The shifts unfolding are unlike anything the industry has seen so far.

As the economy continues its slow, uneven recovery, many companies are turning to a growth agenda. Executives are increasingly confident and ready to deploy resources conserved during the downturn. Transactions are again seen as the growth engine of choice.

But are companies ready? Much has changed in the competitive environment and in local and global markets. These changes should affect the ways they think about raising, preserving, investing and optimizing capital.

Even the strongest, most adventurous organizations may need new models and processes as they move to capitalize on opportunities. And those with a more conservative or defensive attitude may have less flexibility and will have their own “readiness” issues in terms of conserving or defending capital as the economy expands.

In particular, many companies are not ready to deliver the transaction today’s uncertain markets may require. Where companies have retrenched, corporate development capabilities may have been eroded. And where such capability remains, skills in due diligence and transaction integration may be in need of updating to account for the new normal.

Confidence to act

Executives see the recovery gaining strength. Ernst & Young recently released its first quarter 2010 Capital Confidence Barometer, a survey of over 800 senior executives from 51 countries and 40-plus industries. Of the participants, 69% express more optimism about their companies’ prospects than they did in the first barometer survey six months earlier. Most believe that credit conditions are improving. And importantly, nearly half of all the companies in the survey now expect to make an acquisition before the end of 2010.

From a financial perspective, many companies are ready for growth.

They have conserved cash and strengthened balance sheets. Many used the downturn as a time to improve processes, tighten working capital, secure the supply chain, shave waste and downsize. This focus continues, notes the survey but some organizations have now shifted from simple, short-term cost-cutting or working capital improvements to long-term, sustainable improvements.

Positioning to consider

In our view, three types of companies have emerged from the downturn - ‘the Adventurous’: those looking to leverage competitive advantage through M&A, ‘the Conservative’: those focused on growing existing products and markets and ‘the Defensive’: those struggling to compete.

‘The Adventurous’. Acquisitions in emerging markets will be a focus for companies such as consumer businesses keen to take advantage of demographic and economic trends. While developed economies have been hard hit, GDP in emerging markets has stood up to the crash. Capital-focused businesses expect to find opportunities to consolidate in mature markets where competitors have been weakened by depressed valuations. For those prepared to act, being ready to take advantage of opportunities requires the right capability and skills to be in place.

‘The Conservative’. Many companies remain focused on capital preservation. They may find that a more liquid deal market enables them to sell non-core businesses or assets, providing capital to pay down debt or redeploy strategically. But not all companies are ready to divest often lacking the right systems in place or a clear view of likely buyers. Unprepared companies will miss out on opportunities to raise capital and revamp their portfolios.

‘The Defensive’. Efforts are still being made to reinforce balance sheets by disposing of non-core assets, trimming costs where possible and optimizing working capital through the supply chain. All this is with the aim of preserving cash and stability.

In general the focus of business on preserving capital, these last months, has served them well. But as growth agendas take hold, companies may have to revisit the degree of leanness appropriate for a time of recovery. Also, it is important that tight controls and cautious attitudes do not paralyze organizations, impeding their ability to grasp valuable opportunities.

Capability to deliver

Corporate development officers (CDOs) report that their roles, during the downturn, have expanded to include greater involvement in corporate strategy, portfolio management, divestments and integration. And many CDOs necessarily lent their teams to internal initiatives, from supply chain restructuring to technology licensing.

Additionally, many companies have scaled back corporate development groups. As with all operational cost-cutting, some consideration may now be needed to ensure that these teams are not too lean to deliver as M&A activity picks up.

Indeed, many corporate development functions are reporting “bandwidth” shortages in deal analysis, integration planning and valuation. That is troubling when the search for deal value increasingly calls for comprehensive due diligence and carefully planned integration.

The past two years taught a painful lesson: in many cases, business analyses failed to identify critical risks. Now executives pondering growth options question whether standard historical due diligence can provide sufficient insight into deal value. A business’ performance over the past two turbulent years may no longer adequately predict its future trajectory.

As a result, dealmakers are placing greater emphasis on commercial due diligence – incorporating broad market and competitive factors – combined with sophisticated forecasting models. Our Capital Confidence Barometer respondents say that in vetting targets today, they now look more closely at revenue growth rates, future market share and new customer markets than at historical data.

Despite this change in attitude , many companies remain unprepared to craft an effective integration or separation plan and to execute it efficiently. And integration metrics, progress indicators and performance measures are notoriously unfamiliar.
With resources reduced, some companies lack experienced or dedicated integration managers and leader. The risks around realizing synergies or raising capital are therefore increased without the right plans and resource.

Confidence is slowly but clearly returning to the markets. Many companies are therefore now turning their attention to growth, whether in an adventurous, conservative or defensive manner. But often the skills to deliver growth through transactions have been eroded. Executives must realize that in today’s unstable markets, increasingly sophisticated, more commercially astute due diligence is required. And carefully planning to integrate or divest businesses is essential to ensure that objectives are met. Whatever you’re positioning, to take advantage of the opportunities to come, you must get ready now.

Contact the authors of this article:

	Steve Krouskos Ernst & Young LLP (US) - Atlanta Transaction Advisory Services
	Sachin Date Ernst & Young LLP (UK) - London Transaction Advisory Services