In most diversified companies, next year's investment budget looks a lot like last year's. Each business unit asks for a little more, the largest ones get the most, and the portfolio drifts. Over time, capital accumulates where it was historically deployed instead of where it earns the highest return.
Two questions for every business
Does it earn more than its cost of capital? And is its market growing? The first tells you whether more investment creates or destroys value; the second tells you how much room there is to invest. Together they sort the portfolio into four roles.
- Grow: positive spread and a growing market. Every dollar invested here creates value; these units should get more capital than they ask for.
- Harvest: positive spread in a mature market. Protect the returns, invest to maintain and send the cash to the growth units.
- Fix: a growing market but a return below the cost of capital. Growth is making things worse; repair pricing, cost or capital intensity before expanding.
- Exit or restructure: low returns in a market that is not growing. Unless a credible turnaround exists, the business may be worth more to another owner.
In this group, logistics and retail outlets hold 850 million of capital, more than a quarter of the total, and earn less than they cost without the growth to change it. Specialty chemicals, with less than half the capital of the core packaging business, has the widest spread and the fastest growth: it creates the most value per dollar invested. A budget that follows size would starve it.
Running the portfolio review
- Calculate ROIC and growth for each unit on the same basis, with shared costs allocated fairly.
- Agree each unit's role with its leadership, and set targets that match the role: growth for Grow, cash for Harvest, returns for Fix.
- Make the budget follow the roles, and review the map every year, because businesses move between quadrants.
Bartor S.
Founder
