Business model generation WITH THE LEADING TOOL

Today being successful is a term, that requires far more than just a good product/service. It requires a winning business model. Creating one, requires one to connect key elements of the business model in a creative and innovate way.

Below we are pointing out 12 key elements of the business model canvas that one should consider:

• Problem – What kind of pain end users are experiencing (without your solution)?
• Solution – How are we successfully and efficiently addressing the pain?
• Unique selling point (USP) – What makes our solution stand out and differ from the competition? 
• Key resources – Which resources are fundamental to competitive advantage creation (eg patents, trademark, company culture, etc.)?
• Channels – Which channels are used for the distribution and communication (costs vs. ability to get feedback).
• Target segments – Which potential end users / clients we are targeting and what their characteristics are?.
• Indicators – What are the prerequisites for the success and how we are going to measure our performance?
• Key partners – Who are our strategic partners (suppliers, end users/clients, creditors, investors).
• Risks – Which risks are key to address and how?
• Revenue sources – How we are going to generate revenues and what will be our pricing policy?
• Cost structure – Which are our costs, what is their nature, what is our break even point, what return is expected? 
• Key activities – Which activities are crucial for us to reach our goals?

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Please note that creating a business model canvas is normally only a beginning of the strategic and business planning. Creating a winning business model requires us to dig into details as well, test our assumptions etc. Nevertheless, it makes it extremely easy to agree upon fundamentals and set the healthy & promising starting point.

When designing a business model it is important to understand the nature of market gaps. Thinking in this way will not only boost the probability of your success, but also improve your value added. Success is by no means conditioned by standing out in all elements of the business model. Sometimes it is enough to change only one element. Last but not least, it is often a preferred choice to go niche and address more specific needs. Going general requires more resources and is far more challenging to handle. Normally it is a “big fish” bet.

Business model generation is intertwined with many other questions such as how to find promising end user / client problems and how to successfully address them, how to find and establish a USP, how to raise attention of the target segment, how to maximize your added value, how to know when is the right time for business model changes etc. In case you are open for us to widen your horizons, let us know. We will be glad to work on another interesting case!

More about CORPORATE STRATEGY and BUSINESS PLAN.

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Buying or selling a business – how to approach?

First and foremost, it is very important to know how to deal with the M&A. Over the decades, the market has shaped the M&A process to such extent that it consists of the most optimal activities. It reflects the knowledge and experience of all participants who have dealt with mergers and acquisitions in the past. Therefore, going for a non-standard approach is unlikely to pay off. Information exchange, process dynamics, risk perception, and last but not least, trust gaps critically affect the likelihood of M&A deal success. Consequently, the misconduct of M&A process & M&A best practice is often just a waste of time and money.

Businesses for sale or businesses looking to acquire need a professional. They need someone to prepare them for the M&A process. Not only in terms of documentation, but also in terms of forming beliefs. The expert can be an internal or an external person. Since such transactions are more of a one-off nature than a continuous approach, companies usually seek the help of specialized financial advisers. The key to choosing the right expert is to have the right knowledge, experience and most importantly – your trust. Statistically, more than 60% of business acquisitions are unsuccessful from the perspective of shareholders’ value creation. Therefore, M&A deals are more than obviously very delicate, so critical assessment of the opportunity is of crucial importance.

Key hints LINKED TO BuyING or sellING businessES

Due to the complexity of M&A transactions, matching the needs and expectations of parties involved usually lasts and requires considerable effort. Changes in the business environment of the subject business, one-off events or something else normally require updates of financials, further explanations, etc. The latter is often seen as a burden. Motivation plays an important role in M&A deal-making, so don’t give up too fast!

Expectations of participants should be formed on a well-founded basis. Too big difference in expectations and perceived value is often negatively accepted by the opposite party. Such behavior does not improve the negotiating position, as many people think, but rather repels the potential investors. For that reason, more serious M&A players expect from the other party to engage the M&A consultant to conduct services such as due diligence and corporate valuation.

Many are surprised by the fact that a typical company is sold on average over a period of one to two years. Time depends on many factors, including equity share size and characteristics, attractiveness of the company and the industry, plans and activities of the controlling owner, capabilities of the management, profitability, growth, financial position, hedging options, dividend policy, general market conditions, etc. Due to that matter, ownership changes require preparation and vision. Especially for those older owners who may even be involved in running a business, it is crucial that they start thinking about transferring ownership on time.

Successfully executed mergers & acquisitions also require a great deal of tact and flexibility. The analysis of comparable transactions serves to determine the valuation and payment terms, but also provides a great insight into the individual M&A transaction structures and the specifics that participants have explicitly addressed in certain ways in the past. It is therefore possible to identify in advance how atypical the participants’ individual expectations are and to assess how likely they will be accepted by the counter party. Not being flexible may compensate through the loss of value, so make sure that you are aware what is realistic and what are the related boundaries.

No matter how much the participants of the M&A process strive towards rational behavior, it is always possible to detect involvement of some emotions. There is nothing wrong with it, as long parties are not misled. Some major fails can be linked to lack of proper control over individual’s weak points, unsuccessful prevention of extremely negative/positive thinking, no mechanisms to prevent irresponsible behavior, poor coping with pressure etc.

Business value is derived from discounted future benefits in the numerator and risks in the denominator. From that perspective, actively addressing probabilities of negative business surprises and unwanted operation turmoil is a must. To be more concrete, investors often appreciate the willingness of executives to remain on board, at least in the foreseeable future, after the stock purchase agreement (SPA) or asset purchase agreement (APA) is signed. If existing executives no longer see themselves working for the subject business, the M&A deal may easily fail. For this reason, it is important to understand how all parties see major risks and come up with mutually acceptable options of ownership transition.

M&A best practice business cases prove that integrity, objectivity and transparency importantly contribute to building the prerequisite trust among participants in the M&A process. The information should thus be presented as it is. For example, what does a SWOT analysis tell you if it mostly lists strengths and opportunities, although in reality the subject business also has plenty weaknesses and threats? It is likely that after one realizes the biased approach, he or she will be more suspicious about the information you will share next. Participants, however, appreciate that certain information also comes from the right mouth. Hiding things can have very negative consequences even after the M&A deal is done.

The prerequisite to successfully close the M&A deal is also to adequately inform the counter party. However, participants should also be aware of the sensitive nature of the M&A process and information. It is therefore necessary to responsibly agree terms and limitations of sharing and use of information. There is often a fine line between responsible handling and complication. From this point of view, coordination between participants is sometimes challenging and knowledge of standard practices is inevitable.

Mergers & acquisitions are usually of more significant importance to parties involved. Decisions made are therefore not really a matter of reckless behavior. Both sides play own tactical game to maximize benefits. Regardless of different views, respectful and professional communication is expected. Often, the M&A process progresses faster, when neutral person intermediates, interprets, complements and guides both parties.

One of the most important things we all too often forget is that the bargaining power of buyers and sellers throughout the M&A process is not always the same. In the initial stages of the M&A process, when more potential buyers are on the horizon, the seller is in a much better position than the buyer, but towards the end of the process, when only a few are given the opportunity to advance, the situation is reversed. Due to that, any missed opportunities are difficult to make up for. For example, the letter of intent often comes incomplete, also as a reflection of the desire to continue with “more serious” activities. The seller should strive to point out the LOI deficiencies immediately, since the bargaining power is in this stage at its highest levels. Nonetheless, the way how the letter of intent is drafted also very well indicates the true motivation for the party and the level of experience.

Source: Consilue analysis.

To successfully target the potential investors, one needs to be aware of the situation that best describes subject businesses for sale. Are we talking about the growth capital, succession, MBO, carve-outs, spin-offs, distressed business or others?

Potential strategic acquirers typically focus their attention on consolidation of business entities or business assets. In other words, generation of synergies through economies of scale, diversification, resource transfer or a combination of the above plays an important role. The more synergies there are, the higher the appeal to buy certain business. Finding the right players and informing them properly about the investment opportunity is therefore crucial to successfully complete M&A transactions.

It is important that participants enter the M&A process well-informed, determined and with clear expectations. The following is of extreme importance especially when skillful buyer leverages its negotiation power and agrees on exclusivity period in exchange for resources invested in due diligence, corporate valuation and negotiations. For the seller, this is often seen as a sort of a bet, since the decision has to be made on the pre-formed sense of the market.

WHEN TO Buy or sell business?

Competition today is increasing. More and more companies and industries are entering in the mature phase of their life cycle, which reinforces the need for inorganic growth. This is the reason why lots of them nowadays have M&As even as part of their strategies. In the mature phase smart M&As often boost shareholders’ value creation more than organic growth.

Source: IMAA. Consilue analysis.

Despite the increasing number of M&A transactions, times to sell or buy a business are not always appropriate. It is important to be aware of where we are on the M&A activity curve and what are the factors that influence this situation. Currently (in 2019), the EU M&A market is positively affected by relatively attractive corporate valuations, high liquidity, easy access to credit and others. The graph clearly shows that current levels are lower in value terms than they were before the financial crisis, which is not the case for the United States. As Europe loses on its competitiveness, it also becomes less and less attractive in terms of consolidation trends. However, it is true that every industry and every market has its own specifics of movement and it is good that the participants are aware of them.

Our success in mergers and acquisitions is also significantly influenced by M&A trends. Recently, for example, investors have been giving an increasingly important role to technology. Then there are unexpected tariffs initiated by the US, which caused a wave of Chinese investment in Europe and so on.

HOW TO DECIDE WHETHER OR NOT TO Buy or sell business?

The decision to sell or buy a business must be made rationally. Every business opportunity has its own life cycle in the eyes of every individual. But also times are good and bad in the eyes of every individual. The market requires more each day. Wiser ones use their ability to adapt as their advantage, others don’t. The important thing is, that we either take the opportunities or we begin to lose. There is no room to debate when selling and buying businesses. Investing is not politics. Selling or buying a business is not a bad decision. Not making a progress when running a business is. The market sooner or later eliminates those that operate below its requirements, so it is wise to realize this as soon as possible and take action.

It may happen that one is forced to make an investment decision (buy or sell business) due to third factors, so knowing the probabilities of such events is important. Sometimes it is better to take a preventive action as well, especially when we are on the edge of major macroeconomic or geopolitical concussion.

Corporate owners often get asked how much their business is worth. Most of them are not able to answer this question properly. Such ignorance is detrimental and can also be a reason for lost opportunity. Behind many such questions there is a potential acquirer, so it’s always good to be aware of your investment’s value.

Investment decisions, in knowledge, in technology, in assets, or something else, tailor our destiny. What we invest in today impacts our yield tomorrow. Compound interest is the thing that makes us, or not, more successful in time. According to Albert Einstein, this is the most powerful force in our universe, so it is nonsense to oppose it.

Are you interested in the M&A support that we can offer? Share with us some data through web form – Mergers and Acquisitions – M&A consulting!

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Preparing a business plan is advised to all companies regardless of their size and market presence – startups as well as established mature companies.

Business planning allows you to increase the chances of success in the market, ensure further growth and development of the company.

The purpose of preparing a business plan can vary, but most often it is related to:

• Expanding the product / service portfolio
• New market penetration
• The launch of a new project
• Reorganization and revitalization of the company
• Collecting sources of financing (debt, equity, grants)

Well-prepared business plan discloses the feasibility of the business idea and foresees its success. Growth and development of business ideas also depend heavily on strategy, therefore development of the business model has to be approached carefully and in line with guidelines provided by experts.

The role of the consultant in the process of business plan preparation could be simply to provide a feedback regarding the quality of the business idea, or also to connect stakeholders such as potential customers, partners and investors, provide strategic business guidance, link technical and business knowledge and look for opportunities to develop new ideas.

It is wrong to think that a business plan in any way inhibits or restricts creativity and flexibility. It is strongly recommended solely due to the fact that prior to realization of a business idea one has to check its viability and get acquainted with the path and the obstacles that have to be overcome.

Elements of a good business plan:

• Analysis of the environment
• Market research
• Organisation
• Product/service plan
• Research and development
• Human resources
• Timeline
• Key risks and problems

Mandatory components of the business plan, connecting the above mentioned elements, refer to financial projections and scenarios of success. Together they form a realistic assessment of the business idea potential based on the business and its risks. Well prepared financial projections relate to future returns, required investments in working capital and fixed assets and the extent of non-monetary categories.

Based on the financial projections bankers and various other funds decide whether to support a business idea and thus provide sufficient sources of funding for its success.

Contact us for the counseling program and engagement proposal!

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Balanced scorecard makes strategy operational by translating it into performance measures. Operational orientation allows monitoring of the strategy via selected key performance indicators in a simple and easy way (status and change over time).

Balanced scorecard is a great tool to holistically track the execution of a strategy and understand the “causes – consequences”.

The balanced scorecard divides measures into the following interdependent perspectives – innovation, internal processes, customer and financial.

• • Balanced scorecard: Financial
    How is the success of the company seen by shareholders? The measures often relate to the creation of value, share price, market shares, growth rates, profitability margins and returns, liquidity, viability, cost reduction etc.
  • Balanced scorecard: Customers
    How is the company seen by its customers? The measures often relate to the customer needs (new market penetration, developing new products and services), customer satisfaction, customer loyalty etc.
  • Balanced scorecard: Internal processes
    How do people and processes perform? The measures often relate to the improvement of core competencies, improvement of technologies, production excellence, quality management, inventory management, motivating employees etc.
  • Balanced scorecard: Innovation
    What possibilities of development and learning do the employees have? The measures often relate to the key personnel, research and development, continuous improvements etc.

Balanced scorecard should consist out of well defined set of measures. Each one, should be attributed to one or more employees, responsible for its execution. Eventually it would allow better control over the implementation of the strategy and facilitate the elimination of bottlenecks.

Due to the integrity of the balanced scorecard framework, the measures defined provide compliance with the strategy and in no way encourage short-term activities that are harmful to the company in the long term.

In contrast to traditional thinking, the quantitative as well as qualitative measures are set in the balanced scorecard. Defining measures requires that one thinks about the possibility of updating and comparing the results, the degree of reliability, objectivity, appropriate responsible person, current state of the measures etc.

Strategy and the measures defined within the balanced scorecard framework are the base for preparation of other plans, such as marketing and sales plan, financial plan, and operational plan.

Interested in our support linked to strategy consulting ? Please contact us and we will be glad to prepare you an offer!

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Porter’s five forces model provides a better understanding of the industry dynamics.

Industry analysis is one of the crucial elements of the analysis prepared prior to the business model development and other strategic decisions made. Unlike some other more quantitative methods, Porter’s five forces model relies primarily on qualitative assessment.

Porter’s 5 forces model and the industry attractiveness – force: the bargaining power of buyers

Bargaining power of buyers is present when buyers are abusing their power to decrease the purchasing prices, increase the quality, add additional services, etc.

Factors affecting the bargaining power of buyers are:

• Concentration of buyers
• Fragmentation of suppliers
• Alternative sources of supply
• Low switching cost
• The importance of product / service to the customer
• The threat of takeover by the buyer

Michael Porter five forces model and the industry attractiveness – force the bargaining power of suppliers

Bargaining power of suppliers is present when suppliers are abusing their power to raise the selling prices, decrease the quality and dispose the additional services, etc..

Factors affecting the bargaining power of suppliers are:

• Concentration of suppliers
• Fragmentation of customers
• Alternative sources of supply
• High switching cost
• Strong brand of the supplier
• The importance of the transaction to the supplier
• The threat of takeover by the supplier

5 forces model and the industry attractiveness – force the threat of new entrants

The entry of new competitors typically leads to lower profitability of all competitors in the industry.

Factors affecting the threat of new entrants are:

• Initial investment in fixed assets
• Economies of scale
• Experiences
• Access to supply and distribution channels
• Expected retaliation
• Loyalty of customers and suppliers
• Legislation and politics
• Differentiation

Five forces model analysis and the industry attractiveness – force the threat of substitutes

Profitability of the companies operating in the industry is not affected solely by the competition and new entrants, but also by substitutes.

Threat of substitutes involves three dimensions:

• Product for product / service for service substitution
• Substitution of need
• Generic substitution

Porter’s five forces model and the industry attractiveness – force the competitive rivalry

Factors affecting the competitive rivalry are:

• Competitors are in balance
• Low differentiation
• Slow market growth
• High fixed costs in the industry
• High exit barriers

Interested in industry analysis? Please contact us and we will present you the cooperation and our offer!

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Benchmarking analysis is a business improvement tool that helps company achieving business excellence. By using the benchmark analysis we strive to philosophy of continuous improvements.

In combination with other strategic and business performance improvement tools it provides a good basis for strategic and operational decisions.

Benchmarking analysis is suitable for companies at all stages of growth. With this tool we compare revenue/unit, cost/unit, productivity/unit, quality/unit and other key indicators in an easy and reliable way.

Speaking from the operational point of view, benchmark analysis points out the business fields and areas where significant further improvements are possible. However, when we speak from the strategical point of view, the tool allows us to determine the best practices of the leading companies in the industry and broader, namely from companies with similar processes from other industries that could be applied on the subject company.

There are several types of benchmarking, depending on what do we compare and with whom:

Type: Strategic benchmarking analysis
Purpose: Enhancing the strategy
Description: Comparing long-term strategy that have enabled the success of the companies being analyzed – stress on core competencies, abilities to respond to changes in the environment, and R&D.

Type: Competitive benchmarking analysis
Purpose: Reducing the operational gaps
Description: Comparing the key performance indicators and identifying operational gaps.

Type: Business process and business function benchmarking
Purpose: Improving key business processes and functions
Description: Comparing the key processes and functions with best practices.

The input data for the benchmark analysis are most of the time gathered based on publicly available information, financial statements, questionnaires and in-depth interviews. The sources of information are internal as well as external.

Interested in these services? Please contact us and we will present you the cooperation and our offer!

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WORLD-LEADING CORPORATES CONTINUALLY SURPRISE US. IN ORDER TO STAY IN THE ELITE THEY COMMUNICATE MORE AND MORE VISIONARY IDEAS. THEIR MARKET CAPITALIZATION IS LARGELY IMPACTED BY THE PERCEIVED SCOPE AND GROWTH OF FUTURE OPERATIONS, SO THE MORE ABSTRACT & DARING THEY ARE, THE MORE INTEREST THEY RAISE AND HIGHER IS THEIR POTENTIAL. THE WINNERS ARE THOSE WHO RISK A LOT, BUT IN A SMART WAY – CASE OF ALPHABET INC.

Alphabet Inc. is a financial holding, the epicenter of creativity and innovation of incredible scope. Google Inc. currently represents the majority of this holding, while other companies are still in relatively early phases of their development. These are Access, Calico, CapitalG, GV, Nest, Verily, Waymo, X and many other projects, which are about to be spin-offs / carve-outs in the near future. The activity focus is on information organization, investment banking, IT infrastructure, biology and aging, healthcare, home management, transport and logistics, television etc.

Already the name (Alphabet Inc.) symbolizes the organization’s mission, placement of so called »alpha bets«. Albert Einstein once said: »The best investment is investment in one’s knowledge.« and it seems that Alphabet Inc. took this statement seriously. They bet more and more intensively on the combination of technology and learning – machine learning and artificial intelligence.

The potential of these two technologies can be well understood from a simple chess experiment. The computer was given the game instructions and develop its own knowledge of playing based on own iterations. In less than 4h of playing the cumulative knowledge already exceeded the amount of cumulative chess knowledge developed by people through centuries of playing this game. Chess is only one of the examples, in reality there are numerous potential applications. Speaking from the monetary perspective, the value of the market is estimated in trillions of US dollars. The two technologies may result in a double digit GDP growth of the world.

We are probably not even aware of the progress that is about to be made in next years. The cumulative knowledge base will get new dimensions, since the knowledge begins to grow at significantly faster pace. Practically, in line with the IT infrastructure development. Inventions such as Quantum computers, however, will speed things up. New knowledge will open the door to a world of completely different life.

A well-known Chinese magnate and businessman, Jack Ma, at one of the public speeches said: “It is more important that you are the first one, than that you do things perfectly.” With this statement he highlights the importance of the »first mover effect«, the entrepreneurs are still under-aware. Not only that Alphabet Inc. is normally among the ground-beakers, its innovation in combination with market dominance actively address also the so-called »trend setting«.

If so far Google Search was considered as the leading tool for searching information on computers, phones, tablets and other media; the company is opening a new, even more promising chapter. With the integration of artificial intelligence and machine learning they a targeting a more strategic role in one’s life, becoming personal assistants. This will drastically improve the role Google Inc. plays in our lives and of course simplify our operationally challenging everyday. Despite the fact that Amazon’s Alexa and Apple’s Siri came first and were until recently leading by active users, it appears that the winner of this battle is going to be Google Inc., also due to the cross-product synergies.

Innovation is just a base. In order to make an idea a success story, much more is needed. Among others, also the ability of market penetration. Recall how Google Inc. in the past used not only organic approaches, but also corporate acquisitions to speed up the market integration at just the right time. Today, Android probably would not be so well-known and widely used if Motorola Mobility acquisition would not take place back then ($ 12.5 billion, 2012) and accelerate the penetration. The same applies to the acquisition of Nest Labs (USD 3.2 billion, 2014), which enabled the company to develop its presence in households in the IoT segment; and the acquisition of YouTube ($ 1.7 billion, 2006), which enabled Google Inc. to successfully responded to the transfer of traditional television to the world wide web and significantly increase its advertising potential. Mind also the takeover of the Israeli company Waze ($ 1.15 billion, 2013), which significantly improved the Google Maps with more advanced travel time calculation, suggesting the most optimal routes, etc .; or the acquisition of the HTC Pixel Smartphone Division ($ 1.1 billion, 2017), which strengthened the development team in some critical areas and may seriously jeopardize Apple’s Iphone profit cake. Advanced strategic management and bold thinking result in more than 200 other corporate acquisitions made in the last 10 years – Gradient Ventures and the Google Assistant Investment Program play an increasingly important role.

Alphabet Inc. understands very well how important it is to actively monitor and set trends. People’s habits are changing rapidly all the time, opening up new market opportunities. Being the first in key segments such as machine learning and artificial intelligence opens the door to the potential of enormous value generation in the future. Capital un-intensive business requires management to focus its efforts on growth – thus the tendency to focus on end users, user experience, brand perception, customer loyalty, customer satisfaction, etc.

Past financial figures confirm that the tactics is right. Past growth rates are high (Net sales CAGR2014-17: 18.9%; EBIT CAGR2014-17: 16.6%), which partly also reflects smart allocation of resources and the increasingly active penetration of emerging emerging markets such as India, South Asia, China and others.

Source: Alphabet Inc. Consilue analysis.

Despite impressive financial statements, many investors believe in hidden reserves. The complaints relate to the monetization of solutions, excessive share of more expensive equity in the financial structure, unnecessary exposure with short-term financial investments, etc. As a result, the capital market position of the company is not optimal. Measures of protection against hostile takeovers, such as, the issue of multi-class shares with different management rights, which give the founders the main managing role in the company, additionally worsen the situation.

Source: Alphabet Inc. Consilue analysis.

The chart above shows year-on-year increase in surplus cash »Money and short-term financial investments« (31 Dec 2017: USD 102 billion) and its financing. In other words, a substantial portion of equity is used to invest in US bonds and similar short-term liquid instruments. For some stupidity, for others a masterpiece. The fact is that it is very difficult to judge the situation on limited outer data. One of the theories that advocates the current management’s behavior is that the reasons for the significant surplus should be sought in the context of tax benefits. Companies like Alphabet Inc., Apple Inc., Microsoft Inc., Cisco Inc. and others hold a cumulative 0.5 trillion dollars of surplus cash in their balance sheets. Their bargaining power against the tax regulator is strengthening every year and call for a more favored one-time tax treatment, co called »tax holidays«. They wisely wait for the right moment to come. In times of crisis, the saying »Money is the king.« is well-known.

Critics respond with counter-arguments. One of them, for example, is that Google Inc. is with its balance sheet full of surplus funds becoming an important player in the world of investment banking, a world of sharks. Investor doubt in safety of these funds, due to the company mysterious behavior and (little) amount of attention.

From the value point of view, the lever of Alphabet Inc. (Google Inc.) is not really the amount of excess cash, but rather the ability to invest it in a very smart way. Not only within the technology sector, but also wider. The financial holding has a unique weapon in their hands – Google search queries. The latter can be demonstrated with, for example, comparing the number of Google search queries and the Bitcoin (BTC) price development. The correlation between one and the other is extremely high and, as in many other cases, provides a good basis for investment decision making.

Source: Alphabet Inc. Consilue analysis.

Corporate strategy – it is about our path. How we are achieving our goals. How wide and open we look at things. How capable we are to appropriately address macro trends. How we recognize and manage advantages, weaknesses, opportunities and dangers. How we strengthen purchasing power within the industry. How we make advantage of our corporate competences, competitive advantages, capabilities etc.

Google’s strategic management is in many views exceptional. Advanced future-thinking, technology, innovation and creativity. In everyday life, things are of course much more complex than the chess game, but something is certain. Development goes on with the speed of light. The ideas we have been acquainted with a decade ago in science fiction movies are now part of our everyday life. But ideas are not all, they are only the beginnings. Its the corporate strategy who decides whether they will play an active role in our lives or not. Corporates need to do unique, break-through things. Today we need to think about how the life will look in twenty years. We need to think about the virtual reality, personal assistants, gene modification, molecular designing, personalized medicine, (cell)growing of meat etc. Dare to risk, but in a smart way – just as the leading companies do.

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P/E MULTIPLE OF TURKISH COMPANIES HIT THE 9 YEAR LOW IN 4Q 2018 AS A RESULT OF INCREASED POLITICAL AND MACROECONOMIC RISKS IN TURKEY AND WIDER IN THE MIDDLE EAST. M&A ACTIVITY HALVED ALREADY IN 2016-2017 , MAINLY AS A RESULT OF BIG, INFORMED PLAYERS’ ABSENCE. MANY ARE QUESTIONING THEMSELVES “IS IT NOW THE TIME TO BUY A TURKISH COMPANY OR WE ARE WITNESSING A TEMPERED BOMB?”

Good conditions for corporate acquisitions in Europe

Relative power of companies in the developed world increased in the period after the financial crisis. Economic conditions in 2016, 2017, 2018 were/are prosperous, while the access to money is relatively easy and cheap. M&A activity in the developed world is on the other side reaching historical heights. Many companies gathered free cash resources and are thus facing questions such as which company to buy, when, at what price and how to properly address the risks.

Impact of macro on corporate valuations in Turkey

Valuations of Turkish companies are for some time already at the spotlight of the foreign financial analysts and companies with the inorganic grow (M&A) ambitions.  Turkish BIST 100 P/E multiple dropped in first 8M period of 2018 from 9x to 7x and hit the lowest levels in last 9 years. Its maximum was in 2013, when the multiple reached 12x.

A fast look into the multiples may indicate a good entry point. However well-informed big M&A players pressed a brake. Main fears are gathered around the potential impact of future macroeconomic & political risks on business operations. Let’s point out few key developments:

• Turkish Lira is continuously loosing its value against the EUR or USD for last 15+ years. The Aug 2017 – Aug 2018 decrease is significant and amounts to 40+%. Futures (CME) in Aug 2018 forecast a significant further drop also for the following years, while the costs of hedging are increasing steadily.
• Inflation rate in July 2018 reached 15,85% p.a. From Mar 2018 it is up for 5+% points and is increasing exponentially. Current inflation levels are the highest from Jan 2004 and are significantly above the long-term target inflation rate.
• Turkish companies are in average well-exposed to FX risks. They hold significant amounts of loans in EUR and USD.
• Significant credit risk eruption seriously threatens Turkish companies. Excess of serious liquidity problems may occur due to the maturity gaps between investments and loan financing.
• Country risks grow rapidly. 5Y credit default swap for Turkey increased for 350 basic points compared to the BOY 2018 and reached 500 basic points in Aug 2018.
• Average cost of debt for companies is high. Average interest rate for company loans reported by Turkish Central Bank reached 21,75% p.a. in Jul 2018.
• Payment discipline problems as well as payment terms are on the rise. Liquidity ratios of Turkish companies are worsening. Average trade receivables outstanding (TRO) in 1H 2018 amounted to 121 days, nevertheless 46% of business partners demand a significant increase.

No matter the environmental and industry analysis, the final conclusions related to the feasibility of the M&A activity is determined based on the individual case and in line with the corporate value-maximization principles. Besides the underlying case findings, the decision whether to involve in the M&A activity and at what price heavily depends among others also on motives, strategy and alternatives. One should be well aware of risk-benefit profile and accept the decision based on the well-informed decision making process.

Let’s look at the case study of a B2B multinational industrial company and how they addressed the question of increased risks linked to the operations in Turkey.

The background of the corporate acquisition:

Acquirer holds a dominant niche position in Europe and wider. It is considered as a reliable, high-quality supplier with a wide portfolio of own products. The company is active in the CapEX intensive industry. It reached its leading market position due to the fact that they were able to internationalize its business operations faster and thus reach the economies of scale and scope, which nowadays represent hard-to-beat market entry barrier. Part of the success can also be attributed to banks, which were for a long period exposed to above-average indebted company.

Turkish target is a direct competitor of the acquirer and was founded as a result of the acquirers’ clients activity, to decrease their dependency and regain the negotiation power. Once the target started to threaten the performance of the acquirer more seriously, the company adjusted the regional pricing policy and thus strengthen its competitive pressures. Due to the limited financial power and negative macro development, the competitor offered the acquirer the option to acquire the company.

Corporate market value estimate of the target in the context of recent macro developments & risk perception:

Comment: Target’s market value estimate is attractive, especially if considered in the context of historical pricing. Only from the BOY 2018 the company lost more than a quarter of its value. P/E multiple of the target is also cheaper than the reference industry / market multiple, reflecting the acquirer’s competitive pressures. Market value estimate is approximately on the net asset value, which is used as a post-acquisition strategy base. The commercial side of the deal is stimulative for the acquirer.

Corporate acquisition related risks and post-acquisition strategy 

In order to limit the effect of high risks on future business operations and value generation, operational restructuring is planned.

• After the corporate acquisition part of the capacities double. The plan is to move them to other continents, where the acquirer already supplies some (other) products from its portfolio to certain clients. Local production will open new business development opportunities and good base to increase the value generated / revenue synergies.
• After the corporate acquisition products for existing Turkish and Middle East clients are to be produced on more efficient production lines of the acquirer within the EU. To guarantee sufficient flexibility the supply will be coordinated through the local warehouse.

Corporate acquisition enables also realization of selected new business opportunities. Projects relate to Turkish and Middle east clients and are only available to local producers with sufficiently advanced know-how. These projects are planned in line with the value creation principles. In other words, due to high operational risks only execution of projects with returns above the weighted average cost of capital take place.

Base scenario (symbolic graphics; imaginary numbers are used):

Comment: The corporate acquisition results in synergies as presented above. Additionally created value supports the decision to acquire a company.

Worst-case scenario (symbolic graphics; imaginary numbers are used):

Comment: New business opportunities are due to the environmental challenges limited. Operational restructuring works as a shield to protect against eruption of risks after the corporate acquisition. The core value is thus significantly less exposed to Turkish risks.

Market entry (corporate acquisition) is attractively priced and is from the perspective of the acquirer a good business decision, while post-acquisition strategy limits the effect of further negative risk development. Additionally, the acquirer also plans to:

• minimize the exposure to Turkish Lira (change most of the existing commercial agreements to EUR; hedge the TRY-EUR FX rate risks)
• minimize the exposure to risks related to Turkey (continuous excess cash pay-outs / reinvestment, optimization of net working capital and financing mix)

The recent developments of risks in Turkey, enabled the acquirer to 1) execute the business acquisition (acquire the competitor), 2) consolidate the business operations and improve the operational efficiency, 3) speed up the the Middle East market entry and develop the regional presence. In the given case the transaction size matches the net asset value, which the acquirer used to relocate certain duplicated capacities (fixed assets) to other continents. The focus of the post-acquisition strategy addresses high risks and provides the answer how to restructure the operations to maximize the value. Despite the fact that the majority of companies decided to put their M&A activity in Turkey on hold, the given macro situation offered the acquirer an attractive business opportunity.

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COMPANIES ARE CREATING VALUE FOR THEIR SHAREHOLDERS IN A MORE AND MORE ORIGINAL WAYS. THEY BET ON VARIOUS THINGS: INNOVATIVE BUSINESS MODELS, ECONOMIES OF SCALE, COMPETITIVE ADVANTAGES ETC. APPROACHES DIFFER AND SOME MAY EVEN LOOK STRANGE FOR THOSE THAT DO NOT REALLY HAVE A STRONG FINANCIAL BACKGROUND – CASE OF HOME DEPOT INC.

Company Home Depot Inc. is a US retail giant, selling equipment for home, garden and workshop. Their products and services are sold throughout the network of 2.200+ stores in USA, Canada, Mexico and online. The company is the biggest retailer worldwide in its segment. In financial year 2017 the company generated 101,0 billion USD net sales and 16,5 billion USD EBITDA. More than all non-financial legal entities in a smaller country such as Slovenia, EU.

Why is increasing the financial debt beneficial?

The company operates in a smart way. Part of the success story is linked also to the financial structure and its restructuring. In last years the company is increasing the level of financial debt and decreasing the level of equity. In this way Home Depot Inc. is increasing its Return on equity (ROE). Meaning, the shareholders’ equity is being managed in a more and more efficient way. Let’s look more in details how this is possible.

Development of invested capital and return on equity (ROE) of Home Depot Inc.

Source: Home Depot Inc. Consilue analysis.

Invested capital as at the end of FY 2017 amounts to 28,5 billion USD. Financial debt equals 27 billion USD and shareholder’s equity 1,5 billion USD. One can quickly notice that the indebtedness measured as D/E ratio is »very high«, 1611%. Nevertheless, the ratio as such is not really problematic. The key is to consider the market (not book value) indebtedness ratio. In the case of Home Depot Inc. future returns on invested capital are expected significantly above the weighted average cost of capital (WACC). The market value of equity therefore significantly (more than 100x) exceeds its book value, making the healthy debt levels significantly higher.

The more value the company creates, the higher the optimal levels of debt. As the debt levels built, the ease of creating value for shareholders increase. And the system works as a spiral. The more debt there is, the higher the value for shareholders.

Financial debt and debt management

Financing mix with a leverage as in the case of Home Depot Inc also brings challenges. A mistake in managing financing can have serious consequences. Financial debt can quickly show its other face. Proper supervision of risks and stabilization of future cash flow is therefore of crucial importance. Management of Home Depot Inc. is well aware of this fact. They are eager to continuously strengthen the underlying competences. Especially those that influence the increase in gross margin and further development of competitive advantages.

Financial debt is being managed carefully. Risks related to new obligations and danger of eventual liquidity gaps are continuously addressed in a proper way. The majority of debt is of long-term nature. Its maturities match the maturities of underlying projects. The company does not seek to create »fast« profits at the expense of differences in maturities. The company is aware of risks and the fact that this is not really their business.

Table of financial debt as at the end of FY 2017 (m’ USD):

Source: Home Depot Inc. Consilue analysis.

The financial structure is despite the relatively leveraged financial mix, stable. What makes it sustainable is the value that is being created. Additionally, the lenders are also well aware of the fact that the ratio Net debt / EBITDA as at the end of FY 2017 amounts to »only« 1,4x. This fact additionally strengthens the position of the company. It messages that in case of tightening, the financial debt can still be relatively quickly repaid with operational cash flow.

The success story described above still has space to develop further. The debt levels are not yet optimal, meaning that in the area of debt management there is still space for improvements and value creation. Yield to maturity for 10-year bonds is below 5,0%, meaning that eventual increase of debt levels is further improving the weighted average cost of capital.

The developments described are strongly appreciated by the investors. The value of the Home Depot Inc. stock in last 7 years strongly outperformed competitive peer companies. The growth was truly significant, from 30 USD/share to 200 USD/share. Furthermore, the company was also paying out dividends. Compounded annual growth rate (CAGR) of the Home Depot Inc. stock in the period that matches FY 2011 – FY 2017 amounts to 28,5%, compared to the 9,6% growth of S&P Retail index.

Chart: Stock price development

Source: Bloomberg. Consilue analysis.

As we see, the financial debt is taking the nature of equity. D.E.B.T. is the magic word or key to a success of Home Depot Inc. The more the indebtedness increases, the more the value increases. On the given case we see how event the financing structure can become the source of value creation for shareholders and even a strategic competitive advantage of a company.

Is value creation in your company addressed in a sufficiently advanced way? Do you know the specifics and best practices that would fit your company best? Does your strategy hide innovative financial & business approaches or you think it is just another block of paper in your drawer? Which strategic decision may hit your competitors next?

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TECHNOLOGY BRINGS REVOLUTIONARY CHANGES INTO THE BUSINESSES. IT ENABLES NEW DIMENSIONS OF COST OPTIMIZATION ON ONE SIDE, AND EXTREMELY FAST AND CHEAP EXPANSION ON THE OTHER SIDE. THIS CENTURY IS FOR SMART INVESTORS DEFINITELY A GOLDEN ERA. FROM THE PERSPECTIVE OF VALUE CREATION, MEGA INVESTMENT OPPORTUNITIES ARE SHOWING ON THE INVESTOR RADARS – CASE OF MASTERCARD INC.

Mastercard Inc. is a specialized technology company offering e-payment solutions to banks, governments and others. In other words, clients are offered super-fast network for processing end-users’ transactions. The company philosophy is to simplify and upgrade the payment process. Efforts of the company are built around the main concern – to offer safety and security. The company today has 1,8 billion cardholders around the world, mainly in USA, UK, Canada and Brazil. Their brands MasterCard, Maestro and Cirrus became known as synonym for non-monetary business.

Sustainable achieving of high margins in the long-term

Through decades of operations the company developed key competitive advantages, which guarantee today’s success and include strong brand, high level of trust and global network of partnerships. Strong brand impacts the demand, high level of trust as the element of differentiation enables high profit margins and global network of partnerships results in economies of scale and optimal cost structure of operations.

Financials confirm the superb performance of Mastercard Inc. Market share of the company in 2017 hit 17% (2016: 16%, 2015: 12%), while net sales reached 12,5 billion USD. Business performance is improving as a result of consumption rise and changing consumer habits. In terms of value creation, an important fact is linked to the ability to maintain high and stable margins. EBIT margin for years already exceeds 50,0%.

Chart: Net sales and EBIT developments of Mastercard Inc.

Shareholder value creation is what really counts!

The success story of Mastercard Inc. (or some other company operating in tech-sector) recognized by investors is actually a bit deeper. It is linked to the potential of future value generation, which is significantly impacted also by a relatively low operations growth financing needs.

Technology is an interesting phenomenon. It allows one to reach economies of scale fast and without significant investments in capital expenditures (CapEx) or Operating expenditures (OpEx).

The growth as such for Mastercard Inc. does not represent a significant financing burden (compared to non-tech sector companies). In other words, the operations can expand through the existing solutions and significantly impact the value created. If we additionally take into the account the fact that nowadays still 80% of transactions are in cash and the pace of changing consumer habits, we understand the true value drivers.

How easy it is for Mastercard Inc. to finance its existing operations is obvious even now. Despite the relatively high (16,0%) growth of net sales in 2017, the level of shareholder’s equity remained on the same levels. Net profits were paid out in full. The needs of increasing invested capital were addressed completely with increased levels of financial debt. Despite raising of the financial debt, the indebtedness ratios are actually improving, since the market value of equity increases faster than the financial debt.

Every company has its own specifics of shareholder value creation, so it is important to understand what boosts company value the most!

The CEO of Mastercard Inc. Ajay Banga says: »Our investments are focused on the safety, security and development of solutions that fuel high growth of our business.« He is well aware of the areas of the biggest risks and the biggest opportunities. This fact confirms also recent acquisitions, which are executed with a purpose to expand the capabilities of the company and take over the technical solutions, which are about to present a competitive edge for the company in the future. For example, with acquisition of VocaLink Holdings Limited company gained advanced know-how in the area of real-time account transaction processing; with acquisition of Brighterion, Inc. the company gained the AI technology to better understand the transaction flows and prevent the security and safety gaps.

Companies that continuously create value for shareholders have competitive advantage over competitors and wider, meaning in the industry. In case of Mastercard Inc. we talk about the combination of attractive industry and strong competitive advantages. The company stock outperforms even those with biggest potential, selection of NASDAQ index companies.

Chart: Performance of Mastercard Inc. stock vs NASDAQ index

The thoughts of Mastercard Inc. management are concentrated on the core value driver – company’s growth and securitisation of underlying risks. The tools used are exclusively of technological nature. Technology & competitive advantages are the answer to smart managing of companies in 21st century.

The pace at which the technology is brought into the daily operations is high. It requires introduction of new business models. Preparation of more advanced business strategies. Continuous restructuring of activities. Implementation of creative ideas etc. As a result, the capital market positions of the most active companies are drastically improving. They attract investors. Grow the value for shareholders.

What about you? Are you aware of potential that the technology has in the context of your operations? Do you consider its implementation? Do you know which investments are smart and which actually represent a burden for your company?

What are the other shareholder value creation success stories that we know?

Company Uber offers transportation services and has no cars; Facebook is a media company and creates no content; Alibaba is a trading company with no stocks; Airbnb markets real estate, which are in possession of others etc. All these companies master the technology and its impact on value creation. Technology is revolutionizing the whole industries, which is primarily the cause why many sectors stagnate.

The answer on how to “Uber-ize” many other businesses is hiding the potential for new billionaires!

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