Excerpt: Winning in Turbulence

This book is designed to provide you with the practical tools both to survive the storm and to improve your competitive position. Based on our experience working with hundreds of companies around the world, it reflects much of what we have learned from them over the years and in recent months. We hope that you will find it immediately useful, and that it helps your company not only manage effectively in turbulence but also accelerate as the economy improves.

Survival, of course, is primary and must be every company's top priority. But downturns present strategic opportunities as well as risks, with more companies recording dramatic changes than in normal times. Nearly twice as many companies moved from the top to the bottom of the pack in the 2001 recession compared with the subsequent period of economic growth, but more companies also improved their relative performance, according to a five-year study by Bain & Company that analyzed the net profit margins, sales growth, and shareholder returns of more than seven hundred and fifty companies.

Although the data is not yet in on the recession that began in 2007, the fact that it has been longer, steeper, and deeper than any recession in decades suggests that the gains and losses will be even more dramatic. That's likely to mean even more turnover in the ranks of industry leaders as some companies move up and others fall back or disappear altogether.

The chapters in this book will help you end up on the right side of that ledger. They will help you clarify strategy and shift
resources to core business activities. They will show how you can build flexibility in the short term by tightening cost management and improving cash flow. And they will describe practical methods of boosting revenues and margins to keep the business moving forward. Before deciding on the right tools, though, you need to know exactly where you stand.

Weathering Turbulence: Three Critical Dimensions

A tropical storm viewed from a weather satellite looks more or less uniform, as if it were affecting every area it touches with equal force. On the ground, the picture is different. One home loses its roof while others on the street come through intact. One community is devastated while its neighbor a mile away escapes unscathed. So it is with business storms: even a sharp downturn affects everyone differently. Each company has particular strengths and vulnerabilities. Each will have different answers to three critical questions: How is the slowdown affecting the industry I compete in? What is my company's strategic position within that industry? What level of financial resources can my company draw on to weather the storm?

Your most powerful moves in a downturn depend on where you stand on these three dimensions. Let's look more closely at the three dimensions and at the opportunities each situation presents.

Industry Impact
Recessions hit some industries harder than others, so staying alert matters. The variations get amplified in a globalizing, interdependent economy. That adds both opportunity and complexity. The opportunity for executives is to shift a company's focus to economically healthier regions. The complexity arises from having to make long-term investments in global operations with less certainty than ever about where you will be exposed when the next downturn hits.

When recessions do hit, recovery times vary dramatically. Following the 2001 recession, the S&P 500 stock index for construction staples bounced back to positive growth in only three months, while the computer index took nine months and the telecom index almost three years to return to positive growth. Another indicator of differential impact is the gap between an industry's ten-year average growth rate and its growth during a recession year. For computers and electronics, the disparity in the 2001 recession was 25 percentage points. For broadcasting and telecommunication, the difference was only 1 point.

The current recession, too, has affected industries differently, both in the United States and around the world. Financial services firms started struggling in late 2007, especially in the United States and Europe, and entered an acute slowdown with the collapse of Lehman Brothers in September in 2008.

Home construction in some countries has come to a near standstill. Retailing activity in the United States and elsewhere declined dramatically in the fourth quarter of 2008. Most healthcare-related industries, by contrast, have continued to grow, albeit at a slower pace. One indicator of the difference: between February 2008 and February 2009 the S&P pharmaceutical index declined by 28 percent and telecommunications fell approximately 30 percent, while financials dropped by 71 percent during the same period.

Strategic Position
Within a given industry, not every company suffers equally. A company's prospects depend heavily on its strategic position. Consider, for instance, the difference between industry leaders and followers. The returns of market leaders on average are both larger and more stable than those of followers.

Many studies have borne out this relationship. Fortune magazine, for example, regularly compares the ten-year return of leaders in several markets with the returns of a close follower. The magazine's 2007 chart showed leaders generating total shareholder return of 267 percent over a decade, the followers only 68 percent.

Leaders are better positioned to deal with the effects of a downturn. Say that prices decline an average of five percent. Followers are likely to see profits turn to losses and may be forced into draconian cost-reduction programs. Leaders may record somewhat lower returns, but their profitability will usually remain above the cost of capital. They will have more flexibility to maintain or even increase spending on R&D, advertising, capacity expansion, or acquisitions.

Financial Strength
Financial resources provide the fuel for navigating through a downturn. If the fuel tank is low, the trip will be a short one. If it's full, you have options that aren't available to others. "There are enormous opportunities in recessions," Virgin Group founder Sir Richard Branson commented in Fortune. "It's a good time to get brand-new planes at reasonable prices."

So you need accurate assessments of the resources available to you. What is your company's financial leverage? How much debt does it carry? What are its cash reserves? How do these numbers compare with those of your competitors? An important step for any company in a downturn is to run a series of short-term and long-term downside scenarios to determine the resources required for survival. Will you be able to refinance your debt? At what cost? Only by assessing all the potential risks can you gauge the "surplus" resources you have available for investment.

Guidelines for an Action Plan

These three dimensions—the downturn's impact on your industry, your company's strategic position, and its financial strength—can provide guidelines for an action plan calibrated to the specifics of your situation. It helps to think of a cube representing all three dimensions. By locating your company on the cube, you can focus on which actions are likely to be most effective for your situation.

Say you're in a business that is less affected even by a severe downturn. Your strategic position is weak but your financial position is strong, so you're in the lower right-hand quadrant of this grid, which we call "Overtake the timid." In that situation, investing in your core business is a top priority. You may want to acquire companies that can help build that core business and strengthen your strategic position. That's how LabCorp became the number-two provider of diagnostic medical testing in the United States.

Taking advantage of the last downturn, it acquired three competitors in 2001 and 2002. LabCorp combined these acquisitions with its lower cost structure to underprice smaller competitors and gain additional market share.

Now flip the cube around, and imagine that you're in an industry that has felt the effects of the downturn more acutely. If your financial and strategic positions are both strong—that is, if you're in the upper right-hand quadrant, which we call "Extend the lead"—you have some options to take advantage of competitors' weaknesses. In the last downturn, Intel Corporation effectively pulled away from Advanced Micro Devices Inc. (AMD), its scrappy rival in the chip business. Heading into the 2001 recession, AMD's earlier investment in product design was paying off and its revenues were growing three times faster than Intel's.

Then the recession hit, catching the entire industry with too much capacity. As AMD's lack of profitability prevented it from investing in new production facilities, Intel seized the advantage. It invested in new facilities with state of-the-art production capability and spent heavily to advertise its P4 processors. In the ensuing years, Intel's relative cost position improved dramatically, and AMD had to slash 15 percent of its workforce. The momentum AMD had built quickly evaporated, and a reenergized Intel remained the industry leader.

Tesco, the leading retailer in the United Kingdom, was in the same position as Intel when the 2001 recession hit: strategically and financially strong. The company had missed some opportunities during the downturn of the early 1990s, but this time it was prepared. It quickly moved its advertising focus from its "Finest" line of products to "Value" products. Then it began to invest. It expanded its sales area by 10 percent annually from 2000 to 2002, triple the expansion rate of a leading competitor. It deepened its talent pool. Thanks to strategic acquisitions, it was able to roll out a new express-store format quickly. These moves enabled Tesco to avoid massive cost-reduction plans and helped it double its market-share lead over its closest rival.

Korea First Bank was in a different position—the lower right-hand corner of the cube, "Pass with caution," where companies that are strategically weak but relatively strong financially need to move with care. Driven into bankruptcy by the Asian financial crisis of the 1990s, Korea First was acquired by a foreign investment firm. Having lost its status as Korea's top corporate bank, its strategic position was weak.

But thanks to the acquirer's deep pockets, its financial position was strong. Korea First used its resources to transform itself from a corporate bank into a retail bank. It shifted its branch structure to serve retail clients, built customer-service and back-office support capabilities, and remade its sales force to focus on customer service. By reducing complexity and investing selectively to focus on customers, Korea First cut loan approval time by 75 percent and reignited the bank's growth as the economy improved.

Testing Your Firm's Readiness

To perform effectively in a downturn, you need an action plan grounded in your company's specific situation and the right management tools to carry it out. You also need a strong set of core values that consistently guides the necessary trade-offs. To test your firm's readiness, try asking your management team the
four questions below:

What are our objectives, priorities, and values? A turbulent environment forces leaders to know what they value most and act accordingly. Is revenue growth more important than cost reduction? Is market share more valuable than profit margins? How important is the continuing loyalty of employees and customers—as compared, for example, with hitting quarterly earnings targets? What are the most important decisions we will make? Long before making a decision, the best companies discuss what will need to be decided. Research shows that executives under stress typically reach for the same levers they have pulled in the past. It's better to make sure you're reaching for the right levers before you start pulling anything at all.

What changing conditions could we encounter? Today's downturn is testing companies and their executive teams as they have rarely been tested before, and nobody has a crystal ball. As you plan, make a point of encouraging "company Cassandras"—people who will generate plausible worst-case scenarios. These scenarios will help you understand what will be required for survival.

What conditions would trigger a change in course? Every company needs a well-grounded understanding of when to begin implementing its contingency plans. Decide right now what environmental and marketplace changes you will monitor. Then determine what level of change in either direction would dictate a shift to "Plan B" (further measures to protect your strategic position and profitability) or "Plan A+" (moves to help you accelerate out of the downturn).

These questions are only a start. Most executives and leadership teams are grappling with these issues in one form or another. That sets them on a path to survive in turbulence and accelerate when the economy starts to improve.

Reprinted by permission of Harvard Business Press. Excerpted from Winning in Turbulence. Copyright