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12/31/2012 04:30 PM

A Generation of Uncertainty

Companies Prepare for Future that Can't Be Predicted

By Dietmar Hawranek, Martin Hesse and Alexander Jung

The heads of major German companies admit that they have no idea what the future holds in store economically. Next year, the situation could rapidly improve or decline. For many companies, the goal is to become as flexible as possible to prepare for any eventuality.

There are people who should know what the future holds for the German economy -- for business trends and jobs, for exports and the euro, and for the price of oil and other commodities.

No, the focus here is not on economic analysts and their oracles, who are all too often off target. Instead, this story is about German CEOs who have managed to steer their companies so successfully that they apparently have a knack for predicting the future.

One of them has his office on the 22nd floor and, on a clear day, he can gaze all the way to the Alps. Norbert Reithofer, CEO of BMW, has led the Munich-based carmaker from one record sales year to the next. But before he talks about the economy, Reithofer prefers to tell his visitors about a swan -- a black swan.

People used to believe that there were only white swans. But then a black species of swan was discovered in Australia, Cygnus atratus. Reithofer has recommended that his fellow board members read "The Black Swan: The Impact of the Highly Improbable," by Nassim Nicholas Taleb. The book describes seemingly impossible events that nevertheless occur. Taleb contends that these so-called "black swan events" have an enormous impact because no one expects them -- such as the collapse of the Lehman Brothers investment bank in 2008, which sparked the global financial crisis.

"I don't know what will happen in 2013," says Reithofer. At a time of extremes, he says, predictions have become impossible. While some markets are on the verge of collapse, such as in Southern Europe, others promise robust growth, like Brazil, Russia, India and China. But he admits that even these promising regions can transform into crisis areas overnight -- for instance, if governments put the brakes on car sales with new laws or tariffs.

The Age of Unpredictability

Wolfgang Reitzle, CEO of the Munich-based Linde Group, agrees that the age of predictability is over. His company, which produces gases for the petroleum, chemical and food industries, has continuously increased its profits -- and its stock market value has jumped six-fold over the past 10 years. But Reitzle says: "It has never been more difficult than today to give a precise prediction of future economic development."

For nearly a decade preceding the Lehman Brothers' bankruptcy, economic development was characterized by high growth and minimal fluctuations. "Now it's the other way around," says Reitzle, who notes that there is currently only minimal growth, but this is accompanied by extreme turmoil on the markets.

It's not just companies like BMW and Linde that find it increasingly difficult to plan and make strategic decisions. Banks and insurance companies along with consumers and depositors now only have one certainty: There are no certainties anymore.

Today's economic situation is better than the prevailing mood, though -- at least according to a survey by the Cologne Institute for Economic Research. But what good does that do us? If companies and consumers react to the gloomy economic mood -- if they invest less and consume less -- they can cause the actual situation to rapidly deteriorate.

To make matters worse: While the worldwide network of financial markets and the Internet boosts growth during an economic boom, it also exacerbates downward trends during a crisis. Insecurity has become the prevailing state of mind in Western industrial societies.

Admittedly, there has been growing confidence over the past few weeks that the economy will recover in 2013. But major setbacks are possible at any moment -- for instance, Silvio Berlusconi could return to power in Italy, the conflict in the Middle East could escalate or growth in China could slow. And what will happen if President Barack Obama's administration simply fails to break the bitter deadlock over the US federal budget?

An Anti-Crisis Program

The question is thus no longer how much uncertainty there is, but rather how companies deal with this uncertainty.

BMW CEO Reithofer is transforming his company into an extremely flexible organism. The idea is to prevent the auto manufacturer from getting into serious difficulties due to unforeseeable events -- in other words, the emergence of black swans.

What happens, for example, if sales plummet by 20 percent within one year? Most companies would quickly find themselves in the red. They lay off workers and reduce investments. Later, they emerge weakened from the crisis. To prevent that from happening to BMW, Reithofer and his works council, the powerful body representing employees inside the company, have worked out an anti-crisis program.

At first glance, the name "anti-crisis" might sound as if the company simply intends to ban all economic downturns, but the program is actually based on a down-to-earth approach: In the future, the working hours of the BMW workforce will fluctuate to a greater degree in sync with sales. Workers will continue to receive their negotiated monthly salaries. Overtime hours will merely be credited to a working time account -- and deducted during production cutbacks.

Working three shifts a day, BMW can produce vehicles round the clock at its plants. That would be one extreme situation. At the other end of the scale, during a crisis, the company could completely shut down the plants for up to five weeks, without even a single employee losing their job or a portion of their wages. During this time off, workers have to take the majority of their annual vacation time. That's the price they have to pay to ensure that their jobs remain secure, even during a downturn.

Such an agreement offers an automotive company a number of advantages. During a crisis, it doesn't have to spend money on the severance payments and social plans that are required by German law when firing workers. And when the upswing comes, BMW still has its qualified personnel on board.

There are also plans for the carmaker's production plants to become just as flexible as its workers. If there is a change in demand, the assembly line can be quickly retooled to switch from producing SUVs to sedans, and vice versa. BMW also aims to become virtually immune to currency fluctuations and import duties. Consequently, the Munich-based company is expanding its plants in the United States and China, and building a new production site in Brazil.

In 2012, the best year in the company's history, the BMW boss launched a number of initiatives to prepare the carmaker for such an emergency situation. Reithofer argues that it's all part of good corporate management. When things are going so well, he says, the willingness to change is particularly weak, while the forces of inertia are particularly strong. "That demands a lot of energy," he admits.

Reliable Forecasts 'Virtually Impossible'

Reitzle takes a similar approach to managing the Linde Group. The CEO says that it's no longer possible to approve a five-year plan in the belief that the company will actually attain such goals. "That no longer works." He says today's companies need "an entirely different kind of flexibility".

This means that various divisions in a corporation have to be managed in highly diverse ways. In growth regions, he says it's important to play an offensive game and make major investments. By contrast, cutbacks are necessary in stagnating markets.

And everything has to be continuously better, faster and more efficient. The High Performance Organization (HPO) program has just been approved, and Reitzle is already introducing HPO II, which aims to save up to €900 million ($1.2 billion) over the next four years. Some executives are grumbling over this. Why now, they ask, when everything is going so well, should we become even better, and leaner?

Reitzle says he doesn't understand such an attitude. On the one hand, he says the corporation has to give itself sufficient leeway to take advantage of opportunities and buy out competitors -- such as the recent acquisition of the US company Lincare, which Linde purchased for some €3.6 billion. On the other hand, he says it's also necessary to work with early warning systems "to be prepared for the worst-case scenario." Ideally, he says, a company cannot be seriously threatened by any crisis, no matter how surprising it may be. Or, as Reitzle puts it: Linde will then be "indestructible."

And it's more than just a certain number of companies listed on Germany's DAX index of blue chip companies that are bracing themselves for the next crisis. Many small and medium-sized companies, Germany's so-called Mittelstand, are also preparing for an uncertain future. One such firm is Phoenix Contact.

The company is a "hidden champion," one of the many German global market leaders that very few people know. Working out of its headquarters in Blomberg in eastern Westphalia, it sets global standards for electrical connection technology. Phoenix Contact makes one-quarter of all the electrical connectors used in switch cabinets or other devices around the world.

Using a Lull to Gain an Edge

Over the past 12 years, the company has more than tripled its annual sales to over €1.5 billion. But now that growth is starting to falter. According to CEO Roland Bent, sales have declined in China and, not surprisingly, they are in a slump in Southern Europe. So what is the head of the company doing? He's investing.

In 2013, the company will open an experimental laboratory in Blomberg. It's also building a nearby center for trainees. There are 360 of them -- more than ever before. And, to top it all off, Phoenix Contact is investing tens of millions of euros in the development of a charging plug for electric cars.

Such perseverance -- one could also call it stubbornness -- is typical of this company. Even during the current crisis, it's sticking to the strategy that it thinks is right. Phoenix Contact is using the temporary lull to gain a technological edge on the competition.

During the recession in 2009, for instance, Phoenix engineers purchased a device that was revolutionary at the time: a 3-D printer to produce prototypes of pin and socket connectors. This allows the company to hand its clients a model made of plastic, instead of merely showing them an image on a monitor.

Phoenix Contact is consistently taking an anti-cyclical approach: While others are tightening their belts, the company is going on the offensive. This family-owned company can only afford to do this, though, because it is independent -- especially of shareholders and banks. Phoenix Contact doesn't require any outside capital.

In the current climate of uncertainty, many German global market leaders are adopting a mindset similar to that of executives at Phoenix Contact. They seek their own way through the maze of the financial and euro crises. A reliable forecast, says Phoenix Contact CEO Bent, is "virtually impossible" anyway.

Rattled Investors

The uncertainty over the future economic development has also rattled people who are looking to invest their money. These days, savings accounts produce virtually no interest. After deducting losses due to inflation, the account balance actually shrinks. Anyone who saves their money gets the short end of the stick. But what alternative remains?

Many people purchase an apartment, a house, precious metals or stocks. In some cases, prices have risen considerably. In urban centers such as Munich, Hamburg and Berlin, apartments and buildings are worth one-fifth more than they were two years ago. The price of gold has nearly doubled over the past five years. Last week, the DAX reached its highest level in five years.

But it can't go on like this forever. Responsible financial consultants admit to their clients that there are no safe tips for investments. They recommend diversifying and putting money into different types of investments. This at least makes it possible to spread the risk of suffering losses.

While investors, company CEOs, and small and medium-size companies increasingly accept that they no longer know how the economy will develop, the new sense of uncertainty has apparently made little impression on one group of professionals: economic analysts. They continue to make forecasts as if there were a mathematical formula to calculate the future. And they don't allow themselves to be bothered by the fact that their previous predictions were frequently off the mark.

Even the United Nations is warning of a worldwide recession. In its report "World Economic Situation and Prospects 2013," the UN writes: Economic growth could be close to zero. But the experts also predict that growth could be 2.4 percent, or even 3.8 percent, depending on the assumptions made. Everything is possible.

It's also interesting to note that the black swan has meanwhile extended its natural range of distribution. It's now endemic to New Zealand. A few specimens have even been sighted in the Netherlands.

Translated from the German by Paul Cohen

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