1. Adjusting to new economic realities

Adjusting to new economic realities

Innovation will determine the way ahead for businesses as they deal with competition and evolving business models

By: | Published: January 25, 2016 12:16 AM

From a fluctuating balance of power between the East and the West, uncertainly about the future of commodity prices, the fear of a hard landing in China, disruptive business models to global conflicts and terrorism, the year 2015 kept governments, business leaders and investors on their guard.

Going ahead, several political, economic and security issues are likely to dominate the mind-share of leaders. The rising threat of cyber terrorism, the concern around ISIS and the growing need for innovative customer engagement are some challenges that are likely to make countries as well as companies nervous.

These risks, and many others, will continue to intimidate unprepared businesses, as the risk landscape continues to evolve at a revolutionary pace. Finding a delicate balance between the known and the unpredictable, and strategic versus operational risks, will be the mantra going ahead, as world markets adjust to a new economic reality.

The IMF World Economic Outlook projects global growth at 3.3% in 2015, with a gradual recovery to reach to 3.8% in 2016. While this growth is projected against the backdrop of accelerated economic activity in advanced economies, businesses and countries at large shall continue to be exposed to broad-based risks on several fronts.

A strong dollar is expected to remain a key risk, and likely to continue to distort crude prices, which could lead to a liquidity draw and tightening of financial conditions in emerging markets. Lowering commodity prices, however, could mean a more balanced purchasing power, especially for economies such as India and Japan, which are net importers.

An issue that has seemed to unite nations is the rising concern over terrorism. But despite a five-fold increase in terrorism since 9/11, we are yet to see a coordinated response to combat this challenge. Although gradual progress has been observed, the political and governance instability arising from such coalitions may increase the threat of terrorism in participating states, and cause a rippling effect on linked and dependent economies. The World Economic Forum 2015 Global Risk Report identified interstate conflict as a high impact risk over the next 10 years. Examples of such conflicts can be found dotted across the globe.

Another global risk is the financial, social and environmental impact of climate change. Scientific results claim that temperatures are set to rise for decades—seasons are shifting, sea levels are rising and landscapes are changing. All is not lost, though. At the recent UN Climate Change Conference in Paris, an unprecedented deal was signed to limit global warming to ‘well below’ 2°Celsius above pre-industrial levels. Businesses will face both risk and opportunities in this transition, being expected to deliver emission reductions as well as commit to significant levels of investment.
With regulatory environment tightening, companies will have to think of other ways to grow business, because costs of regulation are eating into profits. Rules around data transmission and storage are compelling MNCs to staff large compliance and government outreach teams to decipher a confusing array of country-by-country regulations. Some are choosing to outsource instead.

In the KPMG Global CEO Outlook 2015, participating CEOs reported regulatory risk as the one they are most concerned about. Increasing levels of fraud and espionage and the need for counter-party oversight (given the global expansion and supply-chain interdependencies) are some of the reasons why we see regulators around the world stricter than ever.

Indian markets have been privy to such regulations, with changes such as the Companies Act 2013 introduced recently primarily targeted at improving the state of governance in India Inc. We will see the role of the Board into providing increased strategic and operational oversight in the functioning of a company.

Another regulation is the Insolvency and Bankruptcy Code 2015. Aimed at protecting interests of investors, creditors and the defaulting company itself, if this Bill becomes a reality, it will change the way business is done in India. This proposed legal framework is expected to boost investor confidence, leading to significant monetary flow in the market.

One of the most unpredictable and least-understood risks is that of cyber-attacks and exploitation of technological vulnerabilities. In the KPMG survey on Cybercrime in India 2015, a majority of the companies reported to have faced some kind of cyber threat over the past year. Cyber is an enterprise and operational risk that also has a habit of hitting reputations hard. Moreover, the nature of cyber breaches is also changing, as organisations have traditionally prepared against data disclosure and breaches of confidentiality. With so much manufacturing outsourced to third-parties, many companies are far more vulnerable to corporate and state-level espionage and intellectual property theft than they realise. We are essentially living through a cyber-arms race, where cyber security is not simply an IT issue.

Innovation shall determine the way ahead for businesses as they deal with competition and evolving business models. Digital and e-commerce technologies are upending business models and lowering the barriers to entry. The pace and magnitude of market disruption and convergence is forcing companies to develop strategies focused on financial, business and operating model changes. Transformations are painful, but not as painful as a slow decline. We will also see traditional management taking over the reins of disruptive new-age businesses from the original promoters, and it will be interesting to see how this will manifest for business.

With geographically expanding businesses and supply chains, companies will be posed with tough strategic decisions like who to compete with, how and where. The question of ‘where’ will be a pertinent one, as country laws act as barriers than facilitators at times. With new technologies defining the value chain, companies will have to devise strategies to grow outside the ‘core’.

And this is what it eventually boils down to. Companies would be expected to tackle market risks, security risks and pricing pressures with a fast-moving strategy, one that is evolving at a pace at which world markets, customer expectations and competitors are.

Improved understanding should lead to a view of emerging risks as an opportunity, rather than as a threat. Maintaining status quo, while incredibly comfortable, is the riskiest thing you can do.

The author is partner and head of Risk Consulting, KPMG in India

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