Managing Director & Partner
Amid all the economic gloom emanating from South Africa, there is a bright spot: consumers remain surprisingly upbeat. Nearly eight in ten South Africans, according to research BCG conducted this March, say they are optimistic about the future—roughly the same number as in early 2015. And around half say they plan to spend more this year.
The question is how long this optimism will hold up. Judging from South Africa’s mounting economic challenges, companies should prepare for consumers to tighten their belts. A plunge in world prices for commodities such as gold and iron has put pressure on the rand. (See Exhibit 1.) Unemployment is at 25%. Policy missteps have complicated the situation. As a result, the country’s two-decade-long record of healthy economic growth has come to an end. Some economists have slashed their 2016 growth forecasts to only around 0.5%, and there are fears that lower public-debt ratings could push South Africa into recession. The country’s finance minister has conceded that “South Africa is in a crisis.”
So far, the country’s downturn hasn’t significantly hurt the purchasing power of middle-class and affluent South Africans. But eventually, economic reality is likely to take a toll on consumption.
Before sentiment worsens, companies should use this time as an opportunity to begin making deep adjustments that will enable them to weather the immediate storm and emerge as stronger competitors over the next three to five years. Many companies operating in South Africa, in our assessment, should embark on nothing less than a profound, holistic program to review and adapt their strategy, growth model, and organization.
The nature of this makeover will differ for each organization, of course. But as companies adjust from a high-growth to a no-growth environment that will last at least one or two years, the basic imperatives are similar. Companies need to reset strategies and refocus on their core mission and values. They should improve their efficiency and cost structures, and use those savings to strengthen capabilities and pursue growth opportunities, such as mergers and acquisitions. They should concentrate energy and resources on strengthening their core businesses to create value that will deepen the loyalty of customers. And they should build the culture, human resources, processes, and technology needed to make holistic change sustainable.
This agenda may seem daunting. But there are ample examples of companies in emerging markets such as Russia, Brazil, India, and Turkey that have successfully used economic downturns as transition periods to implement holistic change programs that ultimately made them stronger and more competitive. Such companies have also managed to continue creating value for shareholders. (See “Creating Value in Brazil’s No-Growth Environment,” BCG article, November 2015.)
The time to take smart action and begin such a transition is now. Our research has shown that corporate transformations during economically tough times are important not only for struggling companies; in fact, nearly 30% of companies that embark on holistic change initiatives are already regarded as top performers in their industries.
Companies should act before South Africa’s economic crisis begins to fundamentally alter consumers’ mindsets. The experience of emerging markets has shown that, once consumers are in crisis mode, convincing them of the value of a product and retaining their loyalty become more difficult.
Our research indicates that while South Africa’s economic crisis has not yet dramatically changed sentiment, it has begun to make consumers more cautious. To gauge sentiment, BCG’s Center for Customer Insight interviewed consumers from all walks of life in the country’s three major cities—Johannesburg, Durban, and Cape Town—in March 2016. The survey followed up on similar research conducted in previous years across South Africa and in ten other countries on the African continent.
In addition to expressing remarkably high confidence in South Africa’s economic future, respondents to the survey said that they feel comfortable about their financial security. Sixty-one percent said that they feel somewhat or very financially secure—the same number as in 2015. This sentiment was strongest among the affluent, those with annual household incomes of at least R550,000 (around $36,000). (See Exhibit 2.)
The findings suggest that the downturn has not yet seriously affected the sentiment of many consumers. Despite recent inflationary pressures and a one-quarter fall in the rand against the US dollar over the past year, 43% of respondents said they have more purchasing power this year than they did in 2015. Among affluent consumers, 72% gave this response.
But the survey also yielded evidence of financial caution. Sixty-four percent of respondents reported that they decreased their personal debt over the past year. Thirty-five percent said they expect to reduce their debt in 2016, compared with only 22% who expect to borrow more. The country’s middle-class and affluent consumers are also saving more: 74% of affluent consumers and 36% of those with annual household incomes of R185,000 to R550,000 (around $12,000 to $35,999) reported that their savings rose over the past year. This suggests that consumers may be building a financial cushion as they prepare for tougher economic times. The survey found that the savings of a majority of South African consumers with annual household incomes of less than R75,000 (around $5,000) fell over the past year. But this could mean that they were already struggling to pay for food, education, and health care.
Companies in South Africa should prepare for consumer sentiment to change in the near term, because the forces behind the economic slowdown are not expected to abate soon. For more than a decade, South Africa’s economy was propelled by high commodity prices, surging foreign investment, and a growing, low-cost workforce. But the decline in commodity prices, which became pronounced in 2013, is showing no signs of reversing. The country has been struck by one of the worst droughts in a century. Public finances have deteriorated. The energy supply is unreliable and getting more expensive. And the attraction of emerging markets to international investors has declined.
Even if South African households start to tighten their belts, however, this does not mean there will be no growth opportunities for companies that target the right products and offer the right value proposition to specific consumer segments. Our survey yielded insights into consumer preferences that should help companies hone their approach to the market.
One key finding is that South African consumers remain willing to pay more for quality in the product categories that are most important to them. They are particularly willing to “trade up” to higher-value education, baby products, clothing, automobiles, and insurance.
The majority of consumers surveyed said that they expect to spend more in these categories. Seventy-six percent of respondents who plan to purchase baby products said they expect to spend more on them in 2016. Sixty-nine percent of those who spend on education said they plan to spend more in this category; 66% of purchasers of automobile-related products plan to spend more on such products in 2016. Categories in which South Africans are least likely to increase spending are telecommunication services, home care products, dining outside the home, and health and personal care products.
The willingness of consumers to maintain spending levels in some categories and to trade up in others indicates that there is growth potential in the market despite the looming crisis. Companies that want to tap into these opportunities need to work with a strong customer focus and go after specific market segments.
Most companies need to fundamentally recalibrate their approach to South Africa’s changing economic reality. To survive the downturn and emerge stronger from it, companies should take actions that enable them to both capture opportunities in the near term and achieve sustainable improvements that will help distance them from competitors over the medium and long term. Tactical shifts will not be enough.
We suggest that companies adopt a four-pronged turnaround plan that calls for a refocused strategy, smart cost cutting, strengthened core businesses, and a program for sustainable change. (See Exhibit 3.) Companies in South Africa can learn from the best practices of organizations that have successfully used economic downturns to achieve transformations in other emerging markets.
Reset strategy around core goals. It is particularly important during a downturn for a company to present a clear vision that employees can rally around and to focus on attaining the organization’s core purpose and goals. A crisis is generally not a good time to disperse energy and limited resources on experiments.
Companies should adhere to a strategy that will enable them to survive adverse times and then thrive when the economy recovers. It is also critical to ensure the loyalty of customers. So companies should focus on creating value for customers.
The Russian retailer X5 illustrates how focusing on its core purpose can enable a company to emerge from crisis as a clear winner. As Russia’s GDP growth steadily fell from 2012 through 2014, to the point of contracting in 2015, sales at X5’s stores declined and its competitors gained share. The company’s new stores were underperforming.
X5 concluded that it needed to focus more on its core goal of delivering the best customer experience in Russia’s dynamic retail food market. X5 reassessed the value proposition of each of its brands. It also set a goal that each store should either be the leader or second in its segment. After gaining a better understanding of its customers, X5 created a portfolio of store formats to serve different lifestyles. It focused on sourcing the highest-quality products and launched initiatives to inspire its employees and become more responsible corporate citizens.
The results of these efforts were impressive. In two years—in the depths of Russia’s economic crisis—X5 increased its revenue by 27.6%, its earnings before interest and taxes by around 60%, and total shareholder return to more than 40%. This compared with average industry TSR during the same period of only 9%.
Free up resources through smart cost cutting. To fund investments needed during a downturn and improve their customer offerings, companies need to free up financial resources. While it is tempting to accomplish this through massive downsizing, a better way is through smart cost cutting.
Lean initiatives that reduce waste and improve productivity are a good place to start. The downturn has exposed a major weakness in South Africa’s growth model: poor productivity growth. A full 73% of growth in South Africa’s gross value added (GDP plus subsidies, minus direct sales taxes) since 2001 can be attributed to growth in the number of people employed. Productivity over that period increased by only around 13%. This is in stark contrast to emerging markets such as South Korea, Turkey, and Russia, where productivity growth has been a major driver.
Implementing lean initiatives is difficult during an economic boom, when the overarching priority is to capture growth opportunities and create new jobs. A downturn is a good opportunity for companies to remove layers in the organization, reduce unnecessary overhead, and empower employees to make more decisions.
Retailer X5 funded its investments during Russia’s downturn in part through smart cost-cutting moves. By streamlining operations, X5’s service center reduced the time required to upload invoices from suppliers and have them recognized in the system from seven days to only six minutes, and it reduced the time required to process an invoice from an average of five working days to one. X5 also improved the efficiency of its transportation network. It introduced a mileage monitoring system that reduced rerouting by truck drivers—who were taking either unauthorized trips or routes that they mistakenly thought were better—from 20% to 4%. This move reduced fuel costs by 5% and payroll expenses per truck by 9%, even though drivers’ salaries rose by an average of 10% because of inflation. By better managing inventories through automation, X5 increased the turnover at its stores by 3% in one year.
An Indian industrial goods company likewise used an economic slowdown to streamline its operations and free up resources for needed investments. The company, which had struggled with low productivity, faced a crisis in 2013, when India’s economy had been stagnant for two years. The company reduced production bottlenecks in its plants and prioritized products with the highest sales potential. It slashed the time required to service orders from 45 days to 30 days by using overlapping production plants and cut lead times for raw materials by improving visibility and communication with suppliers. To reduce inventory, the company improved its production planning and transportation. On top of these initiatives, it shortened its planning cycle from one month to one week to increase flexibility within the supply chain. These efforts helped the company cut inventories by 20% and lead times on key products by over 70%.
Grow the core business. Companies in South Africa can put themselves in a strong position to win over the next three to five years by focusing more on their core businesses. Companies should identify strengths that differentiate them from competitors and make them impregnable. They should build on those strengths—either organically or through strategic acquisitions—to gain market share now and propel growth when the economy recovers. Many of these initiatives will require investment during the downturn. But companies that are best at strengthening their core businesses—and move quickly—will improve their outlook in the medium term.
At a time when South Africa’s economic challenges are likely to profoundly change the needs and preferences of consumers, it is especially important that companies keenly understand their customers. Insight into the shifting attitudes of particular customer segments can help companies improve their position in specific product segments and uncover opportunities for growth by introducing products that fulfill unmet needs.
An auto insurance company in Turkey succeeded with such a strategy during the slowdown of that country’s economy in 2012 and 2013, when it was also losing market share. The insurer broadened its product range to address unmet customer needs and focused more on retaining existing customers. It upgraded the quality of its data, for example, and improved the scripts used by its call center operators for casualty and collision insurance. As a result, the company boosted its share of nondealer car loan policies by 10 percentage points and increased customer retention by 25% in personal accident policies, its highest-volume segment.
Mergers and acquisitions, too, can enable companies to create value during South Africa’s downturn. The low stock valuations of some South African companies may open acquisition opportunities for those that can free up enough cash. It is important, however, that companies not use such acquisitions to enter into tangential businesses that cause them to lose focus. Instead, M&A should enhance growth in core businesses.
To grow its core business, X5 focuses on organic expansion. In 2014, the retailer opened nearly 900 new stores and increased sales per store by refurbishing nearly 500 others. On top of this, X5 has made strategic acquisitions in order to expand across Russia. That same year, it purchased 116 stores to expand its presence in the Samara region, where it saw strong growth potential.
Make change sustainable. For change to be successful and enduring, companies need to put in place the right team, culture, practices, and technologies. They also need committed and able leaders to serve as champions and resources, and talent at all levels to execute initiatives. The HR team should act as a turnaround partner. To achieve real change, companies must also establish a high-performance culture and simplify their organizations. IT should be upgraded as well, so that the organization can be agile, flexible, and efficient. Finally, companies should deploy a change management program to engage stakeholders and deliver results.
X5 implemented a number of measures to make its gains sustainable. The retailer overhauled its leadership team, which now includes managers with both Russian and international experience. In terms of technology, X5 improved its analytics capability by adopting one customer relationship database for all store formats. It improved the efficiency of its service centers and promotions and created internal processes to manage documents. X5 also greatly expanded its electronic data interchange, which is now used by 98% of suppliers and processes ten times as many documents as in 2011.
A Brazilian industrial goods manufacturer took advantage of that nation’s economic downturn to overhaul its corporate culture and become more customer focused. During this process, the company discovered that its salespeople spent only 35% of their time actually meeting with customers and almost 60% traveling and doing administrative work. To achieve behavioral change, the manufacturer slashed the time spent on administrative chores by almost half and rearranged the geographic responsibilities of its sales team, reducing travel time by one third. On average, the manufacturer’s salespeople now spend 55% of their time meeting with customers. Through these initiatives, the company was able to effectively double the time devoted to meeting with customers and prospects without hiring a single new employee.
The action agenda we have outlined is daunting. With consumer sentiment still holding up surprisingly well, companies have time to begin the process of recalibrating their organizations to South Africa’s new economic reality. But this is no time to wait and see how the market unfolds. Companies can continue to grow, or at least improve their market share, during the current economic crisis—but only by carefully targeting their product offerings, marketing, pricing, and go-to-market strategies to the evolving wants and needs of specific South African consumer-market segments. At the same time, companies should take advantage of the downturn to execute holistic change that will boost their competitive position in three to five years. The winners in South Africa will be the companies that are already taking action to achieve this transition.