BRAZIL AND MALAYSIA RISK ASSESSMENT FOR LUXURY CAR
Introduction
External risks can be an opportunity and threat for a firm. Concentration of risks to the latter is relatively more probable for a multinational firm. As a result, Vertex-Speed move to build a subsidiary in the foreign soil would tend negative risks to intensify difficulty of anticipation making it riskier venture. Even though the firm has 10 years trading relationship with countries at hand (Brazil and Malaysia), this has been limited to exportation. In addition, political and economic experiences of these countries will prove that major indicators have already evolved and stabilize from a decade ago. Due to this ambiguities, this paper presents global perspective to the automobile industry, risk (political and financial) description and assessment of the two countries including their historical outputs and recommendation on how to manage the risk present in the selected country in which the new subsidiary of Vertex would be located. The product is a prestigious executive automobile and so analysis is needed to verify its compatibility in the environmental risks present in the two countries.
The Automobile Industry: A Global Perspective
The automobile industry continues to be globalized. Daimler Benz merged with Chrysler Corporation and focused on integrating operations of individual subsidiaries scattered in the global landscape. In addition, Ford had acquired Volvo that extended the former global brands to six. The purpose of these global manufacturers and assemblers is to build economies of scale in performing activities in the value chain particularly in requisition of car components that make the 60% value of the finished product. Thirty percent of auto market in the US is owned by foreign players while rivalry is tough for luxury brands. Due to internationalization trend, auto companies are confronted with cultural issues especially the languages. A concrete example was Ford’s translation in branding its new released car in Japan called Ka which means mosquito. Apparently, the objective is to enjoy the advantages of scale and localization at the same time. As a result, cost-effectiveness and value-adding capabilities attributable to the firm are enhanced ( 2003).
In the closing years of Australian car manufacturing in 1950s, there were at least 24 car manufacturers. In the onset of the 21st century, however, they were only four as the previous decades illustrated declining trend. The findings showed that from 1920 to 2000, falling government policy increases the likelihood of exit where exemption applies to a large manufacturer while aggravation applies to a small firm with large production plant. The theme of Australian car industry of continuous decline of car plants was the ability of industry players to be efficient. Although the 1940s level of 14 plants (the government protects local assemblers) was increased in 1960s to 16 plants (the government encourage foreign manufacturing), this suggested that foreign players gradually saturating the industry. Due to this, at the first quarter of 1980s, the effect of globalizing the industry and entrance of relatively technological and experienced players in the West or those from Japan had caused decline. This was flamed by the government’s minimal support and protection to domestic producers. This resulted to managerial decisions to merge and identify strategic links leading to cost-effectiveness, at the same time, small number of companies ( 2001).
The Japanese automobile industry is using the vertical keiretsu that is said to give them competitive advantage in the international arena. Partly the cause of being the second largest FDI contributor to the United States, interdependence and coordination with competitors and strategic links that supplies activities in the value chain characterized association of such industry. This aspect provides Japanese manufacturers enhancement in there OLI (Ownership, Location and Internalization) paradigm. The automobile ancillaries of core Japanese manufacturers are able to overcome the risk (as it is founded that larger firms tend to invest abroad) of FDI due to their relatively small size because there is long-term relationship between the two. With security of demand and cash flow, there were 97 keiretsu affiliations out of 106 in the US. The restriction of US to use local components on Japanese manufacturers was resolved by including only a limited number of US suppliers while retaining the large number of keiretsu networks ( 1996).
Political Risks in Brazil
The country has the biggest supply and demand of automobiles in the South American continent. The demand for luxury goods like automobiles is directly relevant to the spending patterns of the elite class situated at the tip of the consumer pyramid occupying around 2% of the total population or 1.1 million families. They are considered wealthy with annual income 14 times greater than the Brazilian average and whose purchasing behavior is attached to product’s capability to be unique or/and reflect their social status. Their number are concentrated in the Southeastern region (73.5%) of the country and scattered in the cities of Sao Paulo, Rio de Janeiro and Brasilia. When the economy is performing well, it will affect the middle class’ incomes which are said to aspire purchasing patterns of their wealthy counterparts
Brazil requires 30% corporate tax and 15% withholding taxes against profit and dividend remittances. It has double taxation treaty with the United Kingdom and other several countries providing additional incentive to foreign investors and managers which mean unnecessary decrease in their income resulting to higher motivation and possibly lower turn-over in managerial positions assumed to be from home countries. Tariff ranges from 17% to 23% depending on the industry. Automobile sector is highly dependent on the economy and share the over 10% of GDP in 1998 figures. There are few restrictions in fund transfers while the economy accepts all sectors under foreign investments although registration to the Central Bank is required to every aspirant. In 1990s, Brazil experienced trade liberalization that benefited consumer durables and installed the country as the world’s eight largest automotive industry. It has intensive partnership with the Argentina and Mercosur where around 30% of its automobile produce is exported. As a result, economic influence of the region to Brazil can be considered high as illustrated by decline in demand, in effect production, of automobiles when Argentina’s economy slowdown
Bureaucracy is likely to skew towards excessiveness because of democratic type of governance. The passing of law is undertaken by two separate but complementary bodies under bicameral system which can hamper the investment policies. Corruption is guarded by several political parties and other public associations that guard the dealings of the government. The experience of the country in the impeachment of its 1990s President Fernando Mello can suggest that its system secures the good governance of public servants. In the process of such impeachment, political parties also had an impact, partly to spark public vigilance in the performance of executive officials. The interaction of bureaucracy and corruption is a necessary course of a democratic government. Without bureaucracy, corruption cannot be filtered. On the other hand, without corruption, bureaucracy is unlikely be necessary.
Political Risks in Malaysia
In general, Malaysians are brand and prestige conscious while information about new products is gathered among close peers. The experience in 2002 showed that Malaysian consumers are willing to buy luxury products like cars whenever the government supports their purchase through price and quality incentives. Demand for automobiles can be affected by congestion of public highways that is a continuing concern for the country. This could imply that purchasing decisions, even though supported by purchasing power, can be hindered by infrastructure underdevelopment
Malaysia’s corporate tax is 28% and considered one of the lowest in the region while raw materials are subject low to zero import duties. Non-resident employees are subjected to 10% withholding tax. The country is a main producer of vehicle parts, components and accessories to Asian countries like Thailand, Singapore, Indonesia, Japan and the UK and supplies parts to General Motors, Suzuki and Nissan among others (Malaysia Information). The liberalization of auto industry started when the country aimed to challenge Thailand as the number one car maker in the Southeast Asia. The plan gives auto foreign investors incentive on loans and grants but minimizes the upper hand of the national brand Proton Holdings which was protected by government arm . Import tariff rates were also cut in the Southeast Asian countries from 20% to 15% due to the existence of Asian Free Trade Area (AFTA). Protectionism in the industry against Thailand can be considered not much of pressure because of the latter production focused on trucks and commercial vehicles. The Asian crisis in 1997 opened the minds of political leaders for globalization
Bureaucracy is relatively unlikely due to relatively small number of legislatures while passing of laws are expedited by the fact that the cabinet where the Prime Minister comes from is supportive to the latter, at least in majority. However, this can be offset by the presence of the King (the religious leader of Islam) which can affect government affairs especially major investment decisions that can connote cultural infiltration which can be a huge concern for his rule. Corruption is likely because of the fact that media is held by the government that can hamper transparency in transactions. In 1998, the Deputy Prime Minister was dismissed by the Prime Minister due to corrupt practices and sentenced and beaten in the prison afterwards. However, without transparency and media independence, corruption cannot be thoroughly examined by the public especially the business sector.
Financial Risks in Brazil
The United States is the largest investor in the country. The Northern part is considered the poorest regions although investments are gradually building up to stimulate its local economy. Privatization and emphasis on education are major themes in the present government. However, the economy in history was proven volatile to trading partner’s condition and world affairs including Argentinean, Asian and Russian crises that affected its economic performance. On the other hand, the present reforms of the government made its economy resistant to international economic shocks. As a result, it continued to increase real wage and employment suitable for economic exchanges within the economy. It has close relations with the IMF that helped it developed its economic reforms.
Foreign direct investment in the country is ranked second to China in 2000 because of its price stability, privatization regimes and flexible policy in foreign capital. However, this is skewed to service sector wherein 70% of FDI is classified. The legislation makes no distinction between a foreign and domestic company and the principle of equal juridical treatment remains. The country protects the intellectual property of foreign companies including technology transfer. With these, it can be said that the automobile industry is partly saturated. However, the technology of every new foreign firm can be considered a new development in car making that can provide a good political environment, market and technology ownership.
Brazil has the highest interest rate in the world at almost 20%. It is meant by government intervention to hit its annual target of inflation rate at 5% down in 2004 of 8%. It will not consider interest rate pressures like prices of certain goods to be able to maintain the inflationary level. This caused foreign investments to flock in the economy possibly exploiting the barriers given to local businessmen when it comes to lending and establish a business. However, this could also result to decrease credibility to Brazil’s Central Bank to leave to market forces the maintenance of equilibrium. On the contrary, this high interest rate benefits the local economy because long-term credit assistance to local producers is not available making the opportunity for foreign investors to overtake local producers. This would result to higher income tax remitted to the government, positive pressure to capital and current accounts and employment to local labor.
The real was hit by 2002 elections and depreciated its value. The population’s move was spending their money by buying tangible goods or simply spending them outside the country. By the time it reached it all-time low in 2002, the government integrated its efforts by targeting inflation and focusing on trade surplus in order to pay public debt that can relax foreign reserves in the hands of the state. It adapted partly floating exchange rate to curb major factors that can affect the real drastically. Tighter fiscal policy and monetary policy with inflation target also helped the real to stabilize into 2 real into . As can be observed, Brazilian economy is highly integrative because policies in inflation control affected its currency and interest rate at the same time which gave several implications in the economy. It Real Plan, as a result, can be considered a holistic strategy for the whole economy.
Financial Risks in Malaysia
Malaysia actively sought WTO and AFTA deliberations to enhance its FDI level. This is reflected in its five year plan that also seeks to find bilateral agreements. The country is an open economy and shifted its focus to manufacturing since 1970s. The economy continuously diversifies that includes automobile industry although its major produce is semiconductors and appliances. The growth was enhanced by privatizing inefficient government-owned corporations suggesting competition among local and foreign firms with minimal protection. The labor shortage can in the country can be an opportunity for home workers to proliferate their expertise in the host country with relatively ease of entrance. Automobile producers and foreign investors can exploit the concern about current account deficit by producing goods that are previously imported in nature. When they can manufacture in the local soil, they can be allowed and even hand down lucrative investments. However, this can be hampered by the counter argument of slowing the booming economy of the country as to prevent too much size which the economy cannot handle.
In 2003, the economy is boosted by government’s move to lower its interest rates due to declining export and weakening tourism industry. This is intended for hotel owners to pump up their infrastructures and for the business economy as a whole. Employee bonuses of public workers are also increase partly due to increase their purchasing power, an incentive for local producers to augment fund for foreign export. The history of low inflation rates is true to the country that helped it avoid further financial difficulties in 1997 recession and also enhance its ability to stimulate the economy faster. However, this advantage caused its economy to result to deflation since 1998 making imports more expensive to local consumers wherein inflation rate is close zero. This could further result to delaying purchases due to speculation which can result to stagnant economy.
It promotes import substitution and export strategy. Japan is the major investor of the country. Its foreign investment policy is relatively flexible to suit the current needs of the economy due to the absence of law under this category unlike Thailand. The government has the final go-signal to foreign firm’s license to operate in the local soil. The liberalization policy is also aimed to redistribute wealth to the indigenous people. The protection from expropriation of foreign investments can be fully obtained through bilateral agreements that can negotiate the level of protection, compensation, transfer of capital and profits and other disputes between the private firm and the government. However, this scheme, according to several studies is not antecedent to increase FDI rather a complementary feature of broader economic reforms.
Malaysian Ringgit is under managed float exchange system giving the government intervention capabilities when necessary. In 2005, Malaysia lifted its dollar pegged currency transforming its currency closer to perceived market value. This can enhance confidence of foreign importers on the real value of Malaysian exports stimulating trend. It also an indication that the money of the country is gradually adjusting to its robust and economy which is brought about by consumer price inflation in 2005 at 3%, a 100% increase in 2004 level. However, there is pressure to the government to intervene infrequently as to deter the improvement of its currency outlook from world partners’ view. In 1990s, its Ringgit was cited to be undervalued against the dollar which was partly meant to provide incentive to importing foreign markets and boost its exports.
Assessment and Selection: Who has the Relative Upper Hand?
Political Risks
Brazil
Malaysia
Attitude of Consumers
Upper hand due to clear identification of market
Lower hand due to needed support of consumers and over-congestion of roads
Actions of the Host Government:
· Taxes
Upper hand due to prevention of double taxation
Upper Hand in 2% advantage
Labor Regulations
Upper hand because of larger pool of local working class
Lower hand due to smaller population
Investment Incentives
Lower hand The industry is relatively saturated
Upper hand The industry is in growth
Protectionism
Lower hand due to saturation of industry
Upper hand in tariff at least 2% and the relative rival Thailand mainly produces non-light vehicles
Blockage of Fund transfers
Upper hand due to minimal restrictions
Lower hand due to requirement to enter bilateral agreements
Bureaucracy
Lower hand due to bigger number of legislatures
Upper hand due to smaller number of legislatures
Corruption
Upper hand due to democracy
Lower hand due to governmental ownership of the media; lost transparency
Financial Risks
Brazil
Malaysia
Current and potential State of the Economy
Upper hand due to the learning curve and resistant economy
Lower hand due to the fear of too much diversification
Financial Distress and regulatory constraints
Upper hand due to relatively high direct investment and equality of local and foreign investments
Lower hand due to plan to redistribute wealth to indigenous people
Interest Rates
Upper hand due to existence of long-term foreign debt platform and absence of local debt platform, at least in dollars
Lower hand due to low interest rate and support to the local producers in times of economic difficulty
Exchange Rates
Upper hand due to integration in other economic variables
Lower hand due to speculation of too much government intervention
Inflation
Upper hand due to control policies of targeting inflation
Lower due to deflation tendencies
Expropriation of investments
Upper hand due to protection of Intellectual Property especially the technology
Lower hand due to bilateral talks requirement and possibility of buying out the foreign firm
As illustrated, Brazil has the most upper hands compared to Malaysia. It falls short to provide relatively good investment environment to political factors such as investment incentives, protectionism and bureaucracy. However, it outlasted the Malaysian economic indicators shown in financial risks partly because of its integrative plan that intended to stimulate one indicator in favor of another. On the other hand, the Malaysian economy is hampered by its expropriation policies which require larger transaction costs for the foreign investor. The economy also is impeded to growth by its infrastructures and labor force that diminishes economic indicators to steadily rise to a world competitive level. Aside from these figures, geographical integration of Brazil is more suitable for lower transportation and communication costs for investors unlike the sea-divided Malaysia whose neighboring countries are separated by waters.
Managing Risks in Brazil
Managing Political Risks
The country has a relatively larger pool of labor that would transform to government support for foreign investor’s installing FDI. However, the risk of not encouraging labor to the subsidiary due to competitive compensation all over the automobile industry could ensue. As a result, intensive job vacancies campaign and lucrative packages should be bargained by the firm before or during the building of its business site. This will prevent human resource problems in the beginning of operations so that the management can focus on more value-creating activities. In addition, it should also set competitive level of compensation whenever it will choose to locate in the Southeastern region due to saturated car industry. Otherwise, it can post premium when it decided to locate its plant in the emerging Northern region as to prevent cash outflow.
As mentioned, Brazil’s automobile industry is very competitive. However, the demand for luxury cars remained at low levels that can possibly an indication of wealthy family’s exclusive purchase or industry weakness on brand promotion. If the former is true, the subsidiary could try to export its outputs that cannot be absorbed by local consumers. On the other hand, marketing pursuits of the subsidiary should be carefully research according to the preferences of not only the wealthy people but also the upper to middle working class. Prices in luxury cars in the country can be theorized as relatively lower than Malaysia due to competition. As a result, the subsidiary can also take internal steps to be efficient in operations as to have optimal control on their prices.
Bureaucracy can have positive or negative effects to foreign investors. Positive in times when the current investment policies is favorable to the investor, otherwise, the foreign firm would be obliged to lobby in the government or possibly to bribe officials due to unfavorable conditions. In handling these risks, the subsidiary should first adjust its resources and capabilities according to the existing policies. Opportunities should be identified in order to protect from new legislations. Threats, on the other hand, should be leveraged as to prevent substantial looses in the future. To enhance its ability to maintain in this course, it can conduct a number of social services to the local population to reflect its concern to them. This can be in the form of donations, branding or actual field services. In doing this, it can strengthen its citizen’s sympathy and government support leading to stronger lobbying force with little requirement of bribes.
Managing Financial Risks
The high direct investment could add the flame to the already saturated auto industry. As a result, it can hedge its profitability by investing in portfolio activities to provide the right combination to its financial structure and limit the effects of heavy competition. It should also exploit its pricing advantage compared to imported cars that are also burdened of tariff fees. However, when confronted by large multinational auto companies, pricing strategy should be shifted in the firm’s ability to differentiate its product from them or obtain focused differentiation strategy in the already tiny 2% of the population as initial number of potential demand. Thus, volume sales can be set aside in order for minimal but effective profit would be returned.
The resistant economy of the country that has fair dependence to durable commodities can deter the positive effects of global business environment like trade liberalization in China. As a result, the subsidiary should be able to produce component parts and accessories for the global market as it cannot sell luxurious commodities in the emerging economies. In this process, it would not be forced to concentrate its resources in the local market and developed economies providing a platform for combined competitive advantages.
Finally, the economic integration of government plan to influence economic indicators could defuse a bomb that can affect investments negatively. The strong real can increase the consumption of imported automobiles. As a result, the subsidiary can loose the targeted market. This is aggravated by decreasing inflation rate. In effect, imported products seemingly are favorable for consumers rather while local producers are faced with decreasing return. As the demand for luxury cars are based on car’s uniqueness, the wealthy market would seek to buy imported cars. In this advent, the subsidiary should not close its doors to exporting especially on the emerging economies of South America. Innovation and product design should be enhanced and internalized in order for its products to click in foreign markets. These recommendations should also be based with the global examples above including merging possibilities to increase power, being efficient (Australia), and analyzing competitor’s activities and maintaining relationships with suppliers (Japan).
Conclusion
Brazilian political and economic experience, relative stability and integration proved it is better investment climate than Malaysia. It also have geographic advantages with regards to market access since the continent is compact. Malaysia’s inability to handle diversification of industries denounced the profitability issues of the subsidiary, if not, the initial establishment to the infrastructure-congested country. However, locating the subsidiary in the relatively advantageous Brazil does not connote risk-free environment. The major risks to be leveraged are the inability to convince local labor, bureaucracy, saturation of the supply and demand on automobiles, insensitivity of its economy (either for positive or negative global economic events) and integration of its economic indicators. In effect, it is recommended for the subsidiary to use its internal resources and capabilities to anticipate recurring and abrupt political and economic developments.
Credit:ivythesis.typepad.com
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