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Shareholder value creation in a hesitant
economy Ramesh Karnani
11 April 2013
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Agenda
Introduction
Market expectations and equity prices
• Investor expectations reached record lows at close of FY2012...
• ...but expectations are recovering as equity prices rise
Organic growth in a hesitant economy
• With an uncertain outlook, how can companies position for outperformance?
• Creating value through growth: some lessons from history
• The impact of capital efficiency on value creation
Creating value through M&A
• What does the market have in store?
• Most acquisitions destroy value: how to avoid the M&A trap
1
2
3
4
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Which was the best and worst performing sector of the
ASX300 since the GFC?1
1. March 2009 NOTE: GICS definitions used Source: Capital IQ, Datastream
Options
A Metals & Mining
Financials B
Industrials C
Energy D
1
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Which was the best and worst performing sector of the
ASX300 since the GFC?1
1. March 2009 NOTE: GICS definitions used Source: Capital IQ, Datastream
Options
A Metals & Mining
Financials B
Industrials C
Energy D
Financials & Industrials have dramatically outperformed
TSR
24%
19%
5%
4%
1
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Around 5,600 consulting professionals
worldwide in over 75 offices around the globe
• Majority with advanced degrees from leading
international business schools
• Many with hands-on management experience
The Boston Consulting Group
BCG — a leader in addressing strategy,
operations and organisational issues
Advising senior management at world's
largest companies
• Working with our clients to resolve core
issues of direction and performance …
• … resulting in sustainable competitive
advantage …
• … and lasting change through sustained
competence and close collaboration
Leading in innovative strategic thinking
• Experience curve
• Portfolio analysis
• Time-based competition
• Digital transformation
• 'Big Data'/segment of one
Over 75 offices strategically placed worldwide
Worldwide presence and network
1
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Introducing BCG's corporate development practice — our
topic map
Corporate
Strategy
Industry landscaping
Growth strategy
Portfolio strategy
Corporate vision
Finance excellence & organization
Corporate planning & budgeting
Monitoring & reporting
Value management
Post-merger
integration
PMI methodology
Functional expertise
Special situations
Industry expertise
M&A
Negotiation & transaction support
Partnering & alliances
Buy-side: Target identification & due diligence
PE best practices
Sell-side: divestiture & IPO support
Expert advice
Private Equity
TSR and investor strategy
Risk management M&A excellence &
organization
100 day program
Corporate
Processes
Source: BCG
1
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1. Fundamental value reflects today’s proven performance, not some future promise of value creation (e.g., ‘blue sky’ growth potential)
2. The series of resulting economic profits is interpreted as what the investors expect in future periods, based on what they know today
3. Economic profit is net profit after tax (NPAT) less a capital charge
Source: BCG case experience
+ Future economic profit3 added on
the basis of the 'fade' concept2 Fundamental
Value (FV) Book value of
capital employed today3
Fundamental value is based on fading
returns and growth from current levels to
industry averages
BCG's proprietary valuation model compares the fundamental
value (FV) of a company with its current market capitalisation
Fundamental value (FV) methodology
FV
Market Capitalisation
Expectation premium
= value above FV
Empirically observed inputs
• Profitability and growth fade rates
• Profitability and growth fade-to rates
Current performance1 inputs
• Current profitability (ROI, ROE)
• Current growth rate
• Current capital employed
2
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Change in Expectations and Fundamental Value by Sector Expectations had fallen in many industries despite strong earnings growth over the past two years
Change in Expectation Premium as % of MV
(Ppt pa, FY10-121)
10
0
-10
-20
-30
% Change in Fundamental Value
(CAGR %, FY10-12E2)
25 20 15 10 5 0 -5
ASX 200
Utilities Telcos
Software and Services
Real Estate
Insurance
Banks
Healthcare
Food and Staples Retailing Discretionary Retail
Media
Consumer Services
Transportation
Com. and Prof. Services
Capital Goods
Mining / Materials
Energy
1. 30/6/2010 to 30/3/2012 Source: Capital IQ
= ASX 200
Sustainable Performance
Unsustainable Performance Continued Decline
Turnaround
2
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Market expectations have recovered from FY12 lows
1.0
0.5
0.0
FY13 FY12 FY11 FY10 FY09 FY08 FY07 FY06 FY05
Market Value / Fundamental Value
(Ratio)
2.0
1.5
FY04 FY03 FY02 FY01 FY00 FY09
1. Based on forecast of fundamental value in FY13 versus current market capitalisation for surveyed companies. P/E ratio based on forward P/E with exceptional records excluded. Source: Capital IQ
PE Ratio 14.2x 15.4x 14.0x 13.0x 12.2x 12.0x 12.2x 14.2x 11.0x 11.6x 11.7x 12.2x 11.4x 14.9x
2
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Recent moves suggests the stock market has begun to
recognise fundamental value in the economy
Low levels of business investment
Companies sitting on their cash
Muted M&A activity
Talk of a recession
Everywhere we look there
is pessimism...
...but the fundamentals suggest
a different story
Low unemployment
Growth that most can only dream about
Recent market rally
Strong and deepening ties within Asia
Australia in 2020 – a snapshot:
• Gas production double current levels (could become world's largest LNG supplier)1
• Steel consumption in China still growing (total annual consumption expected to peak in 2025)2
• Twice the number of Chinese tourists visiting Australia (~1 million per year)3
• Others...
1. Economist Intelligence Unit; 2. Standard Chartered; 3. Tourism Australia
3
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While businesses may be tempted cut costs in the face of
uncertainty, history suggests this is wrong path to take
20
30
0
10
Three responses to a slowdown Odds of breakaway
performance (%)
Cut costs deeper
than rivals
Source: 'Roaring Out of Recession', Gulati R., Nohria N., Wohlgezogen F., Harvard Business Review , March 2010
Invested more
than rivals
Cut costs deeper
and invested
more than rivals
Combination strategy
most likely to succeed
Defensive strategy least
likely to succeed
3
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Businesses must pursue 'good' break-out growth to deliver
value to shareholders
Growth is important...1 ...but doesn't always add value2
20
15
10
5
0
10 yrs. 5 yrs. 3 yrs.
1. Sources of TSR for top-quartile performers (S&P 1200, 1991-2008); 2. Correlation of revenue growth and TSR (S&P 500, 1990-2009)
Source: Compustat, BCG ValueScience Center, 2008
Growth
Margin
Multiple
FCF
–20%
0%
20%
40%
–20% 0% 20% 40%
No growth
Bad growth
'Good growth'
Annual TSR
change (%)
Average annual
TSR (%)
Average annual revenue growth (%)
3
BCG document 12
Draft—for discussion only
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BCG research has identified at least 4 factors that distinguish
'good', or value-creating, break-out growers
Prioritise the core
1
Expand
geographically
2
Acquire to grow
3
Preserve margin
and minimise debt
while growing
4
Source: BCG analysis
• Focus on growing the core – do what
you do best, but do it better
• Pursue returns > cost of capital and
operational excellence for the core
• Evaluate potential deals using consistent
strategic rationale
• Pursue targets that leverage and
reinforce the core
• Carefully evaluate all market entry
options (M&A, JV, organic etc.)
• Partner, as required, with governments
and/or local players
Key lessons
• Deliver growth that is profitable – not
'growth for growth sake'
• Avoid excessive capital intensity (i.e.
'capital-light' growth options)
Global Local
Examples
All companies should
take this focus
3
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1. Company announcements, literature searches, annual reports and UBS 2. Bernstein research report, "Asia Pacific Oil & Gas", Feb 16 2011, BCG analysis (Note: An additional $4bn has been added to GLNG and QCLNG for post-FID drilling. All costs for projects beyond 2011 are Bernstein estimates)
Capital intensity is increasing across the resources sector:
capital efficiency is just as important as cost management
Australian LNG Liquefaction projects2 Australian Iron Ore projects1
1990 1985 2015 2010 2005 2000 1995
US$/tpa
3000
2000
1000
0
Project startup year
Operating Pre-commissioning
2007 2010 2005 2009 2011
US$/tpa
Project startup year
0
50
100
2012 2008 2006 2004
150
200
250
3
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Working capital optimisation is a powerful lever for creating
value
Days
Queensland WA NSW Victoria
0
50
Dec-10
Dec-11
Days debtors1
Days payable2
Days
0
Queensland WA NSW Victoria
50
Numbers are indicative only Source: BCG Case Experience
Change in 2011 working capital balances if operating 2010 days
Debtors ($M) (30) 0 60 (10)
Payables ($M) 60 30 30 30
Net ($M) 30 30 (30) 20
Preventing working capital erosion saved $80m and
increased annual economic profit by $8m
3
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As security prices rise, so too does M&A activity
4
# deals closed
200
150
100
50
0
ASX200 Price Index
8,000
6,000
4,000
2,000
0
Q1
2013
Q3
2012
Q1
2012
Q3
2011
Q1
2011
Q3
2010
Q1
2010
Q3
2009
Q1
2009
Q3
2008
Q1
2008
Q3
2007
Q1
2007
Q3
2006
Q1
2006
Q3
2005
Q1
2005
Q3
2004
Q1
2004
ASX200
Deals
Note: Price index quoted for end of quarter Source: MergerMarket, Datastream, Capital IQ
Recent run-up in the ASX200 suggests more
corporate activity is on the horizon for Australia
16 M&A report 2011 Video slides 24May11-JK-MUN.pptx
There are rewards for being first during an M&A wave
Sources: Thomson Reuters Datastream; Thomson Reuters Worldscope; BCG analysis. Note: The underlying sample consists of 26,444 M&A transactions between 1988 and 2010. Lower numbers for individual analyses are due to limited data availability for certain sub-samples. Industry M&A waves are periods of at least three years in which there is above average, clustered M&A activity with an identifiable peak. The first stage of such a cycle is its first two years. This analysis excludes all firms active in the financial services industry (based on Fama/French industry classifications). Includes all types of M&A (i.e. public-to-private, private-to-private, public-to-subsidiary) 1 CAR = cumulative abnormal return calculated over a seven-day window centered around the announcement date (+3/−3).
Overall, there is no advantage in doing deals
during an industry M&A wave ...
... but a closer look shows a
significant first-mover advantage
CAR1 (%)
1.5
1.0
0.5
0.0
Acquisitions during
industry M&A waves
0.9%
Acquisitions outside
industry M&A waves
1.0%
10,213 16,231
CAR1 (%)
1.5
1.0
0.5
0.0
0.9%
-0.7%-points
3rd stage of
an industry
M&A wave
0.5%
2nd stage of
an industry
M&A wave
0.9%
1st stage of
an industry
M&A wave
1.2%
5,703 7,865 2,668
n # of observations
4
17 MnA-TargetSearch-01May08-JK-RA-MUN.ppt
M&A and value creation: Do it right and be well prepared!
Four golden rules for successful M&A
1. Pick the right target • Strategic, capabilities and cultural fit • Ease of execution, relative to experience
2. Negotiate the right price, don't overpay
• Apply high-resolution valuation • Reasonable synergy expectations and
value drivers
3. Lay the groundwork for swift approval • No major regulatory delays • No unexpected enforced divestments
4. Manage the integration well
• Maintain core business growth and momentum
• Achieve synergies above announced levels
Source: BCG experience
“Which deal(s) will help us realize the
maximum value?”
• Deploy M&A to support overall strategy
• Develop a high-level screen to filter
potential targets on an on-going basis
• Be willing to walk away from the deal
“How do we get deal ‘xyz’ done?”
• Look at a deal in isolation
• Focus on "opportunity on the table"
Do
Don’t
Backup 4
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