Is an asset light strategy a defensive tactic or a growth enabler?

I’ll be honest, I know nothing about American Football. Those who know me on a personal level find this a difficult fact to reconcile with given that I have been known to ignore phone calls, text messages and WhatsApp’s when there is any kind of sport on television. My fascination with the rules of any game, and winning strategies is notorious.

However, I have watched enough football movies to know that one of the biggest debates in American Football is whether a good offense is the best defence or whether a good defence is the best offence.

As with all sports, American Football has evolved. In an effort to make the game more spectator friendly, successful teams have a good offense and a good defence and know which tactic to deploy given the game situation.

If we take the Covid-19 Pandemic, and the associated crisis such as the global supply chain crisis, as a game changing event, what strategies do companies follow in order to remain successful?

Once seen as just a defensive tactic used by underperforming companies, asset-light strategies and business models are now becoming an essential tool to fuel growth and strengthen an ecosystem of partnerships. I recently read an article by Ernst & Young which looks at the advantages of this tactic given the current environment that we face.

“Today, companies of all types and sizes are using asset-light strategies to deal with massive market disruption and drive continued growth,” said Willem Appelo, former Worldwide Vice President Supply Chain, Strategy, Innovation and Deployment, Johnson & Johnson, and a leading authority on business transformation. “C-suite executives are taking this moment in time to review business models, assets and partnerships as they prepare their businesses to move forward post-pandemic. To remain competitive, they must make changes irrespective of their financial position,” he added.

How asset-light models can be a strategic tool to build innovative, agile ecosystems
The article points out that, at its core, asset-light is about creating mutually advantageous partnerships that allow all parties to focus and manage the capabilities they are best at while creating greater profits and shareholder value for the benefit of all partners in a business’s ecosystem.

In addition to total shareholder returns, there may be other financial benefits. For example, another recent Ernst & Young LLP study found that companies that transitioned manufacturing ahead of a sale were 17 percentage points more likely to exceed expectations on the valuation of the remaining businesses and were more likely to exceed expectations on the price of the divestment.

However, an asset-light business model is by no means exclusive to supply chain areas such as manufacturing and distribution assets. It can help extract value from other value chain areas such as the front office, including R&D, sales and field operations, as well as more traditional back-office functions such as information technology, infrastructure and procurement.

Analysis shows asset-light companies outperform peers on total shareholder return
The article adds that Ernst & Young LLP research of US Fortune 500 public companies across several sectors shows that asset-light companies achieved a greater total shareholder return when compared with their asset-heavy peers. We define asset-light companies as those that have a five-year property, plant and equipment (PPE) to sales ratio average lower than their respective sector mean. On average, the asset-light companies outperformed their asset-heavy peers by four percentage points in the last five years of total shareholder returns. Sample selected sectors are highlighted in the graphic below.

Is an asset-light model and strategy the right answer for your company?
The article pointed out that companies typically begin their asset-light journey by identifying which assets and capabilities are core to delivering value to their customer base right now. For example, sellers may find a path to greater operational agility by transitioning their manufacturing operations to a contract manufacturer rather than carving out an entire business unit and disposing of a valuable brand.

Others, due to their experience with the COVID-19 pandemic, may look to build redundancy in key business processes but choose an asset-light path, including joint ventures (JVs) or other partnerships that avoid a balance sheet impact.  Still, other companies that are intensely focused on reducing costs may want to reduce complexity and release capital by transitioning key pieces of their support operations, such as inside sales, to an external partner.

Overall, companies should begin by asking several key questions including:

• Is your company performing at its full potential — on growth, margin, return on invested capital (ROIC) and total shareholder returns metrics vs. peers? Is there an opportunity to perform even better?
• Do you have businesses or capabilities that need to be retained or non-core assets that may have a better owner in the marketplace?
• Can you create a greater focus in your organization by retaining your core capabilities only?
• Is your business model adequate for the products and services you sell in various markets?
• Have you undertaken any significant business model transformations (e.g., third-party partnerships, JVs) in the last two to three years?

The article added that, based on the responses to the questions above, companies should conduct a rapid analysis on three levels:

• Markets – determine which markets or geographies to play in
• Product and service – determine the right business model(s) based on respective product position(s) and marketplace offerings
• Capabilities – determine which capabilities are core and which are not The Full Potential Paradigm is EY-Parthenon’s proprietary tool that provides an objective and quantitative point-of-view to set performance targets, prioritize investments and mitigate risks.

Choosing the product category can help determine focus
Capability-level analysis for the chosen product category can help determine the right focus areas, what is possible for that capability set and the right partnership model (e.g., JV, spin-off, partnership, sale-leaseback). Capabilities are assessed in terms of the relative strategic value delivered to the customer and the company. We have observed four primary dispositions:

• Core capabilities.  These are critical capabilities that are usually ripe for growth and innovation. In other words, if your company doesn’t have these in-house today, executives may consider proactively looking for players to help fast-track innovation.
• Non-core capabilities. In this quadrant, it often advantageous to actively package assets and capabilities and look for a partner that can operate these more efficiently and allow the company to focus on other “core” areas.
• High value corporate capabilities. These are of high strategic value to the company, but the customer doesn’t place an equal degree of value on them. With these capabilities, traditional cost and capital optimization efforts generally deliver value. However, it is important to keep these capabilities on the radar for potential future deals.
• High value customer capabilities. These capabilities are of high strategic value to customers. If they’re not available in-house, the partnership should be structured such that the company has a significant influence to drive high quality and service levels.

The article pointed out that companies should note that a capability non-core to a company can be core to another, which creates the “win-win” situation for all parties.

In the Ernst & Young LLP February 2021 webcast poll, 34% of executives said enabling functions would be most suitable for an asset-light strategy, followed by middle office at 22% and front end at 24%.

Conclusion
It is clear that in some cases, employing an asset light strategy can benefit a business. However, it is important to note that this is not suitable for every business and needs to be evaluated on a case-by-case basis. How does this fit into the advice that you give clients?