Just as the global financial crisis (GFC) shapes your current enterprise strategies, the move from financial crisis to early recovery should require an update to your strategies depending on the recovery scenario.
Conventional wisdom holds that economic recovery can only come about through a rebound in consumer spending. While that is true, it does not mean that consumers will necessarily lead at the start of the recovery.
This entry is not a prediction of when the economy will recover, but rather discuss a potential scenario for the recovery. The question is what does that mean for the economy and all of us as executives and leaders. Understanding the various potential scenarios facilitates monitoring and planning in a time of uncertainty.
The crisis sets the context for the recovery and restructuring
The global financial crisis has reset the market value of company stocks, commodity prices and production volumes – often ranging from 20 – 60% below their pre-GFC levels. The result is that companies are cheaper to by, input prices are lower and companies have excess production capacity that is going unused.
In the short run this leads executives to pulling their spending in the attempt to better match resources to revenue. This approach is popular because it had worked in the past. Now we are seeing executives looking to take the next step, as they have to go past cost cutting. Restructuring is that response as leaders recognize that they cannot wait out the crisis and it’s not likely to be over soon.
Restructuring is a positive long-term response to crisis.
Restructuring involves changing the way the company works – its cost structure rather than its cash spending levels. Restructuring represents a structural response to a structural change in the economy as companies look to redefine themselves so they are able to regain profitability and growth in the new economic realities.
Restructuring may be the leading source of economic recovery as its the stated strategies of a number of companies. For example the stated strategies of a number of leaders such as Fiat and Porsche in automotive, the major mining companies, financial services companies constantly refer to restructuring as their path toward the future.
Restructuring includes both the streamlining of operations as well as increasing the pace of industry consolidation via mergers and acquisitions. If corporates lead the early recovery, then they will define the context for corporate and IT planning as the economy reverses decline and builds growth momentum.
Streamlining operations, which has also been called right sizing or down sizing among other things, generally has an initial depressive effect on consumers as organization shed jobs, remove redundancies, and the like. These early actions will give a corporate led early recovery a ‘jobless’ feeling.
Remember past concerns about this type of recovery in 1991 and 2002. Well while employment rates were stubbornly high, the house cleaning and the resulting profit and cash flow improvements did lead to investment that created more jobs.
Enterprises streamlining involves changing the way we work to gain efficiencies. This is different from enterprise austerity programs where the company just stops doing things or cuts spending without changing the work they do. The difference is important, as streamlining requires some focused investment, modernization and the sale of assets. The other approach is simply asking the last person to turn off the lights on their way out.
Austerity programs do not support a recovery and are often a race to the bottom or a game of financial limbo – how low can we go in terms of our costs. There is a natural tendency to respond to competitors cost cutting. In my opinion, the more important thing is to watch what competitors are doing in terms of pricing, product and service. Your organization will face greater pressure to match these external changes as they set market expectations in order to preserve their top line revenues.
Its important to note that austerity without restructuring is similar to going on a crash diet where you stop eating. Sure you will lose weight, perhaps massive amounts at the start but you will have to eat sometime and keeping up your energy while losing the weight is generally not sustainable. Since austerity does not really create growth or recovery, they are not the focus of this entry.
Large scale streamlining will generate revenue for professional services, technology hardware and communications companies as their customers look to get into new operating models and cost structures. Watch your competitors web sites, listen to their investor calls (if they are publically traded), ask common suppliers what is going on, keep an eye out for consultants who have projects at the competitors as all will provide early indicators of streamlining in your marketplace.
The rise in corporate spending and investment will be small where companies are streamlining, but there will be a rise. If you are in a market that is streamlining, recognize the need to get better cash, capital and resource efficiencies, particular in terms of revenue generating and customer service processes. This is particularly the case if you are still in an austerity program while others are moving to streamlining. That shift in competitor strategies will put you at a disadvantage as the company is streamlining in order to redirect resources back into the market.
The GFC is depressing asset prices making industry consolidation more attractive particularly when buying companies add customer values lost in the recession and increase market share and pricing power. Industry consolidation represents an investment in the future.
Consolidation creates corporate activity and spending on the part of both parties. Sellers gain cash or shares in the new company. They face the challenge of getting a greater return on those assets than the return created by owning the company. That often leads sellers to invest either immediately in terms of new companies or in the future by reducing their debt loads creating opportunities for future borrowing and investment.
Buyers have to make investments as well in post merger integration, consolidating operations, aggregating operations and the like. Buyer consolidation activities mimic streamlining as they bring the company operations together to achieve economies of scale and consolidation. Additionally, buyers will look to gain a greater return on their purchased operations through promoting demand, raising or maintaining prices and making investments in adjacent opportunities.
Observing consolidation activities is relatively easy as acquisitions and divestitures are often public matters that attract business media coverage. Consolidation changes the relative strength and position of market players.
Acquiring enterprises will invest in new companies as well as investments that accelerate the financial, customer and operational capabilities. Strengthening your post merger integration and program management capability are pre-emptive investments to make.
Companies being acquired face the need to raise their profitability and free cash flow to support a higher purchase price. They are more likely to go through an austerity program, engaging in predatory pricing practices to gain market share, or engage in other “going out of business” practices.
Executives facing a consolidating marketplace are often tempted to join in the consolidation competition. This happened with the wave of Bank mergers in the US in the 1990′s. This time its different, recognize that often you are buying distressed or soon to be distressed assets and just because its cheap does not mean it’s a good value. Formally recognizing your core economics, the role of scale and market share in your strategy and other considerations will help you evaluate and respond to consolidation challenges.
Customers are the end game in any form of restructuring
While it is easy to see streamlining and consolidation as just ways of cutting costs, cost cutting is the opening game for the recovery. The reason is simple. Executives can cut costs to survive, but cost cutting alone will not deliver the revenue and profit growth, which define executive success and compensation.
After the first round of streamlining or consolidation increase enterprise competitiveness, the game then becomes gaining customers, revenues and building market share. Executives will invest in the product, service and other offerings using resources saved from cost cutting to drive growth. The resulting increase in corporate spending either to support growth or reinvestment of sales proceeds is one scenario for the start of recovery.
Executives invest in restructuring in anticipation of a broader economic recovery as they seek to gain market share and resources to compete ahead of the growth curve. While full economic recovery will not be possible without consumer spending and housing. That does not mean that recovery has to start with the consumer and the housing sector. How you respond in the early stages of the recovery is important to gaining a competitive position as the focus turns from cost and cash to customers and growth.
What are your scenarios for recovery?
How are you watching the economic environment?
What is your response as you see customers and competitors restructuring?