FSG News

Special January 2010 Edition

Scenario Projects, FSG People, and Current Events

Management implications of recovery scenarios …

FSG partners Patrick Marren and Peter Kennedy have contributed an article appearing in the current (January 2010) issue of Strategy & Leadership. “Scenario Planning for Economic Recovery: Short-Term Decision Making in a Recession” argues that scenarios perspectives and analysis tools are not just for long-term decision making but in fact can help executives sort through the current uncertainty of today to make better short-term, operationally oriented decisions. The authors also profile the four Recession/Recovery Scenarios FSG has created to help executives anticipate the range of risks and opportunities they face in the 2010-2012 period.

Critiquing McKinsey’s scenario process …

A feature article in the McKinsey Quarterly speaks to the value of scenario planning in these uncertain times. The article highlights some very important dos and don’ts of scenario planning. But FSG partner Patrick Marren also finds some flaws in the McKinsey scenario approach that would appear to be at odds with the most basic principles of scenario planning. Read Patrick’s analysis in the current FSG Outlook.

Revisiting Brazil scenarios …

The Economist recently featured Brazil, a nation long chided as “the country of the future – and it always will be” and now a bona fide emerging markets success story. The Economist feature argues that at least part of Brazil’s future has indeed arrived: booming exports, sustained growth and, most impressively, giant leaps forward in reducing poverty. Brazil’s success sparks a flashback to a time not so long ago when most experts doubted the nation would ever escape the boom and bust cycles associated with Latin America. Back in the 1990s, FSG principals created a set of Brazil planning scenarios for a global automotive manufacturer with substantial South American interests – and with profound concerns about where the country was headed. We identified and characterized four plausible alternative paths for the country. One was called “The Future at Last.” In this scenario, Brazil embraced policies that successfully fused orthodox market-reforms with targeted social programs. Arguably, it has been this formula that has fueled Brazil’s success over the last decade – with oil and commodity booms helping out. The point is not that we “picked” the winning scenario for Brazil; that is never the intention of scenario planning. Rather, we succeeded in convincing our client to explore a suitably wide range of Brazil futures, including this counterintuitive hybrid of free markets and aggressive social reforms. This particular scenario had far-reaching implications for vehicle demand, terms of trade, competitive strategy, financial management, and labor relations. We’d like to believe that this scenario exercise played a part in the company’s successful anticipation of Brazil’s eventual economic take-off, which today is driving one of the world’s most dynamic consumer and automotive markets.

Lodestar Collaborative site goes live …

The Lodestar Collaborative, FSG’s partnership with Board Advisory Services and Collective Intelligence, now has its own web presence. Click here to access the site. Lodestar specializes in forward-looking risk management and business planning for firms confronted by extreme volatility and uncertainty in their operating environments. Lodestar offers a suite of tools integrating best practices in scenario analysis, risk management, collective innovation and decision-making.

Reading economic tea leaves for 2010 …

Robert Avila, founding principal of the economic consulting firm Futurecrunch and an FSG associate, is having a bit of a time boiling down all the disparate economic data and making sense of it. We asked him to share what’s keeping him up at night. Here’s what Robert came up with:

The exploding monetary base. During financial panics central banks loan reserves at very low interest rates to banks. These loans keep the banks liquid and increase the monetary base for the total economy. In normal times the monetary base grows roughly in proportion to the total economy. However, since this latest financial panic began in September, 2008 the monetary base of the United States has more than doubled, increasing an unprecedented 140%. In the coming year the question facing the US and the world is: Where is this money going to go? Will it stimulate a return to real growth? Will it bring about inflation (and a further dollar devaluation)?

New asset bubbles. The strong recovery in the stock market in 2009 occurred despite a drop in corporate earnings to levels not seen in decades. As a result P/E ratios on the total S&P 500 have soared to levels associated with the peak of booms in speculative growth stocks. In over 130 years the P/E on this broad index had never been above 50. In 2009 it broke 120. As corporate earnings have begun to recover the P/E has come down, though it is still at growth stock levels. As 2010 unfolds, a growth in corporate earnings combined with a sluggish stock market may return the market’s P/E to historically normal ranges. However, if improved earnings spark further increases in market prices and keep P/E ratios up above 40, we’ll be staring in the face of another market bubble and be at risk for another panic. The 73% increase in the MSCI Emerging Markets Index (through mid-December 2009) could be evidence of bubbly asset risk.

What about inflation? With high unemployment and employed consumers still trying to clean up their balance sheets, rising inflation might seem unlikely. The problem is that imports account for 30-40% of the cost of all goods consumed in the US. Although the dollar strengthened during the crisis, which improved the trade balance, the greenback has been weakening since March. A further weakening dollar would put upward pressure on prices, first from commodities, then from imported finished goods. The tension between low interest rates (to support banks and the recovery) and higher ones (to support the dollar and fight inflation) should be tracked closely throughout the coming year. If long rates on 10- and 20-year Treasuries start moving up toward 6%, then higher US inflation should be expected.

Two key upside indicators. For the recovery to get on its way in any serious fashion, private spending will have to pick up. Two categories that should be watched closely as possible leading indicators are spending on personal computers and business investment in cars and trucks. In both cases the existing stock of equipment in use is aging and thus pushing up replacement demand. In the case of PCs, reduced demand owing to the recession came on top of the dampening of demand caused by the long avoided Vista operating system. Vista has now been replaced by what is generally seen as a significantly improved Windows 7 operating system, which in itself may help to kick start both consumer and business demand.

Motor vehicles are the first form of investment spending that is cut when the market softens. In the current downturn, business spending on trucks started softening in 2006. By this summer spending on the ubiquitous light utility vehicle, the packhorse of businesses large and small, was down to a bare 14% of its peak of three years earlier. Even with reduced usage due to the downturn, these vehicles age rapidly and they are usually among the first components of investment spending to turn around in a recovery. The money is there to finance such purchases if the banks are willing to lend it. Keep an eye out for shiny new delivery vans. They could be the best sign that our long winter of economic discontent is ending.

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