From: aditya rana
Date: Sat, Feb 11, 2017 at 1:50 PM
Subject: On the Retreat of Multinational Companies; What Not to Add to White Rice, Potatoes, or Pasta!
The performance of global markets so far this year stands in stark contrast to the situation least year, with the MSCI world index posting a rise of 4.2% (compared to -6% at January-end last year), led by emerging markets (+7.9%) with the US (+3.9%), Japan (+4.4%) and Europe (2.4%) all putting in decent numbers. The standout performers continue to be Argentina (+27%) and Brazil (+14.4%), with Asia led by China (+9.4%) and India (+9%) – all MSCI returns in US$s.
Turning to the longer term outlook, a key theme put forward by this letter over the years is the rise of local EM companies, at the expense of the global multinationals. In 2006, the consulting firm BCG had issued a fascinating report on the rise of EM companies, identifying 193 “challengers” which would compete with the established multinationals going forward. In July 2016, they issued an update on this theme (summarised in the July 2, 2016 newsletter) and demonstrated the success of these challengers in terms of market share, revenue growth and significant stock market outperformance. They also identified 1,500 fast growing “new champions” which are now expect to take the lead in the coming years. It was therefore interesting to see that The Economist has picked-up on (and broadened it to all global versus local firms) theme in their latest issue with a report titled “The Retreat of the Global Company”. To summarise:
-Multinationals (with 30% of their sales outside their home region) have dominated the global economy since the late-eighties – by directing the flow of goods, services and capital – theycontrol supply chains accounting for over 50% of world trade, represent 40% of the value of the developed world’s stock market, and own most of the world’s intellectual property, while accounting for only 2% of the world’s jobs.
-With their desire to internationalising their customers, production, capital and management, these companies drove the stupendous 85% rise in the global stock of cross-border investment since 1990 (see chart 1 below).
-In 2006, the head of IBM proclaimed the arrival of the ”globally integrated enterprise” run as a unitary organisation (rather than a federation) “ integrating production and value delivery worldwide”. However, an increasing body of evidence shows that this era is now ending– in 2016 multinational cross-border investment fell by 10-15% , and the share of trade accounted by cross-border supply chains has stagnated since 2007. In addition, the proportion of sales made by DM firms outside their home region has fallen, with profits declining and the flow of new investment as a % of GDP shrinking (see chart 2 below).
-To understand this paradigm shift we have to analyse the three constituencies which have driven the previous era: 1) investors, 2) “headquarter countries” where the multinationals are domiciled, and 3) “host countries” which received the investments.
-Investors saw a huge potential beginning in the early nineties as China, India and the Soviet Union opened up and Europe liberalised itself into a single market allowing multinational firm to exploit the growing market and improve efficiency by accessing management, capital, brands and technology from the DM world and cheap labour and raw materials (with lighter rules on pollution) from the EM world.
-However, this growth phase has now ended, with the profits of the top 700-odd multinational firms from the DM world dropping by 25% over the last five years. The strength of the dollar explains only about a third of the fall. Meanwhile, the profits of domestic firms has risen by 2%.
-The return on equity (ROE) of the top 700 multinationals has also dropped from a peak of 18% a decade ago to 11% today. For the biggest three countries hosting multinationals – the US, UK and the Netherlands, the ROE on foreign investments has also shrunk by 4-8% (see chart 3 below). Multinationals based in the EM world have also fared poorly, with a worldwide ROE of 8%, with many high profile cross-border acquisitions floundering (e.g. Lenovo purchase of IBM’s PC business).
– About half the decline in profits of multinationals has been due to the slump in commodity prices (affecting oil, mining and related firms) and another 10% is due to banks. Profits at trading and shipping firms which have benefited from globalisation has fallen dramatically (50% from their peak in some cases).
-The decline in profits extends beyond these core industries, with half of all big multinationals seeing their ROE fall over the past three years, and 40% failing to make an ROE of over the benchmark value adding rate of 10%. In six of the ten sectors multinationals have lower ROEs than their local counterparts (see chart 4 below). Even stalwarts like GE and P&G have seen their profits decline by 25% from their peak. The only industry to buck the trend has been technology, where foreign profits comprise 46% of total foreign earnings of the top 50 US multinationals, up from 17% a decade ago.
-The underlying factor behind this shift is that the advantages of scale and arbitrage have disappeared – global firms have big overheads, complex supply chains tie up inventory and sprawling firms are hard to run. Some of the traditional arbitrage opportunities have declined with rising wages in China and limited scope for further tax arbitrage. Lastly, the free flow of information implies that competitors in local markets can catch-up quickly.
-Firms with a domestic focus are winning market share from multinationals – examples include local banks in Brazil, domestic mobile operators in India, shale firms in the US and local dumpling brands in China. This has resulted in the multinationals’ share of global profits declining from a peak of 35% a decade ago to 30% today.
-The second factor behind this paradigm shift has been that the headquarter countries, which previously viewed them to be champions of growth and efficiency, now see them as agents of inequality. Between 2009 and 2013, only 5% of the net jobs added in the US were created by the multinationals. In addition, the profits of their intellectual property accrued to a wealthy shareholder elite. As a result the framework aiding the growth of the these firms is eroding – global accounting, antitrust, money-laundering and bank capital rules are being localised into US and European camps, takeover of western firms now have strings attached to safeguard local jobs, trade deals like TPP and TTIP which protected intellectual property are floundering and global tribunals previously used to bypass local courts are now under attack.
-With the shifting political landscape in the DM world tightening rules in favour of domestic workers (with higher wages) , higher taxes for overseas production, closing of tax loopholes and implementing border taxes – multinational profits in the DM world are likely to decline further. For example, if US firms shifted a quarter of their jobs back, and paid the same tax rate abroad as at home, their profits will fall by another 12%. This excludes the cost of building a plant in the US.
-By contrast, the “host countries” which receive investment by the multinationals remain relatively enthusiastic. China, where by 2010, 30% of industrial output and 50% of exports was produced by subsidiaries or JVs, remains attractive. Examples include Argentina, Mexico and India which are trying to attract more multinational firms and their supply chains. However, the trend here is also changing with China leading the way by pushing for “indigenous innovation” – i.e. more local sourcing of products, transfer of intellectual property and making strategic industries like the internet out of bounds for foreign investment. Fears exist that other EM countries will follow the lead of China.
-Additionally, host countries are increasingly uncomfortable with the shift in business of the multinationals towards intangible services. For the top 50 US firms, 65% of foreign profits now comes from industries reliant on intellectual property such as technology, drug patents and finance compared to 35% a decade ago. In addition, there is diminished appetite amongst multinationals to relocate manufacturing production to the EM world like they did in China – in 2000 every billion dollars of foreign investment created 7,000 jobs and $600m of annual exports- it is now 3,000 jobs and $300m of exports.
-US technology firms are now facing local resistance – in 2016 Uber sold its Chinese operations to a local rival after a fractious battle. In December, India’s two biggest digital champions Ola and Flipkart, argued that the government should protect them against foreign companies like Uber and Amazon which would build monopolies, create few jobs and remit their profits back home.
-The future of global business is likely to still have some areas of growth: 1) a smaller top tier of multinationals which localise production, supply chains and management (i.e. GE, Emerson, Siemens); 2) a small sliver of global digital and intellectual-property firms like Google, Netflix, drug companies and other firms which use franchising deals with local firms as a cheap way to maintain a global footprint. However, given that they create few jobs, involve oligopolies and do not benefit from the protection of global trade rules (which apply to manufacturing) they will be vulnerable to nationalist pressures; 3) the most interesting area- small firms using e-commerce to buy and sell on a global scale. Up to 10% of the 30m or so US firms already do this to some extent– Paypal says its cross-border transactions are at $80BN a year and growing rapidly.
-The changing nature of global business will have important implications – investors, who have a third or more of their equity investments in multinationals could face an era of even lower returns, countries which rely on income from foreign investments, or capital flows from new ones, could suffer – the collapse in profits of UK multinationals is the main reason behind the deterioration in the UK’s balance of payments. Of the 15 countries with current-account deficits of over 2.5% of GDP in 2015, 11 depended on new multinational investments to bridge a third of the gap. The result will be a more fragmented and parochial form of capitalism – less efficient but with wider and more sustainable political support.
–Fascinating report which ties well into the theme of investing in small-cap companies in the EM as well as the DM world. As BCG had argued persuasively in their report, the 1,500 “new challengers” from the EM world is likely to be the main growth engine of the global business scene in the coming years. Stay invested in this sector of the EM (and DM) world through mid-cap/small cap funds and ETFs.
What Not to Add to White Rice, Potatoes, or Pasta:
-An interesting note from Dr. Greger on the adverse effects of adding meat to refined grains like white rice and pasta.
Michael Greger M.D., February 2nd, 2017
-Rice currently feeds almost half the human population, making it the single most important staple food in the world, but a meta-analysis of seven cohort studies following 350,000 people for up to 20 years found that higher consumption of white rice was associated with a significantly increased risk of type 2 diabetes, especially in Asian populations. They estimated each serving per day of white rice was associated with an 11% increase in risk of diabetes. This could explain why China has almost the same diabetes rates as we do.
-Diabetes rates in China are at about 10%; we’re at about 11%, despite seven times less obesity in China. Japan has eight times less obesity than we do, yet may have a higher incidence of newly diagnosed diabetes cases than we do—nine per a thousand compared to our eight. They’re skinnier and still may have more diabetes. Maybe it’s because of all the white rice they eat.
-Eating whole fruit is associated with lower risk of diabetes, whereas eating fruit processed into juice may not just be neutral, but actually increases diabetes risk. In the same way, eating whole grains, like whole wheat bread or brown rice is associated with lower risk of diabetes, whereas eating white rice, a processed grain, may not just be neutral, but actually increase diabetes risk.
-White rice consumption does not appear to be associated with increased risk of heart attack or stroke, though, which is a relief after an earlier study in China suggested a connection with stroke. But do we want to eat a food that’s just neutral regarding some of our leading causes of death, when we can eat whole foods that are associated with lower risk of diabetes, heart attack, stroke, and weight gain?
-If the modern diabetes epidemic in China and Japan has been linked to white rice consumption, how can we reconcile that with low diabetes rates just a few decades ago when they ate even more rice? If you look at the Cornell-Oxford-China Project, rural plant-based diets centred around rice were associated with relatively low risk of the so-called diseases of affluence, which includes diabetes. Maybe Asians just genetically don’t get the same blood sugar spike when they eat white rice? This is not the case; if anything people of Chinese ethnicity get higher blood sugar spikes.
-The rise in these diseases of affluence in China over the last half century has been blamed in part on the tripling of the consumption of animal source foods. The upsurge in diabetes has been most dramatic, and it’s mostly just happened over the last decade. That crazy 9.7% diabetes prevalence figure that rivals ours is new—they appeared to have one of the lowest diabetes rates in the world in the year 2000.
-So what happened to their diets in the last 20 years or so? Oil consumption went up 20%, pork consumption went up 40%, and rice consumption dropped about 30%. As diabetes rates were skyrocketing, rice consumption was going down, so maybe it’s the animal products and junk food that are the problem. Yes, brown rice is better than white rice, but to stop the mounting Asian epidemic, maybe we should focus on removing the cause—the toxic Western diet. That would be consistent with data showing animal protein and fat consumption associated with increased diabetes risk.
-But that doesn’t explain why the biggest recent studies in Japan and China associate white rice intake with diabetes. One possibility is that animal protein is making the rice worse. If you feed people mashed white potatoes, a high glycemic food like white rice, you can see in my video If White Rice is Linked to Diabetes, What About China? the level of insulin your pancreas has to pump out to keep your blood sugars in check. But what if you added some tuna fish? Tuna doesn’t have any carbs, sugar, or starch so it shouldn’t make a difference. Or maybe it would even lower the mashed potato spike by lowering the glycemic load of the whole meal? Instead you get twice the insulin spike. This also happens with white flour spaghetti versus white flour spaghetti with meat. The addition of animal protein makes the pancreas work twice as hard.
-You can do it with straight sugar water too. If you do a glucose challenge test to test for diabetes, where you drink a certain amount of sugar and add some meat, you get a much bigger spike than without meat. And the more meat you add, the worse it gets. Just adding a little meat to carbs doesn’t seem to do much, but once you get up to around a third of a chicken breast’s worth, you can elicit a significantly increased surge of insulin. This may help explain why those eating plant-based have such low diabetes rates, because animal protein can markedly potentiate the insulin secretion triggered by carbohydrate ingestion.
-The protein exacerbation of the effect of refined carbs could help explain the remarkable results achieved by Dr. Kempner with a don’t-try-this-at-home diet composed of mostly white rice and sugar. See my video, Kempner Rice Diet: Whipping Us Into Shape.
Here’s to adding mainly plant based foods to your grains – even if you cannot do without refined grains!