In the coming year, it pays to plan for the unexpected, says Tony Featherstone.
The only certainty for directors in 2015 is more uncertainty. How boards handle higher economic, market and regulatory volatility will make or break some companies – and show which directors can govern expertly in unpredictable conditions.
Granted, every year since the 2008 global financial crisis (GFC) has started with a hue of uncertainty. But 2015 has a different, dangerous feel. The withdrawal of monetary policy stimulus and an expected first US interest rate rise are pivotal moments for the global economy.
Nobody knows how the trillion-dollar “experiment” of quantitative easing will end. So far it has produced an anaemic global economic recovery. What if the US-dollar rally quickens, commodity prices keep falling and there is a global sharemarket correction?
And, in the medium term, an inflation problem from so much cheap money, sharply higher interest rates, and a recession?
Another year of sluggish economic growth and a flat sharemarket still seems likely. The probability of extreme market events is rising, and boards should ensure they are prepared by focusing on these key four areas.
Ensuring that the organisation, from the board to the frontline, has a flexible culture is a critical board task in volatile markets.
It starts with the board having sufficient diversity and composition to deal with extreme events, safeguard the organisation and capitalise on opportunities. Executive teams need sufficient skill and depth, and the right people, to manage in uncertain times.
Most of all, boards need to know the organisation can adapt quickly to change. Companies lumbered with high fixed costs and a change-resistant culture can be sitting ducks when revenue tumbles and it takes too long to change course.
2. Stress testing
Many boards will ask their executive teams to consider a wider range of scenarios in 2015 and report on how the organisation would fare. They will also spend more time challenging assumptions and board and executive decision-making biases.
Boards will test information flows and management reporting, to ensure directors have the right data to make decisions quickly. They will ask for specific stress-testing on the balance sheet, revenue projections and other key areas.
Testing crisis-management protocols will also feature – how to respond to a corporate reputation or investor relations disaster, or a hostile takeover bid. Are the right external advisers in place?
What if competitors engage in irrational market behaviour during bouts of high volatility? Small companies can suffer when big competitors use their balance sheet strength to buy market share during industry shakeouts.
3. Investor relations
Higher volatility will be a bigger challenge for investor relations teams in 2015. Boards must ensure that the listed company complies with its continuous disclosure obligations and that the market is fully informed.
It will not be easy. The potential for bigger earnings surprises, relative to market expectations, will complicate disclosure challenges in 2015. Providing earnings guidance in unpredictable conditions will test more companies and increase the risk of share price volatility.
Boards should ask management how the organisation would respond to a sophisticated shareholder activism campaign from an offshore or local fund manager; or from a non-government organisation that targets the company’s environmental practices or its involvement in fossil-fuel industries.
Higher sharemarket and currency volatility could have a more pronounced effect on share registers.
Understanding the shareholder base and ensuring that they receive responsive, tailored information will be even more critical.
It is one thing to have the right people in place; it is another to ensure they have enough time to meet the governance challenges. Directors who have stretched board portfolios will need to review their commitments, to ensure they can allocate more time if needed, and be available at short notice.
In volatile markets, board meetings may need more time for strategic discussions and input from executive teams, and less time spent on routine compliance issues.
None of these suggestions will be new to high-performing boards. Good directors constantly consider how their organisation handles volatility, not just plan for a year of potentially greater uncertainty. Nevertheless, it is a good bet that many boards are unprepared for the challenges of extreme market events.
This column might be wrong and 2015 is another year of recovery in the global economy and equity markets, and the transition from quantitative easing is gradual and smooth.
But it never hurts to “plan for the worst and hope for the best”, especially when the clouds on the global economic horizon are the darkest in some time.
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