be a recklessly cautious one. Instead,executives must make educated decisionsnow by weighing the risks o waiting or o moving too early. And while better timing o acquisitions, and thereore the prices paidor them, can make a big dierence in theirability to create value, the best way tominimize risk is to ensure that investmentshave a strong strategic rationale.Executives considering whether to jumpback into
or to make other strategicinvestments now must understand what liesbehind earnings and valuations. To illustratethe risks, we conducted an analysis o ahypothetical acquisition. Real
marketand economic data allowed us to build arange o scenarios embodying dierentassumptions about uture
We ound that even scenariosassuming conservative levels o marketperormance (as indicated by the experienceo past recessions) suggest that manyindustries may be reaching the point whenacting sooner would be as appropriate as—i not better than—acting later. Managers whowait may be ailing to maximize the creationo value.
The primary drivers o capital markets arelevels o long-term prots and growth, so wedene our scenarios in those terms. Long-term prots are tightly linked to theeconomy’s overall perormance: over thepast 40 years, they have fuctuated around astable 5 percent o
(Exhibit 1). It’sthereore reasonable to assume that a returnto normal or corporate prots would meana return to their long-term level relative to
and that long-term growth in corporateearnings will also be in line with long-term
. For our scenarios, we assume that
corporate prots will revert to some 5 per-cent o
, although that estimatecould be a conservative one i the trend tohigher prots in the years leading up to thecrisis resulted rom a structural change inthe economy. One can tailor this analysis tothe circumstances o individual industries by
Managers using this approach or actualstrategic decisions would need to reine it bycountry, economic sector, or both, or to relectthe peculiarities o investments such as capital,R&D, or marketing expenditures, as well ascompetitors’ moves and regulators’ changes.
We’ve excluded inancial institutions rom thisanalysis because their recent proits havebeen highly volatile—way above average in2005–06 and way below average in 2007–08.The inclusion o these companies would notchange the results but would make itharder to interpret the long-term trends.
7654321019681971197419771980198319861989199219951998200120042007Ratio of nonﬁnancial corporate proﬁts to GDP,
%2008Median = 4.9
Includes all US-based nonnancial companies with real revenues greater than million. Prots are earnings beforeinterest, taxes, and amortization (EBITA), less estimated taxes.
Profts revert to the mean
Corporate prots fuctuate around astable percentage o GDP over the long term.