New research by Boston Consulting Group (BCG) has found that Australian listed companies are underperforming their international counterparts. Shareholders are losing out, with a total shareholder return for the S&P/ASX 200 for the past two years just 2.5%, the report, released today, found.
That compares to an 8.3% return by the top 200 in the United Kingdom and 14.7% for the same group in the United States.
In the US, gross domestic product (GDP) growth has been barely half that of Australia. The report’s co-author, Ramesh Karnani, told LeadingCompany Australian managers had been too cautious and willing to “ride out” global economic problems.
“Companies in the US have moved faster in restructuring themselves in the new environment,” he says. “They have been more decisive in making investments, while taking risks into account.”
US companies have improved capital efficiency, Karnani says, by moving capital from non-profitable to profitable areas. General Motors is an example.
In 2009, GM declared bankruptcy and within two years, it had restructured itself, and conducted a successful initial public offering (IPO). “They became smaller, and more focused on profitable gains,” he said.
For cautious Australian leaders, Karnani says: “The overseas economic crises are going to linger for a long time to come and we cannot afford to wait until everything is perfect until we move ahead. The economy is good and the time is now.”
The BCG research found companies that spend money on innovation and growth while actively managing potential risks – rather than just cutting costs – are most likely to increase shareholder value. In order to achieve this, BCG recommends that Australian business leaders develop more robust strategic planning processes, and improve capital efficiency.
The report recommends how companies can get ahead.
Best practice involves introducing risk analysis into the planning process, the report says. This means companies can develop strategies that take into account problems, and then take calculated bets on growth opportunities.
Three steps are involved:
1) Identify risk exposure
The risks to be most heavily analysed should be:
Macroeconomic: consider the likely effects on growth and profitability of events such as the European sovereign debt crisis.
Strategic: Given share markets fluctuations, consider the pros and cons of raising further equity capital if stock markets fall by a further 20%.
Regulatory: Post-GFC, governments are taking a bigger role in business activities. Consider whether more stringent regulations constrain the company’s ability to create value.
2) Model the impact of risks identified above on the business. Quantify the impact they could have on total shareholder returns.
The report says there are a wide variety of tools available to do this, including:
tracking leading indicators, performing sensitivity analysis on key value drivers,
developing scenario plans, running complex modeling and simulation exercises,
and introducing sophisticated risk-management techniques and metrics.
3) Build an integrated view of the entire portfolio of business activities in terms of risk and value and make informed tradeoffs.
“Once a company has identified and quantified its risk exposure, it can go further to develop an integrated view of its portfolio of businesses and growth opportunities, in terms of both value and risk,” the report says.
Most Australian companies are responding to uncertainty in the economy by cutting operating costs, but they may not have paid adequate attention to their capital efficiency—an important driver of value creation as well as a potential source of valuable cash that can be used to fund growth, according to BCG.
Companies need to improve their capital efficiency by moving capital from unprofitable business operations, slowly reducing costs, and not hoarding cash, BCG advises.