A Letter To Our Clients – 2024
Dear Clients,
Hello, Happy Friday, and Happy New Year! Welcome 2024 – what is sure to be another dynamic year packed with opportunities, challenges, and surprises. I hope you had the opportunity to relax, refresh, and enjoy family and friends during the break. I’ve been casually polling people to capture 2023 sentiment and my anecdotal findings would indicate most of us are happy to move into a new year, me included.
As we switch gears and prepare to report full-year 2023 results and determine appropriate guides for 2024, it’s worth acknowledging just how important the upcoming earnings call is. We have seen demonstrable shifts in the macroeconomic, technological, and geopolitical landscape since this time last year — even in just the past few weeks — and also in investor sentiment, which, according our latest Inside The Buy-Side® Earnings Primer® that we will publish this coming week, is notably more optimistic. All this underscores the need for transparent and open communications with key stakeholders, as well as a healthy level of conservatism.
In today’s piece, I’ll share with you the trends we’re seeing that our firm believes will fundamentally shape the year ahead, along with some actionable recommendations and best practices.
We’ll be going over these themes and more in our upcoming Inside The Buy-Side® Earnings Primer® webinar The Big So What™ – Q4’23 Earnings Season on Wednesday, January 17th from 12:00 PM – 12:45 PM EST. Be sure to click the link to reserve your spot!
Three Trends That Will Shape 2024
1. Geopolitical Considerations Will Remain In Focus for Investors and Companies as We Enter a U.S. Presidential Election Year
Geopolitical issues are increasingly influencing the calculus of the capital markets and how companies must communicate. Investor responses across our Inside The Buy-Side® Earnings Primer® surveys have reflected growing geopolitical concern over the past several years and was cited as the leading risk after more than doubling in concentration in last quarter’s report. Moreover, this category continues to lead investor concerns, according to preliminary results from our 57th edition of Inside The Buy-Side® Earnings Primer® to be published next week, with 51% of investors pointing to geopolitics as a risk.
Indeed, the topic of geopolitics has seen significant executive airtime during earnings calls, conferences, and webcasts. In a global analysis of company communications, mentions of geopolitics have skyrocketed relative to the pre-2022 period, posting a sharp uptick in the fourth quarter of last year after the terrorist attacks of October 7th.
Over the past 90 days alone, more than 20% of the S&P 500 have mentioned geopolitics on their earnings calls, with 75% portraying negative sentiment. When analyzing the percentage of sales originating outside of the U.S. for this group, the median foreign revenue exposure is 40% versus the overall S&P 500 median of 29%.
Investor Focus Areas and Geopolitical Communication Strategies
- China Exposure — Investors Currently Favor China De-risking versus Staying the Course: According to the latest numbers out of the Chinese Ministry of Commerce, foreign direct investment in PRC turned negative for the first time on record in Q3’23, representing a net decline of $11.8B. A clear reflection of a tepid market outlook and heightened U.S.-China relations, executives have proactively or been pushed to address China strategy amidst arduous economic and geopolitical conditions. While company situations vary, the investment community has been quite clear: more are in outright favor of U.S. companies de-risking their China exposure than those who believe executives should follow through on their “In China for China” strategy. That is not to say that we are recommending companies augment strategy, but rather that companies should be prepared to defend positioning and educate the Street on the benefits and risk mitigation actions being taken.
Indeed, analyst questions on China have been common and pointed throughout recent earnings calls. Based on our analysis, questions have centered on consumer demand visibility amidst weakened economic conditions (described as “winds and rain” by Xi Jinping); anticipated and/or “steady state” revenue contribution expectations; export controls (particularly within the Tech sector); and long-term company positioning within the country.
In 2024, executives will need to concretely address the following:
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- A comprehensive view of short- and medium-term exposure and risks associated with the China opportunity, as well as how the company ultimately expects to position itself in the long term
- Any impacts expected by burgeoning regulations coming out of the U.S. or China, including potential top- or bottom-line effects, emphasizing the company is actively engaged and in communication with regulators, when applicable
- For those de-risking, note any current supply chain dependencies and challenges, buttressed with messaging that highlights diversification and the exploration of alternative markets, ensuring shareholders understand the wholistic strategy and rationale
- For those staying the course, emphasize the strategic importance of the Chinese market in the long term, highlighting local partnerships, compliance with local regulators, traction with consumers, and any competitive advantages obtained through remaining in China
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- War in the Middle East — An Evolving Situation That Requires Candor and Proactivity: As recently as this week, war in the Middle East has resulted in material shifts in business activity that will likely have lasting effects well into 2024. On Tuesday, container shipping company Maersk told customers it had suspended shipping routes in the Red Sea / Gulf of Aden “until further notice.” The Danish shipping provider now states that some ships will be re-routed around the Cape of Good Hope (Southern tip of Africa), an extension of ~3,500 nautical miles and roughly 9 additional days on the water. German rival Hapag-Lloyd also noted they would be avoiding the route.
The Big So What™? With roughly 15% of global shipping trade passing through the Red Sea, expect shipping and transportation to become more expensive1 and delayed (i.e., watch for inflationary supply chain impacts) until this situation is resolved, and for investors to be acutely focused on contingency planning for those with exposure in the Middle East during upcoming discussions.
- Election Year Turbulence — Impacts of a Potential New White House Tenant: Based on our Q4’23 survey, nearly 70% of respondents assert the upcoming U.S. Presidential election is a factor in their investment strategies. In fact, the upcoming election permeated many of this quarter’s responses, with investors displaying varying degrees of ambivalence.
While the S&P 500 has recorded positive returns for 20 of the 24 election years since 1928, historically, election cycles have been periods of heightened market sensitivity, as investors digest the potential shifts in policies that could impact various sectors. In particular, industries like Tech, Energy, Industrials, and Healthcare could find themselves at the center of policy debates this year, particularly amid the still-tense political / geopolitical environment.
2. Artificial Intelligence: From Tinkering to Tactical, 2024 Could Be the Year Where the Rubber Meets the Road
For many, 2023 was the year artificial intelligence became tangible; en masse, companies and individual users with relatively low technological experience tapped into a piece of technology that has already proven to be fundamentally transformative. Whether via commercial solutions or consumer-facing apps, AI went mainstream. That said, 2024 could be the year when tinkering turns into tactical wins.
From the buy-side perspective, 63% of investors are already utilizing or evaluating the incorporation of AI within their investment processes according to our preliminary investor survey results on Artificial Intelligence (more to come, so stay tuned!). Further, according to our ongoing corporate AI survey, 65% are integrating AI or evaluating its incorporation into their IR practices — no small peanuts. Again, it’s getting real, yet we are still in the very early innings of this megatrend.
So where does this leave executives in 2024? Well, for starters, we’re beginning to see emerging communication practices that help give investors a panoramic view of where the company sits with AI-related technology, both from a commercial and operational perspective. This is still relatively new territory for many companies, and investors require a buttoned-up communication strategy:
Best-Practice AI Communication Strategy and Examples
AI Positioning Statement — An Effective Way to Anchor Investors Beyond the Buzz Words and to Set the Record Straight: As we’ve mentioned in our prior Thought Leadership pieces, much has been said and prophesized about the potential impacts of artificial intelligence, and many companies — technology-driven or otherwise — were quick to insert the phrase into their prepared statements. However, several remarks clearly stood out from the rest, ultimately resulting in a clear articulation of not just the “dream” of AI, but its grounded reality.
Upon analyzing company communications across sectors and market caps, we’ve identified seven core elements of leading AI positioning statements:
- Industry Impacts: What does the incorporation of AI mean for the industry? Articulate how AI adoption is reshaping your industry landscape, including highlighting specific areas where the technology is driving innovation, efficiency, new commercial categories, customer stickiness, research initiatives, etc.
- Investment: What is the extent and focus of AI-related spending? Clarify your investment strategy, including incremental R&D spend related to AI, acquisition or partnerships criteria, and potential impacts on internal resource allocation.
- Competitive Positioning: How is the company’s market position strengthened by AI? Explain how the company’s unique resources, expertise, customer profile, or market presence give it an edge in leveraging AI for competitive advantage.
- Customer Impact: How does AI improve customer experience and value? Discuss how the use of AI directly benefits customers, whether through improved products, accuracy, personalized services, or enhanced customer interactions.
- Talent and Culture: How is the company cultivating an AI-savvy culture and workforce? Explain the steps being taken to build AI capabilities within the workforce, including training programs, hiring strategies, and fostering a culture of continuous learning and adaptation. Are associates empowered to use the technology? And if they are, what controls are in place to mitigate downside risk?
- Operational Efficiency: How is AI optimizing internal processes and operations? Detail the improvements in operational efficiency, cost savings, or productivity gains derived or anticipated from AI implementations.
- The AI “North Star”: What is the company’s long-term vision for AI in its operations and offerings? Think through how AI aligns with the company’s broader goals and how it will shape future products, services, or market approaches. While less tangible, this helps wrap the preceding points into one cohesive message.
Best in Class Example AI Positioning Statement: Kroger
- Consumer Staples
- $33.2B
- Q1 2023 Earnings Call
Best in Class Example AI Positioning Statement: Broadridge Financial Solutions
- Tech
- $23.4B
- 2023 Investor Day
3. Activism is Poised to Accelerate as The Deal Environment Improves
While last year’s activist activity culminated in a 40% uptick since 2018, we are seeing a notable increase in activist activity in recent weeks, just as the capital markets have improved and deal activity has sprouted green shoots.
Outside of shareholder proposals, the leading activist campaign objectives last year were for Board representation, “maximizing shareholder value”, often flagged as activists demanding strategic reviews of underperforming assets and/or a shift in capital allocation priorities, and voting against a management proposal. In addition, activist targets were predominantly found within Consumer Discretionary, Financials, Tech, and Industrials sectors, with an overall large cap bias.
With the trend in activism moving up and to the right, companies in 2024 must take an active approach in monitoring their defense readiness. This means not just passively observing the landscape or reacting to new information or risks, but proactively and consistently engaging in strategies to safeguard against activist investors, even when the coast seems clear. Keep in mind, if a lesser-known activist makes contact, take it seriously; maintain careful records of conversations and consult with legal counsel before sending any written communication.
Selected Best Practices for Proactive Activist Defense
- Ongoing Valuation Assessments: Like all professional investors, activists begin with deep dive valuation analyses, seeking companies that are woefully underperforming absolute and relative benchmarks, specifically historical, industry, and proxy peer performances. Keeping a finger on the pulse of valuation and digging into what is creating the disconnect (more on that below) is critical to developing strategies to close the gap and ensure you’re not sending out a beacon. Inviting various bankers, consultants, and other subject matter experts, such as shareholders and covering sell side analysts, to present to the board annually provides outside-in perspective on the macro, competitive landscape, and company-specific notables, as well as general board enrichment.
- Formal, Periodic Strategic Reviews: It is essential to conduct a thorough assessment of various aspects of your company, including performance, valuation, strategic direction, portfolio composition, and governance, including management compensation. Programmatic strategic reviews with independent input support greater executive and board alignment on the long-term strategy and serve as a robust defense against activists, as these processes identify and create awareness on both strengths and weaknesses from an absolute and relative perspective.
- Proactive Shareholder Engagement and Robust Communication: Developing a rapport with the Street through a comprehensive shareholder engagement strategy that involves proactively reaching out to and building relationships with both active and passive shareholders, prospects, and analysts is key. Our research shows that roughly nine in ten investors point to getting out on the road and attending non-deal roadshows, conducting investor days, and investor presentations as the top three most important tools in a company’s IR arsenal. Delivering on investor expectations in this regard serves to harden your defense as activists, following the valuation analysis, will dive deeper into their research. Is the company reactive, “sleepy” or “insular”? Does management communicate in the tongue of the Street? Are the company’s IR materials up to date? Along with execution, effective communication is a critical ingredient in thwarting activism.
- Regular Perception Studies: Regularly monitoring investor sentiment is one of the most powerful tools a company has to defend against unwanted, surprise house guests. Systematically tracking perception over a long period of time — we recommend conducting Perception Studies every two years on average — engages shareholders and analysts at a deeper level, and provides management and the board with a rich trove of historical data, trends, and benchmarking. Indeed, activists often reach out to the Street as part of their due diligence process to corroborate their thesis. Does the company maintain strong relationships with shareholders? Are shareholders discontented? Are there issues with management, the strategy, and/or capital allocation? And if there are grumblings, that only serves to strengthen the activist’s confidence. Companies have a better chance of remaining in control by being their own activist and embracing knowing the ground truth.
In Closing
We’re heading into this new year and earnings season with eyes wide open and will continue to track these trends and more as the year progresses. Next week, we’ll be publishing our 57th edition of our Inside the Buy-Side® Earnings Primer®. As always, we hope you find our research and perspectives timely and insightful.
Thank you for your continued support and readership and here’s to outperformance in 2024!
All our best,
Rebecca & Team
- Platts, a division of S&P Global, put Tuesday’s spot rates on the North Asia-Mediterranean route at $5,000 per 40 ft. unit, more than double the rates of $2,300 per 40 ft. unit on Dec. 26 and more than triple rates of $1,600 at the beginning of December. Source: FreightWaves