CLC Asia Managing Director, Chris Larkin was recently interviewed by top-10 Risk Management Website, “Political Risks Explored”, sharing views on China, Thailand and how best to do business in Asia. The original interview is available here.
Political Risk Explored: Currently a lot of focus on political risk revolves around China and how it interacts with its neighbours. What political risk do you think most analysts are overlooking?
Chris Larkin: I don’t think that people overlook things per.se, but I guess much of the analysis you see come out of the industry tends focus on macro risk of a country. This makes for great reading, but my feeling is that analysis that might apply to a specific project sometimes gets overlooked. Often the country wide risk analysis and comment has little or no bearing on the actual risk associated with a project.
I tend to do a lot of work – particularly with mining and natural resources companies – on looking at a particular project and with them come to a view on the discount rate that might be used in a particular valuation. It is part art, part science, and part gut-feel, but it is much more accurate than just grabbing a sovereign bond spread and adding that as a risk premium to your discount rate!
Political Risk Explored: How does CLC Asia view Thailand? Is it overblown in terms of how investors are reacting? Herd mentality?
Chris Larkin: Ah, Thailand…the Italy of SE Asia. In one sense you have a semi-dysfunctional political class and system which in other countries would scare off a lot of investors. But people who know Thailand simply shrug their shoulders (a bit like Italy) and look at the economics and the viability of individual projects, and just get on with it.
The key to this is a relatively robust and well running civil service to administer the country. To a large extent, this acts as a protective barrier between the day to day running of the country which investors care about and the political shenanigans we see and are the focus of plenty of analysis. The professionalism of the Thai civil service – at the top levels they are often western educated and with a keen sense of public policy imperatives and good administration – helps create confidence for business people I speak to.
Ford for instance, announced a few days before the recent Thai elections a half-billion dollar expansion of their production facilities on the eastern seaboard of Thailand. It is impossible they would have done that unless they were happy with the investment fundamentals and administrative framework of the country.
Equally, I know many smaller foreign suppliers to the auto industry that have ramped up their investments in Thailand, and have been pleasantly surprised that doing business there seems far removed from any political too-ing and fro-ing that might severely affect investor confidence in another country.
More broadly, the Thai stock exchange was the second best performing in 2010, rising something like 41%, mainly due to foreign investment. This despite the riots we saw in central Bangkok last year. I think this reflects the fact that once you take a look at Thailand, there are a range of companies there for whom political risk can be managed, but whose underlying business model is also inherently sound.
A classic example of this is Banpu – a pan-Asian coal mining company who is listed in the Thai Stock Exchange. I’ve advised them in a number of capacities over many years. Until a few years ago, most people would not have heard of Banpu, but today it is a $6bn dollar listed company and I think at last count the third largest thermal coal producer in Indonesia (Indonesia in turn is the largest thermal coal exporter in the region and one of the largest in the world). Senior management is top notch, and they have bought in world class management.
Somewhat under the radar when compared with the Chinese majors such as Shenhua and Yanzhou, it has quietly expanded into Australia (another large coal exporting country), and is making inroads into Mongolia. The company is a huge beneficiary of the so-called ‘China and India story’.
But if you were to take Thai political risk at face value, and you would basically ignore the place, and would have missed out on investing in a well run, professional company which has grown its market cap from $100m in 2000 to $6bn today. There are very few companies anywhere in the world who can tell that story.
Other sectors I think are a little more fraught. Telecoms concessions are continually subject to a high degree of political meddling, and this has left Thailand somewhat lagging behind its neighbours in terms of rollout of the latest mobile technology. This is in part because the regulatory independence of the regulator is hotly contested by incumbent State Owned operators disputing an outsider having regulatory control over them.
Nevertheless, at a political level, I think Thailand still has to negotiate some bumps in the road ahead, but that is part of the political evolution that the country needs to go through, and there is no way around that.
Thaksin (let’s just admit that it was him people voted for, not his sister) while winning a huge majority had put enough people offside last time he was in power (especially former key business/political allies) so as to ensure that he’ll have a weaker team behind him this time around. I predict that his government will start opening itself up to criticism relatively quickly as a result of the lack of depth in its governing ranks.
In addition, legitimate political opposition from many fronts will start to eat away at his popularity – civil society groups, are now well aware of his autocratic and oft-times anti-democratic tendencies, and probably will be willing to bring him to account more often this time around. The outgoing Democrat party government, while underwhelming in power, is generally an effective opposition. They just need to formulate a way to turn that effectiveness in opposition into votes at an election.
The military, I think also will be wary of interfering again. I often think that had they not undertaken the 2006 coup, Thaksin would have been voted out at the ballot box not long after. People tend to forget that his popularity was suffering at the time of the 2006 coup.
Instead they interfered, and essentially their last foray into politics ultimately resulted in the restoration of the popularity of the man they tried to get rid of. They effectively resurrected his career. Now they are stuck with him for the next few years, at least.
Political Risk Explored: What advice would you give to investors looking at the Asian market?
Chris Larkin: There is no one size fits all answer to this question unfortunately! It really comes down to getting yourself as well acquainted with a market, and this can take time and good counsel. For many companies I’ve come across, that often means starting small in a market and getting a feel for the potential to ramp up your investment.
In terms of getting advice – go for someone local – truly on the ground in Asia – and in the country you are investing in.
This is easier said than done however, so as a result, I often see clients make their decisions to invest based on analysis by people sitting in London, Washington, Paris, New York, Sydney etc. They may have a regional office in Singapore for instance – staffed by expats on 3 year secondments – but essentially these people have no ongoing links to the region, don’t speak the language etc. As a result the quality of the advice that is sometimes given worries me…it is too broad, not enough depth, and little understanding of the intricacies of the situation on the ground.
I’ve seen clients of these companies get very, very annoyed with advice that has been given, and then turn to companies like CLC Asia to basically re-do the work for them.
But to be honest, companies like CLC Asia – who specialise in a particular region and who only hire staff that are committed to the region- are few and far between. We have a good on the ground presence in Thailand, Laos, Cambodia and Vietnam, and via associates in places like Indonesia. But we don’t extend ourselves too thin and pretend we know countries where we don’t have a good on the ground presence.
Political Risk Explored: In general, the advice surrounding China has generally been that it is a place that isn’t as promising as people make it out to be. What are your thoughts on that?
Chris Larkin: Broadly, I believe that this is the China (and Indian) century, but China’s rise to economic power still faces one or two stumbles. But following on from the last question, given my focus, I don’t pretend to be a huge expert on China.
But I do have some views, so I’ll answer this at the risk of offending the professional Sinologists out there!
What I do know are from observations made from Chinese due-diligence projects – on what on the outside appear to be well run, respectable, corporate entities – is the shaky debt foundations many local companies must have. Essentially debt has been raised not on the core business fundamentals, but on the relationships between the executives of the banks and the companies.
This reminds me of the situation I saw in Thailand prior to the 1997 Asian financial crisis. Stories abounded of executives from large Thai firms walking into Thai financial institutions and walking out with bundles of cash which they then invested in the latest ‘hot’ sector (in Thailand’s case, it was property and construction). We know how this turned out, and Thailand, as well as much of SE Asia, paid for this approach for nearly a decade.
Add to this the fundamental lesson of recent economic history – that any time an economy or a sector opens itself up the access to easy cash is all the more tempting for people happy to be free of the old restrictions. Unfortunately, the understanding for responsibly investing this money has not yet developed to a significant extent.
In the decade following that opening there is inevitably some sort of over exuberance followed by a pretty severe crash. Examples are numerous – Australia in the late 80’s following de-regulation of the banking sector, Japan in the 90’s, East Asian financial crisis of 1997, the US tech bubble and more recently the GFC caused by sub-prime.
I think China has a similar correction due. I don’t say this out of malice, nor do I pretend to know when it will happen. Nobody knew that a run on an obscure Asian currency like the Thai baht in 1997 would cause a domino effect on the economies in SE Asia. I think it will be the same for China, a small seemingly inconsequential event which sets the domino’s tumbling, which most of us will only be able to identify in hindsight. I’m guessing at most, there are probably a half dozen obscure analysts out there who will genuinely predict what this one event will be…and I’m not one of them (though I guarantee there will be plenty who will claim to have picked it, after the fact!).
Overall though, a significant economic correction, or re-balancing will be a valuable lesson for Chinese policy makers and business leaders, and hopefully provide motivation for real economic reform and implementation of good corporate governance which will help China grow sustainably in the coming years.
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