Portfolio Optimization: Vital in a World Upended by COVID-19 | Deloitte US has been saved
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For any well-managed company, the effort to understand which parts of the enterprise drive shareholder value, and which may be eroding value, is an important and ongoing mandate. An analysis that disaggregates the corporate portfolio and looks at each piece critically may reveal a surprising and large range in how each segment affects the value of the whole. Adding new assets and shedding old assets to address changing market trends and value migration can assist an organization’s efforts to ensure the best use of capital and help management keep focused on the right priorities.
This process of portfolio realignment is an all-weather activity. Leading-class companies continually review each business in their portfolios as part of a revitalization process. This is not a recession playbook, but rather good corporate hygiene throughout the business cycle. And yet, portfolio optimization can be particularly powerful in times of economic downturn and business disruption, such as we are experiencing today because of COVID-19.
In any recessionary period, of course, capital markets can become more choppy—cash may become king. This year has been no exception. And in this recession, companies have also been buffeted by swift and dramatic changes in the business environment. Supply chains and sales channels have been disrupted as cross-border travel was curtailed and trade was interrupted. Customer behaviors have shifted dramatically, with staying safe suddenly taking priority over all else. Much of today’s business uncertainty turns on how lasting these disruptions and changes will be.
Companies that embraced portfolio optimization in the past are, in many instances, better positioned to thrive as the world comes through the current economic turmoil. When return on capital is strong, a company is more prepared to weather a slowdown and tight financial conditions. When management resources are well-deployed and a growth strategy clearly defined, a company is better able to respond to changing circumstances. Companies that have neglected portfolio realignment in the past, on the other hand, have a greater urgency to tackle the process right away.
Creating the advantaged portfolio
Deloitte typically sees companies benefiting the most when they strive for an “advantaged portfolio,” which we define as having three broad characteristics. First, it needs to be strategically sound: weighted toward the areas where the company has competitive advantage; designed for an optimal innovation mix; and structured to create synergies. This is the strategy element that can help keep leadership and management properly focused around, for example, the dramatic and sudden shifts in customer behaviors that have resulted from the pandemic.
Second, the portfolio should be value-creating—able to enhance the value intrinsic to the enterprise and address key capital markets drivers. And finally, the advantaged portfolio needs to be resilient. In any economic environment, this means it will have a good balance between feasibility and risk. It also dictates that the portfolio will be robust across a number of scenarios and will create optionality. While COVID-19 clouds the future, making forecasts less certain and shortening their time frame, flexibility and optionality become increasingly important in the portfolio.
Optimization in four steps
The portfolio optimization path that can help an organization create an advantaged portfolio can be divided into four steps. (Deloitte has developed a more detailed roadmap of this process. (See “Portfolio optimization: Four steps to drive value.”) And each step in the process has lessons applicable to the turmoil of COVID-19 and the related business uncertainty.
The first step is analysis, disaggregation and disposal. This is key to creating a self-funding mechanism, as disposals generate cash for reinvestment in businesses with potential for stronger returns on capital. The importance of this is clear in an environment in which other sources of funding may dry up. Disaggregating the portfolio for the sake of a clear-eyed analysis can also help leadership develop a picture of how individual segments are creating or destroying value and how they fit with business and investment plans.
Next is profitability improvement. After a clear strategy for the company emerges from the first step, and funds are perhaps raised from disposals, it’s up to leadership to boost the profits of remaining assets. Typical actions might include supply chain improvements, sales channel enhancements, or product innovations. These are activities that become more urgent, and perhaps challenging, in a downturn. An organization well-versed in such efforts because of its portfolio optimization process may gain an edge.
Business growth is the third step. The same portfolio analysis and questions that were brought to bear on existing businesses and assets earlier in the process can help inform decisions about where the best opportunities exist, whether in organic growth or acquisitions. Corporate leaders understand the need to be choosier about growth opportunities in a period of economic turmoil and shifting customer behaviors, and portfolio optimization is all about a disciplined growth approach. Growth solely for the sake of growth consumes corporate cash and management resources that can ill be afforded in a downturn.
The fourth and final step, evaluation and reevaluation, serves as a reminder to never fall in love with what you’ve done in the past. This is especially true during a period of turmoil and uncertainty, when the leaders of successful companies should be ready to revisit past decisions and restart the portfolio optimization process if changing circumstances require it.
Growth amid uncertainty
Portfolio optimization isn’t about suddenly changing a company’s business mix based on short-term events. It’s a longer-term process that should benefit a company amid shifting circumstances. COVID-19 probably won’t change your view on what you like or dislike in your portfolio, but you may draw the lines differently around what you keep and what you shed. A business segment that was marginal a year ago may fall into the disposal category today.
In today’s business environment, which is so unsettled by the pandemic, companies should consider what is a transitory disruption and what is likely to be a stickier change in how business is done. You don’t divest half of your businesses just because they’re out of favor at the moment. But you need to be thinking about the intermediate and longer-term economic changes and consumer behavior shifts that are associated with the pandemic, and portfolio optimization provides a tested approach to doing that.
Tom is a principal with the Merger & Acquisition Consultative Services practice of Deloitte Consulting LLP. He has more than 27 years of consulting experience and provides a wide variety of strategic, operational, and financial services to companies considering mergers, acquisitions, and divestitures. He has extensive experience with acquisition, and divestiture strategy, and capability development, business planning, acquisition screening, and integration planning, and value capture.
Dan, a partner with Deloitte & Touche LLP, is the Global Financial Advisory leader for the Energy, Resources, and Industrials industry (ER&I) which is composed of Oil, Gas & Chemicals, Power & Utilities, Mining & Metals, and Industrial Products & Construction. In this role he works directly with the leading business partners for each client account and the ER&I community to set and implement the strategy for the Financial Advisory practice for ER&I across the globe. He has 35 years experience serving the business and accounting needs of mergers, acquisitions and divestitures. His practice focuses on providing merger and acquisition due diligence, structuring and accounting assistance to significant corporate and private equity investor clients. Such services have focused on business and accounting matters related to business combinations, recapitalizations, joint ventures, divestitures and significant investment transactions. Dan has been invited to speak on his industry and M&A expertise in the US, Europe and Asia. He has authored several industry and M&A pieces including: the Global Chemical M&A Outlook Series (2013-2020); Portfolio Realignment: A Business Imperative (2013); Going Vertical: Cost management in a new era of steel integration (2010); The Consolidation Wave (2009); and Will the Deal Really Deliver (2008).
Will is the Americas leader for Deloitte Corporate Finance LLC (DCF). He also leads DCF's Industrial Products Group. Now based in Chicago, Will has worked professionally in the US, Europe, and Asia and specializes in leading complex cross-border M&A transactions. Will has been a managing director with DCF in the US since October 2000. Prior to that he was an assistant director in the corporate finance division of Deloitte & Touche LLP in the United Kingdom. Experience Advisor to GMI Group in its sale to Rock-Tenn Company Advisor to Tredagar Corporation on the acquisition of Terphane LLC Advisor to Fraser and Neave, Ltd. in the divestiture of their Thai Malaya Glass Business to Owens-Illinois, Inc. Advisor to MeadWestvaco Corporation in the divestiture of their AGI Packaging Business Advisor to Appleton Papers Inc. on the sale of C&H Packaging to the Interflex Group Advisor to Chesapeake Corp. on the sale of its Boxmore Plastics subsidiary to Pamodzi Investment Holdings Advisor to CPI Plastics on the sale of its Film Division to Mid-America Bag, LLC Advisor to Reynolds Packaging Group on the sale of its Medical Packaging Business Advisor to Multi-Color Corporation in its acquisition of Collotype International Holdings Pty. Ltd. Advisor to US Corrugated Inc. in its acquisition of select assets of Longview Fibre Inc. Advisor to Duni AB in the sale of Duni Americas to Norwest Equity Partners Advisor to Four M Investments LLC, in its acquisition of LINPAC Inc. Professional Affiliations Member, Institute of Chartered Accountants of Scotland Education & Certifications University of Edinburgh: MA Transactions presented may include transactions for which DCF professionals provided services prior to joining Deloitte Corporate Finance LLC.