Speculatively, Sticking my Neck Out

The big Double Dip is here, and we are for it. It will huff and puff, and we can only hope that we remembered to build our house with bricks, to reprise a folk tale for children. These tales are cautionary and contain much wisdom. And in the sprit of using metaphors and tales, and learning as much from them as from history, let us see what the future must logically, in one form or another, bring to us.

 

The recession this time has come from the failure of big businesses, and the misery is compounded by the fact that for many countries the coffers are empty. Fiscal deficits are at their highest, inflation is climbing and printing more money (or borrowing from the future) does not seem to be a particularly satisfactory solution to anything. The root of the problem has been borrowing too much when fundamentally, values were a fraction of the notional amounts transacted on financial assets.

 

The more fundamental issues are the lack of incentives to growth and production. While demographics clearly say that the size of the middle class will grow in the emerging markets (estimates by the World Bank say that 95% of the middle class will be in emerging markets by 2030), there is no indication of what will cause demand, and more importantly production to grow in the traditional markets such as the US, Europe and Japan.

 

It has always been human ingenuity that has found a way out of our troubles and this time too, we will have to have to find clever customized solutions to escape the economic trap that we find ourselves in. The solution we seek lies in innovation, where we seek new processes or products to create value in jaded economies that need renewal. But this time, the innovation may not be big innovation, very few firms have the funds for that. We are unlikely to see investments splashed on the offchance that the new market or product will take off. The risk profile of such innovation is likely to be different. And this is what I call the ‘Spirit of Dunkirk’, where famously a flotilla of assorted small boats and ships found a way to cut across the channel and rescue the troops besieged there. This is the spirit that will need to be revived – in business- to be able to revive economies.

 

Innovation and Entrepreneurship are the twin tools that are going to be necessary to power the recovery. These will necessarily have to operate in tandem, possibly starting at a very small scale to be able to convert the nooks and crannies of opportunity into value. It would be foolish to assume that the spirit of Dunkirk was only about the smart little boats. This time too, the twin tools of enterprise and innovation will need support from either governments, or large enterprise and venture capital. The initial idea, the pilot testing and the proof of concept will, of necessity now need to be in segregated risk pockets. Once they have cleared the intial hurdles, the game changes to that of proven opportunity and valuation. This is where true scaleable value creation can be achieved. This, when aggregated will power the growth engine for the future. Failing this, there are few other means that can power growth in these economies.

 

The recession has, and again will be quite tough on enterprises that do not deliver clearly defined value to its consumer base. These will have to perforce learn to be lean mean entities in these years of want. At the end of the down-cycled, we can expect many of them to emerge fitter than when they went into it. This of course will necessarily mean that there will be many that do not survive the lean years, even if their intentions were noble and processes well designed. The market is a cruel mistress, and she favours only those that can reward her well. It is the enterprises that can find ways of wooing the markets and retaining the best people that will survive in the next few years.

 

Others, to carry on with the metaphor, may need to seek partners to be safer or more useful. Many larger enterprises will play safe to survive and will most likely buy innovative units with growth potential rather than invest in growing them in-house. Smaller and medium sized enterprises are likely to seek the shelter of mergers to be able to withstand the vicissitudes of the market – which if not done well may lead to a further shake out and failures.

 

If there was a business that I would bet on in the next few years, it would be mergers and acquisitions – both advisory and financial. Those who know how to wind up companies and allocate their assets to others will also certainly do well. This sounds morbid, but it is undeniable, that the medium enterprises that need rapid growth to stabilize will find little support from the markets, at least not at the pace that they may need in their businesses.

 

So where would that leave us at the end of the recession. Large companies, lean and mean in their core operations, possibly bloated due to scaled up acquisitions. A few tight and sturdy survivors in the mid-sized markets. Some poised for growth, others relieved to have survived the storm just seeking to remain in safe proven waters. And a host of small innovative enterprises (for this is what governments would have encouraged) poised for growth and ready to prove their worth to potential new investors.

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