CEO of Smartlink Communications. Global analyst, consultant and trainer, passionate about leadership, global communications and competition.
The coronavirus crisis has disrupted livelihoods and businesses alike, triggering one of the most notable governmental, fiscal and monetary expansions in history. Some businesses have fared relatively well, though only in the context of extraordinary government support, while others have crumbled. The time of reckoning is now, as governments return to fiscal orthodoxy and to the preoccupation with reducing debts and deficits. Most exposed are those in the emerging markets, where businesses need to brace themselves for the effects while enhancing their resilience capabilities. As some would say, these businesses are in the first line of defense and have a significant role in helping the economies in which they are embedded.
As someone who’s helped family-owned businesses in emerging markets expand regionally and globally and studied these types of businesses in detail for the past few years, I’ve noticed a few dangers that lie ahead for these types of businesses, and of course, there are ways that family-owned businesses can be prepared for facing these dangers. Family-owned businesses in emerging countries, often having less of an equity-based cushion, need to ensure their business will be resilient to a fairly predictable set of economic shocks ahead. These shocks are mostly simple, mostly measurable and mostly not a matter of Knightian uncertainty. But few bankruptcies ever happened due to black swans. Let’s study the dangers ahead one by one.
For better or worse, most businesses have been on life support for over a year in most markets. Even if a particular business may be resilient in itself, significant parts of its supply chain or its consumers may not, as the disruption has been massive and has spared few. The OECD estimates that the crisis caused by Covid-19 may be associated with about 9% of businesses becoming insolvent. As the saying goes, it’s yet unclear which ones will fail until the tide turns, but many supply chains will potentially face bankruptcy.
Making sure that bankruptcy doesn’t disrupt the network as a single point of failure is a task for the here and now. Businesses should constantly keep their supply chain in check, detecting any financial problems that may arise from any supplier or buyer partners. On the supplier side, diversification is key, making sure that the products needed for your production are being delivered from a few different suppliers that operate in other regions that might be affected differently by the current global situation. While some countries or regions might be more expensive to import from, it is good to also build supply chain relations with providers in countries with a stronger economy and that are less likely to be affected by bankruptcy. While dealing with buyers, a company should always make sure that a close relationship is being developed, not only to increase future trading between the two businesses but also in order to realize any potential financial troubles long before they appear.
Foreign Exchange Risk
One of the most common risks to which emerging markets are exposed in turbulent times is significant foreign exchange rate fluctuations. There are two main channels: trade and debt. Trade disruptions can be adjusted to in time, but debt might mean your business wouldn’t have that time. Past years of easy credit have enabled many companies to exchange debt for equity and adjust their weighted average cost of capital (WACC) downwards. In the interim, however, loans denominated in foreign currencies or swaps approximating them introduce significant currency risk. In times of market calm, this is easily overlooked, but now many organizations should allow a higher margin of error in their estimates.
The past 50 years of relatively low, predictable inflation have been mostly taken for granted by many Western business leaders. Those in emerging markets shouldn’t be so phlegmatic. Fiscal and monetary stimuli have created a reservoir of potential demand-pull inflation as businesses reopen within constraints that fail to meet demand. Meanwhile, worsening trade relations create the potential for supply-push inflation to which those in emerging markets are most exposed to. As investors and businesses adjust their expectations rapidly upwards while consumers’ expectations are stickier, there will be a significant window during which volume-dependent and low-margin businesses will be caught between a rock and a hard place. Cash reserves, which are otherwise a bad investment in such an environment, might suddenly make themselves very useful.
With this simple checklist ticked and proper planning, your average- to large-sized business should not face many difficulties. However, this is only a very low bar to pass, as other, more specific risks could emerge on the horizon. To live to fight another day, businesses should first have proper answers to these structural constraints. Navigating uncertain times requires certain levels of knowledge around how businesses should adapt. Proper data about your business and the environment you operate in will help build the resilience your company needs to face and embrace future waves of transformation.