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With the investment world focusing on ‘quality’ vs ‘growth at all costs’, profitability is now high on the agenda of many companies, and it would also appear that the rapid growth in share prices underlined by low-interest rates that we saw in the period 2009-2021 are no more. Companies are now having to put more focus on efficiency, profitability and other elements that contribute to corporate quality. But what does that mean in reality, is this a long-term shift, will it continue when we return to a sustained period of low inflation and the cost of borrowing reduces or is this part of the great reset that some argued would happen in the post-pandemic era?
At our first Financial Focus dinner of the year, 20 senior finance leaders and executives came together to discuss ‘Back to the future: Getting back to profitability’. With a diverse mix of experience in the room – industry, company size as well as finance and non-finance professionals a lively conversation ensued.
The discussion covered these key areas:
Profitability? What is a true measure of profitability?
There was consensus across the group that the availability of cash/cash flow was the true measure of profitability. With the need to ‘get back to profitability’ driven fundamentally by the increase in cost to capital, with investors requiring higher returns in the short term. Yet this can be an area of contention for finance; accounting can be used to support the creation of metrics which may overstate profitability (community-adjusted EBITDA) which in turn could be used to avoid focus being placed on the businesses’ underlyingly operations.
Have companies focused on the ‘right metrics’
Examples of KPI/measures that are centered on the number of customers vs the quality of the customers acquired or retained were shared, highlighting that perhaps there has been too much focus on ‘good news’ and not the detail below i.e., the number of high vs low-value customers, average spend per customer, cost to serve etc. which would be more useful measures of profitability. In order to avoid the manipulation of fiscal metrics (as mentioned above), investors and companies will need to agree on the operating measures that indicate a healthy underlying business.
What opportunities does the shift to profitability bring
Is this the ‘wake-up call/reset’ that some commentators anticipated post-pandemic? Will investors continue to move away from technology investment, with investment shifted towards businesses focused on shorter-term cash returns that drive long-term value? During the discussion, Microsoft’s new multi-year, multi-billion investment in ChatGPT-maker OpenAI was cited as an example of where the interest in tech investment may now lies.
There is also a strong case to be made that increased scrutiny of business plans creates stronger outcomes for investors, shareholders, and society in general. Creating a plan with a 24-month runway for a business is generally much more robust versus those of 12-18 months; and with the degree of uncertainty currently impacting businesses globally this cannot be considered a negative. A more conservative plan that reduces the scale in the short term could lengthen the probability of success.
Is this a shift or just a blip
When the question was raised to attendees, a quick show of hands around the table indicated that there was a strong belief that when the ‘good times’ return and markets stabilize investor focus will return to short-term growth. However, another school of thought argues that the cost of capital is now back to historic norms and that the ‘good times’ are over, if the latter is true it will be interesting to see how this unfolds in the long term.
What part does ESG have to play
No matter what happens, whether this is a long-term shift or just a temporary reaction to market conditions, ESG is something that shouldn’t be forgotten. Companies must start shifting to sustainable models and that will impact revenue growth and profits in the short term.
It will be interesting to see what happens in the short-term and if we will go back to the future or enter a new paradigm entirely.
Interested in attending future Financial Focus events, register your interest HERE
- Naked Wines CEO video interview: Focus on profit over growth is the right plan for right now
- Venture Capital article: Focus on profitability overtakes mantra to grow at any cost
- Netflix's message to shareholders: Focus on revenue and profit, not subscriber adds
- TechCrunch article: VCs still favouring growth over profitability
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