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Markets: The global theme... - Views on News from Equitymaster
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  • Feb 6, 2007

    Markets: The global theme...

    'Being global' is proving to be the new mantra for Indian corporates. Be it in software, pharma, steel, auto and the like, the 'global' fever has been catching on and India Inc. is slowly emerging as a force to reckon with on the global map. While M&A as a theme comes as the most foremost in mind, companies are also establishing a footprint in the global arena through the organic route. Here, we take a look at two such strategies, namely 'M&A' and 'outsourcing', which at present are at the forefront of India's global growth story.

    Mergers and acquisitions: There has been increased activity on the global M&A front by Indian companies in recent times and this phenomenon has not been restricted to only a few sectors but across sectors such as pharma, FMCG, steel, auto and the like. Some of the factors driving acquisitions are as follows:

    • Acquiring scale: Acquiring 'size and scale' is one of the primary reasons that have prompted Indian companies to go in for mergers and this has been more pronounced in industries, which are highly fragmented and competitive. Scale also enables companies to gain bargaining power with the distribution chain and also have some level of pricing power. Case in point is the recent acquisition of Corus by Tata Steel making the latter the fifth largest steel company in the world.

    • Increasing geographical reach: Acquisitions also provide a faster way to gain foothold in a market where a company has virtually no presence as against starting operations in a particular geography right from scratch (the latter would take a relatively longer time to scale up). Case in point is Dr.reddy's acquisition of Betapharm providing a vehicle to the former for foraying into the German generics market, which is the largest generics market in Europe.

    • Backward integration: Backward integration in terms of securing raw material is another rationale behind an acquisition in the international markets. For instance, BILT recently acquired the Malaysian company Sabah Forest Industries (SFI), primarily for the purpose of securing pulp, given the firm trend in global pulp prices, which is a key raw material for the manufacture of paper.

    Outsourcing: India has fast been emerging as a favourable 'outsourcing' destination for various reasons, which include the low cost advantage that the country enjoys, English speaking proficiency, domain skills and expertise but more importantly also for its strong manufacturing capabilities. This trend has been very evident in the software, pharma and auto ancilliaries sectors and has largely contributed in driving the overall performance of these sectors.

    The other side of the coin...
    However, both the above strategies are not without their fair share of challenges, which are enumerated below:

    Likely restructuring: While global mergers do add scale and depth to the level of operations of the acquiring company, sometimes the level of restructuring to be done is likely to hamper the latter's profitability in the medium term. For instance, while Asian Paints has acquired a 51% stake in Berger International, the latter still does not make a meaningful contribution to the consolidated bottomline of Asian Paints due to the underperformance of its South East Asian operations. While restructuring is in process, it will be a while before there is a turnaround in these operations.

    High level of competition: Competition is an integral feature while competing in the global arena and certainly cannot be taken lightly. For instance, while India enjoys considerable advantages enabling it to capitalise on the 'outsourcing' story, it nevertheless faces stiff competition from other countries. Besides this, while low cost advantage is one of the major factors driving the outsourcing story, the gap is narrowing down, which means that Indian companies will have to move up the value chain if they want to effectively compete in the global market. To put things in perspective, in the contract research and manufacturing segment, while domestic pharma companies currently have the upper hand in allying with global innovators, countries such as China are expected to bridge the gap in around 5 to 6 years. Similarly, on the M&A front, increased competition means more players are vying for the same potential target leading to a spike in valuations.

    Looking ahead...
    Post the 1991 crisis, India has made increasing efforts to integrate itself with the global economy. While the earlier efforts were towards encouraging global companies to set shop on the Indian soil, in recent times, Indian companies themselves are taking the initiative to establish a presence abroad. Having said that, the domestic market cannot be ignored and companies need to first have a considerable presence in the domestic market before they venture abroad. Also, risks pertaining to integration and the increasing competition are other factors that need to be considered.



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