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Asia: Eastern promise

Richard Willsher is a finance and business writer with a background in international investment banking. www.richardwillsher.com

Everyone's talking about India. The world's largest democracy has forced itself on to the agenda of every business in the western world. So is it the new 'promised land' or just the latest conference topic in town, asks Richard Willsher

It's an emerging market growth story. The Indian economy has recorded gross domestic product growth rates of between 7.5% and 10% each year since 1999. Estimates are, from among others the Reserve Bank of India (its central bank) and US investment bank Morgan Stanley, that in 2006 it will register at around 9.5%. Next year this may fall back but by only a percentage point or so. This is way ahead of western countries, the major markets of Europe in particular, where the struggle for economic growth is a constant battle and the burden of social costs is an increasing drag year-by-year as their populations age.

And as the productive workforces of west countries decrease in proportion to their populations so India seems by comparison to be a bottomless well of productive labour. The country is believed to produce two million graduates per year who speak English, many of whom are qualified in accountancy, computer studies, business and commerce. Moreover, basic salaries for bottom-of-the-scale operators are likely to be in the region of $2,000 to $3,000 per annum. A recent interview in the Financial Times with Nandan Nilekani, the co-founder of India IT giant Infosys, revealed that the firm receives 1.4 million job applications annually. This points to the management of human resources of an entirely different scale than any, with the exception of the Chinese, are accustomed to.
 
If people are the country's greatest strength then the skills of those people have to come a close second. There is still a common misconception among some in the west that what India has to offer is low cost, low skilled labour capable of nothing more complicated that answering run-of-the-mill customer service calls for banks and insurance companies. Not so. And not so by a country mile. In the financial services field, for example, US investment banks are now moving analyst and research jobs to India from New York or London. The software development sector, centred in Bangalore, is a world leader. Computer animation and other complex IT skills have been migrating to India for some time. In manufacturing anything that can be made in the west can be made in India. The capabilities and the desire to do the work are there and India's world-class companies are proving it.

Indeed those companies are another of India's strengths. And it is not all new money. Well-established, family-owned enterprises are the backbone of the country's commercial life.  "India is no different today from say, the US 100 years ago," explains Sunil Kakkad, partner at City law firm Laurence Graham who has worked on a number of large corporate finance deals involving Indian businesses. "You had a handful of families that had a very significant influence on the way the US economy developed. The likes of the Rockefellers and Carnegies and so on. This is true of any emerging economy and this is what occurred in India."

Tata, for example, with revenues of $18 million has been around for over 100 years [see box] while the $8 billion Aditya Birla textiles, metals, cement and oils group traces its origins back to cotton trading in Rajastan in1857. These are world-class businesses with ­operations across the globe. Add to this the findings of a study released earlier this year by the Boston Consulting Group. The New Global Challengers: How 100 Top Companies from Rapidly Developing Economies Are Changing the World looks at 100 companies that are posing a threat to many better-known major businesses across a wide range of sectors. They threaten because they can access low cost resources, in particular labour as well as higher skilled people; they make and sell low cost products that appeal to price conscious consumers; they have modern, efficient plants and have huge home markets. Out of the 100, 21 are from India, among which are Bharat Forge, the world's second largest forging business; Wipro, the third largest third party IT services and business process outsourcing company; Ranbaxy Pharmaceuticals, one of the top ten generic pharmaceuticals manufacturers, and Bajaj Auto and Mahindra & Mahindra, the automotive equipment makers.
 
What all of these strengths add up to is a country that has developed considerable momentum. There is not only a history of meteoric growth and success in India, there is now an inevitability and an expectation that Indian businesses will increasingly figure on the global scene – that they will become world leaders overtaking and superseding traditional, established, western and Japanese players across a variety of sectors. India is already reckoned to be the fourth largest economy in the world measured on a purchasing power parity basis or twelfth largest measured in terms of US dollars.

Weaknesses
Let's be realistic about this: India has its problems and some are pretty major ones, threatening its growth, performance and image on the world stage.

"The threat to India's growth over the next two years is its poor infrastructure," according to research published by Morgan Stanley in June 2006. "To address the problem, India needs to mobilise capital more effectively and streamline the process for the implementation of infrastructure development, objectives that require strong government. Coalition politics, as now prevailing in India, tend not to produce strong governments. Since India has been able to achieve high growth in the past three years even with a poor infrastructure, the hope is for continuation of the same…"

Roads, railways, ports, airports, power generation and distribution, water, telecoms. All are in desperate need of expansion, upgrading and refurbishment  (to read more about a family business helping India on this front, see page 43) and getting to grips with the problems is exacerbated by the demand for services engendered by the rapid economic growth the country itself.

Meanwhile, let's not forget that India, for all its high-tech industry, its huge output of graduate-standard people and its growing prosperity is in many ways a desperately poor country. That's why it has such potential for growth. It is a major recipient of aid funding, especially from the Asian Development Bank with outstanding loans of over $14 billion. According to the US CIA World Factbook, in 2002 25% of the population were below the poverty line. In 2005 9% of the population were unemployed. There is a high infant mortality rate, major risks of infectious diseases such as hepatitis, typhoid and malaria. The spread of HIV is rapid. On average an estimated 40% of the population over the age of 15 cannot read or write, with women much more likely to be illiterate than men.
 
Stifling, often paper-based, government bureaucracy is a constant frustration to business. The University of Passau's Corruption Perception Index places India 88th on a worldwide list of 158 countries in terms of how corrupt their business practices are perceived to be. Meanwhile the World Economic Forum's Business Competitive Index lists India 31st out of 70 countries based upon various ease-of-doing-business criteria. India may have been experiencing an economic boom for a number of years now but this is despite conditions that many in the west would not find easy to deal with either in business or every day life.

Add to this political, civil and religious unrest. July's bombings in Mumbai which killed at least 180 people illustrate how vulnerable India's cities can be to attack, though London, Madrid and New York among others have proved to be similarly at risk.
 
Another significant weakness has been India's relatively poor track record of attracting foreign direct investment, in comparison with China in particular, though this may be changing with the arrival of increased interest from foreign private equity funds. This has in part been due to the protectionism that India has historically shown towards certain sectors of the economy, notably  financial services where foreign interest has been shunned though there are now signs the government is relaxing its grip.

The recent stock market correction that occurred in May this year illustrated the weakness of India's financial markets in the face of foreign investors' changes in investment behaviour. The sell-off of $2.4 billion worth of equities listed on the Mumbai stock exchange weakened the rupee at the same time. The dangers of foreign emerging market investors' market plays and currency speculation are all too fresh in the minds of those who recall the catastrophic effects of the 1997 Asian currency crisis.

Opportunities
India offers so many opportunities to western businesses that it has become imperative to at least consider what's on offer, especially if competitors are already gaining advantage through doing so.

Suggestions that India's business processes outsourcing (BPO) industry is under threat are probably overstated. China may be cheaper and Poland or the Ukraine may be closer but India has a starting advantage with English being widely spoken. According to research conducted by Atradius, the Netherlands-based credit insurer, "India has an estimated 60% of the world's IT and BPO market and this is growing by 40% a year". Just about any process that can be carried out or delivered on-line can be outsourced to India at a fraction of the cost of performing the same process in-house in the west. The same Atradius research also demolishes the low-cost equals low skills argument.
 
"What is even more exciting about India is the pace of innovation. It is the Indian design teams of technology giants such as Hewlett-Packard, Cisco Systems and Motorola that invent the latest software and dazzling multimedia features for next-generation devices. Google is setting up a state-of-the-art laboratory in Bangalore to rival its headquarters in California, where core search-engine technology will be developed. And Indian engineering houses are using 3-D computer technology to develop everything from car engines and forklifts to aircraft wings for the likes of General Motors and Boeing."
 
Other developments in Indian offshoring have included the Swiss pharmaceuticals group Novartis Pharma establishing a specialist drug development software operation in Mumbai, while Universal Studios and Walt Disney have outsourced animation production operations to Bangalore-based JadooWorks. India is expanding the scope of its offshoring business by leaps and bounds. For tight employment markets such as the UK, it is skills that are on offer, not just cost economies.

Meanwhile a number of western businesses are now involved in what is becoming a busy two-way street of acquiring and selling businesses where one end of a deal involves an Indian counterpart. The major family-owned or -run groups such as Tata, Birla and the Ambani family's Reliance Group have been active in making acquisitions abroad as noted above, but merger and acquisition lawyer Sunil Kakkad, says that there is a raft of families that have very significant wealth and some are deploying this in making acquisitions overseas. Research carried out by Close Brothers, the London-based corporate finance house has found that since 2002 Indian corporates have acquired 101 international businesses, spending £2.9 billion in doing so. And the pace of activity is accelerating sharply with 29 deals valued at £1.1 billion announced in the first four months of 2006.

Meanwhile western businesses are seizing opportunities in India to access the burgeoning and increasingly wealthy market for goods and services there. The country has a rapidly increasing, affluent middle class that now numbers around 200 million – roughly equal to the entire populations of Germany, France and the UK together. And these people are buyers of goods and services that are sourced or delivered from overseas as well as from the domestic market. Indeed India is now reckoned to be among the ten largest retail markets in the world and growing fast. As Mr Kakkad adds, the common use of English and the legal structures based on English law do make for relative ease of acquisition and operation on the formal level which may not be the case in other emerging markets – China being chief among them.

Recent deals have included Fiat's planned joint production facilities for small cars with Tata Motors. And it's not just cars, but other consumer sectors too. For example, in 2000 there were 5.6 million mobile phone subscribers in the country; the number is now ten times that. This points to the advantages available to those manufacturers who choose to locate manufacturing and sales operations in India. A report from Deloitte Touche Tohmatsu published at the end of 2005 and entitled Indian Manufacturing in a Global Perspective said: "The Indian manufacturing sector has shown remarkable results recently. It grew 10.3% in the second quarter of 2005, and in a recent study was identified as the second most competitive destination. In the last decade, Indian manufacturers have shown they can perform on par with the best of companies and compete strongly in the global marketplace."

As if to endorse the trend towards greater manufacturing growth and the explosion of the retail market, western banks such as Standard Chartered have tried to expand their operations there in areas such as corporate advice and private banking. In particular, private equity houses such as the big-hitting American houses Carlyle and Blackstone have launched substantial funds to support buy-out operations. The message, then, is that there are plenty of acquisition opportunities for western businesses now available in the Indian marketplace, and the advice and money are there to make them happen.

The other side of the country's infrastructural weaknesses is the opportunity for those working in infrastructure advice and construction sectors. The UK Department of Trade and Industry's UK Trade and Investment highlights sectors such as construction, engineering, healthcare and medical, oil and gas, power, transport and water as key targets for British exporters and consultants. However, plenty of other competitors from other countries, the US in particular, are also prioritising India as a key target market.

Threats
Notwithstanding the considerable opportunities that India offers, it's economic growth and prosperity is faced with some significant threats. Chief among these may be its infrastructural failures. While, for example, Bangalore has established a worldwide reputation for its excellence in IT, the city's crumbling infrastructure has now an international notoriety of its own. Some major multinationals have suggested moving out and the local press and IT journals have attacked local government authorities for their failure to keep pace with the city's growth.
 
This might be a template for others of India's growth centres. For business to prosper it needs the basics of roads, electric power and water; lack of them is a threat to future growth. Add to this India's general lack of natural resources, oil especially. Considering its physical size and gargantuan population and the increasing demand for goods and services this is a threat that is not going to go away and may put a brake on the country's growth momentum.

Despite the number of graduates coming on to the job market there is a lack of skilled labour. Deloitte's report into manufacturing draws attention to a lack of even a basic education for large sections of the population. In addition it points out while India has many strengths in its level of IT expertise it lacks people with manufacturing skills and disciplines.

China's success in attracting foreign direct investment has outstripped India's ten-fold according to The World Bank. Some have pointed to China's system of government, others to its somewhat better infrastructure, others to the Indian government's failure to liberalise its foreign investment laws. Meanwhile the threat of capital outflows injects a risk factor into the Indian economic environment which reduces investor confidence.

A lesser threat of wage increases now faces the BPO sector.  There is still plenty of headroom when costs are compared with those in the west but high wages offered by competing organisations in the BPO market introduce a high churn rate to the workforce. It takes time to bring workers up to speed to provide good service to overseas customers, if they leave to work for slightly higher wages offered by competitors their employers have to re-embark on recruitment and training to fill the gap.

But the greatest threat surrounding India is that businesses in the west do not take it sufficiently seriously. While China often steals the limelight, India is now an economic powerhouse despite its weaknesses and the threats to its continued growth. As the Boston Consulting study showed, India now has businesses that out-compete established players in many sectors and they have the advantage of a major home market which was often the case with US companies in their early days.
 
The India market is four times the size of the US and its growth potential is considerably greater. The message then for western businesses must be to carefully examine the opportunities India offers. Because whether they choose to do business there on not they cannot ignore it and at the very least they have to prepare their defenses against Indian competition in the future.

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