Against this backdrop, global equity valuations have steadily risen since the financial crisis, driven by the relatively uniform impact of extraordinary monetary policy. If monetary policy is supplemented with fiscal stimulus, at least in the U.S., it will likely have a more uneven impact across sectors. As a consequence, many companies will need to be more proactive in developing a well-articulated growth strategy to defend their valuation multiples. The evolving macroeconomic backdrop and changing regulatory landscape will create an opportunity for many firms to realign their strategic agenda and create long-term shareholder value.
M&A and corporate restructurings will also need to be key strategic priorities. Firms must evaluate the merits of transformational transactions that can accelerate their growth, but must also remain disciplined given high valuations and M&A premiums. Cross-border M&A will remain attractive for many buyers seeking growth outside their home countries. Interestingly, M&A deals into countries valued at a premium relative to underlying fundamentals have outperformed deals into countries valued at a discount.
Firms will need to manage regulatory and geopolitical concerns surrounding M&A in order to create long-term shareholder value. Spinoffs, if structured correctly, could also provide a path to value illumination in 2017, and a potentially lower corporate tax rate would facilitate divestitures in the U.S.
Shareholder distributions continued to be a popular method of delivering value to investors in 2016, remaining close to global historical highs. However, the need to defend high embedded growth expectations in current valuations will require firms to invest going forward. Investors have rewarded companies that increased capital expenditures and R&D investment in the last two years while scaling back share repurchases. Moreover, higher interest rates might reduce the valuation benefits of further dividend increases. As companies shape their capital deployment strategy for 2017 and beyond, they must also reevaluate their hurdle rates, as the average gap between company hurdle rates and cost of capital has widened significantly.
The need to protect financial flexibility and proactively manage risk is also paramount today. For many companies, there is a valuation advantage to having an investment grade credit rating, since it helps to weather downside risks and preserves flexibility to capitalize on strategic opportunities. In the U.S., a potential reduction in the tax benefits of debt financing under the new administration would put downward pressure on leverage over time, and tax law changes may also warrant a reevaluation of companies’ foreign cash holdings. Corporate executives will need to adjust their financial policies as uncertainty resolves around various proposals to change U.S. corporate tax policy.
Activist investors will continue to influence the corporate finance agenda in 2017. Activists’ focus on stock price underperformance has sharpened in recent years and activism has become increasingly global. Shareholder activism has also become more mainstream with increased support from traditional asset managers. Companies should continuously assess their vulnerability through the eyes of an activist and engage early if targeted.
Finally, technological innovation is disrupting many industries. We estimate that recent cycles of such disruption have impacted 10% of global companies (by market capitalization), and threaten to affect nearly another 50%. However, these disruptions will also create meaningful opportunities for many firms. Strategies ranging from proactive M&A, joint ventures and partnerships, and a portfolio-based venture capital approach must be considered to expand or defend market share and enhance shareholder value.
Authors: Ajay Khorana,Anil Shivdasani,Gabriel Kimyagarov,Charles Hulac,Arturo Lorente,Authors: Ajay Khorana,Anil Shivdasani,Gabriel Kimyagarov,Charles Hulac,Arturo Lorente,Authors: Authors: Ajay Khorana,Anil Shivdasani,Gabriel Kimyagarov,Charles Hulac,Arturo Lorente,Authors: Ajay Khorana,Anil Shivdasani,Gabriel Kimyagarov,Charles Hulac,Arturo Lorente,