The Strategy Toolbox #2

 

How to Build the Perfect Business Portfolio?

Restructure Your Business Portfolio for Long-Term Shareholder Value Creation.

 

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Determining the corporate business portfolio is perhaps the single most important strategic issue for any company. The strategic choices concerning ‘Where to Play?’ form the starting point for shareholder value creation which is driven by the long-term (industry) fundamentals, the competitive strength of the business, and the company’s ability to add value to the business (corporate parenting). Incorrect strategic choices can seldom be compensated with operational excellence although that is often the default management response to underperformance.

However, it is

However, you will never cross the finish line, no matter how fast you are running, in case you are running in the wrong direction.

The design of the company’s business portfolio

SBUs

is a fundamental building block not only for corporate strategy (multi-company) but equally important for individual companies consisting of multiple distinct businesses in terms of products/services and markets/customers. The need to critically re-evaluate the business portfolio is often triggered by the declining financial performance of the business and/or changes in the long-term fundamental attractiveness of the operating environment e.g., competitive threats, technological disruptions, regulatory changes, or shifts in consumer preferences.

The basic idea of portfolio planning is to help determine a target business portfolio by considering the attractiveness of businesses from different perspectives. There are three primary perspectives that are typically considered in conjunction with portfolio planning, as identified by Campbell & Co., as listed below. Taking a holistic approach is critical as different perspectives (stand-alone) can lead to different conclusions. We will examine each of these perspectives in more detail next.

  1. Business Fundamentals Perspective – Focuses on analyzing the long-term structural attractiveness of the business (industry) and the competitive strength of the business relative to its competitors, which together drive the business's ability to create shareholder value.

  2. Parenting Advantage Perspective– Focuses on the relationship between the business (needs) and the parent company’s ability to add value to the business relative to the potential risk of the parent company destroying value.

  3. Capital Markets’ Perspective – Focuses on the net present value of the business under the current ownership relative to the value of the business under different ownership with better value creation potential.

Figure 1. Select KPIs for the GCC Countries


The Threat of Financial Quicksand

Tempted by the promises of significant (quick-win) opportunities, many unfortunate companies fall into financial quicksand having made big-bang entry investments only to realize that the path to a profitable business is much longer than initially anticipated. There are no easy answers when faced with the reality of significant sunk costs, a high burn rate, and being stuck with the wrong local partners. Should you close down operations to minimize your losses or keep injecting capital in the hope of reaching positive cash flows? Strategic decision-making is further complicated when it involves local partners (e.g., joint ventures) with differing views on the appropriate corrective measures and appetites for capital injections. Consequently, any company seeking to enter and grow its presence in the region should understand the inherent uncertainty and characteristics of the markets some of which may come as a surprise, particularly to western companies. Let us have a closer look at a few possible challenges.

  • Market transparency. Having a fact-based understanding of the starting premises and your options forms the basis for sound strategic decision-making. However, obtaining reliable facts about the markets, customers and competitors is often a challenge due to many reasons incl. companies’ formal reporting requirements, availability of public (open) data, and availability of customer insights e.g., consumer surveys or social media. As a result, strategic decision-making is commonly based on either anecdotal evidence or unreliable market research.

  • Customer awareness and access. Having the best products or services does not matter much if your customers don´t know about your existence. Demand creation is often a major challenge both for B2C and B2B companies. Efforts to create awareness – let alone interest, desire, or action – can be very expensive with little certainty about the impacts without insights about the right channels. Moreover, identifying and getting access to decision-makers can feel nearly impossible without the right relationships. This is particularly pertinent concerning government entities.

  • Transactional business. Building trusted business relationships takes always time. However, the challenge is exacerbated by the transactional nature of the markets which emphasize short-term value capture (price) over long-term value creation. While this shows good business acumen, it is also driven by the transitory labour markets where expatriates constantly chase tangible quick wins to bolster their career progression. This type of “mercenary” mentality can also be a challenge for talent acquisition and retention, as one GM in the healthcare industry recently noted.

  • Intercultural communication. Companies in the GCC typically have employees from a myriad of ethnic and cultural backgrounds. While there is the obvious challenge to effective communication due to varying linguistic proficiencies, there are also differences in business etiquette and communication styles which can lead to misunderstandings that can negatively impact e.g., business negotiations, strategic decision-making, and team performance management. Seemingly simple things can easily quickly become very complex with the wrong communication style.

Strategic Exploration to Mitigate Market Entry Risks

Your approach to strategic management should always consider the characteristics and particularly uncertainty of the operating environment. We will examine this topic in more detail at another time but the basic idea is that as the uncertainty of the operating environment increases, more flexibility should be built into the strategic planning and decision-making process. Any company considering market entry and expansion in uncertain markets may want to avoid “big bang” investments and instead consider strategic exploration as a way to mitigate market entry and expansion risks.

The fundamental idea of strategic exploration is to maximize learning on investment and increase financial commitments incrementally based on pragmatic KPIs. Thinking like a venture capitalist about your market entry minimizes financial risks as capital commitments are made incrementally considering the uncertainty associated with the decisions. Moreover, it incentivizes your team to focus transparently on critical deliverables while minimizing your financial risks. The Strategy Playbook for market experimentation includes four key phases, as illustrated below (Figure 2).

  1. Stress-test business idea. Form an understanding of the target market and analyze your competitive strength, capabilities, resources, and motivations with brutal honesty to identify possible “red flags”. Having an external opinion is advisable to ensure objectivity as internal opinions are notoriously impacted by cognitive biases e.g., optimism bias. Sometimes it is just better not to start wasting your time and money.

  2. Formulate business plan. Undertake a fact-based analysis of the operating environment and determine a pragmatic business plan incl. target customer segments, (simple) customer value proposition, and go-to-market approach which will form the starting premises for market validation. Moreover, design your organization incl. the operating model, team, and local company set-up options. Finally, synthesize an initial financial plan.

  3. Validate commercial opportunity. Establish the local business entity incl. necessary licenses depending on your business along with office infrastructure and possible recruitments. The establishment is mostly a straightforward process but can be more complicated in case you want to find a high-performing local partner. Nevertheless, the primary objective is to undertake controlled experiments to validate the commercial opportunity (hypotheses) and continually refine your business plan as you gain new information.

  4. Scale-up business. After the commercial feasibility of the business has been validated, it is time to double down your financial commitments and scale-up the business to capture its full potential. In practice, this means building the team and capabilities, improving operational excellence, institutionalizing governance, and managing business performance very actively to ensure focus on priorities and team alignment.

Figure 2. The Playbook for Market Entry through Experimentation

 

The Strategy Toolbox is a collection of articles concerning strategic thinking, planning, and management based upon the Strategy Playbook™. New articles will be published intermittently whenever I have something to share. I hope you find these articles insightful and please feel free to share them with your fellow strategists. Please get in touch to share your comments and ideas for future articles.

Meanwhile, have a great and productive day!

 

Rosendahl & Co. Growth Partners is a strategic advisory with the mission of helping great leaders make great impacts. We help our clients tackle their toughest business problems concerning strategy, M&A, and business transformation e.g., growth and restructuring. We offer different collaboration models ranging from coaching and proven concepts to tailored projects and interim leadership services.