Looking ahead with 20/20 foresight

(First of two parts)

By J. Carlitos G. Cruz

First Published in Business World (5/10/2013)

No one can truly predict the future. With enough information, however, it can be anticipated — which is why companies need to look forward with one eye on risks and the other one on opportunities. This is the new business paradigm discussed in the recently released Ernst & Young global report Business Pulse: Exploring dual perspectives on the top 10 risks and opportunities for 2013 and beyond.

The report shows that more and more executives are realizing the need to optimize their existing business by cutting costs and increasing efficiency while, at the same time, finding ways to be profitable in shrunken markets and/or expanding into emerging markets. They cannot afford to just wait for mature markets to recover from the global financial crisis. In fact, the succession of fiscal issues from the
Eurozone to the United States demonstrates that global economic recovery is likely to take a while.

The report is based on a survey of companies in 21 countries across various industry sectors, with relevant insights from executives and Ernst & Young specialists. It focuses on the top 10 risks and opportunities, clustered into four primary categories: cost competitiveness, stakeholder confidence, customer reach and operational agility. While not all risks and opportunities may apply to our local market, the report provides much introspection, particularly for domestic companies that are expanding internationally.

Cost competitiveness
The survey shows that businesses are putting significant effort into cutting both costs and prices in order to compete in shrunken mature markets and competitive rapid-growth markets. Based on the Ernst & Young risks and opportunities radar, this first risk cluster only shows risks associated with cost competitiveness. This is perhaps something that strategic business leaders should note: opportunities for growth may not lie in the direction of simply reducing costs and prices, but in other less quantifiable areas.

Risk: Pricing pressure
Competition is at an unprecedented level: more companies are competing in rapid-growth economies; low-cost online shopping is becoming more popular; and consumer behavior is shifting. Pricing pressure is generally higher in mature, near-saturation markets where companies are more entrenched; companies therefore need to look towards innovation and creating cost savings from supply chains and operations to mitigate pricing pressure.

Conditions are perhaps slightly different in emerging markets. In countries like ours, where the concepts of “unli,” “budget” and “buy one, take one” are still powerful motivators, pricing pressure can be a tool for building market share or sales generation. Ultimately, pricing must be measured against quality, value, and of course, volume-handling capacity if companies want to gain and retain customers.

Risk: Cutting cost and profit pressure
For many companies, the obvious cost-cutting measures have already been taken. What else needs to be done? How can companies make deeper cuts and improve profits, without sacrificing performance?
Perhaps the key lies in knowing the difference between eliminating waste and simply cutting costs. Companies should examine their current capital investments and ask how they fit into the overall business strategy, rather than simply doing short-term cost-cutting. They should study whether process improvements can improve efficiency, like testing supply chains against customs duties and fuel price sensitivities, and developing far-shore, near-shore and onshore facilities.

Risk: Market risks
Cost cutting and profit pressure are greatly affected by market risks such as commodity price volatility, interest and exchange rates, currency prices and equity risk. High prices of commodities, e.g. oil, metals, gas, and others, significantly affect price pressure and location and distribution decisions, necessitating careful risk management. Scenario planning becomes even more important for companies that are heavily dependent on market conditions.

Risk: Macroeconomic risks
The macroeconomic outlook is grim: larger industrialized European economies have been damaged by falling export growth and weakening domestic demand. Companies must accept that the “current downturn” is likely “the new normal” for business, and need to develop governance structures that align their risk profile and exposures more closely with its strategy.

Risk: Sovereign debt
In Europe, debt crises are raging in a number of countries, forcing governments to focus on access to funding. The narrowly averted US fiscal cliff still has many unresolved issues and some economists are concerned about a slowdown in China’s economy.

Closer to home, however, there may be some good news. Japan’s economy, which has been sluggish for two years, may be due for a revival, thanks to the appointment of Haruhiko Kuroda as the new Governor of the Bank of Japan. Here at home, our own economy has been steadily growing and getting stronger, as evidenced by our second investment grade rating, this time from Standard & Poor’s Rating Services, following the upgrade from Fitch last March.

Risk: Political shocks
With more companies making forays into new markets, the risk of being affected by political upheavals increases commensurately. Some examples include the turmoil in the Middle East, the nationalization of oil company YPF in Argentina, and reviews of mining codes in western Africa. Globally, there seems to be a move towards protectionism, with further restrictive measures likely to happen.
In a way, this benefits us. The Philippines’ political and economic stability in recent years has significantly increased our attractiveness as an investment destination and companies are reaping the rewards of more investor confidence.

Stakeholder confidence
Many companies, particularly financial organizations, are now forced to operate under the general feeling of uncertainty and mistrust engendered by the crisis. It is now necessary for companies to listen and engage with a wider field of stakeholders and not just their shareholders.

Risk: Expansion of government’s role
More and more, the public is questioning the role of corporations in society, while governments are asking how they can prevent the crisis from repeating. This has resulted in greater scrutiny and tighter regulation for companies across numerous industries, such as financial services, energy, pharmaceuticals, and others.

Surveys have shown that people (77% in China, 54% in Brazil, 51% in the USA) now want government to have more oversight and regulatory control over companies. The risk of this stance is that strong government intervention may discourage investment, particularly if issues such as expropriation risk and resource nationalism come into play.

Risk: Regulation and compliance
State intervention usually takes the form of new or tighter regulations, which can mean more prohibitive compliance costs for most companies. Usually, companies will increase manpower or hire outside specialists in the area of risk management and mitigation, because even incremental changes can have significant impact. For multinationals, it is important to remember that risk management frameworks across multiple jurisdictions, perhaps even continents, can be interrelated. It is also important to build good working relationships with regulators, ensuring open channels of dialogue and communication.

Opportunity: Excellence in investor relations
With the move towards greater transparency, companies can take this opportunity to show investors their intentions, practices and strategic direction. For example, companies that are transparent about social and environmental issues may find that their investors are more willing to commit to big, long-term investments. With the current atmosphere of uncertainty, full disclosure can greatly reassure investors of a company’s risk management capabilities.

Opportunity: Leveraging CSR and public confidence
Visionary companies are seeing an opportunity to increase public confidence, especially in markets where government funding is stretched too thinly, by promoting meaningful corporate social responsibility (CSR) actions. Corporate philanthropy, which has been increasing in recent years, is an excellent way for companies to enhance their image, although it is equally essential that these efforts be communicated well and carefully, especially in the area of social media.

Opportunity: Investing in cleantech
Clean technology, while very important and necessary in order to deal with climate change, becomes less of a driver in challenging economic conditions. Nonetheless, companies should not lose sight of the opportunities to be gained since “good environmental behavior” can translate into more business, better reputation and potential savings, e.g. avoiding rising carbon emission costs and increased energy efficiency. Locally, the use of cleantech is still in its infancy, though more companies are including sustainability and the use of renewable resources as part of their long-term agendas.

In next week’s article, we will look at the risks and opportunities to be found in terms of customer reach and operational agility.

J. Carlitos G. Cruz is the Deputy Managing Partner and Assurance Head of SGV & Co.

This article is for general information only and is not a substitute for professional advice where the facts and circumstances warrant. The views and opinion expressed above are those of the author and do not necessarily represent the views of SGV & Co.