The Growth Trap

Bad growth? It happens all the time. It happened to McDonald's. In 2002, after years of relentless expansion, the burger giant posted its first ever quarterly loss. New restaurants were cannibalizing older franchises' sales, overseas expenditures were killing operating margins, and franchisees were starting to cut corners in customer service. The company's share price plunged to $16.

Mary Larson and Graeme Deans, partners in A.T. Kearney's Toronto office, tell the story in a new report that takes aim at the "growth-for-growth's-sake" axioms that dominate much of today's corporate strategic thinking.

It's not that top-line growth is irrelevant, Larson and Deans argue -- it's just that it's often disconnected from any real value creation. Their analysis of growth rates and total shareholder returns in the packaged foods industry (2002 to 2006) turned up numerous examples of companies that achieved strong revenue growth yet still posted below-average TSR. Some organizations may be mired in a cycle of unprofitable growth, Larson and Deans claim.

The M&A path can be profitable, but it can also lead companies astray. "It's attractive because it appears to be a rapid way to get growth, and it's also seen as something exciting to do -- and investment bankers sell it as something exciting to do," says Larson. "If you know you can't grow in a market because you lack the technology, the know-how, certain capabilities or the scale to really command a position that will allow you to grow, it's probably something to think about doing. But it's not a panacea, because research has shown that many mergers don't succeed."

Companies should base their growth strategy on building competencies in the following areas, Larson and Deans suggest:

• Scale and operational excellence: becoming the lowest-cost, highest-quality competitor in their industry. This may involve, for example, reducing complexity in the supply chain; achieving manufacturing excellence; and optimizing SG&A costs and the product portfolio.

• Organizational focus and leadership: breaking through growth barriers within the organization and building a growth culture.

• Strategic marketing: focusing on the 4 P's of marketing: product, place, price, and promotion. Companies can pull strategic growth levers by applying market segmentation strategies, employing value-based pricing, and enhancing the customer experience.

Finance leaders can make key contributions in all three of these areas, especially the first, says Deans. "CFOs are often the champions of driving cost reduction programs and efficiency programs. They can push even harder and be more aggressive and creative to achieve a truly low-cost operation in comparison with the company's competition." Finance chiefs can also help reduce complexity in the supply chain and the product portfolio.

And in tough economic times, CFOs may need to step in to make sure that growth-generating investments don't get jettisoned in knee-jerk cutbacks, Larson adds. "The onus is on the CFO to be a voice of reason in a situation like this and to say, 'We can't stop investing in good marketing and sales and product development, so let's just be very rigorous in deciding which areas we need to invest in."

McDonald's pulled out of its slump by redirecting investments toward its brand, facilities, and service, and by slowing its international growth. The result? The stock rebounded; it's currently trading around $56. And after the 2002 loss, corporate revenues increased for more than 45 consecutive months, according to Larson and Deans.

Download "Growth for Its Own Sake Is ... Overrated" from A.T. Kearney.