Navigating the Euro Crisis

As Italy, Portugal and Spain get downgraded by credit-rating agency Moody’s and leaders from the EU go cap-in-hand to Beijing, it’s understandable that businesses remain confused about how to navigate the euro crisis. That said, executive teams cannot fall into a state of paralysis and must recognise there will be opportunities amid the ongoing chaos.

Mark Spelman, Global Head of Strategy at Accenture, says: “Chief executives should continue to focus on how they can protect their market share in their core markets, especially in Europe, while at the same time seeking out those hotspots of growth elsewhere. Events are going to be more uncertain and one has to live with that, but it doesn’t mean that one should be paralysed.”

The challenge is to manage the uncertainty and be flexible enough to move when market conditions are favourable. Chris Stooke, Chairman at broker Miles Smith, who is also a Non-executive Director for insurance entities Chaucer and NFU Mutual, comments that problems in the eurozone “are generating numerous steps forward and back which is leading to great volatility”.

He explains: “For Chaucer and NFU Mutual in particular, this means that we are having to manage quite large investment portfolios in this volatile environment and have to balance the effects of short-term fluctuations with our views of opportunities which will only emerge over the longer term. NFU Mutual, for instance, has some relatively large equity positions and, while the investment team is of the view that there is some good value to be found in this asset class, on a month-to-month basis large swings in value and income statement volatility can occur.”

Paul Staples, Head of Corporate Finance at BNP Paribas, observes that within the banking sector the European sovereign debt crisis is having a profound effect on the strategic options being considered by executive management teams. “The competitive landscape within both corporate and investment banking is in a clear and, candidly, unprecedented state of flux…

“The extensive de-leveraging exercise that is underway will have a meaningful impact on the way in which corporate clients manage their relationship banks and is already changing expectations of what can be sensibly expected, both in terms of pricing and balance sheet commitment.”

Shop around

For companies with the financial firepower, the crisis presents a special moment in time to look at potential acquisitions. “The eurozone crisis may create an opportunity for UK companies… who wish to expand in Europe as previously it’s been very expensive to compete there,” comments Aleen Gulvanessian, a Partner at law firm Eversheds. “Up to now Europeans have been buying more UK assets; if sterling starts getting strong would UK companies be better buyers as a consequence?”

It’s a scenario that has been jeopardised by the threat to downgrade the UK’s triple-A credit rating, but without question other businesses and investors are scouting Europe for deals. Daisuke Ishida, General Manager of Financial Markets Business Department at general trading firm Mitsui & Co Europe, says: “Many businesses are more financially constrained so they may want to dispose of some assets which wouldn’t normally come out in the market otherwise, so we’re very keen to identify those situations.

“We’re looking across all our target sectors, not excluding the opportunities coming out of the private equity portfolio, but more the corporates and specifically the banks that need to dispose assets [in order to] shrink their business in terms of geography and scale. We’re not trying to buy at the bottom of the market, but rather identify attractive deals that only come to market as a once-in-a-lifetime opportunity – and we’re willing to pay a fair price.”

In its way, it has to be said that this also heightens the mood of uncertainty and lack of confidence as venerable corporate institutions become targets for bidders. “The assets of business in Europe are vulnerable from sovereign wealth funds, particularly by those countries accumulating large amounts of capital,” says Mark. “China, for example, has 3.5 trillion renminbi accumulated in reserve. These funds are now taking positions in infrastructure projects and also in companies, such as the [Chinese Investment Corporation’s] 9 per cent stake in the UK’s Thames Water.”

Plan of action

The stark reality for many boardrooms is to adopt a ‘go slow’ mentality and monitor the situation carefully, which is true of Asian multi-nationals and European ones. Pankaj Ghemawat, a Criticaleye Thought Leader and Professor of Strategic Management at IESE Business School, Spain, says: “All kinds of investment projects have been put on hold which is really the worst thing for the eurozone right now, as people wait and watch and figure out what’s going to happen. I’ve seen relatively little attention paid to what business strategists would normally recommend, such as scenario analysis and trying to figure out contingency plans.”

Such an impasse is deeply damaging. “If you look at the eurozone’s international interactions, 60 to 65 per cent of exports and imports are to or from other European countries,” continues Pankaj. “In terms of inward foreign direct investment in the EU, 62 per cent is from the rest of the EU too. So, there will be these important cross-border interactions to manage and Europe will continue to be its own largest trading partner in multiple ways, which is why simply focusing on Asia is not an adequate response.”

Those speaking to Criticaleye largely have faith that the euro will not fail, mainly because of the political will that has been invested in it. Michael Cox, Professor of International Relations at the London School of Economics, says: “There has been one thing missing from the debate among economists and business people about the euro crisis: Europe is at the heart of a political project whose failure would not only lead to a run on the banks, massive inflation and the reintroduction of war-time like controls to prevent a flight of capital to safety (where the US would be the most likely destination),  but it would also loosen the political ties that have made Europe safe for peace for the past sixty-five years.”

The postponed decisions and lack of unity from EU leaders adds to the frustration and anxiety. Tom Taylor, Chief Executive of the Agriculture and Horticulture Development Board, says: “We would all like to see a solid stability pact, where the vulnerable countries take serious action to reduce sovereign debt. Personally, I think that the EU will get there but not without some bumps in the road and a prolonged period of no or limited growth and, as a consequence, weak demand as the austerity needed will have a recessionary effect.”

A similar point is made by Chris Merry, former CEO of financial services concern Matrix Group. “I would like to see decisive action and a quick resolution to the crisis, probably through the ECB [European Central Bank], which would in turn be supported by the eurozone countries. I think the euro will muddle through and there will be much dissatisfaction at the speed of decision making, but the alternative is too scary to contemplate.”

It’s a picture of Cubist complexity where tomorrow the situation may have taken yet another dramatic twist. Mark says: “My message to business leaders would be: don’t underestimate the political will as there will be ups and downs with the euro in 2012 and you do need to think quite carefully about risks and contingencies around it, taking into account low or negative growth rates and banking uncertainties, particularly when the banks start taking significant write-downs on Greek and other country debt.”

As Paul puts it: “The primary challenge is to design business models that deliver a sustainable risk-adjusted return on equity that can reassure, and in due course be embraced by, stakeholders.”

A mantra that will hold true for the boards of both public and private concerns for some time to come.

Please get in touch if you have any comments about the issues raised here.

I hope to see you soon.

Matthew

www.twitter.com/criticaleyeuk

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