Asia-Pacific CFO Hot Topics

Which way to grow: Optimizing capital

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  • Introduction

    Time for decisive action

    Throughout the world confidence in the global economy is rising. The outlook on financial markets is similarly bullish, with clear signs of positivity and optimism coming from corporates everywhere.

    How can CFOs optimize capital to achieve growth?

    EY - How can CFOs optimize capital to achieve growth?

    Economic confidence is rising. Successful businesses aren’t leaving their money on the table. Get tips and strategies to optimize your capital allocations. [See a transcript of this video]

    EY Asia-Pacific Capital Optimization
    See the global economy improving...
     
    EY Asia-Pacific Capital Optimization
    View credit availability as stable...
     
    EY Asia-Pacific Capital Optimization
    Have confidence in corporate earnings...
     

    High-performing businesses are taking decisive action now. Better informed, they’re making decisions strategically rather than opportunistically. And whether investing – or divesting – additional capital in their businesses, they’re doing it equally rigorously.

    Yet surprisingly many more companies continue taking a reactive posture, neglecting market trends, missing opportunities or investing in lower-quality options as a result. Finding it still difficult to strike a balance between risk and reward, many are leaving money on the table.

    It’s high time for decisive action

    Whether you’re a CFO focused on value creation, top-line revenue or cost management, or a CEO under heavy shareholder scrutiny, you should already be navigating today’s market complexities (and with parallel priorities) if you hope to strike that hard-sought balance in future.

    The time to act is now. Because when your business works better, the world works better.

  • 3 leading practices for capital optimization

    You can’t build it if you don’t have the tools

    In light of rapid technological advances, regulatory changes, increased shareholder scrutiny and customer purchasing power and demand shifts, strategic portfolio reviews are your most important tools to optimize capital allocation.

    Decisions regarding which assets to invest in or sell off will drive your company’s competitive advantage and long-term growth. Employing three leading practices can help you to better meet rapidly changing market demands and drive growth.

    EY Asia-Pacific Capital Optimization
    Saw an increased valuation multiple in the remaining business following their last divestment when it was based on an updated definition of core operations
     
    EY Asia-Pacific Capital Optimization
    Experienced a higher valuation multiple in the remaining business after their last divestment when they based strategic decisions on their portfolio review
     
    EY Asia-Pacific Capital Optimization
    Of executives said portfolio review effectiveness could be improved if a clearer link was made between results and subsequent actions
     

    1. Know your core business

    You need to assess your core business regularly and understand what differentiates your company from its competitors. Define the core by meeting regularly, analyzing rigorously and looking outside for verification from third parties. Review your strategy regularly and involve senior leaders early.

    2. Make better-informed decisions

    It’s the right team with the right analysis that makes the better-informed decisions. The most successful teams are led by an executive with the authority to make decisions and recruit people with the right skill sets. Your metrics should include both historical and forecast values. You should also be measuring performance relative to other business units and industry benchmarks.

    3. Take action

    Decisive action maximizes value. You need to act strategically rather than opportunistically when divesting. First define criteria to drive strategic rationale, then use frequent reviews to create opportunity.

    “Our portfolio review process is strategically driven. We examine each unit and look for those that are sub-scale. We consider divesting those areas where we cannot see ourselves gaining leadership with additional investments. And we analyze profitability, possible returns from reallocating capital and whether it is the right time to make the divestment.”— Executive at a UK-based pharmaceutical company
  • Organic vs. inorganic: which way to grow?

    The approaches to growing businesses are as numerous and diverse as the range of businesses themselves. While small companies tend to favor an internally focused organic approach and large companies usually favor growth by acquisition, both avenues are open to companies of any size.

    Growth from within

    Businesses that pursue organic growth – growth from within – learn that such growth requires time and nurturing, as expanding must be done prudently, at each point biting off only what the business can chew, and allowing each move to digest before expanding further.

    The risks of organic growth lie in expansion that outpaces the ability to effectively manage, stretches resources too thin, strains capital, or diverts focus from the business’ core mission. Businesses that grow organically can control their rate of growth and normally face less cultural and integration challenges than those that choose an inorganic strategy.

     BenefitsChallenges
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    Controlled rate of growth

    EY Asia-Pacific Capital Optimization

    Requires time and nurturing

    EY Asia-Pacific Capital Optimization

    Expansion outpaces the ability to manage effectively

    EY Asia-Pacific Capital Optimization

    Less cultural and integrational challenges

    EY Asia-Pacific Capital Optimization

    Stretches resources too thin or strains capital

    EY Asia-Pacific Capital Optimization

    Diverts focus from the business’ core mission

    Inorganic growth-accelerated approach

    With inorganic growth, via mergers, acquisitions and joint ventures, market share and assets are immediately larger; new skills and knowledge become available, and access to capital and new markets may be easier.

    But this sudden increase in size presents significant management challenges that increase with the size and complexities of the new entity created. People and branding issues are likely to arise. Systems, sales and support capabilities must be scaled and positioned to meet new demands.

    Mergers, acquisitions and joint ventures that, on paper, look like ideal matches, can still fall far short of expectations if company cultures aren’t blended effectively. Deals often fail not because of bad strategy, but by poor integration and execution either on the back end, operationally, or on the front end in integrating brands.

     BenefitsChallenges
    EY Asia-Pacific Capital Optimization EY Asia-Pacific Capital Optimization

    Market share and assets are immediately larger

    EY Asia-Pacific Capital Optimization

    Management challenges can increase with the size...

    EY Asia-Pacific Capital Optimization

    New skills and knowledge become available

    EY Asia-Pacific Capital Optimization

    People and branding issues likely to arise

    EY Asia-Pacific Capital Optimization

    Access to capital and new markets may be easier

    EY Asia-Pacific Capital Optimization

    Systems, sales and support capabilities must be scaled

  • Achieving long-term growth

    To invest or divest, that is the long-term growth question

    After five years of depressed M&A activity, an improved global deal environment would bring divestments and, subsequently, opportunistic sales. Though competition for assets may increase, so could competitive positioning among would-be sellers.

    Further, greater stakeholder scrutiny would ensure divestments are efficient, effective and executed strategically to extract maximum value and support the longer-term growth agenda of the business.

    That’s why leading companies focus on selling assets in the same rigorous way they focus on acquisitions – for many it’s a fundamental part of their strategy. Strategic divestments are key to raising capital and deploying it into a company’s core business.

    Selling assets and re-shaping portfolios can help you concentrate on higher-growth opportunities and create value for your stakeholders, if leading practices are applied to the process. Although selling can mean a short-term dip in top-line growth, redeploying and re-investing capital in core activities, expanding into new markets or developing new products can lead to longer-term growth and higher value.

    Your best defense against portfolio inertia

    Frequent and effective reviews will help you avoid some symptoms of portfolio inertia that negatively impact business performance:

    • Lack of alignment between capital allocation and the strategic value of portfolio components
    • Neglecting market trends, resulting in investment gaps and missed opportunities
    • Reactive postures that result in lower-quality investment options and wasted effort in evaluating non-strategic options

    Companies are realizing that divestments are growth tools, similar to acquisitions. Those that adopt leading practices are completing divestments that achieve higher sale prices and are rewarded by investors through stronger valuation multiples on the remaining business.

    An effective review agenda – at-a-glance:

    • Have an up-to-date definition of your core business; a clear model of where your company should be focusing its capital to reach current and future market needs
    • Analyze whether each business unit fits within that core strategy
    • Performing this assessment regularly — ideally, every six months
    • Recognize business units that are under-performing or are non-core to strategic goals, as well as those that may have greater value for another owner or as a separate entity.
    • Portfolio review results are only effective if you dedicate resources to implement suggested changes and divest units that are a poor strategic fit
    “Any businesses that are a drag on revenue growth and gross margins (and hence dilutive to the group) are candidates for divestment; the strategic factor for our last divestment was that the business had limited international exposure. There is scope to improve our portfolio review process, by providing more lead time to prepare for divestments and hence retain value.”— Executive at a UK-based consumer products company
  • Top 10 portfolio management tips

    1. Conduct frequent portfolio reviews to keep pace with market changes

    Portfolio reviews should be conducted regularly— ideally, every six months — to determine the strategic path forward and whether markets shifted sufficiently to warrant a divestment.

    2. Act quickly to maximize value

    Once the portfolio review provides compelling insight, management should not hesitate to act on it. Investors in companies that choose to sell non-core units in a low-growth category or with a weak competitive position view such decisions positively. Delaying a sale will likely erode value; by contrast, acting early to maximize value and reinvest capital in areas where it can be most effective often pays off over the long term.

    3. Proactively monetize under-exploited assets and non-core projects

    Companies can extract value from under-exploited assets through a joint venture or licensing. Yet most companies are not proactive in identifying ways of monetizing their R&D projects: more than half of executives react only to expressions of outside interest and a third said they rarely look to monetize R&D or bring in external financing for projects.

    4. Be a serial deal-maker: Don’t leave money on the table

    Businesses that regularly evaluate portfolios for monetization opportunities will gain the greatest benefit from successful divestments as they are most likely to be serial dealmakers who are accustomed to monetizing under-utilized assets and, therefore, will not “leave money on the table.”

    5. Embrace technological change

    Evolving technology has become a major consideration in the portfolio review process. Two thirds of the executives we surveyed say technological change has changed their core strategy; significantly to completely, say half of those.

    6. Seek out regional growth opportunities

    Divestments can be used to finance expansion into emerging and developing geographies with strong growth prospects.

    7. Reallocate capital to the core business

    Power and utilities businesses, for example, are reallocating capital freed up from divestments to focus on and reinforce their core business: 50% expect to invest in their existing business, and a further 33% are planning to use sale proceeds to make acquisitions for their core business.

    8. Target financial buyers

    Prepare early and understand where the value lies for particular financial investors; key to executing a successful sale.

    9. Search for hidden value in your portfolio

    Look toward using underlying assets rather than only the parent company’s market value, as a basis for valuation. Selling unfashionable units can offer companies a more efficient route to monetization than developing them internally.

    10. Look beyond operational challenges

    Operational challenges can prevent businesses from being bold in their strategies, even if their portfolio review concludes the need to sell a business unit. Effective planning for business separations can help alleviate those issues that may distract at board level.

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    How we can help

    Today’s economic climate is forcing businesses to candidly assess their financial fitness.

    More than a mere review of operations, you need objective assessments of the alignment of your business strategies.

    The focus should be:

    • Optimizing asset portfolio
    • Delivery of synergies and effective integration
    • Improving working capital and releasing cash
    • Optimizing capital structure
    • Optimizing tax and corporate structure

View our latest resources on capital optimization