Indian Multinationals

We have all been very familiar with Multinational Companies (MNCs) like Nestle, ITC, Unilever, etc., who operate in several countries, including India. Normally MNC’s are bound by the strictures of the parent company in terms of business practices, corporate governance and other related issues. While they derive majority of their revenues in a parent location, the idea is to spread far and wide in as many markets as possible and claim market share. Hence, over a period of time revenues generated outside their mother territory may outstrip the rest of the world. A good example is that of the Las Vegas (U.S. based), Sands Corporation, which generates bulk of its revenues from outside the U.S., in Macau, though it is based in America and is considered an American stock. Another example is that of Techtronic Industries, which is based in Hong Kong, but derives bulk of its revenues from the U.S. through selling power tools via Home Depot.

From a fund management perspective, investing in MNCs that derive more and more revenues from emerging markets than home markets can mitigate political and currency risks that are normally associated with direct investments. According to one study, emerging market operations of MNCs have delivered significant revenue and profit growth compared to home markets. Almost all big multinationals, including Apple, BMW, Prada, etc., are now betting more on their emerging market exposure than home market exposure. Hence, it is not surprising to spot these big names in all emerging markets, including India.

Extending this analogy, it may be interesting to examine how many of the Indian companies have ventured outside India, the so-called Indian Multinationals (IMNCs)! Typically, these would be companies that generate a majority of their revenues outside India. We could identify 10 companies among the 30 companies represented in the Sensex. The top three names belong to the IT sector, which by the very nature of their business models, serve clients outside India. This explains the heavy dependence on offshore markets by the IT majors. Together, they also account for a significant share of the Sensex at 18%. It is also interesting to note names from Auto, Pharma, Petrochemicals and Steel. Although it is common sense to assume that IMNC’s would be predominantly be owned by Indian groups, in cases where foreign ownership is high, it fully explained by FII ownership, which are entities that generally have their interests of investment at the forefront. Barring a few (Tata Steel, and Hindalco) all others have enjoyed good performance in the stock market.

How about ownership? Among the 30 companies in the Sensex (not necessarily a broad representation, but will suffice for the case), we can notice four companies with significant foreign ownership exceeding 50% that can consequently be technically defined as foreign companies. However, even here we need to differentiate between FII ownership (which may be subject to quick changes) and Promoter holdings (which is always very stable). In that sense, HDFC cannot be classified as a MNC even though its foreign ownership is more than 50%, since majority of that ownership is due to FII holdings. Hence, the list reduces to Hindustan Lever (part of Unilever group), Maruti Suzuki (part of Suzuki group) and Sesa Sterlite. In general, they mostly operate within Indian market space, as signified by the low % of revenue generated outside India, and tend to represent a sizeable share of the Sensex (measured in terms of market capitalization).

While MNCs eye the lucrative Indian market apart from other markets, IMNCs eye the huge global markets apart from the Indian market. The trend of Emerging Multinationals (EMNCs) is not a new trend. China’s Huawei, Mexico’s Cemex, Russia’s Gazprom and Brazil’s Embraer are but few examples. While some of these EMNCs would have internationalized their national experience, MNCs would have nationalized their international experience like that of Hindustan Lever. Of course, there are pure play IMNCs, like the IT companies (TCS, Wipro, Infosys).

In my assessment, IMNCs will prosper immensely as they look at global markets as an opportunity set as opposed to just targeting the Indian landscape, alone. However, operationally it may be challenging to coordinate vast networked operations and generate the requisite profits. Also, they may have to manage political and currency risks in the process. Also, from a governance point of view, the IMNCs may not be able to take with them notable or worthy best practices while they compete in new markets, as India is still learning to draft governance codes and is not widely acclaimed for such metrics, currently. On the other hand, foreign MNCs may have a head start here in terms of corporate governance.

What about financial performance?

Indian MNC’s (IMNC’s) enjoy a strong revenue growth relative to MNC’s and emerging market MNC’s though there are exceptions like Tata Steel and Hindalco. The high volume low margin nature of these sectors (steel and aluminum) coupled with strong domestic competition in foreign countries can explain this struggle. IMNC’s also enjoy superior net profit margins which probably results in better RoE and RoA. Again Tata Steel and Hindalco trail the ranking with poor net profit margins leading to lower RoE and RoA. Surprisingly, Hindustan Lever (MNC) boasts of strong RoE and RoA. In terms of debt, IT and Pharma among IMNC’s seem to rely less on this source of capital (due to high operating cash flows probably) while manufacturing sector including Steel, authomobiles, and Pharma have high D/e ratios. MNC’s have low D/E excepting HDFC which is a bank.

In summary, the old concept of MNCs is giving way to a new breed of IMNCs that could add more value to their shareholders by expanding afar the opportunity set, a move that by itself can diversify and reduce risk. However, they have to contend with serious challenges of understanding various geographies, the associated currencies, political and transaction risks. The sagas and travails of Tata Steel-Corus and Tata Motors- JLR acquisitions are still etched strongly in our memory!

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