EY warns CFOs against over-committing to rapid-growth markets and letting the enthusiasm for using them as the torch-bearer for sustainable long-term growth bubble over. Here are a number of key lessons from the financial services giant that will be applicable for the just about any company and its CFO.
1. Ensure that resource allocation changes in line with growth expectations.
CFOs should apply financial discipline to resource allocation decisions by ensuring that budget for capital expenditure is kept in line with the company's expectations for growth in revenues for each market. By keeping tight control over these metrics, CFOs can apply an objective yardstick for changes in investment.
2. Do not neglect developed markets.
The enthusiasm for rapid-growth markets and a belief that they represent the single most important source of sustainable long-term growth can lead companies to over commit to them. For the foreseeable future, developed markets will be a core source of profitability and cash flow, so they must also be given the resources they need to thrive.
3. Prioritize markets but make sure that there are options to shift allocations accordingly.
It is not possible for companies to invest in every opportunity. CFOs must therefore play a vital role in helping companies to prioritize markets according to the company's willingness and ability to invest, and their fit with the company's strategy.
But they should also ensure that there is a range of options built into this prioritization. This involves companies being able to demonstrate to investors that the company has the flexibility to scale investments up or down in line with changing opportunities and risks.
4. Consider how the risk profile of an investment might change over time.
Many companies apply higher discount rates to rapid-growth market investments to reflect the greater potential risk. But one problem with this approach is that it assumes the same level of risk over the entire lifecycle of the investment. This can put the company at a disadvantage in a competitive bid situation.
An alternative approach is to set a group cost of capital based on an expected portfolio of investments and funding that enables the company to risk-adjust cash flows rather than changing the discount rate
5. Scaling down can be just as difficult as scaling up.
Increased allocation to rapid-growth markets will often mean a decreased allocation to developed markets. Selecting the assets that will receive less allocation requires similar decision-making rigor as those to be scaled up.
Shrinking allocations to slow-growth markets also poses management challenges. CFOs must ensure that they explain the rationale for decisions to internal stakeholders and be comfortable that managers understand the "big picture" reasons for changing allocations.
