An Ernst & Young global survey seeks out the opportunities in the present economic crisis that companies across the globe can make the most of.
By any measure, the past few months have been extremely difficult for the global economy. The collective assessment for the business environment in 2008 was termed as an “economic crisis” and the forecast for 2009 is termed “economic challenge”.
But this is not the first recession — the business world has experienced serious downturns before. At Ernst & Young, we have sought to understand how companies are reacting to the current crisis and see if there are opportunities to learn from their experience and best practices. Along with the Economist Intelligence Unit, we conducted in-depth interviews with 337 senior executives to see how they were being affected by the economic crisis and how they were seeking the opportunities in adversity.
Indian respondents featured prominently in this global survey; their number (28) was second only to the United States. All executives polled across the world worked for companies with a turnover in excess of $1 billion and businesses were cross-industry, with financial services and manufacturing forming the largest chunk in the representative sample. Given the rapidly changing environment, the time taken for this study was of particular importance and all of the interviews were completed between 6 January and 19 January 2009.
What has emerged from our study is that not all companies were equally affected by the downturn. While the overall impact on market capitalisation had been negative in the past 12 months, there was a significant variation in performance by sector. The market capitalisation change varied from a fall of 65 per cent in the banking sector to virtually no fall at all in biotechnology. For an investor, there could have been choices made in the portfolio that would have had dramatically different impacts. Such choices will continue to be available.
Generally, the executives recognised the challenge to their business but only 30 per cent felt their focus for the next 12 months would be solely on corporate survival. Seventy per cent believed that there were opportunities to do more. Similarly, their perspective of development in the competitive environment was also mixed. Forty per cent saw reduced risk of new entrants and 30 per cent saw competitors withdraw from the markets.
So, how has the crisis affected the corporate response to customers? Seventy-two per cent reported they had increased their focus on key accounts, which implied increased services for their customers; 39 per cent launched new products and services and 34 per cent moved to enter new markets. The pattern with regard to suppliers was particularly interesting — while 46 per cent had narrowed their supplier base to achieve more favourable terms, 42 per cent broadened the same to reduce the risk of failure. A supplier, therefore, is clearly almost equally at risk of losing a customer as gaining a new one. Looking to the future, we asked what change companies expected to see in their priorities, given the current environment (Figure 1).
The starting point is cash
The primary — but not the only driver of management actions — is the amount of cash that the company has and is generating. If you are generating cash during a credit crisis, the opportunities are many.
In this regard, we have developed the ‘Stress Pendulum’ (Figure 2) which focuses on the specific issue of cash. Different sectors will be in different places on this spectrum but this analysis can be done for sectors, individual companies and diversified businesses of conglomerates. This will help pinpoint a company’s cash status.
Securing your present
Working capital is the lifeblood of a company, and the ability to manage it becomes even more important in a downturn due to falling revenue and restricted access to new funds. Not surprisingly, when talking about the change expected in the importance attached to different goals, nearly three-fourth of the respondents said they were focused on “securing the present”.
Our survey indicates that 70 per cent of respondents had already conducted a top-down review of cash management, while half had built working capital measures into their performance objectives.
We believe that there are six ways in which companies can reduce expenses and support revenue growth, without compromising corporate strategy. These are:
The credit crunch has forced companies to seek alternative ways of improving liquidity. Nearly half of all the companies had disposed of or shut down parts of their business and 43 per cent were looking at alternate short term finance facilities. Twenty-three per cent were considering options to renegotiate their debt covenants as well as proactively communicating with lenders, analysts and rating agencies and considering renegotiating debt covenants. Barely a quarter said the availability of cash was not an issue (Figure 3).
Protecting your assets
Keeping a company strong is not just about the bottom line. A company’s value is now defined by a wider picture where good governance, transparent reporting and communication are integral to influence investors’ decisions. Protecting assets, therefore, is of high priority for our respondents. Early warning systems can identify potential strategic, operational, financial and regulatory risks, facilitating mitigating actions to protect a company’s assets and reputation.
Yet, 42 per cent of C-suite executives in one of our other recent studies indicated that risk assessment had been inadequate in the prior year. Only 57 per cent of the respondents had already implemented enterprise risk management and only 53 per cent had done any form of scenario planning.
Often risk management becomes an act of management compliance rather than the exercise of leadership judgement. It must be taken back from the compliance function into the boardroom. The current crisis presents an opportunity for companies to form a strategic view of the risks that they are facing and develop the necessary action plans.
Improving your performance
Performance improvement ranked relatively high and was a very close third on priorities, following “securing the present” and “protection of assets.” In India, particularly, we have been seeing a surge in corporate discussions around this subject. Overall, 23 per cent of respondents believe future investments will focus on maintaining the current business model, while 53 per cent seek improvements in the current model. Overwhelmingly, therefore, management is focused on getting improved performance from the assets and operations that it currently has (Figure 4).
An extensive focus on cost reduction is already under way. Eighty-four per cent of our 337 respondents had completed their cost savings analysis, focusing on the major areas of head-count, IT rationalisation, employee benefits rationalisation and real estate rationalisation. The chart in (figure 5) lists how they rated the areas for cost reduction.
Respondents, however, paint quite a challenging picture of how the engines of growth, namely M&A (mergers and acquisitions), R&D (research and development), sales and marketing are getting affected by the current conditions. While a cutback in M&A is understandable given the levels of market uncertainty, the cuts in marketing, R&D and operations may make it difficult to secure opportunities that the market now offers.
Yet, balance emerges as the key theme from past downturns. Balance between improving operational efficiencies and improving revenue growth and balance between cutting costs and investing in process improvement to prepare for the future. Companies that emerged successfully from previous downturns focused on reducing expenses without sacrifising their long term health.
Reshaping your business
It has become evident that companies are looking at a realignment of their business models for future growth. Eighty-two per cent of the respondents expected business restructuring to play an increased role for the coming year. Eventually, businesses that can intelligently reshape their model will emerge stronger than those who are tempted to move quickly to extract additional value.
Of the business-reshaping options, 40 per cent of the companies were focused on divesting non-core/non-performing assets; almost the same number, however, were actively exploring strategic acquisitions in their core business — with 29 per cent companies exploring the use of strategic alliances. Almost a third were considering offshoring to lower-cost locations with a similar number anticipating increased use of outsourcing and shared services centres. Outsourcing was seen as particularly appropriate for logistics, IT network management and telecommunications. Shared services were more attractive for human resources and accounting.
Expansion measures — expanding into new geographical markets or developing new product lines — were, understandably, on low priority. Companies preferred to concentrate on maximising potential from existing markets, perceived as more of a known quantity in uncertain times. Business diversification was envisaged by a more limited, but still significant, 19 per cent of those surveyed, while 20 per cent foresee geographical expansion (Figure 6).
Sustaining your future
Many organisations react instinctively during economic slowdowns by cutting discretionary spending across the organisation. That is a risky bet. They often fail to distinguish between short term operational and long term strategic programmes which are vital to build capabilities for long term competitive advantage and growth. For building a sustainable future, it is important to maintain a sustainable business model, capitalise on growth opportunities in emerging markets like ours and take advantage of timely deals.
A successful model will be flexible and scalable (across people, processes and technology) to take advantage of emerging opportunities. It can rapidly adapt to changes in volume without being dependent on large scale recruitment, training and capital investment. Corporate alliances, which are growing and account for about a third of revenues at most companies, need even more care during a recessionary business climate. Product development, technology and innovation budgets are likely to have been reduced. But, our experience from previous downturns has been that those who stick with a focused investment programme have emerged stronger than their peers.
While most emerging markets are likely to experience slower growth in 2009, many of them are still expected to grow by five per cent. Businesses will be keen to find opportunities offering greater exposure in these markets, particularly as valuations are considerably below earlier levels. China (59 per cent), India (45 per cent), South East Asia (26 per cent) and Eastern Europe (31 per cent) were the areas where most global companies saw the best growth opportunities and India was number one as an outsourcing destination. US companies tended to favour South East Asia over India, while for the European companies the reverse held true (Figure 7).
Businesses continue to be bought and sold. Forty-three per cent of the respondents said that the current market environment would make them more likely to consider divesting and 62 per cent said they are looking regularly at each business in their portfolio to determine whether to sell or otherwise.
Those companies that use the situation as an opportunity to maintain a sustainable business model that will not only survive the downturn, but also emerge stronger will be in the best position to take advantage of the new growth opportunities once the economy starts to improve.
About the Author
Sunil Chandiramani is National Director (advisory services), Ernst & Young India
