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Edition #115. Monday, 7 September 2020 |
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A 🔒 paid newsletter that demystifies the hidden models, incentives and consequences of the most significant events across India and Southeast Asia. Someone sent you this? Subscribe to BFO
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Good morning,
Everyone talks about shifting manufacturing away from China, but only a few talk about the costs it will entail. Speaking of costs, Delhi faces its biggest challenge yet—how to safely reopen its metro service for riders. And it’s not going to be cheap.
Working from home has raised issues: non-parents complain about the extra perks for employees with children, while auditors can’t do their job well without company visits. Meanwhile, SoftBank is following the ‘smart money’ and IPOs are seeing competition from a new listing model. |
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The fault in the supply chain
Nithin |
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One thing has been consistent during the pandemic—the concern about China’s outsized influence on global manufacturing and supply chains. And amidst rising trade tensions, countries are trying to woo companies back home or away from China.
In April, Japan announced a subsidy programme of 220 billion yen (about US$2 billion) for companies shifting production back to Japan. And now, India is on Japan’s list of “relocation destinations” eligible for subsidies.
The US is also mulling the idea of a “reshoring fund”, according to Reuters. With US$25 billion to start with, it aims to encourage companies to move manufacturing bases to the US.
Meanwhile, India, Japan, and Australia are launching a trilateral Supply Chain Resilience Initiative (SCRI) later this year to reduce dependency on China.
Clearly, a lot is happening to avoid China. It’s also something India hopes to capitalise on. On Thursday, India’s Prime Minister Narendra Modi addressed the US-India Strategic Partnership Forum and spoke about supply chains. |
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But, if there is one thing that companies will consider, it’s the cost.
An analysis by the Bank of America says that shifting all export-related manufacturing that’s not intended for Chinese consumption out of China could cost firms US$1 trillion over five years. And during a time when companies are strapped for cash, their priority would be survival over relocating their manufacturing or supply chains. Ultimately these costs will also lower the return on the company’s capital, which isn’t what shareholders want.
On the other hand, governments are already cash strapped. And they also need to fund an economic recovery. Wanting to provide large incentives to woo manufacturing could result in governments borrowing more money. Too much debt can eventually lead to reduced economic activity and an increase in taxes as governments try to pay it back and manifest responsibility. For emerging market economies such as India, that leaves limited room for attracting companies with such incentives.
As UBS Global Wealth Management’s Chief Economist Paul Donovan said, “While localisation of production could be economically beneficial, this will only be the case if it comes about through companies’ choice and assessment of efficiencies.”
And for India, that means dealing with the age-old problems of land, labour, tax, and red tape to entice foreign companies. Not just trust. |
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The tragedy of the commons is the Coronavirus
Olina
Today, Delhi is opening up its 400-kilometre metro rail service, which spans pretty much the entire city. It’s Delhi’s biggest challenge yet—to unlock the metro service for millions of riders safely. The metro should be a vehicle just for the people, not the virus.
The Delhi Metro Rail Corporation (DMRC) wasn’t the only mass rapid transit system to shut down. Mumbai’s serpentine local train network was also completely shut before it opened partially for essential care workers in June. In fact, India might have been one of the few countries to shut down public transport options completely. In other words, we were always beyond Phase 7. |
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Delhi’s metro and Mumbai’s locals (as they’re called) both have extensive SOPs to handle commuter traffic. There’s tons of cleaning involved. But for a closed metro carriage, the tricky thing is to get the ventilation right. The New York Times tried to visually represent what happens to air particles when a metro rider sneezes without a mask on. If this rider has Covid, it paints quite an alarming picture:
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Though there’s very patchy data on public transport systems being viral hotbeds, the possibility can’t be completely ruled out. The New York metro is already toying with the idea of putting in ultraviolet technology to catch these particles mid-flight.
Cleaning, enforcing discipline, ultraviolet tech—all seem like very expensive solutions for the DMRC, which hasn’t earned a penny since the lockdown began. Did we really need to start at Phase 7? If it was a gradual shut down (or opening up), maybe the DMRC could’ve had the time and opportunity to experiment.
All these well-intentioned measures on cleaning and social distancing may still not stop people from choosing personal transport over public options. Those who can afford it may skip enclosed metro coaches or city buses completely. More personal transport could easily lead to more congestion.
And then this happens. As it already has. |
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TomTom’s traffic index for Delhi shows live congestion on Saturday, 5 September, to be just as bad as on the same day in 2019.
The health burden of the pandemic is one thing. To top that with a quick return to bad air days only creates a vicious cycle. Those most likely to suffer the brunt of bad air days are commuters who now have to walk to work. Inside enclosed spaces like metros, they run the risk of catching the infection; outside it, they’re breathing in air that’s made worse because of more congestion on the streets.
Is there a real choice here? |
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‘What about us non-parents?’
Jum
Working from home can make employees more productive—except if they have kids to care for all the time. Tech firms in the US understood this clearly when Covid-19 struck, so they rushed to help.
For example, Facebook provided up to 10 weeks of paid time off for employees if their child’s school or daycare facility had closed. Google and Microsoft offered similar leaves.
But such perks didn’t go unnoticed by non-parent staff. “Some employees without children say that they feel underappreciated and that they are being asked to shoulder a heavier workload,” The New York Times reported.
The resentment has grown to the point that more than 2,000 Facebook employees confronted COO Sheryl Sandberg about it during a company-wide videoconference.
Well, until the messy issue of school reopening—and the larger problem of containing the virus—are sorted out, the tension between parents and their childless coworkers is unlikely to go away. |
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A school of fish, and not a whale, may be driving tech stocks Nithin
In June, we wrote that the ‘smart money’ driving the stock markets might actually be the retail investors—millennials and GenZ. It seems like SoftBank took it too literally.
In August, the Japanese investment powerhouse announced that it was setting up an investment management subsidiary to invest in technology stocks. In the US, the NASDAQ stock market index houses the tech companies. SoftBank wanted to follow the ‘smart money’.
And now, The Wall Street Journal reports that SoftBank has invested close to US$4 billion in stocks such as Amazon, Netflix, Tesla, Microsoft, and Alphabet. But that’s not all. The moniker, ‘NASDAQ Whale’ given to SoftBank by Financial Times, is due to a parallel strategy Softbank is said to have employed, worth US$50 billion.
This is known as a call option strategy. By paying a small fee (known as a premium in options strategy), and without actually owning a stock, SoftBank can take a bet on a stock. A bet that the share price will rise above a predetermined level within a certain time. If it does, the gains can be outsized. If it doesn’t, SoftBank forgoes the fee (premium) it paid.
SoftBank may have paid only US$4 billion as premium for buying these call options. This is a cheap way for them to pay the premium, and yet get exposure to stocks worth US$50 billion.
So, should investors be worried about Softbank’s tactics? If SoftBank benefits from the trade, there will be a banker/broker on the other side of the trade who will lose. To minimise their loss, the bankers/broker will employ protective measures such as buying the same stocks. And that could push stock prices higher.
The share prices of Big Tech companies have been on a tear, and it’s evoking memories of the dot-com bubble that burst 20 years ago. Retail investors and institutional investors like SoftBank are all chasing Big Tech.
In fact, the NASDAQ Whale driving up tech stocks may not be SoftBank. It may be the retail investors themselves. Retail investors have been employing call option strategies as a cheap way to place their bets on stocks.
SoftBank may just be following the school of fish—the retail investors. |
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If you want to understand how call options work, here’s Investopedia breaking it down.
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The red flag in spotting red flags
Arundhati
Just as we have convinced ourselves that working from home can be a long-term option, one group of professionals are finding this particularly sticky to deal with. Auditors.
The pandemic and the lockdown has made it hard for auditors to do their jobs—like visiting client sites to take stock of inventory. And when they can’t access paper records, they need to rely on documents provided by companies, reports WSJ. Companies too are wary of not having their auditors around.
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The struggle is real. But when you take into consideration that auditors have been complicit in enabling some of India’s largest corporate frauds, the upcoming financial years could spark Covid-related auditing fires across India’s corporate landscape. |
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Many scams were as much because of poor audit quality as it was about financial misreporting.
These instances even prompted India’s Ministry of Corporate Affairs to float a discussion paper in February to fix the auditing mess in India. The paper included suggestions to curb auditors from undertaking higher-paying, non-audit work such as consulting and transaction advisory services in the same firm in which they also conduct audits. It also suggested that auditors look at the probability of default by a company like credit rating agencies do.
But the discussion paper needs to be updated to watch out for Covid-related loopholes that companies and auditors could potentially exploit. From assessing inventory to examining physical records and evaluating valuation of assets, among others.
With companies hurting from evaporating demand and their survival hanging in the balance, Covid becomes the perfect excuse for pliable auditors and companies to extend their lifetimes. Red flags ahoy. |
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The IPO has competition
Nadine
For most of startup history, eventually taking the company public would have been the holy grail of exits.
The direct listing model is in a crisis, though. Their numbers have been steadily declining for many years. And VCs and financial market observers are scratching their heads over what comes next.
There are two major shifts in opinion:
It is. And IPO-by-SPACs used to have a somewhat negative connotation.
“It’s a back door to going public and avoiding scrutiny,” writes Marketwtach, quoting Kathleen Smith, Principal at Renaissance Capital.
More VCs are starting to warm up to the concept though. Fred Wilson again:
I have always thought of [SPACs] as a “liquidity path of last resort” for our portfolio companies. The thinking was that if you could not go public in a traditional IPO, and if you could not find a traditional M&A buyer, then you would consider a SPAC.
But my thinking on SPACs has changed in this latest SPAC frenzy. I now see them as part of the continued “assault” on the traditional IPO process and largely a good thing.
With thought-leading VCs like Wilson coming out in favour of SPACs, more VCs, founders, and retail investors will be emboldened to view them as available options, not the last resort. The traditional IPO has competition. |
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Correction: An earlier version of the piece titled ‘A bittersweet day for Tencent’ published on 3 September stated that the news of the deal was broken by Entrackr. It was announced by Inc42. The error is regretted. |
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That’s a wrap for today.
Don’t forget to write in with your thoughts and observations on how this pandemic is reshaping businesses, societies and economies. We will be back tomorrow.
Stay safe Jum |
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Beyond The First Order is a paid daily newsletter that demystifies the hidden models, incentives and consequences of the most significant events across India and Southeast Asia. This newsletter is published by The Ken—a digital, subscription-driven publication focussing on technology, business, science and healthcare
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