August 2012


The Leader: Fighting for Corporate Position, Size is Not Enough

Much has been written about the changing global power equilibrium in the world and the relative positioning of countries, particularly the US, China and to a lesser degree, India. Less well covered have been the shifts in power between nations’ corporations, themselves the key actors projecting a country’s economic power. The assumption is that Chinese companies are well on the way to dominating global industries too. Fundamentally, of course, country growth is correlated to corporate growth. However, achieving global corporate industry leadership requires more than an economically strong country of origin. Innovation and intellectual property, mature capital markets and a transparent market for corporate control are critical determinants. The development of these fundamental factors will be critical for the rise of India’s and China’s companies to take their place alongside the established global leaders. It will be even more important if valuations are to follow size.

Who has the World’s Most Valuable Companies?

In December 1989, at the end of the Cold War, the ten largest corporations in the world by market capitalisation were all American. Ten years later, US companies had ceded half of the top ten spots to international companies, mostly Japanese by origin. Moving the clock forward to the eve of the global financial crisis, December 2007, the Japanese companies have been replaced by Chinese ones. More recently though (as of mid-August 2012) US companies have appeared to have recovered their ground at the expense of Chinese competitors, regaining a total of eight of the top ten spots by market cap. The table below illustrates the shift in leadership over time.


Source: Bloomberg

This analysis illustrates a key fact: that national economic performance does not automatically translate into corporate valuation leadership. US corporate leadership during 1989 occurred in the middle of Japan’s asset price bubble, at a time when the Nikkei Index reached its all time high and Western newspaper editorials were predicting a wholesale takeover of the US by Japanese corporations. Yet, as of Dec 1989, there were no Japanese companies in the top ten. Similarly, the rankings in 1999, which include four Japanese companies, occurred at the end of Japan’s Lost Decade, nearly ten years after the bubble’s collapse. One key reason for this effect was the structure of Japan’s corporate landscape. For much of the past 50 years, Japanese companies were part of the so-called Keiretsu system, focused on business groups of major corporates across multiple industries with cross shareholdings, usually focused around a major bank or trading groups. This system insulated members from both stock market fluctuations and takeover attempts, effectively negating the market for corporate in control in Japan and creating a barrier to consolidation across major industries. The US on the other hand is one of the world’s most active M&A markets and companies employ mergers and acquisitions as key drivers of growth and shareholder value. Japan’s M&A activity did not pick up until some time after its bubble burst in 1991, and so Japan took some time to consolidate across key industries and create scaled industry leaders. This led to Japan’s prominence in the top ten in 1999.

More recent fluctuations on the top ten list highlight a different set of requirements for corporate leadership: the need for strong domestic investment and capital markets. China’s relative strength vs the US (in terms of GDP) has increased since 2007, yet the relative positioning of its corporate leaders appears to have waxed and waned. This change in position largely mirrors the relative performance of the countries’ capital markets, where China has recently faired poorly and US capital markets have benefited from a global “flight to quality” as Western investors have withdrawn capital from emerging markets in favour of US investments. This shift highlights the importance of developed and transparent capital markets on the one hand (capable of retaining and attracting global capital flows in times of uncertainty) and the need for sufficient domestic capital on the other hand (to provide the required levels of domestic corporate funding independent of international investor sentiment).


Source: Bloomberg


Source: Fortune

Building the World’s Largest Companies

By way of comparison, an analysis of the Fortune Global 500 list, which measures the largest global corporations by revenues, unsurprisingly provides a less volatile and more straightforward view on the shifting corporate dominance of countries. The composition of the top ten companies by revenues is somewhat skewed by the presence of major oil companies, which typically take up half of top ten slots in a given year. However, the table does demonstrate clearly the increasing scale of Chinese companies, none of which made the list before the end of the 2000s. With (domestic) revenue growth tied fairly closely to underlying macro-economic growth, Chinese companies’ presence on the whole Global 500 list (not just the top ten) has increased significantly, particularly during the past five years, largely at the expense of US and European companies. Looking at the entire Global 500 list provides a more balanced view of industry leadership sector-wise, as it includes a much broader range of industries than the oil and gas driven top ten. In this larger set, countries like Japan and India have seen the number of their companies on the list remain fairly stable over the same period. Indian companies in general remain underrepresented on the Global 500 list (relative to India’s size). Among countries with over one trillion dollars in annual GDP, only Russia and Mexico have a few mega-corporations, and over half of India’s eight companies on the list are oil and gas companies. While the factors regarding domestic liquidity and active markets for capital control certainly apply to India as well, there is an additional factor determining Indian corporations’ relative global positioning. India historically has had no lack of large corporations, with the country’s business environment traditionally having been dominated by numerous family-controlled conglomerates. In the absence of effective domestic market, financial and governance institutions, companies have a need to expand horizontally in order to do business effectively, creating sprawling empires and oligopolies enabled by India’s bureaucracy, or “License Raj”. Today, many of these companies still enjoy monopolistic positions in key industries, obviating the need for companies to innovate and develop new markets and customers for their products. America’s 20 largest companies include IP-led companies with a track record of innovation like Apple, IBM and HP. India and China’s largest companies are dominated by players in regulated industries and by state-owned enterprises. Over the long-run, companies will need to innovate in order to compete effectively and internationally, large domestic market and protected positions nationally non-withstanding.

Requirements for Leadership: What Will It Take?

Indian and Chinese corporations will continue to grow, leveraging their domestic market leadership positions and driven by strong local demand growth. Over the mid-to long term though, these companies will need to compete internationally to sustain their growth, requiring access to multiple additional capabilities and assets, many of which are currently outside of the scope of operations for large scale Indian and Chinese corporations. These include:

Conclusion: Implications for Indian and Chinese Corporation

Growing Indian and Chinese companies seeking to leverage strong domestic positions to grow and compete in international markets today will need to consider the following implications.

The road to maturity in value creation will be an exciting one for India and China’s corporations, policy makers and investors, with its share of drama. As the last year in both countries has shown, creating value requires long term vision on the part of investors and either the patience to ride out the inevitable mishaps or the flexibility to make tough short term decisions to enter and exit from their positions.


©2012 Greater Pacific Capital