Experts from Booz & Company examine the requirements of sustainable growth for the region’s telecom groups, revealing the existence of up to 10% disparity on EBITDA margin between operators
Dubai, UAE, May 3rd 2012: A decade-long growth spurt has proved beneficial for several Middle East telecommunications companies, who, thanks to numerous mergers and acquisitions, have expanded their investments across several continents. However, some portfolios contain far-flung business units that do not mesh well with each other or with the overall goals and operations of the parent company. With this in mind, experts from Booz & Company have detailed ways in which telecom operators can manage their portfolio to ensure sustainable growth and secure up to 10 percentage points on EBITDA margin over their peers. Booz & Company also explored the increasing importance of revenue diversification to regional operators, who derive a significant amount of their revenues from international operations, in many cases over 50%.
From Growth to Focus
Over the past decade, many major telecom operators expanded far beyond their domestic borders, pursuing growth in new, undeveloped markets to counter slowing growth in saturated local markets. Today, several operators have achieved global status, deriving a significant portion of their revenue from international operations. Some have footprints spanning multiple continents.
“In the Middle East, and specifically in the Gulf Cooperation Council, incumbent operators participated in this strategy, consolidating within their region and beyond. Many operators, however, did not keep a close eye on how each newly acquired operation fit into their overall portfolio,” said Karim Sabbagh, Senior Partner at Booz & Company. “During the rapid growth phase, capabilities and capability systems were less important than pursuing time-critical and scarce opportunities. As growth starts to level off and a certain level of maturity is reached, competition will increasingly be won on the basis of capabilities.”
As operators continue in their efforts to maximize the value of their portfolios, they can benefit from assessing their operations to recognize their essential differentiated capabilities that distinguish them from their competitors. At the same time and based on their capabilities, operators need to determine the way to play for each of their subsidiaries—the strategy that will allow them to succeed and beat the competition in each of the markets in which they operate. These factors combine to present an operator with the right to win that, in turn, will translate into stronger profits, increased market share, or a number of other results—the coherence premium that operators can achieve when their capabilities and way to play operate in concert. Along with the coherence premium—an inherent advantage in focusing an entire company around a set of capabilities—there also is an incoherence penalty that can grow over time as companies expand into new markets and their strategic focus broadens. This correlation between coherence and profitability was analysed by Booz & Company in a study that shows the existence of up to 10% disparity on EBITDA margin between operators that build their portfolios around their capability sets and others that did not use the coherence lens in their expansion.
Finding the Right to Win
Companies can measure their coherence premium via a coherence index, determined by an algorithm that takes into account the different operations in a group’s portfolio and the capabilities required for each one to succeed. The more overlap companies have in terms of the capabilities they require across the portfolio, the higher they will score on this index.
There is no single right to win formula that will apply to all operators. Ideally, an operator will have a single set of capabilities that will provide its coherence premium in the markets in which it operates, however, sometimes an operator has to organize itself into what we call clusters—countries or regions that it can group together to leverage capabilities that are specific to those markets. Operators succeed by organizing their investments in clusters—a grouping of investments with relative similarities such as geography, market maturity, ownership level, type of operations, and market position.
The cluster approach to capabilities reveals patterns that have formed successful platforms for operators. Operators can use the same methodology for measuring their overall coherence score to measure the coherence of their individual clusters.
Managing Portfolios for Better Coherence
Some global operators already have undertaken substantive divestitures to focus on their differentiating capabilities.
“It is not always practical—or wise—for an operator to sell or spin off a unit that does not fit into its strategic strength, especially if that unit performs well on a financial basis. Nonetheless, operators can set aspirational targets or better understand the contribution to the company from each of its operating units by undertaking a two-pronged assessment of strategic and financial considerations,” said Chady Smayra, Principal with Booz & Company.
The strategic assessment measures whether an operator’s investments or potential investments are a fit with its capabilities and ways to play; the financial assessment takes into account the needs of the corporation in terms of growth and profitability. Together, they give an operator the diagnostic tools to perform an on-going evaluation of its portfolio to determine which of its operating units it should keep and which ones it might consider divesting. In addition, the methodology serves as a forward-looking tool to assess future acquisition opportunities by testing their anticipated impact on the coherence and financial performance of the portfolio.
Two questions drive the strategic assessment, which allows a company to calibrate its set of capabilities against those required to succeed in each market or cluster. ‘Is the market relevant?’ and ‘does the company have the capabilities to be successful in the market?’ Ultimately these questions will assist the operator to identify the fit of specific operations with the cluster in terms of the capabilities it requires for success, or the coherence of a cluster within the overall multi-regional portfolio. The analysis will lead to a clear understanding of what set of capabilities the company would need to have in order to be successful in each market. If the analysis reveals some key capabilities are missing, the company then can assess the possibility of acquiring or developing these capabilities or phasing out from the market or even the cluster.
As with the strategic assessment, two questions provide visibility into the financial viability of a company’s operating unit – ‘what is the business’s current financial situation?’ and ‘is this investment maximizing shareholder value?’. Answering these questions will provide a clear view to an Operator of its financial situation and priorities going forward, as well as their ability to generate cash in the future.
The outcome of the strategic and financial analysis allows companies to plot each existing operating unit or new opportunity on a matrix that could provide guidance to management in performing critical portfolio decisions.
For instance, this analysis might reveal that a particular asset is financially attractive and coherent with the overall portfolio and warrants further investment to unlock additional growth or increase exposure. Alternatively, if it is a case of limited coherence, a telecom operator might consider divestment, especially if it can generate more value from disposing of the asset either on a stand-alone basis or by bundling it with a less-attractive asset. This is the concept of ‘best ownership’. If a subsidiary is profitable but does not fit in the wider group’s capabilities system, the operator could benefit from selling the asset to a company in whose capabilities system it would really fit.
Furthermore, management can rely on the assessment framework to demonstrate the appeal of acquiring new assets, as it reveals how an operating company would fit into an existing cluster and the overall portfolio from both a strategic and financial perspective.
The process of conducting the strategic and financial assessments relies on a few considerations:
o The assessment should be forward looking: The assessment should not look at what has happened in the past as previous decisions do not have any bearing on future ones, other than to act as a yardstick to gauge future performance. Thus, any framework accounts for future expected returns and treats past decisions as sunk costs.
o The assessment should be per formed periodically: The value of an investment is a moving target that shifts with changes in market conditions, as well as factors specific to each company. As a result, companies should undergo assessments regularly to maintain the relevance of their investment decisions and ensure that they are regularly able to seize attractive opportunities.
o Business plans should be objective and realistic: As noted above, the value of the analysis hinges on a company’s forward-looking assessment of its portfolio companies. Accordingly, business plans on which the assessment is founded should be fair and realistic.
o The assessment should consider the value of synergies: The analysis should incorporate potential synergies that a company can capture from its operating units, a benefit financial analysis often overlooks. Capturing potential synergies ensures that a company is assessing investments that are in the right context, enabling it to maximize the value of each of its business operations.
o Full-fledged due diligence is mandatory: Divestment or investment recommendations are guidelines and mandate further assessment. The framework provides management with a short list of potential candidates for divestment or acquisition—but requires further validation from a detailed due diligence process before a company can make a final decision.
“A wave of expansion has transformed local telecom incumbents into regional operators, with footprints that span the Middle East, Asia, and Africa. For many of these GCC operators, migrating to group-level operating structures has enabled them to unlock value from this expansion,” said Smayra. “In the aftermath of the global economic slump and debt crisis, management and investors increasingly are clamouring for better performance. And, as international operations account for an increasing contribution to corporate revenue, investors and management continue to scrutinize and rationalize their investments outside of their borders.”
Telecom operators can undertake an effort to assess and manage their portfolio holdings more effectively by analyzing the concept of coherence across their footprints—a process that will inform and guide their portfolio decisions going forward to generate sustainable growth and avoid the incoherence penalty.
Sabbagh concluded, “Applying the coherence lens involves determining what specifically an operator does best—the ingredients that enable it to beat the competition. It also includes assessing each of the markets that an operator competes in, to ensure that the operator’s capabilities will help it succeed.”
The analysis is not only an assessment tool for the existing portfolio but also a great driver for growth as it can guide telecom group operators in their investment decisions by helping them focus on clusters of strength, the most relevant opportunities for them. The result will leave some global telecom operators with wide-reaching investments that deliver the maximum value to customers and shareholders.
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About Booz & Company
Booz & Companyis a leading global management consulting firm, helping the world’s top businesses, government ministries, and organisations. Our founder, Edwin Booz, defined the profession when he established the first management consulting firm in 1914. Today, with more than 3000 people in 60 offices around the world, we bring foresight and knowledge, deep functional expertise, and a practical approach to building capabilities and delivering real impact. We work closely with our clients to create and deliver essential advantage.