Stress Testing Your Corporate Strategy
Strategic Planning typically never incorporates extreme scenarios. After Covid-19 things may change!
The novel Coronavirus has taken the entire human race by shock and surprise. The impact it has made on global economies is yet to reach its culmination point. We are still very much in the middle of this pandemic.
Impact of Novel Coronavirus
Most countries are taking drastic measures to curb the spread of this virus. While such moves are essential to ensure our survival, it is going to have significant impact on economic growth of nations, impacting every industry, all scale of businesses including large enterprises and SMEs, jobs and our income levels.
When the dust settles, one can expect a changed business landscape with many corporations running for cover and struggling to stay afloat. We will see causalities across industries and some would be more badly hit than others. Industries like Airlines, Hotels, Restaurants and Tour Operators which are largely dependent on movement of people are expected to struggle unless otherwise they have planned contingencies.
While everyone plans for contingencies in their Strategic Planning process, often companies don’t take extreme scenario analysis. The learning from the current situation is clearly that such extreme possibilities although rare cannot be totally ignored. Let us first understand how Corporate Strategy is built and how we can introduce such element in the planning process.
Strategic Planning
The Corporate Strategy Planning exercise runs typically for 30 to 60 days based on the size and scale of an organization. The Corporate Strategy Team is the custodian of the planning process and works extensively with the Business Units and Corporate Functions during the entire process.
The Strategic Planning process is undertaken every 3-5 years. It is an important process that helps companies assess market realities and create a plan of action to meet their Strategic Objectives over a long-term horizon.
One may argue that the pace of change that businesses are facing today is very high and planning for such long-term horizon doesn’t really make sense anymore. This is partly true because of rapidly changing business environment. In the last 2-3 years, digital technologies have impacted established business models like never before. The impact has also been fueled by geo-political changes and tightening of regulatory environment.
Keeping up with the change
In order to take care of impact of changing situation, the Strategic Planning process is followed by a Strategy Refresh process. The refresh to the Strategic Plan happens every following year before taking up the next Strategic Planning process. The refresh lasts typically 15-30 days and helps align the Strategic Plan to changes in both external and internal environment.
While Strategy Refresh is useful to make course correction after a year of creating or refreshing the Strategic Plan, it is important to incorporate Scenario Planning either during Strategic Planning or Refresh process.
Scenario Planning
Scenario planning is an exercise which assumes possible range of input variables and respective values of output variables is generated and analyzed. The same is possible when a model is created that connects the input variables with the output variables.
An example can be changes in economic indicators like GDP, Forex Rate or Interest Rate and impact it has on your companies Revenue, Net Profit Margin and Operating Cashflow.
If a relationship between the input and output variable can be established then the modeling can be done even using an Excel model. However, such relationships are not always straight forward and a number of assumptions have to be made to implement such models.
Another approach for modeling is through Machine Learning models. The development in Machine Learning algorithms have made this possible today. One can use supervised learning models to create models provided they have adequate training data set of input and output variables.
Stress Testing
Irrespective of the modeling method being used, once you have a model in place, one has to stress test the model. There can be endless debates on the possible range of input variables and often people are conservative about such range. One can take the median historical value or last year value and justify that it is the most probable value with some incremental changes. However, stress testing would mean going out of the comfortable zone of value by thinking of not so normal situation and then coming up with the values of input variable. The current pandemic is the perfect example of such a situation.
We recently saw the free fall of Equity indices worldwide. Dow Jones and FTSE 100 indices has fallen by 25%+. BSE Sensex is down by over 15%. Investors and shareholders have lost billions of dollars of wealth. A month ago, no fundamental or technical analysis would have predicted such movement of the market indices.
Benefits
A company can spend a lot of time and effort in building the Strategic Plan. The same can be done with a lot of rigor. Yet everything will fall flat when the business comes across such extreme situations. The impact of novel Coronavirus on global economies has given us strong lessons that such extreme possibilities cannot be ignored. If companies can incorporate 1-2 days of extra effort in stress testing their Strategic Plan followed by high level action planning, they will not start at ground zero when the moment of truth strikes.
