FSG recently hosted an event with regional managers in Miami centered on identifying which strategies will be most critical for success in Latin America. Other topics that were covered through presentation and moderated discussion included: How will the region perform in 2016? Which dynamics will shape new winners and losers in the medium-to-long term? And how will the market landscape shift over the next few years? Below are the key takeaways from this discussion.
Clients expect 2016 to be as bad or worse than 2015, with growing divergence between markets.
Latin America’s economic performance will continue to underwhelm in 2016. FSG is forecasting Latin America to grow by only 0.6 percent in 2016 (from -0.3 percent in 2015). The forecast calls for Brazil’s recession to hit bottom and for growth in Mexico to accelerate, the two countries together account for approximately 55 percent of the region’s GDP.
Excluding Brazil and Venezuela (the other main underperformer in the region) from the regional weighted GDP figure, growth would come out at 1.8 percent in 2015 and 2.1 percent in 2016. Both of these numbers are much higher but still low when compared to the 3.8 percent average GDP growth for the region (sans Brazil and Venezuela) between 2004 and 2013, suggesting that growth drivers have shifted substantially. Essentially, there are three factors that together explain this slowdown and that will continue to constrain growth in 2016: (i) subdued Chinese demand for Latin American exports; (ii) sustained low commodity prices; and (iii) rising interest rates across countries in the region.
The expectations of our clients for top-line performance in 2016 are fairly aligned with our economic outlook for the region, as 44 percent of our clients expect 2016 sales growth to be about the same and 33 percent believe it will be somewhat worse than in 2015. Only 22 percent of our clients expect top-line performance to be better in 2016.
Clients expecting to face a more challenging year mentioned deteriorating economic conditions in some markets such as Brazil, Ecuador and Venezuela, with some even mentioning Argentina. The latter will be led by the new president Mauricio Macri, who is expected to implement painful economic adjustments in 2016, though business conditions in the country should begin to improve significantly thereafter. Most clients pointed to accelerating growth in Mexico, Central America and the Caribbean, markets that are benefiting from economic expansion in the US via higher exports, growing tourism inflows as well as by a strong US dollar, which is increasing the purchasing power of remittances thus reviving consumption.
Although liberal FX regimes and greater fiscal flexibility have allowed Pacific Alliance markets to adapt to LATAM’s new normal with greater ease, Mexico, Colombia, Chile and Peru are expected to lose some of their policy flexibility as commodity prices and thus tax revenues remain subdued. In this regard, as the US Federal Reserve begins to increase interest rates the central banks in these markets will be forced to also increase rates in order to smooth the depreciation of their currencies and fight resulting higher inflation. However, FSG’s medium-to-long term outlook for the Pacific Alliance continues to be bright. This is because we believe that Pacific Alliance markets are better positioned to attract private investment, expand exports on the back of weaker currencies and generate productivity gains, the very three factors that will determine the new winners and losers of the region moving forward.
LATAM executives will face growing difficulties to tap into corporate resources.
Regional executives expect economic slowdown in Latin America and currency depreciation to undermine their ability to compete with other regions for corporate resources. Around 38 percent of FSG clients expect their company to decrease investments in Latin America relative to 2015 and 38.5 percent expect investment cuts to be reallocated to faster-growing markets, which include not only emerging markets in Southeast Asia or Africa but also the US, with the latter’s solid economic recovery.
When asked about the strategies they were pitching to corporate leadership when seeking new investment for Latin America, 40 percent of client attendees said that they were trying to make the case for new investments that will drive efficiency and productivity gains. Meanwhile 30 percent said they were asking for new investment for entering into adjacent industries and/or customer segments, 20 percent said they had requested funding for expanding into faster-growing geographies and 10 percent were looking to leverage depressed asset prices to make strategic acquisitions.
Multinationals expect to gain market share vis-à-vis local competitors through 2020.
Latin America’s market landscape will shift as the region continues to slow and FX volatility persists. When it comes to the competitive landscape, FSG expects industries to continue to consolidate in most sectors across the region as some companies struggle to survive because of falling margins, increased corporate leverage and rising borrowing costs. Additionally, falling valuations in both local currencies and US dollar terms will make M&A an attractive option for gaining market share via strategic acquisitions.
Nevertheless, multinationals should expect to face intense competition from both local players and other multinationals. Local companies have grown stronger vis-à-vis multinationals since 2001, when only 52 percent of the Top 500 companies in LATAM were “Latinas”; that percentage has now climbed to 68 percent. Because of currency depreciation, local companies with local production have gained a competitive edge. Additionally, since local companies face lower scrutiny from local authorities, many of them will choose not to fully comply with tax, labor and environmental laws, gaining a cost advantage against multinationals.
Multinationals are also more likely to face intense competition from other multinationals. This is especially true for some markets that are seeing increased foreign direct investment, namely Mexico, Colombia, and likely Argentina as well once it begins to lift trade and capital controls.
Notwithstanding rising competition, 75 percent of FSG clients expect to gain market share from local competitors through 2020. Easier access to international capital markets, geographic diversification and deeper pockets for strategic acquisitions place multinationals in a stronger competitive position vis-à-vis local players despite the advantages that these companies enjoy from an operational cost perspective.
Value-added services are becoming more important as a competitive edge.
Shifts in buying behavior and lower spending power will force most companies in the B2C, B2B, and B2G spaces to revisit their value propositions to maintain sales growth in Latin America.
50 percent of multinationals will focus on enhancing value-added services as a way to defend their sales volumes while also protecting their margins; in fact, none of the executives in the room saw pricing as the most important value-proposition lever, suggesting that companies acknowledge the unsustainability of price discounts and the need to protect profitability as sales slow. Making changes to positioning was voted as the second most important lever with 22 percent, followed by enhancing product offering with 17 percent of the votes.
The need to enhance value-added services was also highlighted at two different events that FSG hosted in Sao Paulo and Mexico City in September and October, respectively, reflecting high alignment between regional and country headquarters.
Companies’ preference for value-added services as a lever to strengthen their value proposition is not surprising. To begin, this strategy can allow companies to maintain prices while protecting margins, and second, because services are most always rendered in local currency the steep depreciation of many regional currencies has made this strategy especially attractive for multinationals that can tap into resources in US dollars. Although clients acknowledge a growing trend towards services across markets, they also expressed concerns about the sustainability of this new business model, especially given the fact that most companies are choosing to provide value-added services for free as they try to defend sales volumes in the region.
Finally, FSG presented five strategies that we believe multinationals should be deploying in Latin America at the present moment in order to maintain growth and protect profitability: (i) deepen portfolio allocation capabilities; (ii) support channel performance; (iii) cut costs but maintain investment; (iv) divest from non-priority businesses; and (v) implement operational hedging strategies. FSG clients can contact their Client Relationship Director for a full copy of the presentation. If you are not a client and are interested in more information, click here.