Monthly Archives: July 2016

Markets Is an Overlooked Profits Lever

Many U.S. companies are battling persistent economic headwinds as they strive to attain profitable growth. Executives are finding that the growth levers that have traditionally served them well — boosting volume, pushing up prices, cutting costs, and investing in growth opportunities — have become less effective.

One overlooked lever, however, offers a path toward sustainable, profitable growth: Improving the mix of the products and services a company sells, the customers to whom it sells, and the geographic markets in which it operates. For any company, profitable growth opportunities are almost always highly concentrated within its products, customers, and geographies. Some segments can generate profits 10 to 100 times higher than other segments. Mapping these variances, then growing the most profitable segments and focusing cost improvements on the least profitable ones, can yield sustainable, profitable growth, even in the face of economic headwinds.

 

Diminishing Returns

Despite diligently planning and executing smart moves, leading companies in mature industries remain at the mercy of the broader macroeconomic and competitive environment.

Boosting volume — or growing revenue — has been far more challenging in the recent environment than in previous decades. In the expansion (1992–2000) that followed the recession of 1990–91, annual U.S. GDP growth averaged close to 4 percent. In the six-year expansion following the brief 2001 recession, average growth clocked in at close to 3 percent. But in the seven-plus years since the end of the 2007–09 Great Recession — the longest and deepest downturn since the Great Depression — average annual GDP growth has lingered around 2 percent.

Raising prices has likewise been tough to justify in the past seven years. In the U.S., inflation averaged 2.7 percent per year in the 2001–07 expansion. But since the Great Recession, inflation has averaged only 1.5 percent.

The tried-and-true tactic of cutting costs to improve margins is also becoming more difficult. Management teams have been aggressively reducing costs since 2008, and most run lean operations — partly in response to consistent pressure from institutional and activist shareholders. PwC analysis forecasts that operating margins for the S&P 500 will reach 14.5 percent in 2016, well above the 12.1 percent rate that prevailed from 2000 to 2007.

BUILDING TRUST ON THE CUSTOMER

“Everything went quiet.” That’s how one manager described the workplace immediately after his company announced a large-scale restructuring — and it’s an all-too-familiar story to employees whose companies have engaged in a cost reduction initiative. Decisions are being made at the highest level of management, but little is known outside that inner circle. Employees still need to do their jobs: serving their external and internal clients, meeting deadlines, and moving existing projects and plans forward. But that’s easier said than done in the face of uncertainty. Worse still, no one can be sure that a slash-and-burn cost-cutting exercise will accomplish its intended result. Often, these efforts weaken a company instead of positioning it to grow effectively.

Restructuring initiatives can have a debilitating effect on the hearts and minds of employees, affecting those who stay as well as those who are let go. In our work with dozens of organizations implementing sweeping cost-cutting programs, we have observed firsthand the turmoil that employees experience — and how frequently their needs are forgotten during the crucial work of planning for the transformation.

But what if the restructuring were more than a slash and burn? What if it appealed to hope instead of fear? What if it not only promised, but actually delivered, a stronger company and a better place to work? Cost management is effective only when it leads to a less sclerotic, more aspirational enterprise — one without suffocating bureaucracy or micromanagement, in which initiative and entrepreneurship are encouraged and rewarded, internal processes serve the customers and employees instead of “the process” itself, and the company outperforms the competition consistently. If the restructuring doesn’t help the company get stronger — if it doesn’t lead to a better way of working for everyone in it — then it probably wasn’t worth conducting the exercise in the first place, because the effects won’t last.

Top Business Strategy Ideas

The conventional wisdom within the banking industry about its troubles since the recent global financial crisis goes something like this: Rightly or wrongly, regulators imposed new rules that forced banks, particularly in the U.S. and Europe, to adopt new, less risky (and less rewarding) business strategies. The challenges of enforced constraint were exacerbated by macroeconomic developments, lack of customer trust, new digital technologies, and upstart financial technology–oriented competition — in other words, by external factors the banks had little ability to influence.

But the most critical factor constraining banks after the financial crisis was not external at all. It was the banks’ own strategy. When they took steps to become coherent, they began to recover and thrive.

A study conducted by Strategy&, PwC’s strategy consulting group, analyzed banking performance during and after the financial crisis. We found a strong correlation between strategic coherence, performance, and recovery. (Coherence, in this context, means the degree of alignment among a company’s strategy, its capabilities, and the portfolio of products and services it offers.) Among the 17 large banks that we studied, all based in Europe or North America with operations around the world, the most coherent in 2007 were the most stable performers throughout the seven years that followed. As for the rest, those that moved decisively after the crisis to become more coherent saw the greatest performance improvement. Other banks — those that took either tentative steps or none at all — took longer to recover.

In studies of coherence in business — such as Strategy That Works, by Paul Leinwand and Cesare Mainardi (Harvard Business Review Press, 2016) — it’s rare to hear financial-services companies mentioned. So we set out to explore whether coherence could make a difference in banking. The answer appears to be a resounding yes.

We knew that incoherence had been rampant in the sector during the years leading up to the financial crisis. Many banks had moved aggressively into new high-growth lines of business such as investment banking and the trading of complex financial products. Our hypothesis was that in some cases, firms pushed into these growth areas too rapidly and indiscriminately. They got caught up in a classic growth treadmill: chasing multiple market opportunities without the capabilities needed to win. A few large banks had been more coherent than the rest. How strong was the link between coherence and financial performance?