Emerging Market View: What Our Analysts Are Reading – 3/8/2013

Here’s a look at a few of this week’s global headlines with added commentary by our research team members:

Market Watch’s Post-Chavez Venezuela: oil’s next Saudi Arabia?:

“As Associate Vice-President for Latin America Clinton Carter is quoted in this article, oil production is unlikely to experience any increase over the short term, as a necessary shift toward investments in PDVSA are likely to continue to be secondary to the need to fuel social spending and support any post-Chavez government.”
- Antonio Martinez, Senior Analyst for Latin America Research

The Financial Times reports new property market cooling measures put doubt on China’s economic recovery:

“China has launched yet another round of of cooling measures, including a 20% capital gain tax on property sold in the secondary market, higher down payment and mortgages, to contain property prices. This is will impact property and construction related industries, which represent a big chunk of the Chinese economy, adding new pressure to the fragile recovery.”
- Shijie Chen, Practice Leader of Asia Pacific Research

Reuters had an article on Brazil’s industrial recovery:

“Any sustainable economic rebound in Brazil will have to be led by the industrial sector, making this heartening news for multinationals concerned about a seemingly interminable slowdown in Latin America’s largest market.”
– Ryan Brier, Practice Leader of Latin America Research

Hugo Chavez’s Death: Considerations for Multinationals

According to Venezuela’s vice president, Nicolas Maduro, Hugo Chavez died at 4:25 PM, local time, on Tuesday from complications related to cancer.

FSG has been predicting for some time that it was unlikely that Hugo Chavez would be able return to lead the country, as his health has been in serious decline since he underwent his fourth cancer-related surgery in December.

While there might be a temptation for multinationals with operations in Venezuela to greet this news with cautious optimism, FSG stresses that executives should focus on managing expectations for any material change in the operating environment over the near-term.

The government is constitutionally mandated to hold presidential elections within 30 days; however, there is a possibility that this requirement could be ignored, with elections falling as far out as June.

Regardless of the timing of the elections, the most likely candidates will be Vice President Nicolas Maduro and Governor Henrique Capriles. FSG expects Maduro to win a clear electoral mandate due to a strong sympathy vote as well as the relative weakness of the opposition, which is still suffering the after effects of two big electoral defeats at the end of 2012. Recent poll results casting Maduro as a legitimate heir to Chavismo bear this prediction out.

Given Maduro’s ideological affinity for the key social tenets of Chavismo, as well as the fact that most legislators will not be up for reelection until 2015, it is highly unlikely that multinationals will see any major policy adjustments over the near-to-medium term. The one exception to this is a probable second devaluation sometime after the elections, along with the establishment of a new parallel exchange rate system to replace SITME.

The long-term picture is somewhat more optimistic as it is unlikely that Chavismo will hold together as a cohesive political force without a strong and charismatic leader at the helm. As such, there is a strong possibility that the opposition will slowly gain strength, leading to a modest opening of the economy to investment over the next few years. While this would be a welcome scenario for multinationals, it is also one fraught with a good deal of risk if the fragmentation of Chavismo leads to social unrest and instability.


Ryan Brier

Latin America

More Posts

Follow Me:

The Russia Plan EMEA Executives Should be Writing Now

Israel’s surprise election results indicate that the population is much more interested in the immediate need to stabilize the economy than in the country’s ongoing problems with Iran. This decreases the risk of an Israeli attack on Iran in 2013, and increases the risk facing Russia’s economy. The connection between the two? Predictably, oil prices, which are artificially high due to a political risk premium related to a potential Israeli attack on Iran.

For Russia, reduced oil prices mean significant economic as well as political risk. Sources as diverse as ratings agency Standard&Poor’s and the Russian Ministry of Economics point out that at US$80/bbl Russia’s economy will, at best, slow to a shallow recession. This will be accompanied with rapid and deep currency depreciation, rising inflation, and plummeting consumer spending and business investment. Frontier Strategy Group estimates that there is a 25% chance that this scenario could play out as early as this year, particularly after the Israeli election results.

Surprisingly, few multinationals operating in Russia have plans in place to respond to this scenario. Executives responsible for Russia are, of course, aware of the theoretical possibility of an oil price crash and its potential impact on the economy, but, as with any long-standing risk, they can become gradually de-sensitized to it, focusing instead on more short-term priorities such as growing their business’ presence in Russia’s regions, setting up local manufacturing, or forging new local partnerships. This approach, however, increases their business’ exposure to the market and their potential losses when a macroeconomic shock does materialize. Even if executives get everything right in their business strategy in Russia, an economic crisis could obliterate their success and throw off the most carefully-constructed plans. At the same time, an economic crisis could create unique opportunities to pursue M&A, capture talent, and take market share away from struggling competitors. Companies that are caught by surprise by a sudden change in the economic environment will struggle to both mitigate the risks and take advantage of opportunities created.

This context calls for careful contingency planning. However, contingency planning is frequently done on the corporate level and building a contingency plan for just one, often non-core, market, like Russia, is rarely a corporate priority. The organizations with the biggest stake in preparing such a plan – an EMEA or CEE division, and the local Russia team, frequently lack the resources and the expertise to build a sophisticated contingency plan. More often than not, bridging this gap requires regional organizations to reach out to corporate for support and guidance and to then take the initiative to build the plan in collaboration with their Russian team.

Not only does this process create an “insurance” for the organization when the risk of an oil price decrease does eventually materialize, but the planning process itself frequently yields actions that can be taken now, outside of the context of a crisis, to strengthen the company’s competitive position in the market.

*Listen to our  latest podcast on the Russian business landscape on iTunes.

Martina Bozadzhieva

Central and Eastern Europe

More Posts

Follow Me:

Time to Prepare Your Business in Russia for Crisis

Russia Oil

Russia has been one of the few CEE markets with strong growth as the eurozone crisis drags Eastern Europe into recession. Russia’s GDP expanded 4.9% YoY in Q1 2012 and the economy seems set on a stable trajectory for the rest of the year. This stability, however, is illusionary.

Russia’s growth is already slowing down compared to 2011, a trend that plays out both in the consumer and in the industrial sectors. This is not surprising – both the IMF and the Russian government itself have already warned that Russia’s ability to grow on the back of high oil prices has reached its potential. The economy is set to grow at a sluggish 3-4% per annum unless there are major structural reforms to reduce red tape and improve the business climate in the country.

With Putin back in the Kremlin, none of these reforms are likely to materialize. The recently-announced new Russian government, dominated by Putin loyalists and weak bureaucrats, is unlikely to be a major driver of policy change. Putin’s agenda remains heavily centered on the energy sector, maintaining a large public sector, and sustaining high social spending. His program will only increase Russia’s dependence on oil prices.

In the near term, significant external risks loom over the economy. Global oil prices are unsupported by demand-supply fundamentals and are already on their way down; a deeper eurozone crisis will lead to their further decline. Brent prices declined by 25% in the last three months and the worst of the eurozone crisis is still ahead of us. As Russia’s dependence on oil prices has increased since the 2008-2009 financial crisis, the impact of an oil price bust on the economy will be severe – S&P estimates that Russia will enter recession if oil prices fall below US$80 per barrel.

As a result, Russia’s prospects should be a source of concern, rather than optimism: in the short term the economy is slowing, in the medium term the eurozone crisis poses a significant risk of recession, and in the long term there is little reason to expect growth to improve significantly. While none of these risks have fully materialized yet, companies with significant exposure in Russia need to prepare now to respond to them.

Martina Bozadzhieva

Central and Eastern Europe

More Posts

Follow Me:

How prepared is your business for a recession in Russia?


How prepared is our business for recession in Russia?

This is the key question multinational companies should be asking themselves as they develop strategic plans for their business in Russia.

Multinational companies are increasingly relying on growth in Russia to compensate for dwindling demand as the eurozone recession deepens and much of Central and Eastern Europe slows. And while Russia has performed relatively better than most of CEE – it grew 4.2% in 2011 – this has been mostly on the back of high oil prices.

High oil prices have supported the ruble, funded high government spending, and benefited Russian consumers who in turn have helped boost GDP growth. However, high oil prices have also made Russia a much riskier market to operate in. Russia will balance its budget this year at US$117/barrel oil up from US$37 in 2007. The country’s rainy-day fund is less than half of what it was in 2008 when it helped the country stave off the worst effects of the global financial crisis. And Russia’s economy is as far as ever from true diversification away from energy.

What does this mean for the country’s economy? Standard & Poor’s estimates that if oil prices fall to US$80/barrel, Russia will be in recession; a decrease to US$60/barrel will lead to a 5% economic contraction. This will reverberate through the whole economy, impacting companies across industries. It will also lead to capital flight, currency depreciation, and, unlike in 2008, political instability.

Although Standard & Poor’s estimates the likelihood of these scenarios playing out in the next 2 years to 30%, there are valid reasons why multinational companies should invest resources in planning for this risk. Global oil prices are not supported by supply-demand fundamentals, and will experience significant declines if the eurozone plunges into deeper recession, China’s slowdown continues, and there is an easing of international tensions with Iran. All of these events are, to some extent, already under way.

This makes planning for a significant slowdown or even recession in Russia is not just an exercise in counterfactuals; it’s an essential piece of how MNCs should be thinking about protecting their business in Russia and preparing it to take advantage of the opportunities a recession will no doubt bring about.

Martina Bozadzhieva

Central and Eastern Europe

More Posts

Follow Me:

Nigeria: Government Credibility Weakened As Reforms Agenda Stalls

Nigeria Government

On January 1, the Nigerian government removed the long-standing subsidy on fuel, increasing prices from 65 to 150 naira per liter. Following local protests and negotiations, President Jonathan reduced the increase to 97 naira per liter, a 50% increase

While some view this as a clever strategic move, the haphazard implementation (including using the military to quell protests) has called into question the government’s ability to implement other much-needed reforms


Reduced Political Capital: The new president’s “honeymoon” has officially ended. The president can no longer count on broad-based political support, and has recently been stymied by state governors, unions, state legislators, and religious leaders

Poverty and Inequality: A perception that reforms favor elites and businesses will continue to plague the president. Critically important will be future implementation of the president’s “jobs agenda” for generating employment, especially among youth

Fighting Corruption: Recent anti-corruption moves, such as dismissing state governors, are largely symbolic and the president’s policies must succeed where others have failed

FSG View

The fuel subsidy removal is unlikely to be repealed. Higher local fuel prices and reduced consumer discretionary spending should be priced into operating budgets immediately

The next three months will be critical to bolstering government credibility and preparing for upcoming economic improvements

What Strikes in Nigeria Mean for Your Business in Africa

Nigeria’s government must walk a tightrope to successfully implement its reform agenda and satisfy angry citizens who are feeling the pain of fuel subsidy rollbacks. However, a resolution to the current political impasse is likely so any major changes to your strategy is a mistake

  • Fuel subsidy rollbacks caused gasoline prices to rise by more than 100% to US$0.94 per liter. As a result, Nigeria’s two largest unions called indefinite strikes that could threaten the economy if a compromise is not reached and work stoppages spread to the oil sector
  • President Goodluck Jonathan is framing the rollbacks as critical for the economy, which was burdened by the recurrent costs that total more than US$6 billion annually or roughly 25% of the budget
    • The government claims it will reallocate the cost savings to spend on education, healthcare, and the energy infrastructure. However, the public is skeptical due to past wasteful spending and a draft budget that allocated more money to security than health, education, and energy combined

Three ways you can respond to the latest developments in Nigeria

  • Diversify your production toward more high-margin products
  • Leverage Frontier Strategy Group’s making the case materials and city-level data to quantify ROI in Nigeria
  • Consider forward-buying key imported raw materials with cash-flow management tools as price pressure is likely to maintain upward momentum

Three ways fuel subsidy rollbacks impact Nigeria’s investment climate in 2012

  • More competition for the purse: B2C companies will face more cross-sector competition to capture discretionary spending from cash-strapped Nigerian consumers
    • The rollbacks will stoke food and fuel inflation, which impacts most Nigerians whom live on less than US$2 per day
    • Heightened price sensitivity may cause consumers to trade down for value in the short term
  • Difficulty in making the case: Nigeria’s medium-term growth potential remains the best among African peers, but negative headlines will raise doubt among some risk-averse corporate centers 
    • The strikes coupled with a recent spike in sectarian violence will scare away some investors
  • Higher cost of doing business: All companies with local operations should brace for higher costs as instability weakens the naira and increases the likelihood of a currency devaluation
    • Strikes amid ongoing sectarian violence, mid-teens inflation growth, and depleted currency reserves raises the specter of a devaluation
    • A silver lining of a currency devaluation would be to make Nigeria a more attractive regional export hub
Matthew Spivack

Matthew Spivack

Middle East and North Africa

More Posts

Follow Me:

Threat of Eurozone Crisis Spillover Weakens the Ruble


The ruble is depreciating against the dollar as markets anticipate Russia will run a deficit in 2012. We expect the Russian government to intervene in the foreign exchange market in Q1 2012, but a significant decline in oil prices could lead to rapid ruble depreciation as Russia would lose the hard currency necessary to support the ruble


  • The eurozone crisis is driving investors away from emerging markets currencies, including the ruble. The result is a stronger dollar which will put downward pressure on oil prices. Low oil prices will in turn weaken the ruble in H1 2012
  • Weak exports combined with Russian demand for imports (see Trend #2) are also contributing to a weaker ruble
  • Large capital outflows, expected to reach over US$70 billion for 2011, are putting downward pressure on the ruble. The outflows will continue to impact the exchange rate at least through the March 2012 elections

FSG View

  • We expect the ruble to remain weak through H1 2012 and to depreciate significantly when the eurozone crisis leads to a decline in oil prices
    • The Central Bank of Russia is able and willing to intervene to keep the ruble from depreciating significantly and will do so increasingly as elections draw near. However, it does not have the firepower to offset the effects of a sharp decrease in oil prices
  • A weak ruble will contribute to the gradual deterioration of Russian consumer outlook in late Q1 2012 and negatively impact B2C companies and MNCs importing into Russia. Companies producing locally will be well-positioned to take advantage of consumers switching to cheaper, domestically-produced goods
  • The weaker ruble will strengthen the position of Russian exporters but will not compensate for the decrease in demand from European markets
  • MNCs need to factor a weaker ruble and higher volatility in their planning for 2012 and consider forward-pricing and hedging strategies to limit the impact of a weaker ruble on their business

Martina Bozadzhieva

Central and Eastern Europe

More Posts

Follow Me:

Risks Looming Over Russia’s 2012 Outlook

As Western Europe continues to struggle with the sovereign debt crisis and currency depreciation, declining exports, and lower 2012 growth prospects engulf Central and Eastern Europe, the outlook for Russia seems surprisingly solid. Despite a slow downward revision of 2012 growth forecasts from earlier this year, Russia is still projected to grow at about 4% in 2012.

However, the 2008-2009 crisis made it painfully clear that Russia is not and cannot be an island of stability when European and potentially global markets are in turmoil. Since 2009, Russia has grown even more dependent on energy exports, with its 2012 budget balancing at oil price of over $110 per barrel.

In the short term Russia is growing on the back of strong consumer demand, but this in no way eliminates the significant downside risk of an oil price decline. With the Eurozone already heading into a mild recession and the possibility of global financial market contagion, a significant decline in oil prices is a real possibility. A drop in oil prices could unleash a chain reaction (see graph) that would undermine Russia’s economy and, at best, depress Russia’s GDP growth.

For MNCs, this means having contingency plans for a significant downturn in Russia over the next 6-8 months to address ruble depreciation and declining demand on the domestic market.

On the positive side, MNCs should also be prepared to take advantage of M&A opportunities as attractive local assets will be priced at a discount.

In the long term, the Russian market continues to hold significant opportunity for foreign companies, especially after the country joins the WTO later this year. However, MNCs need to account for the significant risk the Eurozone crisis is posing to Russia’s performance in 2012 and be prepared to respond to rapid changes in the market.

Martina Bozadzhieva

Central and Eastern Europe

More Posts

Follow Me:

Western MNCs must adapt to Saudi Arabia’s shifting labor landscape

Saudi Arabia is identified by most of Frontier Strategy Group‘s clients as their number one market in the Middle East and North Africa (MENA). Foreign investment opportunities abound as the government aggressively diversifies its oil economy by executing on plans to spend more than US$300 billion on education, healthcare, IT infrastructure, and other non-oil sectors.

At the same time, doing business in Saudi Arabia can be difficult due to operational challenges. The introduction of new and stringent labor regulations, which could begin to affect MNCs as early as December 2011, is the latest example.  The new law, known as Nitaqat, seeks to bolster Saudi employment in the private sector by imposing limits on the number of foreign workers that companies can maintain.  In response, some companies are considering relocating operations or shifting strategic focus in MENA. FSG advises clients that such a shift would not be wise, as it would significantly weaken any regional investment strategy.

The kingdom’s economy makes up nearly 40% of regional GDP and high public spending on the local population and government projects ensures opportunities across sectors. Any company eschewing this opportunity will not be able to make up for the losses incurred.

The Saudis are unlikely to back down

The latest iteration of the Saudization program introduces the most comprehensive measures to achieve higher employment yet.  The numbers explain why: more than 60% of Saudi Arabia’s population is under the age of 24, and youth unemployment rates are upwards of 25%.  In order to keep up with demographics, the economy must create 400,000 new jobs every year.  Increasing private sector employment would ease pressure on the public sector, which cannot carry the full burden of job creation in the long-term.  Currently, 90% of the private sector’s workforce is composed of expatriates. The government is likely willing to take a hit to FDI to accomplish its goal, which it believes could play a large role in staving off domestic unrest and supporting its young population in a sustainable way.

Christopher Johnson, who is managing attorney at Sharif law office in Riyadh, comments that, “Saudi Arabia sees the labor issue as an existential one, and crucial to flowing with rather than against the ‘Arab Spring‘.  There are also strong pressures from the Majlis al-Shura, the king’s advisory body, to limit foreign investment, on the theory that many of the services currently provided by foreign companies should be reserved for Saudis.”

What MNCs need to know about Nitaqat

Nitaqat updates quotas for the percentage of a company’s workforce that must be composed of locals. It designates non-compliant companies as red or yellow, and compliant and exceptional companies as green or blue.  Companies finding themselves in the yellow or red categories could face a host of restrictions, such as limitations on issuing or renewing visas for expatriate workers. On the other hand, compliant companies will benefit from an expedited hiring process. For example, there will be fewer restrictions on hiring away stand-out workers from other major players. Nitaqat replaces the blanket 30% quota across industries that failed to shift the composition of the workforce significantly.

The new labor plan varies in application by company size and industry. For example, while a manufacturing company only needs to employ 15% Saudis to avoid penalties, oil and gas sector players must employ at least 45% to meet the same threshold. Zahid Hussain, head of OD for an Al-Rajhi Group Company based in Jeddah, says that some industries will be impacted less than others. “Medicine and pharmaceutical, aviation, education, fashion, media, advertising, marketing, will be less affected compared to automobile, telecom, IT, and HR as the former already have a large chunk of locals on the job.”

MNCs must adapt to the new labor regulations

While Nitaqat will pose new challenges, an informed executive can take the right steps to successfully navigate the shifting labor landscape and capitalize on new opportunities as a result. Even though private sector salaries will rise to compete with public sector wages, Zahid Hussain points out that the new regulations will save companies money in other areas such as visas, travel, and relocation.

Matthew Lewis, Director of the Middle East at executive search firm Boyden advises foreign companies to, “hire locals and concentrate on training. It is easier than in other Gulf countries when you consider the size of the population and deeper talent pool as a result.” Christopher Johnson is finding success in hiring Saudi expatriates, who are returning in increasing numbers to the kingdom. “There are 100,000 Saudi students abroad that are beginning to return. They are more flexible and adaptable than their brothers who stayed home,” says Mr. Johnson. This ‘re-pat’ strategy is one that other companies have found success in implementing in Sub-Saharan Africa.

Small to medium size businesses may be the most affected by the new regulations.  As a result, companies should make sure that local partners are not impacted and offer help if so. The Saudi government admits that up to 20% of companies could find themselves in the red zone with punitive action beginning in December 2011. Leveraging resources to assist a local partner now is a much more palatable option than the disruptions to business operations over an extended period of time.

No escape from the new Middle East

MNCs must adapt to the new environment due to Saudi Arabia’s market opportunity, but also because more stringent labor regulations are becoming a wider regional trend. In October, Gulf Cooperation Council labor ministers agreed to provide greater employment opportunities to their citizens through new policies. This year’s regional unrest has acted as a catalyst to accelerate the implementation of rigorous nationalization standards. The new regulations are not anti-globalization, but they are nationalistic in character and protectionist in some instances. While this is the new reality of the Middle East, the fundamentals of investment remain as strong as ever: high government spending, oil revenue, economic diversification programs, and attractive demographics.

Matthew Spivack

Matthew Spivack

Middle East and North Africa

More Posts

Follow Me: