Security Analysis and Business Valuation on Wall Street,: A ... - lib

The Emerging Markets 359To ensure long-term shareholder returns, the local industry must be cost competitive,or substitute providers enter the market. Determining the economic efficiencyof a local industry <strong>and</strong> the magnitude of this threat is a challenge. In many emergingmarkets, local industries are strongly protected against foreign competition by hightariffs, import quotas, or obtrusive government regulations. Because of an artificialpricing environment, a local industry that is inefficient by international cost st<strong>and</strong>ardscan generate consistent profits. The auto industry in Vietnam, for example,survives imports through a government-imposed excise tax.Alternatively, the artificial environment enables the local industry to chargeoligopolistic prices, thus providing excess profits <strong>and</strong> the image of premium economicreturns. In Mexico, for example, Telmex controls 90 percent of the localphone market despite repeated attempts by well-heeled prospective local <strong>and</strong> foreigncompetitors to participate. The political influence of Telmex <strong>and</strong> its billionaire CEO,Carlos Slim, stymie attempts at competition <strong>and</strong> price reduction. The result: Telmexis a very profitable monopoly.Depending on the nature of the protections, the analyst determines whether theyrepresent a sustainable competitive advantage. Does the industry have enough influencewith the government (<strong>and</strong> with future governments) to maintain the statusquo? If the answer is no, the analyst assesses the likelihood <strong>and</strong> timing of a rollbackof the protections. The Mexican cement industry, for example, enjoyed import protectionthrough numerous administrations. The packaged food industry, however,never had this benefit.The practitioner also considers the funding required by local participants tofight off international competitors. More investment means fewer dividends <strong>and</strong>more share issuances, translating into a lower share price.If the industry’s international advantage is readily apparent—such as inexpensivelabor, cheap currency, lax environmental regulation, or natural resources—youneed to be sure of the duration of that advantage. High wages in Singapore sent lowtechassembly industries to lower-wage Malaysia. As Malaysian salaries increased,the jobs went to Indonesia. Paul Ziegler, Asian CEO for Asea Brown Boveri, theSwedish power equipment manufacturer, said in a Bloomberg interview, “It’s justcommon sense. You make these things where they are cheapest to make.” Lax environmentalregulation in China made it an attractive location for polluting industries.As the country took stock of the damage caused by the chemical, mining, <strong>and</strong> energysections, it looked to regulate some of the worst offenders, thus increasing theiroperating costs. Mexico’s oil reserves are declining at a rapid rate, <strong>and</strong> without thediscovery of new reserves, its economy is threatened.CompanyThe company selection process incorporates appraisal techniques that are similar tothose discussed earlier in this book. Good growth prospects, a solid balance sheet,Western-style management, <strong>and</strong> enlightened owners are notable for emerging marketequities. Furthermore, because of the heavy government influence <strong>and</strong> arbitraryregulation that characterize these economies, a firm with close ties to the rulingparty is a good bet. Since governments come <strong>and</strong> go in these countries, politicalinfluence can wane, so it is important that the firm selected for investment haveintrinsic competitive qualities. Helmut Paul, a senior advisor to Darby Overseas