A tale of two markets

20 Ianuarie 2012

ERNST & YOUNG S.R.L.

Telling the story of investment across developed and rapid-growth markets.

 

Executive summary: A tale of two markets

In light of sluggish performance in many developed markets, business leaders are increasingly looking to rapid-growth markets to sustain growth. This fundamental shift of resource allocation requires the CFO to master the attributes of “ambidextrous management.” Not only do they need to manage a portfolio of investments that combine very different risk/return profiles, time horizons and characteristics, they also need to be able to distil this complex, and sometimes contradictory, strategy into a clear and coherent narrative for investors. To tell a tale of two very different markets will require the CFO to rethink traditional communication strategies and reporting frameworks.

Many companies struggle to find the optimal balance of investments across markets

The CFO must continuously optimize resource allocation to ensure an equilibrium across highly divergent markets. Yet few CFOs think that their company is effective at managing investments across markets that are growing at such different rates. Only one-third believe that they are good at managing trade-offs between developed and rapid-growth markets, and many struggle to reconcile the different cultural and business environments in which they operate. In balancing investments across markets, the CFO has to constantly manage contradictory forces: the drive to capture the growth opportunities in rapidgrowth markets, despite inadequate data to evaluate these opportunities, as well as the need to protect sources of profitability from mature markets.

Despite the obvious appeal of rapid-growth markets, CFOs struggle to build a robust and objective rationale for allocating resources to them

Few would deny that rapid-growth economies are important markets for future growth prospects. Yet CFOs need more than generalizations — they must provide an accurate evaluation of the company’s specific risks and opportunities in order to strike the right balance of resource allocation. Compiling and comparing the necessary information are not easy. Two-thirds of CFOs agree that inadequate data and poor transparency mean that it can be difficult to build a robust evaluation model for investing in rapid-growth markets. This puts added pressure on the CFO whenaddressing tough questions from investors seeking evidence for a rationale that shifts resources to rapid-growth markets.

CFOs neglect developed market assets at their peril

Both investors and CFOs agree that the best hope for long-term growth lies in rapid-growth markets. Indeed, 87% of CFOs agree that it is difficult to build a rationale for increasing resource allocation to developed markets when other parts of the world are growing more quickly. But long-term growth must be funded by short-term profitability, and this is currently more likely to be greater in developed markets. While tempering enthusiasm for rapid-growth market investment at any cost, CFOs must also ensure that developed markets receive the resources they need to maintain the profitability and cash flows that will ultimately fund new investment. It is also essential that the organization considers internal tensions regarding the reallocation of resources away from core markets toward new markets that are yet togenerate profit. Clear communication about the strategic vision and incentive mechanisms for different markets is essential to ensure the workforce remains committed and engaged.

The CFO’s focus on investor communication needs to increase as investors seek reassurance

Both investors and CFOs agree that it is primarily the responsibility of the finance leader to communicate changes in investment allocation across developed or rapid-growth markets. Most CFOs also agree that greater investment in rapid-growth markets means that they need to communicate more frequently with investors and 98% of CFOs have changed their methods of communicating with investors as a result of increased exposure to rapid-growth markets. And yet the majority lack confidence in this aspect of their role, with over two-thirds reporting they find itdifficult to convey an over-arching narrative when balancing investments across these markets. When asked about the activities that they prioritize in relation to investment strategy, communicating with investors is bottom of the list. This isunderstandable in comparison to other, more traditional, aspects of the CFO’s role, such as funding, resource allocation and setting performance targets. Yet, while these will undoubtedly remain critical aspects of the role, at a time when investors need reassurance about changes to the risk/return profile of their investments, the CFO will need to increase their focus on effective communication.

Traditional reporting frameworks are in need of a rethink as investors look for more dynamic sources of information

The swift pace of business in rapid-growth markets means that traditional reporting frameworks may be too static and backwardlooking to keep investors informed about key developments. Almost three-quarters of CFOs agree that increased investment inrapid-growth markets means that they need to communicate more frequently with investors. Investors also seem to be looking for greater immediacy, citing regular trading updates as the form of communication they find most useful for gathering information about investments in rapid-growth markets. This suggests that traditional channels, such as the annual report, may no longer be enough to satisfy the increasingly time-sensitive needs of investors.

Companies need to manage the balance between a need for more granular information and insight that is concise and relevant

As companies develop more complex business and operating models spanning developed and rapid-growth markets, investors need deeper information about key risks and opportunities. Almost two-thirds of investors say that they would like CFOs to provide more granular information about the prospects for rapid-growth and developed markets. Investors say that they would like to see more narrative reporting that explains how the business intends to create value and provide greater clarity on key risks. But there are concerns, too, that investors are already burdened with too much information and that what is required is greater clarity and relevance, not more content.

Increased allocation to rapid-growth markets could change the investor profile

There is a fine line between investors determining their own investment profile, and having that decision made for them by company management pursuing the potential of rapid-growth markets. While many investors applaud efforts by companies thatseek out new opportunities for growth, they also need to be comfortable with any changes to the risk/return profile of those investments. In addition to a communications strategy that gives comfort to existing investors, the CFO should also consider the need to engage a new profile of investor. Eighty-four percent ofCFOs, and 63% of investors, expect that the higher risks and more volatile returns associated with investing in rapid-growth markets will trigger a churn in the investor base and attract investors with different risk appetites.

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