Budgeting and Planning: Are CFOs Much Too Cautious?

You can’t find a more sensitive barometer of Asia’s business prospects than a company like Adecco, which provides personnel and human resources solutions to enterprises across the region. “We always feel the market first,” says Loong Foong Min, head of finance for Asia ex-Japan. This year, companies have trimmed staff numbers in response to the economic crisis and utilising temporary and contract labour where appropriate.

 
But things are improving. “We’re seeing more [recruitment] requests,” says Loong. “I think companies are more optimistic this quarter compared to last quarter. We are seeing light at the end of the tunnel, but it’s always good to be cautious.”  
 
Optimism and caution – these are the watchwords of Asia’s senior business executives going into the fourth quarter of 2009. The theme pops out clearly in the first CFO Innovation Asia Business Forecast Survey, the first in a series of quarterly surveys sponsored by SAP. Conducted from September 23 to October 9 this year, the study polled 160 CFOs, finance directors, controllers and other senior executives across Asia. (Click here to download a copy of the report; registration is required.)
 
There’s a bit of a contradiction here. The executive surveyed say their company will embark on aggressive moves in 2010, but it will not increase spending. While the majority, for example, intend to refocus on sales, marketing and distribution, and make a push into new consumer segments and markets in the next 12 months, they will also keep capital spending, R&D and marketing and advertising at current low levels, or even cut back on these expenditures. M&A will also remain at the bottom of their priority list.
 
Positive on the Economy
This, despite the general optimism about the growth prospects for the economy. Nearly everyone in Asia is positive about their local economy – except Hong Kong. Only 38% of executives who are based in Hong Kong say they are more optimistic about the economy today than they were in the previous quarter. A fifth say they are less optimistic, although 41% believe that the economy will not worsen. This compares with the 60-80% of respondents who are more optimistic or very optimistic in China, India, Malaysia and Singapore.
 
Why the long face in Hong Kong? Perhaps it’s because there are many export-oriented and trading companies in the city, whose traditional markets in the U.S. and Europe have yet to show signs of life. “I don’t think Hong Kong’s economy will contract [next year],” says MC Wong, Hong Kong-based CFO of California Fitness, a fitness centre chain with clubs in Hong Kong, China, Malaysia, Singapore and Taiwan. “But I don’t see hiring [improving by] a great magnitude, so unless employment is sorted out, it’s not a secure recovery, is it?”
 
In contrast, optimism in Singapore, a financial centre like Hong Kong, is sky-high. “The first integrated resorts are coming online, Singapore will host the first Youth Olympic Games in 2010, a lot of developments are going on and I think they’ll give the economy a boost,” says Lee Chee Han, Asia finance director for Invensys, a UK technology provider of software and equipment solutions for the energy, rail and appliances industries. “The recent announcements of acquisitions by the local banks, those are all very positive signs.”
 
Singapore has already hauled itself out of recession when the economy grew 15% quarter-on-quarter in the third quarter of 2009. The optimism may also be fuelled by a recent International Monetary Fund report that upgraded GDP forecasts for Asia in 2010. The IMF no longer sees Singapore contracting next year; instead it projects GDP growth of 4.1%. China will expand 9%, India 6.4% and Malaysia 2.5%. Despite the relative pessimism of the executives surveyed, Hong Kong’s economy will expand 3.5% next year after contracting 3.6% this year, says the IMF.
 

Negative on Spending

The general optimism about the economy is actually reflected in the changes in the business that respondents expect over the next 12 months. Six out of ten say their company’s sales will increase. The majority also anticipate improvement in earnings (56%) and rising volumes of new orders (54%).
 
However, pricing power is expected to remain weak, and this may explain, in part, the disconnect between optimism on sales and earnings and caution on spending. You would think that companies would be responding to the expected recovery by increasing investments in marketing and advertising, R&D and capital expenditures.  
 
Not so. The majority of the executives surveyed will continue to trim capital spending (34%) or at least keep it at current levels (33%). The same cautious approach is evident in spending on marketing and advertising and on R&D, as well as hiring.
 
However, even as the number of employees will remain the same (34%) or even decrease (33%), wages and salaries will go up (43%) or will be kept at current levels (47%). The thinking seems to be to keep numbers low but incentivise people with better pay in order to encourage more output per hour worked. Nearly half of the executives surveyed (47%) expect productivity to increase at their company.  
 
Financial Management
The same cautious approach is evident in responses to questions about how the CFO will conduct financial management in the next 12 months. Four out of ten respondents (42%) will increase the amount of cash on the balance sheet while 35% will keep it at current levels.
 
While 31% expect receivables at risk to rise, the majority expect the number of dodgy receivables to remain unchanged (52%) or even decrease (17%). This may be due to the companies’ efforts to weed out or mitigate exposure to risky counter-parties. It may also reflect their belief that economies are on the mend, which could ease the financial stress on at-risk businesses and consumers.
 
The survey respondents also expect days sales outstanding (DSO) to remain stable (55%), although 19% of respondents say their firm will be shortening DSO in the next 12 months. A fifth of the executives surveyed admit, however, that DSO at their company is likely to lengthen.
 
Surprisingly, given the expectations of higher sales, only 17% of the executives surveyed say that their company will increase inventory. Six out of ten indicate that stocks on hand will remain at current levels in the next 12 months, with just 22% saying inventory levels will decrease.
 
It may be that companies still have high volumes of unsold stocks in their warehouses, which is what they expect to sell in the coming months as the economic recovery deepens and stimulates consumer buying. They may be waiting for clearer signs that the upturn is sustainable before they start to restock.
        
Mergers and Acquisitions
Interestingly, only a fourth of respondents (24%) expect their company to intensify M&A activity in the next 12 months. Most see no change (53%) or even a decline (22%). This is consistent with responses to a separate question on the company’s strategic focus over the next year. Only 8% of the executives surveyed ranked buying assets as a top-three priority, while only 6% say the same of selling assets.
 
Asian companies are evidently still opting to keep their powder dry when it comes to mergers and acquisitions, perhaps in anticipation of lower values if the recovery sputters after 2010. It seems the focus at this time is more on adding cash to the balance sheet, in preparation for a possible double-dip recession and the M&A possibilities that new downturn can spawn.
 
Still, there are companies that are merging and acquiring now, or plan to do so. Not surprisingly, more of them are large companies. Some 19% of respondents in enterprises with turnover of more than US$1 billion say acquiring assets will be among the top three priorities of their company over the next year.
 
Only a tenth of companies with turnover of over US$100 million to US1 billion and 12% of those with sales of US$20 million to US$100 million say the same.  Smaller companies with turnover of US$20 million or less are more likely to sell assets (13%) rather than to acquire them.
 

Toughest Challenges  

Respondents were asked to identify and rank the top three external issues their company faces, with Rank 1 denoting the most important. Consumer demand is far and away regarded as the most serious challenge. Forty three percent of the executives surveyed rank it as the number one external issue, with another 10% ranking it second, and 6% ranking it third.
 
Asked to identify and rank the top three internal issues their company faces, respondents placed two at the top of the list: ability to cut costs and reduce supplier spend (ranked first, second or third by 44% of respondents) and working capital management (38%). Attracting and retaining qualified employees (30%) and ability to deal with internal control management and other risk issues (29%) are also regarded as key challenges.
 
Going forward, cost reduction will continue to be a priority among companies in Asia. Forty eight percent of respondents rank reducing overhead costs as a top-three strategic focus, while 39% say the same of reducing direct costs.
 
But the highest ranked business areas are those having to do with the post-crisis environment: expanding into new consumer segments and/or to new geographical markets (56%), and renewing the company’s focus on sales, marketing and distribution (50%). These are also the two areas that are ranked the number one strategic focus by the most number of respondents (36% and 20%, respectively).
 
Companies are also looking to strengthen managerial and operational capabilities in anticipation of the post-crisis world (44% top three; 9% rank one).
 
Planning for 2010
These findings are all grist for a company’s budgeting and planning in 2010 and beyond, but they raise one question: Are Asia’s enterprises erring too much on the side of caution? Shouldn’t they be planning to acquire assets, for example, instead of continuing to focus on cost-cutting and relying on organic growth to expand into new consumer segments and geographical markets? And are companies going overboard with their cost-cutting?
 
As always, there’s no one-size-fits-all answer. For a company like property developer Azure City, it makes sense to be aggressive in land-banking even in a downturn because it operates in Vietnam, a frontier market on the verge of explosive growth. “We’ve had a hell of a year,” says Mark Keithley, the company’s chief operating officer. “We pared debt, scaled back operations and took some losses, but we’re seeing profits come back on our property sales.” Other developers from Singapore, Japan, Europe and the U.S. are looking once again at Vietnam, so survivors like Azure City have to hustle to resume growth.      
 
Large regional companies like Allianz Insurance Management Asia-Pacific have a similar mind-set. “Now is the time to start putting additional resources into our companies, particularly for distribution development,” says Bruce Bowers, Allianz’s regional CEO for Asia. “It doesn’t make sense to put in the initial distribution staff as the market is picking up. You’ve got to do it before it picks up.”
 
But enterprises like Invensys have to proceed deliberately because it takes years for their projects to be completed. “We need to strike the right balance between cost-cutting exercises versus the strategic value proposition,” says Lee, the finance director. “We are now seeing uptake in Indonesia where we invested about five years ago. We’re trying to pick up some momentum in Thailand. We’re taking some small steps in some of the high-risk countries [like Vietnam]. But it takes time.”
 
“As a CFO you have to balance risk and business opportunities,” says Adecco’s Loong. “It’s situational. You have to look at things on a case-by-case basis. If you’re not too sure, maybe you’ll [expand] incrementally. But if there’s something that you need to do urgently, because otherwise competitors will come in and take market share, you have to get in immediately.”
 
It’s all food for thought as CFOs start budgeting and planning for next year and beyond. We’ll see how things are shaping up in the next CFO Innovation Asia Business Outlook Survey for the first quarter of 2010.
 
About the Author
Cesar Bacani is senior consulting editor at CFO Innovation. 

 

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