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The other side of the fence - Views on News from Equitymaster
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  • Oct 10, 2000

    The other side of the fence

    To many of us, the news of a well established MNC in India setting up a 100% subsidiary immediately raises our hackles and provokes strong anti-MNC feelings. The market immediately de-rates the local subsidiary/affiliate listed stock in our markets as it perceives (and rightly so) lower growth opportunities for the listed company. While this phenomenon may not yet be widespread, the coming years could see more such cases. On the other hand, if valuations of the listed companies fall significantly, MNCs may instead choose to increase its stake in the listed company through market purchases. Since many of the listed MNCs are in the fast moving consumer goods (FMCG) sector, let us look at that sector globally, in particular the food sector.

    The food sector is considered a mature sector, especially in developed markets where growth in excess of 3-4% is considered very good and often very difficult to achieve. For e.g. Nestle has, over the last ten years, been able to exceed a 4% volume growth, only a couple of time, the most recent being in the current year. Unilever, on the other hand, has not been able to come close to that in recent times and in fact, talks of a ‘path to growth’ target of 5% only by the year 2004. Price increases are virtually negligible, generally below inflation or non-existent in some cases.

    There is also pressure from retail consolidation in many of these markets with retail chains increasingly flexing their bargaining power. The convergence to a single cash currency in Euro land by 2002 isn’t going to help matters either. Some industry analysts are predicting manufacturer prices to fall further as a result. Many of these MNCs are under a great deal of pressure from shareholders to deliver growth. While acquisitions are one way to boost growth if organic growth is flagging, these definitely do not come cheap. Some recent acquisitions in the food & beverage sector have been done at a 3x price/sales, the acquirers themselves trading at 1-1.5x price/sales. Also, to boost earnings, some of the companies have resorted to aggressive share buybacks, which has helped somewhat in drawing attention away from the tepid growth in operations.

    However, the long term solution for many of these companies is to deliver growth and hence the increasing focus on emerging markets. This is where the growth lies as many of the MNC food companies have registered double digit or high single digit growth rates in many product categories in these markets. In many emerging countries, the MNC parent has been able to set up 100% or well over 60%-80% owned entities. Some such cases are in the East European and Latin American countries. In consolidation, this helps to capture most of the profitability derived from these high growth countries as there is little or negligible minority interest. On an ongoing basis, some of the MNCs are also progressively buying out the minority stakes in entities and thereby increasing their stake closer to 100%.

    In India, the picture is a little different and the MNC ownership in the Indian affiliate/subsidiary is among the lowest as indicated by the list of group company investments in their respective annual reports. Most MNCs have had a long operating history and had to go through the FERA dilution phase, where they had to compulsorily dilute their holdings to 40% and below. Subsequently, however that picture altered with many MNCs re-hiking their stake in the Indian operations to 51%. Given the local market distaste for 100% subsidiaries, it is possible that atleast the well established MNCs in India will prefer to increase their stake in the listed entity at opportune prices rather than put up a new 100% subsidiary. But who knows?



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