Approaching the Risk, Challenges, and Opportunities in 2025: The Board Perspective - Peter Waziri
Part 1: Inflation Debt/Capital Price Uncertainty
In previous writings, I focused on the healthcare industry within the Americas. This time, I decided to adopt a broader industry outlook from the perspective of three important trends and their respective outlooks within a global context.
I will present these trends in a series of three short articles, and they are as follows:
1. Implications of dramatic policy changes from an inflation and debt/capital price uncertainty perspective;
2. Fast-moving technology trends from the AI perspective; and
3. Shifts in global alliances, supply chains, and investments.
The Background
If we start by asking if this current global turbulence is a new phenomenon, my answer would be no because we have witnessed such patterns throughout human history. Things come around in cycles — financial, pandemics, international strife, global/regional alliances, and so on. In this present climate of uncertainty, businesses are expected to navigate complex geopolitical landscapes, adapt to technological advancements, security threats, while maintaining integrity, transparency, and trust.
The elevation of uncertainty around geopolitical risks is materially reshaping decades of established treaties and agreements with unavoidable financial, business, and market consequences. Driving these changes are factors such as long-standing opposition to the status quo; new forces demanding significant and material changes; armed conflicts between sizable powers; and evolving trends superseding the current globally accepted norms. Understanding the deeper dynamics of these drivers will allow boards to properly advise management on a) identifying, navigating, quantifying, and managing these risks, and b) when and how to seize the opportunities from these risks. Companies willing to go beyond numbers and headlines and capitalize on opportunities to remain adaptive and competitive will stand a better chance of prevailing in these turbulent times.
Inflation Debt/Capital Price Uncertainty
We have transitioned from the cycle of low inflation and interest rates to that of higher rates. Contemporaneously, we are witnessing wealthy nations’ aging demographics, tight labor markets, and higher public spending. Additionally, wealthy nations’ defense spending is projected to increase. The combination of increased public spending without any material reduction in taxes will result in higher budget deficits which will lead to even higher interest rates just to manage the inflationary consequences. For example, EU nations are projected to increase defense spending well beyond 2% of GDP not just for NATO purposes, but to account for the longer-term consequences of the Ukraine War. The US budget deficit is already at 7+% of GDP, which is unheard of outside recession and wartime periods. Even normally parsimonious northern European countries such as Estonia and Finland have started running large budget deficits.
The projected economic dislocation of higher tariffs coupled with wealthy country populations’ fatigue on immigration will also exacerbate this trend. For example, the looming mass deportation of undocumented immigrants in the US will worsen labor shortages which can result in far worse consequences such as stagflation (i.e., low growth and high inflation). The next few years will be especially challenging for US firms’ overall cost of capital because they borrowed heavily during the pandemic at fixed rates as low as 3%. With about $2.5 trillion in fixed-term debt due for refinancing over the next 3 years, they will be facing rates in the 7% range. The most exposed firms are in the manufacturing sector.
Companies that permanently adjust their management’s toolkit to this inflationary and high-rate period will remain ahead of the competition and boards should engage with management on this trend. Inflationary environments make it less attractive to hold all variations of cash assets (e.g., bonds, inventory). Sectors with large inventory management cycles (e.g., manufacturing and wholesale) will need to adopt more efficient management techniques. The financial investment sector will be looking to reduce portfolio exposures to fixed income assets while looking to acquire more inflation-linked instruments. The longer the inflationary environment persists, the more the incentive will be to innovate inflation hedging financial products. Sectors where regulation requires large holdings of cash or near-cash reserves (e.g., banks and insurance entities) or sectors where cash on hand is a measure of financial health (e.g., hospitals) will also be looking to adopt strategies that minimize or hedge the inflationary effects on such holdings. Above all, management’s toolkits should include the ability to constantly manage cash flow, margin, and balance sheet protection from an inflationary perspective. Equally necessary is the frequent rebasing of assumptions during each fiscal year to keep up with real vs nominal costs especially for budgeting, planning, and capital expenditure purposes. Firms in the consumer sector should also double down to monitor consumer inflationary expectations and their influence on behavior from a cost-conscious and spending perspective.
The need for capital investment will remain undiminished in this new trend. While some firms may pause investment spending, others will take the opportunity to boost capital spending — especially on technological investments. A well-utilized investment strategy with certain types of investment funds is to buy tech stocks during economic downturns in anticipation of increased revenues for such firms when compared to those of other industries that experience the opposite. The driving force behind this comes from firms that typically utilize slow periods to upgrade technology. Aside from the investment sector, other sectors (e.g., healthcare, financial services, retail, etc.) must continue investing in data and technology, cyber security, innovation/R&D, to remain competitive. The challenge for boards is to stress test management’s investment strategy with regards to service offerings and increasingly expensive capital. The defense sector is another industry that needs to constantly invest in innovative technology. For example, the experience of the Ukraine War is influencing the type of new products required for future conflicts and hence the necessary technology investments (e.g., drones, advanced virtual reality headsets, unmanned aircraft, etc.). Countries once thought to be insignificant players in the defense tech industry are finding opportunities such as Finland. This small Nordic nation is turning into a start-up hub for defense tech firms with over 360 firms as we speak. The US defense sector is also undergoing shifts in procurement patterns as Silicon Valley tech firms deepen their partnership with the Pentagon. The procurement pattern around their product offerings is typically short, and in most cases, cheaper than those of long-established defense contractors. This could potentially reshape the Pentagon’s procurement methodology, especially if it concludes that the shifting geopolitical dynamics require greater emphasis on higher tech capability and less reliance on some types of conventional weapons.
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Stay tuned for part 2 of this series, to be published in two weeks.
Connect with Peter on his LinkedIn, and read more on his Signitt.
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A financial and healthcare leader with a global perspective, Peter Waziri has deep experience across several industries. He currently provides financial leadership for Parkland Community Health Plan’s operational and clinical management functions. Previous positions include CFO at Umpqua Health and also at Cascade Comprehensive Care, along with management positions at GE Capital, Ernst & Young, PNC, KeyCorp, and the Institute of European Finance in Great Britain.
