Investors Seek New Ways to Create Value 2016 BCG Investor Survey. May, 2016

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1 Investors Seek New Ways to Create Value 6 BCG Investor Survey May, 6

2 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. Executive Summary In February 6, The Boston Consulting Group launched its eighth annual Investor Survey for portfolio managers, buy-side analysts, and sell-side analysts The purpose was to understand investors' views on the state of capital markets and on priorities for companies to drive value creation The survey was launched in partnership with Thomson Reuters, ensuring a broad global perspective Over 75 individuals from around the world completed the full survey, representing over $.7 trillion in assets under management Several key themes emerged from the survey: Investors' short-term outlook is much more bearish in 6, also affecting TSR expectations 3% of investors are (very) bearish, which is the highest since 9, reflecting high uncertainty The three-year market average return expectation is down to 5.5% annually, owing to the impact of a 3% decline in valuation multiples Expectations for cash payouts are record high, but appetite for more may be limited Investors' expect a 4.4% payout yield going forward (8% of TSR), continuing the upward trend in expected cash returns over the past few years At the same time, investors may now see cash returns as "table stakes" and prioritize reinvestment and potentially deleveraging (due to rising interest rates) over higher payouts The need for strategy is stronger than ever, as investors seek the next wave of value creation Investors prioritize companies' strategy and management credibility in making investment decisions, although key TSR drivers (such as growth outlook, room or P/E and margin improvement) remain important Strategically, investors see opportunities in R&D investments and portfolio shaping (M&A and divestitures) Investors see improvement potential in companies' strategic management processes, such as capital allocation and strategy development and planning 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx

3 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. Agenda Context for 6 Investor Survey Findings from 6 Investor Survey Short-term concerns, reverting to positive mid-term outlook Steeply lower TSR expectations due to multiple decline Strategic avenues for value creation Takeaways and implications for companies 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx

4 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. 6 BCG Investor Survey is the 8th annual edition 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx 3

5 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. The 6 BCG Investor Survey is based on 79 respondents from a diverse pool (I/II) Investors represent $.7T+ in assets 6% of investors have time horizon of <3 years Almost half are portfolio managers Respondents (%) $+ B Respondents (%) Less than month Respondents (%) 4 8 $B to $B $5B to $B month year 8 Sell-side analyst 75 $B to $5B $B to $B 38 3 years 4 Buy-side analyst 5 7 $5M to $B <$5M years 5 years and greater 6 Source: 6 BCG Investor Survey. Note: Value of fund assumed to be midpoint of interval or $.5B for the low, $3B for the top.. Based on 5 respondents who indicated a fund size; the rest chose not to disclose or were N/A. 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx 4 N/A Portfolio manager

6 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. The 6 BCG Investor Survey is based on 79 respondents from a diverse pool (II/II) S&P 5 is dominant index But geography is very diverse Respondents (%) Respondents (%) Nikkei 5 Hang Seng Index FTSE 8 4 Other (Africa, Australia / New Zealand, Middle East, S. America) Asia Euro Stoxx 5 6 Global North America 6 S&P 5 9 Europe 6 6 Source: 6 BCG Investor Survey. 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx 5

7 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. Agenda Context for 6 Investor Survey Findings from 6 Investor Survey Short-term concerns, reverting to positive mid-term outlook Steeply lower TSR expectations due to multiple decline Strategic avenues for value creation Takeaways and implications for companies 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx 7

8 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. Bearish sentiment for 6: Sharp increase highest since '9 Where would you place yourself on the bear-bull spectrum for the 6 performance of equity markets you follow/invest in? Respondents (%) Extremely bullish Bullish Neutral Bearish Extremely bearish Source: 6 BCG Investor Survey. 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx 8

9 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. Bearish across indices, with Euro Stoxx most affected Where would you place yourself on the bear-bull spectrum for the 6 performance of equity markets you follow/invest in? (%) Euro Stoxx 5 Nikkei 5 S&P 5 FTSE Hang Seng Index Extremely bullish Bullish Neutral Bearish Extremely bearish Source: 6 BCG Investor Survey. Note: Because of rounding, percentages may not add up to. 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx 9

10 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. Bearish sentiment for 6 is driven by emerging market investors more bullish outlook for next 3 years Bearish sentiment in the short term Particular concentration in developing countries However, more than half bullish about 8 % 8 3 % Europe Extremely bullish Bullish US Neutral Bearish Global Source: 6 BCG Investor Survey. Note: Survey question: "Where would you place yourself on the bear-bull spectrum for the remainder of 6 (/over the next 3 years) performance of the equity markets you follow / invest in (using today as the starting point)?" Because of rounding, percentages may not add up to.. Africa, Australia and New Zealand, Middle East, South America 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx Asia Other Extremely bearish 8

11 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. Main concerns around China and other emerging markets, but some investors encouraged by valuations and US economy Why are you on equity markets for the remainder of 6?.. Bearish.... Bullish.. Stock market valuations 4% 67% US economic growth 3% 44% Oil prices 47% 37% Priv. sector demand/consumption 5% 3% EU economic growth 9% 7% Interest rate development 3% 4% Momentum since start of 6 3% % China economic growth 7% % Other commodity prices 7% % Foreign exchange rates 8% % Other EM economic growth 34% % Demographics and migration 8% 6% Public sector debt and spending % 5% Global political climate 5% 5% US presidential election 4% % Diverse picture reflects current uncertainty in market Respondents (%) Net 6% 4% % 5% 8% % % 6% 6% 8% 4% % 5% % 7% Source: 6 BCG Investor Survey. 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx

12 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. Deep dive: Investors expect a moderate impact of interest rate increases, regardless of time horizon What impact do you expect the recent rise in US Federal Reserve interest rates will have on global equity market returns... Respondents (%) 5... in 6?... over the next 3 years (6 8)? Respondents (%) Massive impact Substantial impact Moderate impact Some impact No impact Massive impact Substantial impact Moderate impact Some impact No impact Source: BCG investor survey conducted in Q 6 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx

13 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. Industry expectations: Recent top performers (HC, tech) and bottom-of-cycle industries (oil, mining) to outperform Respondents (%) How do you expect the industries/sectors that you primarily invest in/cover to perform over the next three years, relative to the general market? Biopharma Medical Technology Health Care Technology Oil Travel & Tourism Metals Chemicals Consumer Durables Construction Power & Gas Utilities Fashion & Luxury Building Materials 56 Automotive Components 5 36 Mining 34 5 Retail 36 Aerospace & Defense 5 Transportation & Logistic Communication Banks Consumer Non-Durables Insurance Media & Publishing Forest Products Multibusiness / Conglomerates Automotive OEMs Machinery Outperform the overall market Underperform the overall market Source: 6 BCG Investor Survey. 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx 3

14 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. Agenda Context for 6 Investor Survey Findings from 6 Investor Survey Short-term concerns, reverting to positive mid-term outlook Steeply lower TSR expectations due to multiple decline Strategic avenues for value creation Takeaways and implications for companies 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx 4

15 Div. & Buyback predictions (%) P/E Multiple (%) Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. Earnings growth (%) TSR expectations: Bearish market sentiment drops 3-year outlook to 5.5% annually, lowest in Investor Survey history TSR expectations at historically low level ~% of TSR expected to come from stock price appreciation, with rest from cash yields TSR (%) S&P 5 longterm average. TSR expectations as of Q of each year Annualized earnings growth expectations for next 3 years Estimated impact of P/E Multiple adjustment Based on TSR predictions Expected dividend yield Expected buyback yield Sources: BCG Investor Surveys 6.. Expectations calculated as weighted average of midpoints of answer choice interval, weighted by distribution of responses.. Market-capitalization-weighted average yield for S&P 5 companies, survey data based on all respondents (8+% most familiar with S&P 5); 5 6 survey data based solely on respondents most familiar with S&P Calculated by subtracting estimated earnings growth, dividends, and buyback yields from estimated TSR. 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx 5

16 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. Backup: Earnings growth, dividends, and repurchases expected to be the largest drivers of TSR Investors expect 5.5% TSR in 6 4 Respondents (%) < > TSR expectation (%) f Earnings growth: expect ~ 4% contribution to TSR Dividend and repurchase yields expected to contribute ~4% Respondents (%) < >8 Earnings growth expectation (%) P/E Multiple contraction : Implied decrease of (3%) Respondents (%) < 7 < > Dividend yield expectation (%) >3.5 Net repurchase yield expectation (%) Source: 6 BCG Investor Survey. 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx 6

17 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. Lower TSR expectations despite similar net income growth and above-average payout yields -.% % +.6% -.7% Percentage point change from the five-year average Estimated TSR and sources (%) TSR Earnings growth Dividend yield and share repurchases Implied multiple compression 3 Source: 6 BCG Investor Survey.. For S&P 5 only.. Based off deviance from implied average historical multiple - Calculated by subtracting historical averages of estimated earnings growth, dividends + buyback yields from estimated TSR. 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx 7

18 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. Valuation deep-dive: Investors remain concerned What is your opinion of the current valuation level of the index you are most familiar with? By how many percentage points? 5 All Indexes Overvalued Undervalued Overvalued Undervalued Forward looking P/E 3 S&P 5 FTSE Euro Stoxx 5 Nikkei 5 Hang Seng % up from GFC low point Source: 6 BCG Investor Survey.. Survey question was asked based on index preference; results were combined for all indexes.. Average percentage points by which investors believe the index they are most familiar with is overvalued or undervalued. Expectations calculated as weighted average of midpoints of answer choice intervals, over 6% deemed as 65%. 3. Median for all companies in index. 4. As of 3/3/6. Low points were 677 for S&P, 3,5 for FTSE,,8 for EuroStoxx, 7,55 for Nikkei and,6 for Hang Seng. 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx 8

19 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. Based only on S&P 5 Payout deep-dive: Highest yield expectations since survey launch uptick largest uptick for buyback expectations Cash yield expectations are at their highest point since the start of the survey % 4.% 3.% 3.9%.9% 3.7% 3.4% 3.5% 4.%.%.% Expected and actual dividend yields continue be in alignment However, buyback yields expectations are higher, after consistent over-realization % 3.%.%.%.%.6%.8%.%.4%.%.3%.9%.%.3%.%.8%.6% % 6 % 3.%.%.%.%.5%.% 3.6%.8%.9%.%.8%.6%.9%.% 3 4.6%.% 5 6.% Expected dividend yield Actual dividend yield Expected buyback yield Actual buyback yield Source: BCG Investor Survey -6 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx 9

20 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. Agenda Context for 6 Investor Survey Findings from 6 Investor Survey Short-term concerns, reverting to positive mid-term outlook Steeply lower TSR expectations due to multiple decline Strategic avenues for value creation Takeaways and implications for companies 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx

21 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. Investment criteria: Investors looking at management team credibility and strategy plus key TSR drivers Please rank the three most important metrics or characteristics used to decide whether to invest in/give a buy recommendation for when evaluating a financially healthy company over the next to 8 months? 35% Equity story TSR drivers 3% 5% 9 7 Less focus on financial ratios % 9 5% % 5% % MGMT credibility & track record Business strategy / vision Undervaluation, potential for P/E rebound 3-5 year revenue growth FCF yield Free Cash Flow / Sales ROIC levels Leverage ratios Potential improvement in ROIC level Dividend yield Near-term EPS growth Source: 6 BCG Investor Survey. Note: Respondents were given answer options; the top responses, which are shown, were selected as number,, or 3 by more than % of respondents in 6. Answer options that are not shown: change in gross margin percent, gross margin percent, M&A posture, credit rating or debt ratio, buyback approach, environmental & social sustainability, corporate governance and net income margin. ROIC = return on invested capital; EPS = earnings per share. Deviance from historical averages excluded due to added categories.. Nine answer options selected by less than % of respondents are not shown. 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx EBITDA margin

22 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. Uses of cash: Investor focus on growth persists less focus on additional payouts vis-a-vis deleveraging Given your expectations, what do you think the optimal deployment of capital and free cash flow should be for healthy companies that generate strong free cash flow beyond dividend and debt payment commitments? Rank your top 3 options. Respondents who chose option Growth focus Payout focus Balance sheet focus first or second (%) -7% +7% -9% -3% +3% +% 9-5 avg Percentage point change from the average since start of survey (9) Stepped up organic investment Strategic M&A Increase dividends Stock repurchase program Retirement of debt Build cash on balance sheet Potential reasoning Organic growth harder More attractive valuations Payouts & expectations already record high Further rising interest rates expected Sources: BCG Investor Surveys, 6.. Responses from "Pay Special Dividend" were excluded (9%) because this response was not offered in previous years. 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx

23 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. Deep dive: Less than 5% of investors believe share buybacks are being done efficiently Among the companies you invest in/follow, do you feel that, on average, management teams are doing a good job of repurchasing shares when undervalued? Respondents (%) Yes, doing a good job repurchasing shares No, wrong timing No, wrong timing & overspending No, overspending Source: 6 BCG Investor Survey. 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx 3

24 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. Management priorities: Room to improve long-term value creation focus through innovation and portfolio shaping How would you react to the following statements for companies with strong free cash flow and a healthy balance sheet for the next 8 months? Respondents (%) % (Strongly) Agree Change from 5 Are.. Dedicated to TSR 9 48 Short-term focused (but should not be) n/a - Should invest in... R&D 45 4 Emerging markets 3 4 Marketing & Ads Should pursue.. Divestitures 5 5 M&A Strongly Disagree Disagree Agree Sources: BCG Investor Surveys, 5, 6. Note: Responses from "Pay Special Dividend" were excluded (9%) this response was not offered in previous years Strongly Agree 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx 4

25 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. % of respondents Management processes: Investors see most improvement potential for strategic tools such as capital allocation To what degree do you believe the companies you invest in/follow can improve the management processes below? Very significant + Significant improvement potential (%) Capital Allocation Strategy dev and planning Investor comms Risk mgm t Comp & Incentives Value mgm t Forecasting Target Setting Financial reporting Financial planning Strategic Operational Very significant improvement potential Significant improvement potential Little improvement potential No improvement potential Source: 6 BCG Investor Survey.. Total for each improvement lever <% because "Some improvement potential" responses not shown (~5% for most levers).. Value management consisting of metrics, target setting, planning, and incentive systems. 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx 5

26 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. Agenda Context for 6 Investor Survey Findings from 6 Investor Survey Short-term concerns, reverting to positive mid-term outlook Steeply lower TSR expectations due to multiple decline Strategic avenues for value creation Takeaways and implications for companies 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx 6

27 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. The majority of investors see room for improvement in aligning corporate strategy to realize optimal TSR Optimal TSR can be achieved only by aligning corporate strategy Business strategy Growth, margins, portfolio, targets, risk but almost two-thirds of investors see potential for improvement Of the companies you follow or invest in, how well aligned are their business, investor, and financial strategies? Respondents (%) 6 57 Investor strategy Messaging Transparency Investor type Optimal TSR Financial strategy Capital structure Dividends and buybacks 4 43 Highly Partly or poorly Aligning business, investor, and financial strategies is key to improving valuation and TSR Source: 6 BCG Investor Survey. 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx 7

28 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. What steps can our clients take to weather the headwinds and drive strong, sustainable TSR? 3 4 Take a balanced and realistic approach to TSR target setting and delivery All TSR drivers are important, given high valuation/multiples or margin levels Need to understand what TSR current plans can deliver and if that meets expectations Develop a robust understanding of what drives differences in valuation multiples in a given sector as a basis for defending (or extending) current valuation Employ a disciplined approach to capital allocation aligned with "natural" investor type Trade off capital allocation options on the basis of their return profile, prioritizing highestreturn reinvestment organic or acquisitive growth opportunities Identify target investor type on the basis of growth and cash flow profiles Carefully develop a financial policy, focused on dividends as a catalyst or floor for valuation multiple and opportunistic but prudent share buybacks Focus core management processes on delivering aligned business and financial targets Strategy development and planning to clarify and storm-proof plans Investor communications to lay out TSR delivery model and roadmap Value management and ownership culture to align incentives across the organization Source: BCG analysis. 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx 8

29 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. It is critical that companies align their business, financial, and investor strategies Competitive advantage Portfolio strategy M&A and divestiture strategy Capital allocation Organic growth, margin, and asset productivity initiatives Business strategy Growth, margins, portfolio, targets, risk Optimal TSR Investor segmentation Target investor mix Investor migration plan Investor communication Investor relations practices Multiple valuation Investor strategy Messaging Transparency Investor type Financial strategy Sources and uses of cash and capital Dividends and buybacks Return cash to shareholders Regular dividends Share buybacks Special dividend Leverage ratio and rating aspirations Net-working-capital management Source: BCG analysis. 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx 9

30 Copyright 4 by The Boston Consulting Group, Inc. All rights reserved. Authors of the 6 BCG Investor Survey Report If you have questions or need further information about this work, please reach out to the following people within BCG: Jeff Kotzen Tim Nolan Frank J. Plaschke Julien Ghesquieres Hady Farag Jeffrey Kotzen Senior Partner and Managing Director Tim Nolan Partner and Managing Director Frank J. Plaschke Partner and Managing Director Julien Ghesquieres Partner and Managing Director Hady Farag Principal New Jersey US Tel Kotzen.Jeffrey@bcg.com New York US Tel Nolan.Tim@bcg.com Munich Germany Tel Plaschke.Frank@bcg.com New York US Tel Ghesquieres.Julien@bcg.com New York US Tel Farag.Hady@bcg.com 6_BCG_Investor_Survey-Results_Summary 5--6 version B.pptx 3

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