Kuntz: Finding Opportunity in Emerging Markets
Between 2011 and 2025, emerging economy GDP is expected to grow by 4.7% every year, more than double the 2.3% pace of the developed world, according to the latest World Bank forecast.
With emerging markets growing so quickly, strategic investors are increasingly focusing on these countries. In 2010 global M&A totaled US$2.4 trillion and roughly one-third of this value was from rapid-growth markets, according to Thomson Reuters, and over the next year, cross-border M&A deals involving companies in emerging markets will outpace activity in the developed markets.
The rewards for pursuing market entry in emerging markets can be both substantial and immediate. Many companies will need to look beyond developed economies for sustainable growth, and pursue organic or inorganic growth strategies to gain access to high-growth markets. Some potential advantages include diversification of risk, lower operating costs, more limited competition, access to resources, attractive valuations, and tax benefits.
While the rewards are clear, entering these markets is very challenging in both concept and execution. Emerging markets can offer faster growth, but this growth is often highly volatile. A long-term investment time horizon is often required, and expectations for immediate returns can leave strategic investors disappointed.
One of the most significant differences between emerging markets and developed markets is in the quality of available financial information. Limited information and lack of transparency can obscure risks and lead investors to make investments they otherwise would have avoided. Acquisition processes can be challenging with conflicting pressures from multiple stakeholders — including government, shareholders, joint venture partners and regulators. A number of other challenges — such as immature judicial systems with lax enforcement standards, weak IP protection, bureaucratic roadblocks, and infrastructure deficiencies — can delay market entry timelines and make entry more costly.
The market dynamics in emerging markets will also present unique challenges (and potentially, opportunities). Fully understanding the competitive landscape is essential; for instance, local competitors may have cost structures that are hard to match. Customer needs may be different than expected and can vary by specific local market. Regulatory requirements must also be understood as they can change quickly. Companies should also be prepared for unpredictable market environments with high turnover both in customers and talent.
So how can one best anticipate these challenges and mitigate the risks? As historical financial data is not always sufficient or reliable, acquirers will need to spend more time on business planning. Building a network of local market advisors — more of an art than a science — is vital. Gaining real-time and on-the-ground perspectives from potential customers, competitors, and partners can accelerate the likelihood of success, particularly where markets are nascent and fragmented.
Having a clear strategy is imperative. Simply “to be in emerging markets” is not a strategy. Do you seek to pursue a foothold or market leadership strategy? Do you seek to be a premium or mass market provider? Answering questions such as these will clarify the best way to enter new or emerging markets. Organic and inorganic market entry will require different resources and requirements, and being fully aware of the benefits and risks of each is important. For instance, while the benefits of inorganic growth strategies will likely be realized more quickly, the risks of failure can be higher and acquisitions can be costly. Partnering with a local firm can often provide a more immediate return, but the benefits may not be as substantial.
In summary, key success factors for pursuing emerging market entry strategies include:
Clear strategic vision — results often disappoint because teams fail to align strategies with tactics
Build relationships with all stakeholders — local knowledge is essential to managing key emerging market business challenges
What you don’t know may come back to hurt you — scarce information means redoubled due diligence is essential
Brad Kuntz (firstname.lastname@example.org) is the Transaction Advisory Services’ Commercial Advisory Services leader at Ernst & Young LLP. He is based in New York. The views expressed herein are those of the author and do not necessarily reflect the views of Ernst & Young LLP.