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Economy and growth

Growing pains

The economy and growth: Tailwinds and turnarounds

These are the best of times, with U.S. CEOs expressing high confidence about economic conditions and growth prospects for the U.S. economy, as well as for their industries and companies. While true across all industries, several different forces, not all of them economic, are converging to create optimism across the board.

“The economy is now tied for the second-longest expansion cycle on record. For the first time since before the financial crisis, all developed economies are experiencing growth, which is an additional tailwind. Finally, the Fed has projected that it will continue raising rates at a gradual pace, meaning the low-interest rate environment is expected to continue,” says Constance Hunter, KPMG’s Chief Economist. 

“Most industries are more optimistic in 2018 versus 2017, with the most striking improvements coming from automotive (+23 percent), telecommunications (+21 percent), insurance (+14 percent), and asset management and life sciences (+11 percent). In all of these industries, technology is a significant driver of optimism and growth,” adds Hunter.

For the restaurant industry, which is highly dependent on discretionary income, consumer confidence approaching 20-year highs indicates the economy is in a fantastic place, according to Michael Osanloo, CEO of P.F. Chang’s: “I am bullish on the economy overall, but especially so for the restaurant industry.” P.F. Chang’s sees opportunity in secondary markets in the U.S., such as Lubbock, Texas, and Fort Wayne, Indiana, as well as internationally, including in China.

The pharmaceutical sector, on the other hand, follows its own cycles of innovation, driven more by science than by the economy itself. Tarek Sherif, CEO of Medidata, a provider of analytics software solutions for clinical trials, believes that we’re at the early stages of a huge wave of innovation in pharma and biotech, with trends such as personalized medicine, immunotherapies and biologic drugs.

growth prospects

And yet, despite the bullishness, the CEO projections for revenue and headcount growth are much more measured. Almost half (49 percent) of companies expect to have revenue increases of at least 2 percent, which is below long-term averages of 3.8 percent since 1990. Job growth projections are running ahead of revenue projections and historical annual job growth (+1.1 percent since 1990) and a slowing pace of labor force growth (+0.3 percent). Which signal is the more significant one? “It could be a sign that CEOs are somewhat cautious due to the late stage of the cycle, or it could be a sign that they are optimistic that momentum will accelerate, allowing faster hiring,” says Hunter.

Beyond ROI

How to reconcile this bullishness with moderate growth prospects? New digital business models and new customer demographics will disrupt and replace much of the current product or service portfolios. In the age of digital transformation, this transition from the old to the new happens on such a large scale that net growth—whether of revenue or headcount—is no longer an accurate measure of success. 

“Disruptive innovation has shifted expectations of ROI from linear progression to wildly varying, based on a technology’s potential, forcing companies to accept greater volatility in their growth projections,” said Carl Carande, Vice Chair, KPMG Advisory. “As new, transformative business models and service offerings emerge to keep pace with the demands of connected consumers, companies must be willing to fail fast and be more nimble with their investment decisions.” 

While ROI from technology investing has been sometimes elusive to pin down, U.S. CEOs are confident about returns from technology investing, with the exception of RPA (robotic process automation). They are also expecting returns from technology investing to materialize in three years or less. Unlike their global counterparts, who are often overwhelmed by the lead times to achieve significant progress on transformation (87 percent), just 16 percent of U.S. CEOs feel this way.

percentage of ceos

Jim Kavanaugh, CEO of World Wide Technology, advises taking a long-term view on technology investing: “You can no longer evaluate technology investments through only a traditional lens. When the goal is market disruption or to create a new business model or level of engagement, understand that the return is more complex and may materialize over time.”

percentage of ceos2

Measuring the returns on technology investments defies traditional definitions of ROI. At one extreme, that return may be, to put it bluntly, the company’s survival. “Sometimes the investments that you have to make in your business are to keep it alive and competitive, and not necessarily for traditional notions of timing or metrics for return on investment,” says Steven Hill, KPMG’s Global Head of Innovation. “Some disruptive investments will create opportunities to gain rapid, exponential returns on traditional metrics, while others will be necessary for infrastructural or business platforming needs and not tied to simple and clear returns. Leadership must explicitly and continually use a strategic portfolio of investments to build market success and perspective for individual investments.”

“There’s an ROI in keeping the business, even if top line declines,” says Cliff Justice, U.S. Leader, Intelligent Automation, KPMG. As an example, a hotel chain may offer flexible or longer-term room rentals to compete with Airbnb. The strategy may not be profitable in the short term, but it makes the company competitive with Airbnb.

Evaluating the benefits of digital transformation calls for a new value-measurement taxonomy that looks at both quantitative and qualitative measures. According to conversations with KPMG leaders and U.S. CEOs, several considerations stood out. 

General competitive advantage. P. Scott Ozanus, KPMG’s Deputy Chairman and COO, points out that “to stay competitive, companies need to at least match their competitors in the use of advanced technologies, applying them in all relevant functions to optimize often untapped areas for technology investments, such as supply chain.” 

Talent. As employees look to work for companies that enable them to evolve and upgrade their skills, organizations that introduce advanced technologies are better positioned to attract and retain top performers.

Employee engagement. Employee engagement has emerged as an important benefit of being technologically advanced. While it has been difficult to measure, new methodologies of putting value on employee engagement are beginning to emerge. For example, studies show that engaged employees lead to higher customer satisfaction.

Customer experience. Digital technologies introduce capabilities to offer seamless omni-channel shopping, personalized customer experience and faster delivery. While it can be hard to tie improved customer experience to financial outcomes, it does lead to higher customer acquisition and retention rates, and thus adds to the top line.

Says WWT’s Kavanaugh: “There’s going to be a need for a combination of a bit of art and science when investing in forward-looking, forward-thinking technology platforms and technology solutions.”

Types of growth strategies

U.S. CEOs favor inorganic growth strategies, and specifically mergers and acquisitions, more than CEOs globally. This points to a more aggressively pro-growth strategy, aiming to grow faster than the GDP, which has been hovering just under 3 percent in the United States.

types of growth

Daniel Tiemann, National Service Group Leader, Deal Advisory and Strategy, attributes this more aggressive stance to several factors. One is the high confidence in the economy and markets. Companies feel richer thanks to the tax reform, and CEOs appreciate the stability in the regulatory environment. “When government institutes new rules, businesspeople will always adapt, but it does take time,” says Tiemann.                         

A decade after the great recession, many companies have emerged with strong balance sheets, ready to make acquisitions. Flush with cash, PE firms have been consolidating companies. Seventy percent of PE deals so far this year have been so-called add-on deals, with PE firms building on their prior platform acquisitions, rolling up small and medium companies into bigger entities.

The speed of digital transformation has also created the need to buy technology capabilities across all industries, with FinTech firms being swallowed up by banks, for example. “Financial institutions are acquiring or partnering with AI startups—often for the technologists and data science teams those startups possess,” says Margaret Keane, CEO of Synchrony Financial. “We are focused on companies in areas of strategic importance, including enhancing customer experience, fraud detection and identity authentication.”

Still others fuel growth by working with strategic partners in different markets at home and abroad. Alex Matturri, CEO of S&P Dow Jones Indices, has found a successful formula by forming partnerships with stock exchanges around the world by marrying S&P DJI’s know-how with local sensibilities. 

Says Matturri: “Part of our global strategy is to help local markets grow inherently from within. Rather than coming in as an American company trying to do business, we’re sitting side-by-side with the local exchanges, our partners, and people appreciate that.”

Read about how CEOs are prepared to lead radical transformation.

 

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