THE CREDIT CRUNCH AND ITS IMPACT
ON EXPANDING MULTINATIONALS
Despite the impact of the credit crisis and accompanying Some of the trends emerging from this paper include:
recession, companies in developed countries are still
The global downturn has made the assessment of
seeking to do business in emerging economies and
risk in new ventures more complicated than ever.
vice-versa. Indeed, while international trade has existed
Companies expanding overseas face the twin
for centuries, a globalised marketplace is only in its
challenges of overcoming finance hurdles in
infancy and still offers enormous scope for cross-border
both their home countries and overseas.
growth. Nevertheless, expansion comes at a cost in this
capital-constrained era and access to capital at the right The emerging market economic crashes of the 1990s
price is one of the key issues in international trade today. are still fresh in many executives’ minds. However,
banking systems in Asia in particular, are considerably
In this report, produced by UK Trade & Investment in
more robust today with debt at much lower levels.
co-operation with the Economist Intelligence Unit, we
Credit is even growing in some Asian countries – in
examine where and why companies are expanding in
contrast with many developed economies.
emerging markets and how this activity is being impacted
by the credit crisis. Capital markets are effectively closed to all but the
largest companies with the healthiest credit ratings.
Blue-chip corporations are able to raise capital in
euros and dollars, but even then only at wide spreads
to government bonds.
Concerns over economic weakness have led to high
levels of currency volatility in recent months. Any
company transacting sizeable business overseas needs
to be aware of the dangers. By the same token, some
companies are benefiting from currency swings.
Despite the increased macro-economic risks, the
potential offered by emerging markets is still
well recognised. Many companies are no longer
content to merely outsource production to emerging
economies, but are looking to establish bases and sell
to increasingly wealthy local businesses and consumers.
Financing globalisation 1
This may not seem the most opportune time for companies 80 years. The International Monetary Fund estimates So will the slowdown in emerging markets and the Alec Jones, head of emerging markets at
to enter or expand in emerging markets. In emerging that losses on US-originated credit assets alone are general lack of expansion capital halt the movement PricewaterhouseCoopers, says the case for doing
economies, local companies are reeling from the now US$2,200 billion, while Nouriel Roubini, professor of capital from West to East – principally from the business in developing economies remains intact.
40 per cent-plus markdown in their shares last year, at the Stern School of New York University, who warned US and Europe to Asia? The reality is that companies “Companies initially wanted to set up low-cost
many (but not all) currencies have tumbled against the of the dangers to the world economy well before they probably cannot afford to ignore the growth potential manufacturing,” says Mr Jones. “The change in the
dollar and foreign direct investment has all but dried up transpired, says losses on US-generated assets will of emerging markets, particularly Asia. After all, the last two or three years is that people now want a slice
as investors repatriate capital. Choosing a strategic peak at an eye-watering US$3,600 billion. All of which IMF forecasts growth of 3.3 per cent in emerging markets of the action – they don’t just want to make low-cost
partner, gaining access to local financing and evaluating will hardly encourage fresh lending to companies this year compared with minus 2 per cent in advanced products but want to be part of the fast-growing
trade and currency risk has rarely been harder. either by banks or by the shadow banking system. economies. And emerging markets growth is likely economies and take advantage of rising incomes and
to hit a healthy 5 per cent in 2010. consumption. That goal hasn’t changed despite the
To add to the challenges, financing for such ventures The IMF’s latest Global Financial Stability Report,
is likely to be less forthcoming from domestic sources reveals the extent of credit contraction to private
as the developed world struggles to contain the credit companies that is already taking place around the
crisis that threatens to become the worst downturn in world (see Figures 1 and 2).
Figure 1. Deposits at Central Banks Figure 2. Credit Contraction in Private Sectors and Growth in Public Sector
(Billions of USD) (Billions Euro/USD)
2 Financing globalisation Financing globalisation 3
TAPPING LOCAL MARKETS SECURING FINANCE
The desire to harness the untapped potential certainly Strangely enough, the global downturn has even The likelihood of obtaining finance from purely domestic Tapping capital markets is barely in a credible option,
drove the emerging markets strategy of Halifax Fan, alleviated credit conditions for companies in some institutions depends on the country concerned and the though, in the current environment where investors are
a UK manufacturer of industrial fans, which has countries. Whereas the Chinese authorities reined in strength of its banking system. Emerging market banks suspicious of all but the bluest of blue-chip companies
a turnover of nearly £7 million. Managing director lending last year over fears the economy would overheat, were conservatively managed during the time that the with the least debt and highest cashflows. According to
Malcolm Staff admits the setting up of a factory it has now reversed tack. Chinese consumer price inflation credit bubble was building up in the Western world, Standard Chartered, capital markets are essentially closed
in China’s Shenzhen region in 2006 was originally fell for the ninth month in a row to 1 per cent in January, so access to financing has not been as heavily impacted. in Asia. Mr Barrett says: “Asia has seen very few new
designed to reduce costs in its core UK market. But according to official figures, meaning that inflation is – for Nevertheless, lending requirements in countries such issues this year. Issues from smaller, high-yield companies
the strategy soon changed. Mr Staff says: “We quickly the time being – not a threat. So more credit has been as India and China will continue to be stringent, perhaps have disappeared almost completely.”
received an order from a Western company in China and made available from state and partly-state owned banks more so than before, and only companies with
The biggest global companies can still raise money in
after that we realised that the Chinese market would be for established businesses looking to expand. a compelling business case need apply for financing.
euros and dollars, but even then at wide spreads over
lucrative in its own right.” Halifax Fan’s Chinese operations
There are a number of ways to raise capital for expansion Building local banking relationships can be a Treasuries. “In Asia, only the very biggest domestic
now sell predominantly to the local market. It targets
into emerging markets, all of which come at a different time-consuming process. Mr Staff says: “We would issuers, usually those that are linked to governments,
revenues of £1.5 million from China this year and to
cost to the company. By far the most common route to like to operate a local account but you need three years’ can raise money,” Mr Barrett adds.
date is beating this forecast.
capital is via simple bank debt. Alan Keir, global co-head accounts history in China.” A local account would help
But even for companies that are well established in of commercial banking at HSBC says: “The vast majority Halifax Fan to maintain vital cashflow. “It’s not always
emerging markets, there are risks to be borne in mind. of SMEs and, even, bigger companies will fund overseas easy doing business there – we sometimes struggle to
The worry for those with strong memories of the late expansion from facilities with banks in addition to their get paid, and if you inject cash from the home market Taking a foreign holiday this year? The choice of
1990s is that amid the credit crisis skittish international own cash resources.” you have to wait a month before you are allowed destination this year – more than ever – is likely to reflect
investors will pull out of emerging markets and once to get it out again.” the differential between the currency in which the
However, ongoing cash needs and financing requirements
again create a domino effect of collapsing economies. holidaymaker is paid and the currency of the foreign
can become complicated if a company operates across a Up until recently, capital markets were also a significant
Western companies operating in these regions would destination. Turmoil in the capital markets has not only
number of markets. This is particularly true in emerging source of capital for companies wishing to expand.
inevitably be caught up in the ensuing maelstrom. had an impact on the prices of shares and bonds, but has
markets, where financial services are less mature. To Standard Chartered says most commonly, companies
also created wild gyrations in the currency markets. Baxi
However, there is reason to believe that will not happen smooth the process, HSBC appoints a global relationship would conduct a general debt or equity capital raising
Group, which transacts significant business in Turkey, is
this time. Standard Chartered, a specialist emerging manager to each account. Its International Banking in their domestic market and use a proportion of the
very wary about the lira, which is one of the world’s most
markets bank with 90 per cent of its revenues derived from Centre helps companies to set up accounts anywhere in proceeds for overseas expansion. However, raising capital
volatile currencies, having lost nearly a third of its value
Asia, Africa and the Middle East, thinks Asia in particular world. So if a company launches in, say, Indonesia, directly in local markets had become more prevalent in
against the dollar last year. Baxi chief executive Martyn
will resurface relatively stronger from the credit crisis. Alex it will not have to use up valuable resources in sending the last few years. Mr Barrett says: “A big company doing
Coffey says: “We always hedge the currency risk when we
Barrett, head of client research at Standard Chartered says: a delegation to negotiate with local banks in Jakarta. a lot of business in an emerging market will want to
take a large order.” It also faces challenges in Russia,
“Due to actions taken after the 1990s crisis, Asia has borrow money onshore so there is less balance sheet
Even companies with turnover of as little as £1 million where it prices its products in euros. With the rouble
a stronger banking system, is less leveraged and better risk.” Often the company will then hedge the currency
may need international banking facilities these days. having fallen by a quarter against the euro in the last
funded than developed economies. Even liquidity is risk (see box Currency convulsions).
Mr Keir says: “The power of the internet has meant six months, Baxi is becoming less competitive against
quite good, and there is still strong growth in credit
40 per cent of small businesses now do something While some Western market brand-names can tap local companies that price goods in other currencies. But
in Indonesia and the Philippines, for example.”
internationally. All of a sudden they get orders from institutions (although usually only for bond offerings), currency swings can benefit companies too. Halifax Fan’s
abroad and they need help with multi-currency card many would fail to inspire the necessary confidence wholly-owned Chinese operation, which will produce
purchases, how to take orders over the web and how among local investors to launch an issue. This is one around a quarter of the company’s revenues this year,
to identify and cover their risks.” of the many reasons that joint ventures are frequently sells its equipment in local currency to local customers.
sought in emerging markets – aside from offering With the renminbi rising from 15Rmb/£1 to 10Rmb/£1
local market expertise, joint venture partners may have in a year, Halifax gains a sizeable addition to its
sufficient recognition to attract local capital. sterling-denominated profits.
4 Financing globalisation Financing globalisation 5
THE PRIVATE EQUITY ROUTE? WINDING PATH TO
EMERGING MARKETS SUCCESS
Although the concept of private equity has started So cashflow is threatened by a growing lack of trust While the advantages of investing in emerging markets
to take hold in emerging markets, the idea of injecting between companies, each of which fear their trading are often clear, the way to develop business overseas is
private capital into a Western company seeking to partners may fail to pay for or deliver goods. The problem often less so. Choosing the right location, targeting the
expand abroad is less common. Indeed, since most is particularly acute between customers and suppliers in right market and creating the appropriate structure can
private equity deals have focused on buyouts and different parts of the world, jeopardising a global network be a labyrinthine task for first-time entrants to emerging
balance sheet re-engineering in recent years, expansion that has been built over years and decades. markets. Halifax Fan, for one, a manufacturer of
capital in general has been in short supply. centrifugal fans, initially set up a joint venture in India
HSBC says the lack of trust has become evident in
but suffered a false start. Malcolm Staff, managing
Nevertheless, it does exist. Baxi Group, one of Europe's everyday business. Mr Keir says: “Open accounts are
director, says: “We found the bureaucracy in India
biggest manufacturers and distributors of domestic and working less and less well and old-fashioned letters of
difficult to deal with. We also had constant tussles with
commercial heating systems, was refinanced by a private credit [where the bank acts as an insurer] are coming
our joint venture partners over strategy. We persevered
equity consortium led by BC Partners in 2004. The back into fashion.”
for about a year then dissolved the company.” Halifax
private equity backing has helped Baxi take significant
Many companies are now wondering where the Fan had a much better experience in China, where it
market share across all the major continental territories
financing sources of the future may lie. Logic dictates has just set up a second factory after launching a
and in the UK. It has also expanded into emerging
that credit markets will thaw at some stage, but PwC Wholly Owned Foreign Enterprise in 2006. Although
markets such as Romania, Argentina, Russia, China and
says the freeing up of capital will be accompanied by competing local manufacturers can be cheaper, Mr Staff
the Czech Republic. And it has recently developed
a new paradigm of local sourcing. Banks and other says the company’s ability to provide tailor-made – rather
a joint venture partnership in Turkey.
sources of finance, under pressure from governments than commoditised – machines, attracted clients
Indeed, the fastest-growing parts of Baxi’s business are and shareholders, are likely to want to simplify their that were willing to pay higher prices. However, the
in Russia and Turkey. In both these countries solid fuel businesses and may confine themselves to domestic company – scarred by its experience in India – started
for domestic heating is being phased out and replaced credit risks. Mr Jones says: “In the future, people on cautiously in China, investing just £100,000 from the
by gas. Martyn Coffey, chief executive of Baxi, says: the financing side will want to do simpler things. company’s retained earnings to buy basic machines.
“There was incredible growth in demand for heating This plays into bank borrowing in local territories. It began by outsourcing parts of the manufacturing process
in houses and apartments last year in Russia.” Local banks and local subsidiaries of international that require expensive machines – such as laser-cutters
banks will come to the fore.” and industrial paint shops. Its overseas expansion could
Baxi uses its private equity backers’ market pricing have been easier, but Halifax Fan found the quality
power to help it finance its working capital. “Our of advice from business organisations disappointing.
banking arrangements are in place for the next two “Many of the people we spoke to knew little more than
to three years,” says Mr Coffey. But he describes the we did,” says Mr Staff.
effect of the credit crisis on some of Baxi’s customers,
such as house-builders, as “dire”. Baxi is commonly
viewed by banks as being part of the construction
sector – a perception Mr Coffey describes as erroneous
since the majority of its revenues are derived from
6 Financing globalisation Financing globalisation 7
MANY IRONS IN THE FIRE
Baxi Group has a proud history. Created in 1866 and created a 50/50 joint venture with a local company.
family-owned for four generations, it is known in One of the advantages of this is it can receive ongoing
its home country, the UK, and across the world for its funding through relationships with local banks. The
Potterton, Valor and Homeflame brands. Today it is one company may also invest in a plant in Russia, and
of Europe's biggest manufacturers and distributors of would seek to obtain finance locally if this goes ahead.
domestic and commercial water and space heating The bulk of its sales, though, are still in developed
systems, operating in a market worth over £5.5 billion markets, which are mature and therefore require
a year. It employs more than 5,000 people across innovative approaches. Martyn Coffey, Baxi Group chief
Europe and has a turnover of more than €1 billion. executive says: “We now offer a variety of low-carbon
But long traditions are no protection against the products, demand for which is driven by legislation and
competitive threats that globalisation brings and Baxi subsidies.” Although the company realises the most
long ago was forced to lift its sights beyond its home dynamic future sales growth will come from emerging
market. It now distributes its products to numerous markets, it is also keeping a firm grip on its developed
emerging markets, using a network of agents and joint market sales. While a shift to the East is driving
venture partners to keep sales costs to a minimum. strategic decisions at many businesses, success also
In Turkey, an area of great demand for gas heating, it hinges on becoming diversified and staying nimble.
Even in times of economic stress, capital can find its 3. Companies’ home markets are likely to be the
way to profitable investments and that applies particularly most fruitful places to raise capital for some time
to genuinely entrepreneurial companies seeking new to come as banks come under political, economic
opportunities. For them, emerging markets still offer and regulatory pressure to lend predominantly to
unprecedented opportunities and the long march East domestic customers. Only when well established UK Trade & Investment The Economist Intelligence Unit
has only just begun. Nevertheless, along the way there in a new market with a banking relationship UK Trade & Investment is the government The Economist Intelligence Unit is the business
are some key points for these companies to consider: of several years’ duration, is local financing organisation that helps UK-based companies succeed information arm of The Economist Group, publisher
likely to become an option. in the global economy. of The Economist. Through our global network of 700
1. Companies should not necessarily be more wary
analysts, we continuously assess and forecast political,
of doing business in emerging markets than 4. Currency hedging is an important finance tool We also help overseas companies bring their high
economic and business conditions in nearly 200 countries.
before the credit crisis began. In fact, there is the in highly volatile markets. Any company taking quality investment to the UK’s dynamic economy –
As the world's leading provider of country intelligence,
possibility that developing markets may emerge large orders from overseas customers or making acknowledged as Europe’s best place from which
we help executives make better business decisions by
stronger than their developed counterparts, giving large purchases should consider hedging part, to succeed in global business.
providing timely, reliable and impartial analysis on
an immediate earnings boost to companies with or all, of the value of the transaction.
UK Trade & Investment offers expertise and contacts worldwide market trends and business strategies.
established overseas operations.
through its extensive network of specialists in the UK,
2. Steps should be taken, where possible, to establish and in British embassies and other diplomatic offices
more than just a manufacturing presence in emerging around the world. We provide companies with the tools
markets. Wealth in these areas is likely to grow they require to be competitive on the world stage.
faster than in developed economies, rewarding
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8 Financing globalisation