At the “When Growth Stalls” website, the Web home of the book by Steve McKee, there is a confidential self-diagnosis survey available to business professionals who want to get a sense of how their company is doing. McKee Wallwork Cleveland collected over 1,000 responses from these executives and recently took a closer look at the results. The results are staggering.
It’s not about the economy. The research shows that many struggling companies are suffering for reasons of their own making so McKee Wallwork Cleveland prepared this fun infographic to summarize the not-so-enjoyable internal dynamics that struggling companies must find a way to overcome.
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COMMENTARY: It is important that management not only understand what corporate growth is, but what drives growth and how to manage that growth effectively for longterm sustainability and predictability. Let's look at the 6W's of corporate growth: why, what, where, when, and HoW.
6W's of Sustainable Corporate Growth (Click Image To Enlarge)
Know Why
What is the real purpose of your business? Your company needs profits to live, but profits are not what the business is for. The objectives are to provide value to the population and to make the community better.
When this vision is lost then we lose sense of purpose, the feeling of belonging, the sight of why we work, and why our business exists. Start a business when you have a passion for something and want to create something that you can be proud of. Inspire yourself and your people with a clear vision. Define shared values and let values rule. Achieve your sustainable competitive advantage by continuously developing existing and creating new resources and capabilities in
response to rapidly changing market conditions. Focus on strengthening your distinctive capabilities – leadership, teamwork, processes, tacit knowledge, etc. – which cannot be replicated by competitors.
Know What
Finding the right balance in your business will help you refine your goals and hasten you towards them. Organizations prosper by achieving strategy through balancing the four major factors or perspectives: Financial; Customer; Process; and Growth.
Build Your Sustainable Competitive Advantage
Sustainable competitive advantage is the prolonged benefit of implementing some unique value-creating strategy based on unique combination of internal organizational resources and capabilities that cannot be replicated by competitors. Sustainable competitive advantage allows the maintenance and improvement of your enterprise's competitive position in the market. It is an advantage that enables your business to survive against its competition over a long period of time.
Know Where
Remember the old joke about the car mechanic who’s called in after every other mechanic failed? He listens to the engine for a few minutes, then hauls off and gives it a big swift kick in a certain strategic spot. Lo and behold, the engine starts humming like a kitten. The mechanic turns around, gives the car owner his bill for $400. The owner is flabbergasted and demands an itemized breakdown and explanation.
The bill says... '$1 for my time, and $399 for knowing where to kick.'
Know When
Timing is everything. You have to know not only how to make a move, but when. “The value of actions lies in their timing,” said Lao Tzu. Customer value derives from timely delivery. Change is unavoidable, but if you can anticipate it and understand business cycles, you can ride with change instead of being run over.
Know Who
According to Lee Iacocca, "In the end, all management can be reduced to three words: people, product, and profits. People come first." Your corporate vision is worthless, strategies powerless and shared values are corrupt without the right people to execute.
Know How
Manage processes, not people. Focus not on what they do, but on how they do it. Establish a synergistic enterprise-wide and an end-to-end (cross-departmental, and often, cross-company) coordination of work activities that create and deliver
ultimate value to customers.
Sustainable Growth Rate
According to Profit Impact of Marketing Strategy or PIMS an important lever of business success is growth. Among 37 variables, growth is mentioned as one of the most important variables for success: market share, market growth, marketing expense to sales ratio or a strong market position.
The question how much growth is sustainable is answered by two concepts with different perspectives:
- The Sustainable Growth Rate (SGR) concept by Robert C. Higgins, describes optimal growth from a financial perspective assuming a given strategy with clear defined financial frame conditions/ limitations. Sustainable growth is defined as the annual percentage of increase in sales that is consistent with a defined financial policy (target debt to equity ratio, target dividend payout ratio, target profit margin, target ratio of total assets to net sales). This concept provides a comprehensive financial framework and formula for case/ company specific SGR calculations.
- The Optimal Growth concept by Martin Handschuh, Hannes Lösch, Björn Heyden et al. assesses sustainable growth from a total shareholder return creation and profitability perspective - independent of a given strategy, business model and/ or financial frame condition. This concept is based on statistical long-term assessments and is enriched by case examples. It provides an orientation frame for case/ company specific mid- to long-term growth target setting.
Sustainable Growth Rate (SGR) Formula
The sustainable growth rate according to Robert C. Higgins is the maximum growth rate a company can achieve consistent with the firm`s established financial policy. Basically, it is calculated as:
SGR = (pm*(1-d)*(1+L)) / (T-(pm*(1-d)*(1+L))) where:
- pm is the existing and target profit margin
- d is the target dividend payout ratio
- L is the target total debt to equity ratio
- T is the ratio of total assets to sales
In order to grow faster, the company would have to invest more equity capital, increase its financial leverage or increase the target profit margin.
The sustainable growth rate model assumes several simplifications such as depreciation is sufficient to maintain the value of existing assets, the profit margin remains stable (also for new businesses), the proportion of assets and sales remains stable (also for new businesses) and the company maintains its current capital structure and dividend payout policy. The sustainable growth rate model has implications for valuation models, as for instance the Gordon model and other discounted cash flow models require a growth estimate that can be sustained for many years. The sustainable growth rate can be a check if business plans are reasonable.
Optimal Growth Rates
Optimal Growth from a shareholder value reation and profitability perspective according to Martin Handschuh, Hannes Lösch and Björn Heyden is the growth rate which assures sustainable company development – considering the long-term relationship between revenue growth, total shareholder value creation and profitability. Assessment basis: The work is based on assessments on the performance of more than 3500 stock-listed companies with an initial revenue of greater 250 million Euro globally and across industries over a period of 12 years from 1997 till 2009. Due to this long time period, the authors consider their findings as to a large extent independent of specific economic cycles.
Relationship Between Revenue Growth, Total Shareholder Value Creation and Profitability
In the long-term and across industries, total shareholder value creation (stock price development plus dividend payments) rises steadily with increasing revenue growth rates. The more long-term revenue growth companies realize, the more investors appreciate this and the more they get rewarded.
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Return on Assets (ROA), Return on Sales (ROS) and Return on Equity (ROE) do rise with increasing revenue growth up to 10 to 25% and then fall with further increasing revenue growth rates.
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Also the combined ROX-index (average of ROA, ROS and ROE) shows rises with increasing growth rates to a broad maximum in the range of 10 to 25% revenue growth per year and falls towards higher growth rates.
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The authors attribute the continuous profitability increase towards the maximum of two effects:
- Profitability drives growth: Companies with substantial profitability have the opportunity to invest more in additional growth.
- Growth drives profitability: Substantial growth may be a driver for additional profitability, e.g. by higher attractiveness for high performing young professionals, higher employee motivation, higher attractiveness for business partners as well as higher self-confidence.
Beyond the profitability maximum extra efforts to handle additional growth – e.g. based on integrating new staff in large dimensions and handling culture and quality - do rise sharply and reduce overall profitability.
The combination of the patterns of revenue growth, total shareholder value creation and profitability indicates three growth zones:
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- Low Return: Low profitability and low value generation below 10% per year
- Long-term Sweet-Spot: Solid value generation and highest on average profitability in the revenue growth interval from 10% to 25% per year
- High Speed: Even higher total shareholder value generation however in combination with lower profitability beyond 25% per year
Growth rates of the assessed companies are widely independent of initial company size/ market share which is in alignment with Gibrath`s law. Gibrat's law, sometimes called Gibrat's rule of proportionate growth is a rule defined by Robert Gibrat (1904–1980) stating that the size of a firm and its growth rate are independent. Independent of industry consolidation and industry growth rate, companies in many industries with growth rates in the range of 10 to 25% revenue growth p.a. have both, higher total shareholder value generation as well as profitability than their slower growing peers.
Base Strategies and Growth Moves
These findings do suggest two base strategies for companies:
- For companies (e.g. in established markets like central Europe and USA) with low single digit growth rates: Consider acceleration of growth given the fact that TSR and profitability are higher in the sweet-spot
- For companies (e.g. in fast growing regional markets like China with India and/ or rapidly growing industry segments) with growth rates beyond 25%: Consider best ways to “digest”/ and to stabilize rapid growth and ensure a “soft landing” should market growth come to a sudden stop
How To Achieve Long-Term Growth in the Sweet-Spot and Beyond
The authors have identified a set of preconditions and levers to achieve long-term growth in their defined sweet-spot and beyond:
Preconditions
- Generating a common understanding regarding growth and profit ambitions among the management team as a prerequisite for aligned and coordinated strategy development and implementation
- Understanding relevant markets (current or future promising markets). Generating market foresight when identifying and assessing growth initiatives, e.g. megatrends and scenario analyses, segment specific benchmarking and in depth assessments, market demand projections
Levers and strategy
- Applying formulas for rapid growth, e.g. maxing out the number of relevant customers, maxing out the share of wallet and lifecycle potentials, continuous innovation, killer offerings, network based growth, M&A/buy-and-build driven growth, franchising proven business concepts, pyramid-like network expansion and managing value networks
- Defining the growth strategy as a portfolio of best suited growth initiatives considering a multidimensional set of criteria, e.g. ease of implementation, growth and profit impact, expected risk vs. return, cash flow stability
- Making growth happen: Strategy and corresponding culture must be addressed in a consistent way, e.g. creating the case for growth, clearly defining and communicating vision and strategy as well as actively developing and energizing the organization.
Criticism
As described the sustainable growth rate (SGR) concept by Robert C. Higgins is based on several assumptions such as constant profit margin, constant debt to equity ratio or constant asset to sales ratio. Therefore, general applicability of SGR concept in cases where these parameters are not stable is limited.
The Optimal Growth concept by Martin Handschuh, Hannes Lösch, Björn Heyden et al. has no restrictions to certain strategies or business model and is therefore more flexible in its applicability. However, as a broad framework, it only provides an orientation for case/company specific mid- to long-term growth target setting. Additional company and market specific considerations, e.g. market growth, growth culture, appetite for change, are required to come up with the optimal growth rate of a specific company.
Additionally, considering the increasing criticism of excessive growth and shareholder value orientation by philosophers, economists and also managers, e.g. Stéphane Hessel, Kenneth Boulding, Jack Welch (nowadays), one might expect that investors` investment criteria might also change in the future. This may lead to changes in the relationship of revenue growth rates and total shareholder value creation. Regular reviews of the optimal growth assessments may be used as an indicator for the development of stock markets` appetite for rapid growth.
Courtesy of an article dated December 13, 2012 appearing in SmartBlog on Leadership and an artile by 1000Ventures.com and Sustainable Growth Rate by Wikipedia.com
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