Interview with Prof. em. Dr. Rudolf Volkart

In the following interview, Prof.  em. Dr. Rudolf Volkart looks at recent developments in the financial environment and discusses the current challenges in corporate finance.

How do you see the developments in the financial environment since around mid-2018?

First of all, it should be noted that we have experienced an extremely eventful time period. We were on a roller coaster, which – somewhat strikingly – is impressively reflected in the SMI stock market chart of the last four years. From mid-2018 on, the SMI bobbed up and down from around 8600 to 8400 points, only to advance steadily and powerfully in 2019, reaching around 11,100 points by early 2020 (mid-February). This was followed by a dramatic crash to 8400 points within just thirty days, i.e. by almost 25%.

The US presidency of Donald Trump, which ended in an awful way, was accompanied in 2020 by the corona virus epidemic, which lead us into a global pandemic, with China having been hit particularly hard economically. Despite all this, the stock markets soon recovered after the massive crash, rising to 10,700 points by the end of 2020 (SMI) and even to around 12,900 points by the end of 2021. Thus, the «inflation» in the stock and real estate market, fueled by the central banks, led to a retrospectively almost unbelievable stock market boom; a clear symptom of an economically questionable development.

The crash of the stock markets at the beginning of 2022 (SMI to about 10,400 points) was accordingly violent. Russia’s unexpected warlike invasion of Ukraine abruptly and fundamentally changed the political, economic and integral world situation. And the now incipient inflation initiated the long overdue normalization of the interest rate. It is astonishing that once again a gradual stabilization of prices on the stock market set in.

In which areas of corporate finance will the current developments in the environment be most noticeable?

Corporate finance can be divided schematically into five areas of action: (1) investment policy, (2) capital structure policy, (3) liquidity policy, (4) risk policy and finally (5) (internal and external) information and communication policy. Recent developments in the business environment have had a decisive influence on all these fields of action. It is not new theoretical approaches that are in the offing, but rather fundamentally strategic and operational issues. The theoretical foundations of corporate finance have proven to be robust in day-to-day management. Meanwhile, what has led to growing concern in recent years, is the flooding of entire economies with an abundance of money with unbelievable proportions; a violation of basic economic laws. New theoretical concepts such as the absurd idea of a «MMT», a «Modern Monetary Theory», had to be used to give the economic aberrations the appearance of plausibility; market distortions that had far-reaching financial consequences for investors and companies with the overheating of the real estate and stock markets.

What does this mean for corporate finance, for example regarding investment and capital structure policy?

The challenges affecting the investment side are substantial, but they also offer opportunities. The digitalization requires or enables new solutions in areas such as innovation, sustainability, artificial intelligence, robotics, and IT in general. At the same time, various sources of risk have intensified, with implications for potential probabilities of occurrence and loss levels. Safeguarding financial value creation currently requires increased attention in company and project valuations, especially against the backdrop of rising interest rates and prices as well as uncertainty regarding inflation and interest rate prospects.

This leads to the financing side, where interest rate developments increase a company’s cost of capital and affect the design of a sustainable capital structure. At the same time, inter- and multinational corporations must be mindful of shifts in currencies, including concerns in the highly volatile crypto markets. In a normalized financial market, equity investors and debt providers are likely to pay more attention again to the business models of companies seeking capital and show more rational investor behaviour. Thus, it is especially important that a company’s debt capacity is always appropriate to its financing needs. The pressure on intrinsic enterprise value and share price caused by the rise in interest rates creates additional challenges, especially regarding buy and sell-side M&A activities or special financial transactions such as IPOs, LBOs and MBOs.

And how do you see the current challenges in the areas of liquidity and risk policy?

First, on risk policy: the dramatic intensification of political, economic, social, and geopolitical risks is increasing the pressure on the risk-bearing capacity of companies and business models. This is accentuated by the more intense competition for human resources and know-how, with pressure on margins and financial value creation of the company. The risks that have become apparent from an international network that is too one-sidedly driven by efficiency suggest a reconsideration of the operational dependencies of logistics that are not diversified enough. Finally, the IT sector can become a challenging area where, in addition to IT technology risks, the increasing threat of cyber dangers must be taken into account.

All these issues are also directly relevant to the liquidity policy. An even more far-sighted strategic liquidity policy is required, especially in view of the coming resource and energy bottlenecks. As far as primary liquidity management is concerned, the focus can be turned from the cost side (negative interest rates) back to the return side (interest income). By defining sufficient minimum operational liquidity, the liquidity risk is kept low and financial leeway is created. In this sense, the pursuit of financing potential (so-called «financial slack») is also essential to ensure that a company always has sufficient financial strength «off the cuff».

From your view, to what extent is a company’s information and communication policy affected?

The demands on internal and external information and communications policy have increased continuously over time. A number of elements of corporate publicity are likely to offer only limited potential; rather, it will often be a matter of not disappointing the constantly increasing external expectations. Within the company, the communication landscape is changing in line with the changing generations and their needs and expectations, for example in connection with the pandemic-related increased interest in home office opportunities. External information policy is particularly challenged in connection with the procurement of additional equity and debt capital. With regard to special financial transactions, attention must be paid to the interplay between business model, communication, financial rating and image. More generally, credibility, transparency and openness in information will become even more important on all levels.

How do you see the corporate finance environment over the next four years?

In the short and medium term, new uncertainties are likely to challenge corporate finance. These involve important influential factors in the economic, political and ESG-related environment. Dominant topics will remain the division of US society, the US-China relationship, the power politics of Russia, the development of the EU and NATO, monetary, financial and currency policy, as well as the management of ecological and pandemic-driven problems, exacerbated by energy, resource and food shortages, migration aspects, pandemic consequences, and new problem and crisis hotspots that keep emerging unexpectedly. The previous relative stability in the national and international environment has given way to dramatically increased instabilities.

Prudent financial management therefore requires increased efforts to secure material, human and immaterial resources, in addition to financial success and value orientation. This is combined with intensified relations with stakeholder groups and society as a whole in the relevant environment. However, in the short term, financial management must be concerned with current interest rates, inflation, and currency developments.

Prof. em. Dr. Rudolf Volkart is founder, senior partner and member of the board of directors at IFBC. He was for many years an ordinary professor of business administration and director of the Swiss Banking Institute at the University of Zurich. He has a large and renowned track record as an expert on financial economics topics. This is also evidenced by the large number of well over one hundred publications dealing with fundamental issues of finance and in particular with corporate finance, capital market theory and the cost of capital. In 2014 he was awarded the Dr. Kausch-Prize for his outstanding contribution to the fields of corporate finance and financial accounting.

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