high,” Babin said. “Our cost is very accessible, not because we sacrificed profits, just because we managed to manufacture that movement in a very cost-efficient way.”

Its newfound focus on heritage plays well in markets like China, where consumers are attuned to tradition, but Tag Heuer has found that U.S. customers respond equally well to its new advertising campaign, which focuses on the product, with a time line and the slogan: “Pioneering Swiss watchmaking for 150 years.”

The ads mark a significant evolution for the brand, whose recent campaigns have centered on celebrity ambassadors, including Leonardo DiCaprio and Tiger Woods — a strategy that carries potential risks, as Woods’ spectacular fall proved. Woods is under contract but is not currently appearing in any ads.

Babin is confident Tag Heuer is on the right track with this return to fundamentals. “It’s a dimension of the brand that we have never, ever played in advertising,” he said. “The day people become aware of it, all of a sudden, their perception of Tag goes up by three notches.”

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