Emerging Market View: What Our Analysts Are Reading

EM View

India’s newly elected Bharatiya Janata Party (BJP) government announced its first budget last week, and according to the Wall Street Journal, it proved a letdown for those expecting big-bang reform, MNCs included.

“While it is a well-balanced fiscal plan with focus on reviving consumption and investments, markets have not been overly pleased and experts find certain growth targets to be quite unrealistic. The absence of specifics on several big-ticket items and lack of an overarching vision should rightfully disappoint companies,” says Shishir Sinha, FSG’s Senior Analyst for Asia Pacific.

(Readers can view FSG’s original expectations for India’s BJP government here.)

Last week, Portugal’s Banco Espirito Santo SA bonds hit record lows after parent company Espirito Santo International reportedly missed a debt payment, rekindling market fears and reminding investors that the eurozone’s woes are far from over.

“Executives should be wary of headlines for recovery in WEUR, and prepared for the heavy downside that could accompany bank failure. Banco Espirito Santo, a Portuguese bank, delayed payments on some securities, reminding us that just because banks have not been in the news does not imply that they are healthy. FSG’s WEUR Regional Outlook outlines how banks could impact MNCs throughout the region,” says Lauren Goodwin, Senior analyst for Western Europe.

In Latin America, Argentine presidential hopefuls are dealing with the issue of debt negotiations and exploring opportunities for business-friendly reform, according to Reuters.

“As Argentina strives to negotiate with holdouts to avoid default, executives should consider the potential for improvement as elections approach in 2015. The current frontrunners favor negotiating with holdouts and would likely be more pragmatic and business-friendly than President Fernandez,” says Christine Herlihy, FSG’s Senior Analyst for Latin America.

In global news, Forbes recently released an article on local companies competing with foreign investors in emerging markets, citing a new study by Boston Consulting Group and echoing past FSG reports.

“Echoing the same message in FSG’s report Winning the Race For The Market Diamond, local competition gaining market share in emerging markets is an increasing concern for multinationals, particularly for MNCs that focus on the burgeoning emerging market middle class. Read the report to understand the strategies other companies have used to battle the evolution of growing domestic companies,” says Sam Osborn, Associate Practice Leader for FSG’s global analytics.

Expectations for India’s BJP Government

Infographic India's BJP Government Expectations for Next 5 Years

India has just experienced a landmark general election; the incumbent Congress is going home with its worst ever defeat since the party’s formation post India’s independence in 1947, while the Bharatiya Janata Party (BJP) government holds the strongest majority held by any single party in India since 1984. With such a strong hold on power, the country expects the BJP government to be the first in decades to pass bold reforms that can revive India from its sleepy, sub-par growth and bring it to its true double-digit potential. In this infographic, we lay out FSG’s expectations of the BJP government that MNCs can expect in the short, medium, and long run. These expectations are based on the BJP’s manifesto, market expectations, actions of the previous BJP government, and a statement released by the President of India on June 9.

Frontier Strategy Group clients can read the full analysis on the client portal

A Quick Guide to India’s Upcoming General Elections

The general elections of 2014 might be one of India’s most highly anticipated political events of recent times where many expect a large shift in power after experiencing a decade of dominance by the Congress Party led UPA coalition. The elections bring with them a high level of ambiguity; what type of a coalition are we going to see at the center? Will BJP be able to achieve a landslide victory as has been predicted by majority of the opinion polls? Which political party is truly committed to reforms that will support the growth of the private sector and revive investment?

FSG breaks down its views for the elections into three simple phases: Pre-, during-, and post-elections:

1. Pre-Election: Companies’ Q1–Q2 Revenue Figures Should Benefit from Tax Cuts and Subsidies:

  • Tax cuts -> Targeted at middle-class voters
    • Companies in the B2C space should experience stronger top-line growth, as the government is using all the cash left in the current budget to please consumers before elections by reducing consumption taxes on several big-ticket items
  • Subsidies and pensions -> Targeted at the “common” man
    • Catering to the average voter, both urban and rural, the government has increased its energy subsidies by raising the cap on the number of subsidized gas cylinders supplied to households each year to 12 from nine
    • Targeting another large voting group that comprises roughly 2.4 million people, the government changed its policy on pensions for retired soldiers; it will provide the same benefits for soldiers of the same rank and length of service, regardless of when they retire. Currently, pensioners who retired before 2006 receive less
  • Speeding up project clearances -> Targeted at investor community
    • In a final attempt to revive investor confidence, the Cabinet Committee on Investment, a body set up to speed up investment projects, claims to have cleared 296 projects (private and public) worth an estimated US$ 106 billion

2.  During Elections: Companies Should Take the Results from Opinion Polls with a Grain of Salt 

  • Continent Worth of Voters
    • Difficult to have a sample size to represent opinions of such a large and diverse audience

Indias electorate

  • Pluralist System: Disconnect Between Votes and Seats
    • India uses the first-past-the-post electoral system, which declares the candidate with the most votes from each constituency the winner; there is no need for a majority
    • This causes a disconnect between the popularity of a party and the actual seats it wins in an election; therefore, parties try to be strategic by maximizing the seat-to-vote ratio

3. Post-Elections: Avoid the Financial-Market Hype; True Economic Reforms Only Possible by Q3–Q4 2014

  • Avoid the Hype: General elections in India are always a time of volatility because of the economic significance associated with the policies that a new government brings. Companies should not read too much into market movements that take place during this uncertain time; the past six general elections have brought stock market and currency fluctuations
  • Remain realistic about the policy change timeline: MNCs should not expect any major policy changes or turnaround on economic growth before the new budget is announced in July 2014 (the earliest possible). The impact of any potential reforms would only be felt in Q4 2014, assuming the government is able to pass changes in the parliament session between July and September 2014

indias timeline of elections


Manage Talent in India More Effectively: Pay More Attention to Local Nuances

Effectively managing talent in India is a challenge that has perpetually concerned executives of multinational and Indian companies; the country suffers from extremely high levels of attrition, lacks the supply of top quality talent, and has witnessed double-digit annualized wage growth for over a decade.

Unfortunately, not only is the situation unlikely to improve in the short run, but executives of multinationals should prepare for an even more challenging market in the short to medium term. India is expected to have one of the highest employee turnovers in the world at 26.9% for 2014. As the country begins to recover from its decade-low growth, retaining top quality talent will become more difficult because employees are presented with more opportunities in the market and many of these opportunities in the market are going to presented by your competition.

FSG believes that companies do understand what they need to achieve in terms of managing their talent but often struggle to achieve results due to implementation of practices that are not relevant to the domestic market, absence of adequate planning ahead of time, and a lack of evidence-based decision-making. As corporate headquarters are going to mandate more focus on profitability, regional HR teams need step-up as strategic partners and implement practices that are able to offer the highest return on investment.

India pic 1

India pic 2

india pic 3

In FSG’s latest report on Effectively Managing Talent in India, we focus on three key areas:

  • Immediate need for effectively managing talent in India
  • Debunking the myths of the domestic talent market
  • Tools and action steps for executive to manage talent more effectively

FSG’s clients can access the full report here

India’s Imminent Foreign Exchange Volatility

India is likely to witness further volatility of the rupee in 2014 because of a host of internal and external factors, but the level of movement is going to be significantly lower than what the currency experienced in 2013. Companies should closely monitor the four major trends, outlined below, that will influence the direction in which the Indian rupee will move during the volatile first half of 2014 and create scenarios to ensure local operations are ready for all movements.

The US Federal Reserve’s Tapering of QE3:
While the Fed has decided to continue its quantitative easing for now, improving economic conditions in the United States are going to lead to the end of the program. Expectations are that the program, which is now conducted through a monthly purchase of US$ 75 billion worth of bonds, is to wind down further within the next six months.  In anticipation of the end of bond buying, investors are going to be pulling funds out of emerging markets, causing currency volatility similar to that seen in Q3 2013

Current Account Flux:
The massive decline in the current account deficit over the past few months should allow the annual figure to be in a manageable territory between 2–3% of GDP, reducing the level of risk associated with the Indian rupee and calming the nerves of currency speculators.  The recent surge in exports, which rose at a double-digit pace for the fourth month between July and October, bringing in much needed US dollar revenues, should provide further peace of mind to investors. However, demand for oil imports is likely to continue to rise, so any negative movements in global commodity prices will impact the deficit.

Indian Growth Direction:
India’s growth is expected to bottom out by Q4 2013, and the GDP should grow at a faster pace during 2014. Pre-election spending will increase and demand for India’s exports will rise as a result of the West’s recovering economies. Foreign direct investment, a better indication of longer-term investor confidence than stock market investments, has remained robust in 2013 despite slowing growth. FDI increased by 34.7% to US$ 13.6 billion during the first half of 2013 (January–June 2013), mostly due to a rise in M&A activities.  However, 2014 is an election year, and it is going to remain a fragile time for India, because the likelihood of any reforms being passed is low and many investors might wait until Q3 or Q4 of 2014 (post elections) to make investment decisions, reducing US dollar inflow.

Ambiguity of General Elections:
India’s growth is expected to bottom out by Q4 2013, and the GDP should grow at a faster pace during 2014. Pre-election spending will increase and demand for India’s exports will rise as a result of the West’s recovering economies. Foreign direct investment, a better indication of longer-term investor confidence than stock market investments, has remained robust in 2013 despite slowing growth. FDI increased by 34.7% to US$ 13.6 billion during the first half of 2013 (January–June 2013), mostly due to a rise in M&A activities. However, 2014 is an election year, and it is going to remain a fragile time for India, because the likelihood of any reforms being passed is low and many investors might wait until Q3 or Q4 of 2014 (post elections) to make investment decisions, reducing US dollar inflow.

Explore Possible Operational Strategies to Mitigate Impact

Operational strategies that executives could put into place to counter the effects of the currency movements include changing payment terms, structuring option-based contracts, working with a contrarian pricing strategy, and even considering acquisitions. It is key to note that these strategies can be implemented by international and regional leaders with limited support from their treasury.

FSG’s clients can access the full-report on the subject here


Managing the Next Phase of Commercial Effectiveness in India

Historically, commercial tactics in India have either focused on creating hedges to protect from a slowing market or maximizing growth during boom periods. Moving forward, corporate headquarters are increasingly going to mandate a focus on profitability during both the peaks and the troughs. Executives have to accept the level of volatility of the Indian market and implement commercial practices that maximize returns during all phases of the business cycle.

The graph below illustrates India’s volatility over the past two decades, which is why it’s vital to keep these two things in mind:

  1. Preparing for a mature market: Companies that have committed to staying in India for the long run, despite the challenges associated with doing business in the country, should revisit their commercial strategies in order to be more effective during the next phase of execution as the market continues to mature
  2. Handling peaks and troughs: Volatility is not uncommon to India; companies need to accept the level of variance that exists in this country and adopt commercial practices that maximize returns during the peaks and the troughs

Peaks and Troughs in India

In addition to India’s volatility, another challenge in the region is understanding the market dynamics and peculiarities of India.   In order to prepare for the next phase of growth in India, executives need to be constantly analyzing the constants and variables of the marketplace, which will eventually impact the firm’s ability to achieve commercial excellence.   The image below helps to further illustrate this concept, but keep in mind that companies looking to boost their commercial effectiveness need to focus on the specific phase of the commercial process that requires readjustment. Though challenging, this task is not insurmountable.  With the proper methodology and process in place, India will provide great opportunity to MNCs.  FSG breaks down the process into three key phases and provides 10 case studies of firms that are addressing these issues in India most effectively. FSG’s clients can access the full-report here.

Indian Dynamics and Peculiarities

Clustering is Key to City Prioritization in India


FSG believes that as India continues to struggle with its prolonged phase of low growth, companies operating in the country need to actively find the hot-spots of opportunities where there has been sustained growth, wealth creation, and overall development.  This necessitates a robust city-level study prioritization exercise that uses a sophisticated model to fully capture the true size of the pie.

Moving To City-level Studies – A Global Phenomenon with High Relevance in India

City studies are more relevant in India, because states are too big to be a “minimum unit” for prioritizing and wealth in urban areas far surpasses that in rural ones:

  • Size of the states: States in India are often equal in size to individual countries; a study of smaller entities is necessary to zero in on a specific geographical opportunity
  • India’s 80-20: Understanding where the pockets of wealth exist in India is more crucial than in other countries. While only 30% of the population lives in urban areas, they account for more than 60% of the GDP, and the number is expected to rise to more than 70% by 2030
  • High Wealth Dispersion: India, much like China, doesn’t have just two or three cities that account for most of the wealth, as is the case in several other emerging markets. Adding up the GDP of the top six cities in India would put it on par with Russia (18% in its top two cities), and it would require going as far as the top 15 cities to be on the same page as South Africa (23% in the top two cities)
  • Complex Data Environment: Adding to the dispersion of wealth, the sheer size of the country makes any data-based analysis complex due to the number of variables. There are more than 400 geographical units that have a population of more than 100,000 people, and almost 4,000 geographical areas are classified as towns

Percentage of GDP in Top Two Cities

Traditional Practice Has Been to Use Population: Rudimentary and Unproductive  

Population-based Ranking Not Always Effective: When comparing the list of top 40 cities in India by population to the list of top 40 cities by GDP, two interesting conclusions are brought forward:

  • The same names appear at the top of both lists: Companies that want to focus only on megacities (also known as the Eight Metros of India), can use population as a proxy for market potential and fund further research into understanding the more granular differences between the giants
  • Overlap between the lists is as little as 50%: The disparity between the two lists increases substantially beyond the megacities. Companies that have a presence in the eight metros and are looking to conduct prioritization studies of the next batch of cities should invest in acquiring at least basic GDP data to make further studies more robust

Cities Have Evolved; the Analysis Needs to Do the Same: Over the past two decades, India’s growth story has become that of scattered development, with regional political movements playing a larger part in the advancement of many cities. This divergence in growth will require increasingly sophisticated studies to measure market potential

  • While studies of the least-developed cities can still be focused on the basic building blocks of its economy and people, analyzing investment into cities with more than a million people will require the study of additional factors such as the quality of infrastructure, level of safety, provision of services, and availability of support functions to sustain growth
  • Most studies conducted on Indian cities, both internationally and locally, have used population statistics as the starting point. The evolution of the cities’ characteristics now requires analysis to move beyond simple population figures

FSG’s Unique Prioritization Methodology: Cluster-based ModelIndia Map

FSG has created a unique cluster-based model to prioritize the cities in India while doing away with the general approach of using a ranking-system that often creates impractical results, are overly dependent on population statistics and don’t internalize the distribution opportunities. The analysis resulted in the creation of 40 clusters in India, which were then divided into three categories (see the map, you may click to enlarge)

  1. Mega-Clusters: 7 Mega Clusters that account for 25% of the country’s GDP and have a total urban population of more than 140 million people
  2. Emerging-Clusters: 9 Emerging Clusters that account for another 15% of the country’s GDP and have total urban population of more than 60 million people
  3. Frontier Clusters: 24 Frontier Clusters that account for an additional 13% of the country’s GDP and have a total urban population of more than 80 million people

Indian E-Commerce Poised for Growth

E-commerce in IndiaWhile an e-commerce boom in India has been thought to be on the horizon for a long time now, the industry is finally showing signs that it is heading in that direction despite having several false starts.

Why now?

  • Critical Mass: The Indian e-commerce industry is finally close to achieving the critical mass required for it to genuinely go through the boom that has been predicted to happen several tmes over the past decade. The number of unique visitors on retail sites doubled between 2011 and 2013, and more than 1.5 million more are visiting every month.
  • B2B is open: To develop the sub-sector without being politically unpopular, the Department of Industrial Policy and Promotion clarified its regulations on B2B e-commerce, allowing foreign firms to have 100% ownership in such ventures.
  • B2C is likely to open up very soon: The Prime Minister’s Office is in favor of opening up the fast-growing e-retail sector to FDI—a move that will allow global majors such as Amazon and eBay to invest in the country. Preparing for the upcoming change will help companies stay ahead of their competition.

Why should e-commerce matter to multinationals?

  • Large, Fast-growing Base: India’s fast-growing online population has now surpassed that of Russia, Brazil, and Japan to become the third-largest Internet population in the world. It also has one of the youngest populations of Internet users in the world, providing a large base of users who will more easily adapt to technological changes.
  • Strong Growth Expectations: With the introduction of faster Internet, an increase in urban disposable income, and the launch of global players with sophisticated platforms, some experts expect the e-commerce industry to be worth US$ 70 billion by 2025.

Key Consumer E-Commerce Trends:

  • Significant Non-Metro Following: Contrary to popular belief, e-commerce users are not purely from the top metropolitan areas of India; in 2011, cities with a population of less than one million accounted for almost 48% of total e-commerce users. Another study showed that more than 57% of the revenue from e-commerce products and 54% from the e-commerce services industry was derived from beyond the top eight metros.
  • Time spent on retail not high: A closer look at the division of time spent online by users reveals that most of it is browsing through social-networking websites and on services (see chart below). With only 3% of screen time spent on actual retail, companies need to be exploring marketing (advertising) opportunities for influencing consumers’ final purchases.PC Screen Time

Key Business E-Commerce Trends:

    • SMEs will continue to be early adopters: SMEs are the primary users of B2B e-commerce in India (see case study on slide 21), because they manage businesses with relatively lesser amounts of capital and operate on a low-cost basis. Embracing this cost-efficient technological tool has allowed SMEs to create a self-serving business model, where they can access channel partners and customers through a single platform.
    • MNC’s likely to test with small orders and SMEs: Some large firms and MNCs in India have begun testing their B2B e-commerce platforms but are keeping them on a small scale to assess the integrity of the system. Avenues for testing a B2B platform would include launching it to (a) very small orders that are otherwise left unattended, (b) small firms that have not traditionally been of interest due to scale, or (c) firms looking for samples to test the product.

Holistic Strategy: Companies need to develop a holistic e-commerce strategy with tactics to handle both the online and offline channels. Not all industries will benefit from using online platforms for conducting commerce. But with users spending increasingly large amounts of time online and becoming dependent on the Internet for gathering of crucial information, companies need to investigate and form a social media strategy to create an impact.

Emerging Markets Opportunity Not Over

Currency-Volatility-Global-Performance-DriversRecent reversals in capital flows caused large and sudden currency devaluations, faster than many emerging markets expected or could manage. As a result, many market commentators have called this end of the emerging markets opportunity. That statement couldn’t be further from the truth. While companies should always expect challenges in emerging markets, the changing environment will also create a new set of opportunities.

FSG identified four ways companies can capture growth in this shifting environment:

  1. Leverage home-currency strength to win share back from emerging markets–based competition
  2. Double down on local production to reduce production costs
  3. Use balance sheet strength to earn financing margins
  4. Reassess customer segmentation to identify local customer “winners”

FSG looks at these strategies and the drivers of the changing global environment in our 2014 Global Performance Drivers report, now available for FSG clients.

What happened?

Capital flows reversed because of push and pull factors.  As the US economy continues to improve, the Federal Reserve is expected to reduce bond purchases, changing the risk-return payoff for portfolio investors, “pulling” capital out of emerging markets.  We also see slowing growth in emerging markets “pushing” capital to developed markets.  The outflow of capital is more concerning for countries like Turkey, Poland, and Ukraine, which have high levels of short-term external debt. Countries fitting this profile may run into short-term funding challenges that could drive up local interest rates, or in the worst case cause temporary liquidity problems. Other countries like India and Indonesia may now struggle with inflation as currencies decrease faster than is manageable, driving up costs for consumers.

Multinationals Continue to See Long-Term Potential In India Despite Current Volatility

Many multinationals believe in India’s longer-term consumption growth, reflecting sustained interest

Unilever’s announcement to purchase an additional 22.5% stake in its Indian subsidiary for US$ 5.4 billion is indicative of the faith that many MNCs have in India’s longer-term growth potential (see list below for other such investments)

  • We are going to be continuing to export more and more vehicles from India because India is so competitive and the vehicles here are so representative of the vehicles that people want around the world.
    -Ford Chief Executive, Alan Mulally
  • “India is growing like most other developing countries where there are a lot of opportunities in consumer electronics and appliances. Our philosophy has been to not simply import products from other countries, because items should be specially customized for Indian consumers, keeping local needs in mind.”
    -Panasonic President, Kazuhiro Tsuga

Consumer and Retail Industry

The majority of interest from MNCs in India has been in sectors that are associated with private consumption, which accounts for about 60% of GDP, as this segment is expected to grow strongly with the rise of the middle class and growing labor force

Consumer and Retail Industry


Automobile and Electronics

Several firms in the automobile and electronics sectors have invested in increasing their capacity despite experiencing a slowdown in sales, demonstrating their belief that the current conditions are unlikely to persist much longer

Automobile and Electronics