![]() For the economy as a whole, the mean correlation across all industries was 0.92 (Exhibit 1). For one-third of the businesses in our sample, the amount of capital received in a given year was almost exactly that received the year before-the mean correlation was 0.99. This measure captures the relative amount of capital that can flow across a business over time the rest of the money is “stuck.” Similar results were found with more sophisticated measures that control for sales and asset growth. Resource allocation is measured as 1 minus the minimum percentage of capital expenditure received by distinct business units over the 15-year period. We used Compustat data on 1,616 US-listed companies with operations in a minimum of two distinct four-digit Standard Industrial Classification (SIC) codes. To understand how effectively corporations are moving their resources, we reviewed the performance of more than 1,600 US companies between 19. While most perceive markets as the primary means of directing capital and recycling assets across industries, companies with multiple businesses actually play a bigger role in allocating capital and other resources across a spectrum of economic opportunities. See Ilan Guedj, Jennifer Huang, and Johan Sulaeman, “Internal capital allocation and firm performance,” working paper for the International Symposium on Risk Management and Derivatives, October 2009 (revised in March 2010). ![]() During the same period, the amount of capital allocated or reallocated within multibusiness companies was approximately $640 billion annually-more than equity and corporate debt combined. Which would you prefer? Weighing the evidenceĮvery year for the past quarter century, US capital markets have issued about $85 billion of equity and $536 billion in associated corporate debt. Rather, many leaders face a stark choice: shift resources among their businesses to realize strategic goals or run the risk that the market will do it for them. ![]() But given the prevalence of stasis today, most organizations are a long way from the head-long pursuit of disconnected opportunities. That implies a search for stand-alone returns at any cost rather than purposeful decisions that enhance a corporation’s long-term value and strategic coherence. We’re not suggesting that executives act as investment portfolio managers. These include introducing new decision rules and processes to ensure that the allocation of resources is a top-of-mind issue for executives, and remaking the corporate center so it can provide more independent counsel to the CEO and other key decision makers. We’ve also reviewed the causes of inertia (such as cognitive biases and politics) and identified a number of steps companies can take to overcome them. We found that while inertia reigns at most companies, in those where capital and other resources flow more readily from one business opportunity to another, returns to shareholders are higher and the risk of falling into bankruptcy or the hands of an acquirer lower. Therein lies a major disconnect between the aspirations of many corporate strategists to boldly jettison unattractive businesses or double down on exciting new opportunities, and the reality of how they invest capital, talent, and other scarce resources.įor the past two years, we’ve been systematically looking at corporate resource allocation patterns, their relationship to performance, and the implications for strategy. We also found, though, that the vast majority of companies resemble company A. In fact, our research suggests that after 15 years, it will be worth an average of 40 percent more than company A. Over time, which company will be worth more? Company B continually evaluates the performance of business units, acquires and divests assets, and adjusts resource allocations based on each division’s relative market opportunities. Company A allocates capital, talent, and research dollars consistently every year, making small changes but always following the same broad investment pattern. Picture two global companies, each operating a range of different businesses.
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