Interchange July09: Opportunities in adversity - Ernst & Young - United States

Opportunities in adversity

It has become a truism that a crisis is a terrible thing to waste. And organizations that take risks in bad times are recognized as heroes when success comes their way. But putting these principles into practice will take all the analysis, focus and nerve that corporate executives can muster.

A company’s best strategy should reflect its unique situation. With capital costly and credit tight, cash position is a key determinant of management priorities. Businesses struggling to service debt or pay suppliers are focusing on improving working capital. Those faced with shrinking markets, new competitors or technological obsolescence must transform their businesses or be left in the dust. Some companies may be vulnerable to supplier distress or have untapped sources of synergy, suggesting the need for defensive steps or an operational overhaul.

Companies with strong balance sheets have the wherewithal to consider strategic acquisitions, consolidation opportunities, organic growth or other expansive investments. On a “stress pendulum” (page 3) swinging from cash flow to cash burn, such organizations occupy the healthiest segment of the span. Their mission is “sustaining your future” — one that is far from easy to do well in these uncertain times (page 2).

Across the entire stress pendulum, one challenge is valuation, whether of growth opportunities or of an existing portfolio of assets and businesses. Always a complex exercise, projecting cash flows — the heart of valuation — is made more opaque by economic adversity, market turbulence, constricted capital markets and regulatory upheaval. The slow transaction market has also deprived buyers and sellers of current “comparable” asset prices. Today’s best valuation models incorporate multiple scenarios and variable assumptions (page 4).

Private Equity (PE) firms,like corporations, have been hit hard by current conditions. The large, highly leveraged deals that once loomed over the transaction landscape have disappeared. Yet, almost under the radar, PE firms continue to invest in mid-sized businesses (page 6). Some are utilizing alternate structures such as joint ventures with corporate partners.

For many of the strongest companies, “sustaining your future” means searching for promising new markets, often in emerging markets where growth projections dwarf those of the developed world. Outsized opportunities bring such risks as inadvertent exposure to corrupt practices through acquisitions. Stepped-up enforcement of the US Foreign Corrupt Practices Act (FCPA) has created the need for a new level of due diligence when assessing targets abroad (page 7). Such vigilance will help growth-minded organizations and investors make the most of opportunities in adversity.