"If the rhythm of the drum beat changes, the dance step must adapt"
Has the time come for India Inc to retune its globalisation drum? Eight of the world's biggest economies with the exception of the United States and India are either in recession or face the prospects of slower economic growth in coming years. Europe and Japan face the spectre of deflationary recession while emerging markets are being tested by a fall in the prices of their commodity exports, flat economic growth and sharp falls in their currencies against the US dollar.
|INDIA INC’S INVISIBLE CHAMPIONS|
This worldwide volatility raises a question mark over the future of India Inc's drive to globalise. In the last ten years, India Inc has cumulatively invested around $145 billion (Rs 900,000 crore at the current exchange rate) in setting-up greenfield ventures or acquiring marquee assets abroad, according to data from the Reserve Bank of India. This figure includes the big-ticket overseas acquisitions Tata Steel-Corus, Tata Motors-JLR, Hindalco-Novelis and Bharti Airtel-Zain Africa.
Global macro headwinds have raised a question mark over the economic viability of these overseas ventures. "Any investments outside US and India are likely to face a growth and profitability squeeze due to the global slowdown. The outlook is even worse for companies with exposure to the eurozone and energy and commodity exporters such as Russia, Brazil and South Africa," says G Chokkalingam, founder and CEO, Equinomics Reasearch & Advisory, which manages wealth for high net worth investors in India.
Business leaders in India seem to have taken a cue, and outbound investments have slowed down in the current fiscal. Outward foreign direct investment (FDI) flows from India halved to $2.03 billion in the first six months of 2014-15, from around $4.2 billion during the same period of last year. In the eight years ended March 31, 2014, Indian companies invested nearly $16 billion per year on average.
Foreign investors however continued to flock to India, expecting faster economic growth and higher returns on their investments. FDI into India was up nearly 15 per cent to $23 billion in the first six months of 2014-15, from around $20 billion in the same period of the previous year.
India Inc's enthusiam has also been tempered by the continued poor show by many of the marquee overseas acquisitions consummated at the peak of the M&A boom between 2006 and 2008. Big ticket acquisitions have failed to live up to the hype, and either continue losing money or, if they are profitable, earn returns on investment that are much lower than what companies earn in India.
The biggest of them - Corus, now Tata Steel Europe - remains a financial burden on its parent nearly seven years after its acquisition. In the first half of 2014-15, Tata Steel's global operations (non-Tata Steel India) reported a net loss of Rs 3152.7 crore. Technically speaking, Tata Steel Europe is financially sick, with a negative net worth, its liabilities exceeding its assets (on the books) by around Rs 21,000 crore at the end of March 2014. The amount is equivalent to nearly a third of Tata Steel's standalone net worth.
"It was a mistake to chase scale in Europe when the bulk of the incremental steel demand was coming from emerging markets such as India and China. The acquisition did provide global exposure to Tata Steel, but at the cost of diverting resources and attention from the fast-growing domestic market, allowing competitors to race ahead of the company," says a former Tata Steel executive.
Experts echo the view. "Global acquisitions just for the sake of size or acquiring global scale don't work.
In the rush to close the deal companies either fail to do enough homework about the deal's long-term financial implications, or they overpay for it," says Sivarama Krishnan, director, risk advisory, PwC India.
Things are not very different with other acquirers, such as Hindalco which picked-up Novelis for $6 billion in 2008, or Bharti Airtel's $10.7 billion acquisition of Zain Africa (now Airtel Africa). And in cases where global acquisitions have worked to the advantage of Indian companies such as Tata Motors-JLR, companies now face the challenge of maintaining growth and profitability in the face of global currency fluctuations and economic slowdown in the major economies.
Home appliances and electric equipment maker Havells India, for example, gave profit warnings owing to unfavourable currency fluctuations in Latin America. The company is one of the leading lighting companies in the region through its European subsidiary Sylvania, which it acquired in 2007.
A worldwide recession after the collapse of Lehman Brothers in 2008 has also weakened the case of globalisation as a strategy to de-risk from the vagaries of the domestic market. All markets are interconnected, and a slowdown in a major economy or region affects companies everywhere; they can do little if the world economy itself slips into recession.
GAINS TO THE DOMESTIC BUSINESS
Acquirers however think otherwise. "The standalone financial performance of the acquiree company is a poor way to judge the success of an acquisition. You should look at the financial performance of the consolidated entity, as acquisitions help the domestic business (parent company) grow faster, by providing new technology or a new line of products. This more than compensates for the below-par performance of our European subsidiary Sylvania," says Anil Gupta, chairman and managing director of Havells India.
Globalisation has also done wonders for Tata Motors, which is facing a severe slowdown in its bread-and-butter commercial vehicle business and is struggling to create a foothold in the passenger car business. The phenomenal success of its British subsidiary, Jaguar Land Rover, has enabled Tata Motors to stay profitable and keep investing in its home-grown businesses. Without JLR the company would have struggled to survive a slump in its domestic business. JLR now accounts for nearly 90 per cent of the company's consolidated profits and two-thirds of its revenues. It is now using profits and technology from JLR to revive its struggling domestic passenger car business.
Ditto for auto-component vendor Motherson Sumi. A string of three large overseas acquisitions since 2009 has made it the world's largest manufacturer of vehicle mirrors and car interior systems. The customer relationships and new product lines gained from these acquisitions are helping the company grow faster in the domestic market. Motherson's net sales have more than doubled in the last five years on a standalone basis, while RoCE was at a decadal high in 2013-14.
Given this, experts are now calling on India Inc to remodel its globalisation strategy, but without dumping it altogether. "Globalisation for the sake of size or scale is dead but remains valid if pursued selectively. Acquisitions work if they fill a specific gap in a company's arsenal, allowing them to compete better in their core markets," says Krishnan.
The Indian economy and the consumer market are transforming rapidly and companies can use globalisation to acquire competencies - technology, brands or know-how - that will enable them to enter new categories or become world leaders in their existing categories, says Krishnan.
Jaguar Land Rover worked for Tata Motors because it filled a specific gap in the company's portfolio. The British car maker provided Tata an entry into the fast-growing luxury car segment, besides giving it access to world-class automotive technology.
"While the former enabled it to tap new growth opportunities in emerging markets including India, the latter is crucial to the success of its home-grown passenger car business," says Krishnan.
The Sylvania acquisition is doing the same for Havells India. Technology from Sylvania is helping Havells make a smooth transition from flourescent lighting to energy-efficient LED lighting. "Recently, we set-up India's first LED lighting plant, giving us a first-mover advantage in this fast-growing industry. This would not have been possible without Sylvania, which is in the LED lighting markets for nearly a decade now," says Gupta of Havells India.
The biggest sore point for analysts is the deal price. Most of the large M&As happen at the peak of the market, which makes it tough for companies to juice out adequate returns when the business cycle turns. "Post-acquisition, the script would have been different for Tata Steel, had it acquitted Corus at, say, half the final amount or even the price initially offered by it," says Krishnan. Initially, Tata Steel had offered to acquire Corus for $7.6 billion and the board had accepted the offer. The cost shot up as Tata Steel's bid was challenged by CSN, the Brazilian steel maker, leading to a bidding war between the two.
This partly explains why most successful acquisitions fall in the small-ticket category. The most striking of these is Motherson Sumi's 2009 acquisition of Germany's Peguform, in the aftermath of the Lehman crisis. The deal was valued at nearly 10 per cent of Peguform's annual net sales in 2010 and a little over twice its operating profits. In investment parlance it was a value deal.
"Value deals mostly deliver if the acquirer has the staying power and the deal makes operational sense. But it's tough to bag a value deal unless it's a distress sell, otherwise why will the seller sell it?" says Chokkalingam.