E&Y: How fit is your capital allocation strategy?

Check out a  real E&Y presentation on capital allocation strategies.

E&Y: How fit is your capital allocation strategy?

Key Learnings from the Presentation

The EY report on life sciences capital allocation strategy, titled “How ‘fit’ is your capital allocation strategy?”, provides a comprehensive analysis of the strategic planning initiatives required for effective capital allocation in the life sciences sector. It offers insights into operational performance, R&D efficiency, capital structure optimization, business portfolio management, and effective communication with investors. Here’s a concise summary capturing the main insights and actionable recommendations from the report:

Challenges in Life Sciences

• The sector faces pricing pressures, unsustainable R&D costs, integration challenges, and a need for portfolio optimization amidst increased business pressures. These challenges underscore the importance of an accurate capital agenda.
• Activist investors have nearly doubled their campaigns between 2010 and 2013-14, targeting larger biopharma companies over time, driven by operational or business portfolio concerns.

Key Value Drivers

• Operational Performance: Focuses on revenue growth, operating margins, and shareholder return. Operational excellence is crucial, yet insufficient if shareholders perceive potential for further optimization.
• The R&D Cycle: Emphasizes R&D as a percentage of sales, the estimated return on invested capital for the pipeline, and the use of milestone mechanisms for better decision-making in R&D investments.
• Capital Structure: Considers current cash balances, leverage, and excess working capital. It questions whether management teams are effectively utilizing capital allocation to create maximum shareholder value.
• Business Portfolio and M&A: Deals with achieving critical mass in business or therapeutic areas and the importance of sum-of-the-parts analyses for assessing divestment opportunities.

Strategic Recommendations

• Review Cost Structures: Ensure optimization to maintain competitiveness and operational efficiency.
• R&D Investment Decisions: Implement milestone and gating mechanisms to enhance the decision-making process in R&D, aiming for higher value and productivity.
• Assess Capital Allocation Metrics: Evaluate if current metrics facilitate the optimal use of the balance sheet and support strategic objectives.
• Evaluate Divestment Opportunities: Use virtual carve-outs to understand the value of potential divestitures and focus on core priorities.
• Effective Communication: Engage in continuous dialogue with investors to clearly communicate strategic goals and capital allocation plans.

Market Trends and Projections

• A robust M&A market continues in 2015, highlighting the need for strategic divestitures as companies concentrate on core areas. The evolving landscape presents opportunities and challenges across different stages of company life cycles, from emergent and growth phases to maturity.

About Ernst & Young (EY):

EY is a global leader in assurance, tax, transaction, and advisory services. Within its consulting practice, EY focuses on helping organizations optimize their performance and manage risks. The firm is particularly noted for its strong capabilities in digital transformation, cybersecurity, and financial services. EY’s approach is characterized by its commitment to building a better working world through its services, insights, and actions.

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