Multinationals must build contingency plans for Russia

European foreign minister
European foreign ministers gathered in Brussels on Tuesday. Associated Press

The EU has decided to impose more sanctions on Russia. For now, these fall short of the so-called Level 3 sanctions that could be against whole sectors of Russia’s economy and crucially, its banking sector. However, the international fallout from the downing of flight MH17 and the growing tensions between Russia and the West mean that Level 3 sanctions are increasingly a possibility.

For an MNC executive, this means that it’s time to plan. Level 3 sanctions would dampen Russian growth further, reducing demand across industries; they would cause significant problems for customers and distributors to access finance, affecting operations; and are likely to be met with Russian retaliation that could make it more difficult for MNCs (especially American ones) to do business in Russia. All of this will have an impact on a company’s customers, finance, supply chain, people, and marketing strategy and MNCs should be building step-by-step play books on how to respond to spillover across their Russia operations.

martinachart2This is not to say that MNCs should be pulling out of Russia. In fact, planning is so important because of the significant role that Russia plays in many MNCs’ EMEA and even global portfolios. Companies that have stuck with Russia through crises have historically reaped significant benefits and this could be an opportunity for MNCs to strengthen partner and customer relationships and to make low-cost investments.

Meanwhile, larger strategic questions are looming in the background for EMEA and global leadership teams. With the likely opening of Iran for business, a Russia that is increasingly closing in on itself could lose out in the competition for corporate investments.

For a full report on Russia contingency planning, FSG clients can click here. A full report on preparing for a post-sanctions Iran is also available.

Protecting Profits and Managing Prices in Latin America

Companies are increasingly looking to adapt their pricing strategies and tactics to deal with macroeconomic volatility and shifting corporate mandates in Latin America.

As Latin America’s operating environment has become more volatile and bottom lines begin to receive more scrutiny from the corporate center, regional executives are focusing on how they can shift their pricing strategies to maximize profitability mandates while protecting volumes. FSG’s recent study Protecting Profits and Managing Costs: Pricing Strategies and Tactics for Latin America (clients only) focuses on the best approaches to manage pricing and maximize earnings in Latin America’s evolving operating environment.

LATAM Pricing ManagementIn this study, FSG concludes that multinationals’ approaches to pricing strategy are often dictated by organizational constraints, in particular  the degree to which regional teams have the capabilities to adjust prices in response to macroeconomic shocks. This depends in large part on how centralized both risk management and pricing strategies are within a given company.

Companies seeking to maximize the focus of local teams on executing a pre-determined market strategy often find that a centralized approach to pricing and risk management is optimal. By leaving the management of transaction and operational exposure to the corporate treasury, companies can help to ensure that local teams are not distracted by short-term fluctuations in the market environment.

However, a centralized approach to pricing and risk management often means that companies lose the ability to adapt pricing to local market conditions. This makes it more likely that an organization will leave money on the table or lose market share when adjusting prices.

To succeed, companies should ultimately seek to deploy a mix of hedging and operational strategies, coordinated across centralized and decentralized functions within the company. FSG’s study provides a set of best practices and case studies for companies to learn from and consider as they determine the optimal approach to pricing for their business in the region.

For FSG clients interested in learning more about these best practices, the full report is available here. Not a client? Contact us.

Preparing Your Business for Post-Sanctions Iran [Infographic]

Iran_Infographic_PostSanctions

International negotiations involving Iran’s nuclear program were extended until November 24, which is good news for Western multinationals. Senior executives should use this extra time to lay out plans for entering or expanding in the Iranian market. Today, FSG released a report for our clients that outlines actions to take in order to prepare for major challenges and capitalize on huge opportunities in post-sanctions Iran.

Many companies are preparing to enter or expand in post-sanctions Iran, and 40% of FSG clients surveyed already view it as a priority market. A comprehensive nuclear deal and the subsequent opening of the Iranian market would represent the biggest shake-up to the MENA portfolio since the Arab Spring erupted between late 2010 and early 2011. Iran’s population is the second largest in MENA, and its oil and gas reserves are the 4th and 2nd largest in the world, respectively.

Before committing significant resources to overcome operational challenges in Iran, senior executives must first determine whether their organizations are even willing to take the risk by reassessing market potentialsanctions exposure, and indirect vulnerabilities, such as reputational risk. Iran’s opportunities will not outweigh the risks for every company. However, pharmaceuticals, medical devices, and consumer goods companies are especially likely to prioritize post-sanctions Iran given its attractive demographics and future spending power.

For companies focused on entering or expanding in post-sanctions Iran, it is imperative to prepare for the top three challenges identified by FSG clients in a recent poll: a lack of access to bank services, compliance risk, and difficulties in becoming a first mover ahead of competition. FSG clients can read our report on post-sanctions Iran to learn about actions for overcoming these challenges and many others.


FSG Poll Results

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Emerging Market View: What Our Analysts Are Reading

EM View

India’s newly elected Bharatiya Janata Party (BJP) government announced its first budget last week, and according to the Wall Street Journal, it proved a letdown for those expecting big-bang reform, MNCs included.

“While it is a well-balanced fiscal plan with focus on reviving consumption and investments, markets have not been overly pleased and experts find certain growth targets to be quite unrealistic. The absence of specifics on several big-ticket items and lack of an overarching vision should rightfully disappoint companies,” says Shishir Sinha, FSG’s Senior Analyst for Asia Pacific.

(Readers can view FSG’s original expectations for India’s BJP government here.)

Last week, Portugal’s Banco Espirito Santo SA bonds hit record lows after parent company Espirito Santo International reportedly missed a debt payment, rekindling market fears and reminding investors that the eurozone’s woes are far from over.

“Executives should be wary of headlines for recovery in WEUR, and prepared for the heavy downside that could accompany bank failure. Banco Espirito Santo, a Portuguese bank, delayed payments on some securities, reminding us that just because banks have not been in the news does not imply that they are healthy. FSG’s WEUR Regional Outlook outlines how banks could impact MNCs throughout the region,” says Lauren Goodwin, Senior analyst for Western Europe.

In Latin America, Argentine presidential hopefuls are dealing with the issue of debt negotiations and exploring opportunities for business-friendly reform, according to Reuters.

“As Argentina strives to negotiate with holdouts to avoid default, executives should consider the potential for improvement as elections approach in 2015. The current frontrunners favor negotiating with holdouts and would likely be more pragmatic and business-friendly than President Fernandez,” says Christine Herlihy, FSG’s Senior Analyst for Latin America.

In global news, Forbes recently released an article on local companies competing with foreign investors in emerging markets, citing a new study by Boston Consulting Group and echoing past FSG reports.

“Echoing the same message in FSG’s report Winning the Race For The Market Diamond, local competition gaining market share in emerging markets is an increasing concern for multinationals, particularly for MNCs that focus on the burgeoning emerging market middle class. Read the report to understand the strategies other companies have used to battle the evolution of growing domestic companies,” says Sam Osborn, Associate Practice Leader for FSG’s global analytics.

What the Latest Sanctions Against Russia Mean for MNCs

The latest rounds of EU and US sanctions against Russia fall short of imposing restrictions on entire industries, but they do have a number of hidden spillover effects for Western multinationals operating in the market. Beyond the obvious impact on MNCs selling to the energy and defense companies directly targeted by sanctions, a broader set of MNCs operating in Russia should be concerned about the banks that have been included in the sanctions list.

Impact on MNCs:

MNCs selling business goods and services are most likely to be indirectly affected by the sanctions, because some of their customers may face a higher cost of credit. Beyond businesses that directly work with the sanctioned banks, Russia’s financial market as a whole is likely to see more expensive credit as more international banks try to restrict new lending out of cautiousness. In the long term, higher lending costs contribute to the contraction in domestic investment, which will prolong Russia’s economic stagnation and reduce demand across all industries.

Actions for executives:

Executives whose business may be affected should speak with their local teams and identify key customers who may work with the sanctioned banks. Such customers may face the risk of rising borrowing costs, particularly if their credit lines need to be rolled over in the near future.

Three consequences of the new round of sanctions:

  1. They could reduce demand from small and medium enterprises.

Both the European Bank for Reconstruction and Development (which the EU will ask to halt new lending in Russia) and VEB, a bank sanctioned by the US, lend extensively to small and medium businesses. A cut in their lending will result in reduced investment and demand for B2B goods and services at a time when investment activity is already deeply depressed.

Chart: VEB will be prohibited from borrowing at maturities longer than 90 days on US capital markets

  1. Multiple industries could be see more expensive credit.

VEB and Gazprombank, the two banks the US sanctioned, lend extensively to the corporate sector, including industries such as oil and gas, metallurgy, machine-building, chemicals, and others. 40% of VEB’s lending in 2013 was for infrastructure. Interest rates for corporate customers of both banks are likely to increase, hitting multiple industries at once.

  1. Lending in Belarus could also be hurt.

Subsidiaries of VEB and Gazprombank hold almost 10% of the Belarussian banking market and are largely dependent on parent-bank financing. Their lending activity and cost of credit is likely to be negatively affected by the US sanctions, affecting some MNCs’ corporate customers in Belarus.

Understanding how the new US sanctions work:

The banks sanctioned by the US – VEB and Gazprombank – are among the largest in Russia. They lend primarily to corporate customers across multiple industries and much of their portfolios consist of long-term loans. To finance these loans, they need to borrow at long maturities on international financial markets, which is exactly the kind of borrowing that US sanctions have restricted. Their alternative sources of long-term capital are notably more expensive and would require them to increase lending interest rates, hurting the businesses to which they lend. Because of the size of these banks, increases of their interest rates are likely to have a spillover effect across the Russian banking sector as a whole.

View the video below to see FSG’s Martina Bozadzhieva discuss investing in Ukraine and Russia on CNBC yesterday.

Trouble in Portugal reminds us that the eurozone’s woes are far from over

Executives should be wary of headlines for recovery in Western Europe, and prepared for the heavy downside that Europe’s fragile political and economic order could experience. Although news media highlight positive aggregate growth (the eurozone is forecast to grow 1.2% YOY in 2014), Western Europe remains plagued with high public debt loads and thus highly susceptible to volatility in financial markets.

In our latest Western Europe outlook, we warn senior executives about the impact that unrest at banks or in politics could have across European markets and MNCs’ performance in the region. Specifically, any uptick in political risk could manifest itself in higher borrowing costs for the government in question and across southern Europe. The increase in borrowing costs could also make business in those markets more expensive and would destabilize local governments as their cost of high debt loads rises, reducing confidence and the production and jobs growth that would spur Europe to recovery.

Photo: Banco Espirito SantoImage: Bloomberg News

In the most acute case of the European sovereign debt crisis in recent months, Banco Espirito Santo International SA, a Portuguese bank, delayed payments on some securities, following a warning in May that its parent company faced a “serious financial situation” that “could be damaging”. While southern European government bond yields have remained fairly stable, their decline, sustained since summer 2012, is unlikely to continue. European stocks saw a broad decline, notably 1.90% for Italy’s FTSE MIB and 1.98% for Spain’s IBEX 35. Portugal’s PSI 20 took the worst hit, sinking 4.18% on the news. The biggest question now is whether the delays will result in government involvement, which could spark a much more serious financial market reaction and increase borrowing costs across Europe.

That European banks have not been in the news does not imply that they are healthy, or even improving. As they undergo stress tests, European banks are pulling capital onto their balance sheets, leaving less resources available to lend to businesses. Bank lending to non-financial corporations has declined an average of 2.9% YOY in the first five months of the year. In fact, credit contractions in 2013 and 2014 are the worst since the crisis began. What’s more, Moody’s downgraded 82 European banks in May in response to a new EU law that makes banks mutually responsible for risks in the event of another crisis. The majority of these banks were not southern European, but rather from creditor nations such as Germany (12), France (10), and Austria (8), highlighting the breadth at which Europe’s banking crisis has sustained its reach.

In response to this broad European macroeconomic trend, companies can monitor a few important indicators of change:

  • Loan growth: credit growth would imply positive trends in supply and demand for the funds that fuel consumption and production growth
  • Unemployment: gauge which economies are most at risk for austerity fatigue and thus political unrest
  • Bond yields: an increases could indicate market perceptions of increased political risk
  • Results of bank stress tests in Q4 2014: while disruptive, any major bank failures will help companies to identify which countries’ recoveries are likely to lag behind

FSG clients can find out what this means for their business and how to respond in our latest Western Europe regional outlook, and in our Western Europe team’s recent blog posts and podcasts.

Iraq Crisis: Reacting Rashly to Instability Could Hurt Your MENA Business

Photo: Iraq Crisis: A Kurdish soldier with the Peshmerga keeps guard near the frontline with Sunni militants on the outskirts of Kirkuk, an oil-rich Iraqi city on June 25, 2014.  Spencer Platt, Getty Images

Right now all eyes are on the conflict in Iraq. However, political instability is the regional norm, as seasoned senior executives can attest. Companies must avoid making rash decisions in response to regional volatility. Otherwise, there is a danger of cannibalizing long-term prospects for MENA growth.

Senior executives must be proactive in controlling the conversation with their corporate office to counteract the steady stream of negative media attention that is focused on the region. Despite the terrible human toll from the Iraq crisis, and increasing links to the devastating Syrian civil war, only 11% of MENA GDP is derived from markets that are highly exposed to spillover from the conflicts.

Senior executives should assess how deteriorating stability in Iraq impacts their MENA strategy, but a measured response is required. FSG suggests considering three actions for your regional business:

1. Course-correct your MENA strategy, but do not waste resources on a complete overhaul.

Risk-tolerant companies can gain long-term market share as others freeze investments or pull out of Iraq and surrounding countries. At the same time, MNCs can focus on a profitability-driven strategy in stable countries such as Saudi Arabia and the UAE. Our clients can use FSG’s market prioritization tool to aid in reassessing where to concentrate regional resources. They can also track signposts in our Iraq report and updates from FSG’s MENA Monthly Market Monitorto help decide when changes are appropriate.

2. Leverage local partners to maintain a foothold in affected areas in the MENA region.

Risk-averse companies can maintain a foothold in unstable markets by relying on local partners to reduce financial and security risks. It will be important to work with partners to monitor changing regional perceptions of Western brands if there is a sustained Iraq conflict in which foreign intervention is possible. Clients can review FSG’s Managing Distributors in MENA for additional strategies.

3. Count on de facto or de jure Kurdish independence, which brings opportunities and risks.

Kurdistan’s capture of oil-rich Kirkuk puts it on an accelerated path toward de facto or de jure independence. Kurdistan could become even more of an investment destination as a result. But manage expectations, as there are new challenges, including potential fuel shortages as a result of disruptions to the Baiji oil refinery and Erbil’s exposure to a rise in terrorist attacks. Clients can read our Iraq Frontier Market Access report for more on Kurdistan and use our monthly MENA report to track developments.

(Image courtesy Getty Images, Scott Platt: A Kurdish soldier with the Peshmerga keeps guard near the frontline with Sunni militants on the outskirts of Kirkuk, an oil-rich Iraqi city on June 25, 2014.)

Emerging Market View: What Our Analysts Are Reading

Emerging Market View What our analysts are reading

Much like the US soccer team advancing in the World Cup despite a loss to Germany in yesterday’s game, Brazil’s economic outlook (regardless of the economic angst in recent years) seems to be catching a break as well – and it’s about time.

“Brazil still offers a significant amount of untapped opportunities in most sectors, especially in relatively faster-growing regions in the North and Northeast. Successful multinationals stress the need to focus on the long-term,” according to Pablo Gonzalez, Senior Analyst for Brazil after reading an article published by the FT.

FSG’s clients are encouraged to read further on how to make the case for Brazil, our latest report which identifies the opportunities and long-term factors that continue to make Brazil a good bet for multinationals. Also in the news lately is the rising cost of energy, a topic of recent concern given the unrest in the Middle East.  The Wall Street Journal reports that higher oil prices are casting a shadow over emerging markets.

“Higher energy prices disproportionately affect emerging market consumers and economies. The increase in oil prices as a result of the rising political risk premium from the conflict in Iraq could spell trouble for emerging markets that are large importers of oil or already experiencing decelerating growth,” says Sam Osborn, Associate Practice Leader for FSG’s global analytics.

An example of impact follows Turkey’s recent decision to cut interest rates again.

“The interest rate cut will be helpful to local businesses but will fuel inflation. Rising energy prices because of the situation in Iraq are already affecting transportation costs, and the central bank will struggle to contain them with lower interest rates. As a result, MNCs can expect consumers to be squeezed for at least several more months,” says Martina Bozadzhieva, Head of EMEA Research at FSG.

However, Iraq is not the only concern:

 FSG clients should review more analyses of rising energy prices here.​

Expectations for India’s BJP Government

Infographic India's BJP Government Expectations for Next 5 Years

India has just experienced a landmark general election; the incumbent Congress is going home with its worst ever defeat since the party’s formation post India’s independence in 1947, while the Bharatiya Janata Party (BJP) government holds the strongest majority held by any single party in India since 1984. With such a strong hold on power, the country expects the BJP government to be the first in decades to pass bold reforms that can revive India from its sleepy, sub-par growth and bring it to its true double-digit potential. In this infographic, we lay out FSG’s expectations of the BJP government that MNCs can expect in the short, medium, and long run. These expectations are based on the BJP’s manifesto, market expectations, actions of the previous BJP government, and a statement released by the President of India on June 9.

Frontier Strategy Group clients can read the full analysis on the client portal

Frontier Strategy Group Ranks in Top 50 Places to Work in DC

Washington Post Top Work Places 2014This week, Frontier Strategy Group (FSG) was named one of the top 50 places to work in Washington, D.C. by the Washington Post, joining the ranks of the district’s most innovative and disruptive businesses who have cracked the code when it comes to company culture. The inaugural report, constructed by polling thousands of employees in the greater Washington area to evaluate the quality of leadership, pay and benefits, work-life balance and many other issues important to creating a workplace’s environment, highlights the unique factors that make FSG a great place to work.

According to FSG’s employees, there is one area in particular in which FSG stands out above all.

“Company culture,” says Mariel Maier, Global Human Capital Manager at FSG. “FSG strives to foster a fun, yet productive work environment to build a strong organizational culture. We use company events and activities throughout the year to bolster strong relationships between our employees on a global scale. In addition, one of FSG’s key cultural objectives is to ensure a mutual respect and openness between all employees. To support this initiative, we utilize an open floor plan where executives, managers, employees and interns all share a common workspace to promote a heavily-integrated, open communication across all employee levels and departments.”

FSG’s innovative approach is increasingly important in a time when the average American spends about 1700 hours per year at work. The weekly amount of time spent in an office only increases in large metropolitan areas like Washington, D.C., and there is a rising trend in employee attrition as professionals seek other opportunities more frequently.

FSG Company Offsite in MexicoFSG Annual Retreat | Playa Del Carmen, Mexico 2014
 

Studies have shown that it takes more than a large pay check to keep employees in seat, and that company culture, work-life balance, and other perks help retain top talent.  Employers have a clear incentive to retain talent and in an effort to do so companies are allocating more resources and spending more time to create stronger employee retention programs – Frontier Strategy Group included.

“I love working at Frontier Strategy Group. FSG allows me to take ownership over my work but also provides a great sense of community and camaraderie,” says Lauren Goodwin, a Senior Analyst on the FSG’s research team. “FSG strikes the perfect balance of professional rigor and personal enjoyment for me.”

If you would like to work at FSG or require additional information, visit our careers page.  Frontier Strategy Group is an Equal Opportunity Employer.