EUROPE: RANKING - EUROPE'S TOP 500 - DARK DAYS AT THE TOP.

EUROPE: RANKING - EUROPE'S TOP 500 - DARK DAYS AT THE TOP. - British Industry is in a distinctly favourable position via-a-vis its two principal rivals, according to the method of measuring company performance devised by Germany's Kiel University. In thi

by Nick Hasell and Peter Wilsher.
Last Updated: 31 Aug 2010

British Industry is in a distinctly favourable position via-a-vis its two principal rivals, according to the method of measuring company performance devised by Germany's Kiel University. In this year's list of the top European companies no fewer than 142 from the UK qualify for a place. But overall, the trends which emerge are not good, with the score of almost every organisation deteriorating in comparison with last year's rankings.

Britain slid into deep recession a good 12 months ahead of its Continental neighbours, but that relative disadvantage had little impact on this year's rankings of Europe's Top 500 companies (despite the fact that this mainly reflects 1992 performance). Of the 142 UK companies qualifying for a place in the full list - which is almost as many as France and Germany could muster between them - more than half succeeded in improving their overall rating. Of the rest, 67 registered some slippage, though there were only a handful of really dramatic falls, mainly in the building and construction sector - and just three remained precisely where they were before.

Even if banking and insurance are excluded, a hard-hit British contingent still impressively held its own among the 400 contenders that make up the purely industrial and commercial list. The 61 winners there neatly balanced the 61 losers, with one solitary non-mover, the automotive components group BBA, remaining unchanged at number 288.

Most notably, too, British firms more than maintained their domination among the upper echelons. As scored by the economic research team at Germany's Kiel University, no fewer than 47 of Europe's 100 most successful and best-managed businessses - as against 41 this time last year - are headquartered on this side of the Channel. Indeed, there are now six of them - Reuters, Glaxo, Cable and Wireless, Wellcome, SmithKline Beecham, and Rothmans - to be found in the first 10, which again is an improvement, this time by one, on last year's position.

The Kiel team, under its director, Professor Reinhart Schmidt, has developed what is known as the RSW performance measure. The initials stand for Rendite (profitability), Sicherheit (financial solidity) and Wachstum (growth). Each quality is measured on the basis of two separate variables, and these in turn are then combined on the basis of an elaborate system of weights (see explanation on page 68). It is these figures which reveal the extent of the hammering inflicted by Europe's economic storms during the early-1990s, and they are likely to be even more dismal when we repeat the exercise next year.

Managements like Reuters (see Profile, p58), which have actually improved their score over the past 12 months, can be counted almost on the fingers of one hand. Almost every other organisation for which it is possible to make a direct comparison is doing worse this time than it did last year, and this is strikingly mirrored, also, in two of the three main national groups. Most notably, the average score returned by the British entrants among the industrial 400 dropped by more than a quarter, while their French opposite numbers were off by a full one-third. Only Germany showed some marginal improvement in what remains a pretty lacklustre, below-average performance (and that, of course, was before the full rigours of recesssion set in beyond the Rhine).

As the table shows, average return on equity before tax, which is the single most significant RSW factor, displays an even more disturbing trend. Over the past five years, according to Schmidt' s calculations, the profitability of European companies has dropped by more than half.

For individual countries, however, such comparisons have to be treated with considerable care. Schmidt warns that firm statistical conclusions are really only possible when there are more than 30 firms in the national sample - which effectively excludes all but Germany, Britain and France - and even in these cases it is quite possible for one single rogue result to make an enormous difference.

In the case of the UK, the rogue is Costain, the ailing construction and mining company, which drops from 389th position last year to the ignominious last place, number 400, in the current league. Like many of its competitors in the building industry it has had an appallingly difficult time, during which its profits have gone into virtual free fall. As a result of its contribution, added to those of other, less dramatic sufferers, the average return recorded by Britain's 123 top industrial operations fell in the latest period from a previous 13.3% (itself sharply down on 1988's 26.4%) to a fairly desperate 9.7%. But if it is excluded, as an aberration, which is what Schmidt would recommend, that figure rises to a somewhat more respectable, and less unflattering, 12.2%.

That puts British industry into a distinctly more favourable position vis a vis its two principal rivals. French equity returns are almost exactly in line with the Europe-wide average, having dropped by just over one-half to 13.1% in the last half-decade. Germany, having started significantly lower, at 18.5%, is showing a less precipitate percentage fall, down by two-fifths to its present 11.1%. But even before the worst of the current squeeze set in it was showing by far the sharpest of all the annual collapse in returns - by more than 30%. That contrasts distinctly unfavourably with both France (down 13%) and the UK (where the decline is only 26%, even with Costain, and less than 10% if it is omitted). When, next year, the generally dismal results currently being reported by some of Germany's biggest companies are aggregated, its relative position is likely to diminish yet further. Of the smaller national economies, Sweden, whose five-year average return on equity has dropped from 23.4% to - 7.5%, has been noticeably damaged, with several of its large and even household-name firms now in outright loss. Italy's many deep-seated structural problems are starting to show up in corporate results, and the bad news will no doubt be further compounded this year as that country's wholesale corruption purge takes an ever-increasing boardroom toll. Ferruzzi Finanziara (last year's 88) and the agrochemical giant Montedison (formerly 89) have already disappeared from the list. Finland, also, is in a pretty fragile state, though its returns have picked up marginally since last year's low of - 6.6%.

The most notable exception, in a generally subdued picture, is Spain, where the record is buoyed up by excellent results from a string of highly-profitable utilities. And Schmidt is particularly impressed by Switzerland. Its industrial structure, he points out, closely mirrors that of many of its European competitors, with a heavy bias towards traditional sectors like chemicals, food manufacturing and engineering, which are facing great difficulties elsewhere. Yet with the exception of the employment agency Adia, which has plummeted from 46th place in last year's table to a rockbottom number 398, Swiss corporate earnings have held up almost uniformly well, with an average trend-bucking return actually up this year, at 13.3% against 1992's 10.7%. Its performance is also undoubtedly boosted by the appearance of four newcomers, the largest contingent from any country, among the top 50 companies.

Switzerland shares one common characteristic with the rest of Continental Europe - it still appears to believe in real sales growth as one of the most significant indicators of corporate health. Almost all its leading businesses (like those in France, Germany and almost everywhere else except Sweden) remain proud to report regular annual increases in inflation-adjusted turnover. France, in particular, excels with the highest sales growth over a five year period of any country (partly explained by a spate of mergers and acquisitions which, with the current round of re-privatisations, looks only set to increase). Only nine of its 72 representative enterprises show any decline in real sales.

This is far from being the case, however, in Britain. Here 57 companies - almost half the total and including some of the most consistently profitable - revealed sales totals that had actually shrunk over a five-year accounting period. Perhaps the likeliest interpretation, and that endorsed by Schmidt, is that this represents a deep difference in cultural emphasis, with management here focused far more on margins, returns and equity earnings than on measures of goods shipped and market share.

Judging by the tables, Britain has not noticeably suffered so far by taking that particular, hard-nosed line. So there is a fair chance that we shall do even better with it, now that the clouds that are so ominously darkening over our main industrial rivals in Lille, Dusseldorf and Turin, start to lift a little in the Midlands, the North and even beleaguered London. As all committed contrarians know, it sometimes pays to be the only one in step.

Average return on equity before tax.

INDUSTRY 400

Country 1988 1989 1990 1991 1992 No. of

companies

Great Britain 26.4 23.6 19.7 13.3 19.7 123

France 26.3 25.7 19.9 15.1 13.1 72

Germany 18.8 20.4 19.0 16.2 11.1 71

Holland 22.1 24.4 17.2 18.7 12.5 20

Belgium 24.7 23.2 21.2 16.2 14.4 9

Sweden 23.4 22.8 18.1 4.9 2-7.5 26

Switzerland 16.1 18.0 16.1 10.7 35.3 23

Italy 13.2 12.2 9.2 2.4 3.8 16

Spain 17.0 15.7 13.2 13.9 12.8 14

Denmark 21.8 21.6 17.9 16.5 6.9 7

Finland 18.9 7.6 2.2 -6.6 2.1 10

All 22.6 21.9 18.0 12.9 10.6 391*

Insurance 20.4 20.3 13.6 9.9 8.9 50

Banks 16.6 12.3 11.4 9.4 5.5 50

(1)12.2 without Costain

(2)-2.9 without Bilspedition

(3)13.3 without Adia

*Total excludes the 9 representatives from Austria, Eire, Luxembourg

and Norway.

How the RSW system works

The RSW system evaluates and ranks a company's performance over a five-year period on the basis of three weighted measures - profitability (Rendite), financial solidity (Sicherheit) and growth (Wachstum). Each measure has two components:

Rendite R1 - Return on equity

before tax

R2 - Cash flow as a proportion of sales

(for industrials)

- Return on assets (for banks and

insurance companies)

Sicherheit S1 - Equity gearing (equity as a proportion of

total capital)

S2 - Liquidity ratio (liquid assets as a

proportion of total assets - for industrials only)

Wachstum W1 - Real average annual growth of total assets

W2 - Real average annual growth of turnover (for

industrials only)

The system places the greatest emphasis on profitability and hence accords it a weight of four (two-thirds of the overall score). Financial solidity and growth are each given a weight of one (the remaining third). Within these measures, R1, S1 and W1 are given twice the respective weights of R2, S2 and W2. From these components a single figure, a score value, is produced, on the basis of which a company's performance is assessed and ranked. The score value for an average company is zero, greater than zero for an above average company, and less than zero for a below average company. The overall RSWscore is therefore a measure of the relative position of a company in terms of its deviation from the average performance of all the companies within its particular category (industrial, banking or insurance).

A clearer understanding of the system can be gained from the example of Bowater, the British packaging and print group which this year improved its ranking by 90 places. Its profitability, solidity and growth scores are as follows:

1988 1989 1990 1991 1992 weighted

average

R1 23.1 25.9 17.4 12.0 12.6 15.9

R2 8.4 15.0 14.1 11.9 13.8 13.1

S1 37.9 43.7 53.8 54.6 51.6 50.9

S2 20.5 2.6 18.0 17.1 13.6 14.4

W1 899.1 1,744.6 18.0

W2 1,386.3 1,165.5 -4.2

In order to produce a composite performance index, the six weighted averages are standardised by a process known as z-transformation. This is done for each of the figures by subtracting the mean value for all companies from Bowater's value and dividing the result by the standard deviation (the square root of the variants). The results are as follows:

R-score: 0.152(R1) x 44.44(weight) + 0.386(R2) x 22.22(weight) = 15.33 S-score: 0.996(S1) x 11.11(weight) + 0.341(S2) x 5.56(weight) = 12.97 W-score: 1.201(W1) x 11.11(weight) + (-0.915)(W2) x 5.56(weight) = 8.26 The R1 value of 0.152 means that Bowater has a just above average return on equity. On the other hand, a W2 value of - 0.915 means that real sales growth is substantially below average. The three score values are added to produce a final score of 36.56 (as against last year's 5.15). As a result of its improved performance against its peers in the industrial 400, Bowater moves up from position 198 to 108.

Notes: To iron out year-on-year fluctuations, weighted averages of the R and S figures are used for the five years 1988-92 by using the weights 5:4:3:2:1, with the highest figure being the weight for the most recent year. For banks and insurance companies S2 and W2 are omitted as such figures are invalid in an international context. The two components that measure growth (W1,W2) are adjusted for the rate of inflation in each individual country (in the case of Britain, consumer prices increased by 29.6% between 1988-92). R1, S1, S2, and W1 are all adjusted for goodwill.

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