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Balancing opportunities and risks, Australian companies plan expansion across the globe.
Easing credit conditions and distracted competitors enable Australian manufacturing and service companies to press on with global expansion. Opportunities – and risks – abound in many markets.
In March 2010, 936 Australian businesses responded to EFIC’s Global Readiness index (GRi) survey, providing insight into their experience of key aspects of going global – the drivers, destinations and barriers as well as the sources and availability of funding.
Much has changed in the world since the last survey in 2009. Back then, businesses everywhere were battling a meltdown in asset values coupled with a deep freeze in credit markets and a ‘Great Recession’ that threatened to rival the 1930s.
Today, most economies around the world are growing again – if at very different rates (see Chart 1). Asset values have improved and credit markets have been thawing. In Asia, the destination for 70% of Australia’s exports, the initial downturn was harsh, but a swift recovery has put the region back at the forefront of world growth.
Chart 1: Real GDP growth - March quarter 2010* versus March quarter 2009
*JPMorgan estimates; except United States actual.
Many Australian companies have emerged from the GFC with strong balance sheets and banking relationships intact. A high dollar and distracted competitors may present a moment of opportunity for global expansion. Yet risks remain and demand increased sophistication in assessing globalisation opportunities.
Australian companies pursuing growth plans
The 2010 GRi survey results show that global growth plans have held up remarkably well in the face of the difficult conditions over the past year and lingering economic uncertainty:
- Seventy-eight per cent of companies with an existing offshore presence are planning further expansion, 44% in the next year.
- Of respondents without offshore operations, 26% are planning an initial global step, 8% in the next year.
These results are down somewhat on last year, but still very bullish, perhaps reflecting the underlying fact that global growth is one of the key paths to revenue scale for Australian businesses throughout the economic cycle.
Closer to the customer
One clear message from the GRi survey is that global expansion plans are founded on access to markets and better serving the customer. Eighty-one per cent of respondents said their offshore operations aimed ‘to serve the local market’, 42% ‘to serve other markets’ and only 16% to ‘re-import back to Australia’.* The biggest response for ‘re-import back to Australia’ came from companies operating in China, but even here this was a distant third to serving local and other markets.
Similarly, 86% of respondents cited ‘increasing revenue / market share’ as a reason for offshore operations compared with only 46% who nominated pursuit of ‘economies of scale / decrease costs’. Australian companies remain focused on expanding overseas revenue by better serving larger markets rather than cutting the costs of the goods they ship back home.
*The numbers add to more than 100% as respondents could give more than one reason for their offshore presence.
Looking beyond China
As the world map (below) shows, five destinations vie for top position as offshore locations for Australian companies: North America (30%), South East Asia (30%), New Zealand and Pacific (28%), China (27%) and Europe (26%). In five years, all except New Zealand and the Pacific are expected to grow, with Europe moving to the top of the scale despite current difficulties. Investment in South Asia is expected to increase from 11% to 19%, reflecting the growing importance of India.
Destinations for offshore expansion by Australian businesses
Clearly, China isn’t the only game in town. Yet China is now Australia’s largest export market, having overtaken Japan last year, and is likely to provide the bulk of future export sales growth. How is it that companies establishing operations offshore have ranked markets quite differently from their relative importance as export revenue earners?
The answer seems to be that exports to China are mostly made by large companies via large contracts to large customers – in other words, the resources trade. The GRi survey takes a representative cross-section of all exporters regardless of size and therefore selects more small and mid-sized exporters than large ones. The smaller end of town is generally less likely to have offshore operations in China (see Chart 2). Only companies with turnover above $300 million nominated China as their number one destination – 48% said they had a China presence.
Chart 2: Respondents with offshore operations in China
China may be seen as a forbidding market for some companies, perhaps because of low-cost competition and barriers to entry – legal, regulatory and cultural. However, small companies with offshore earnings of less than $1 miilion, were the next most likely to have a China presence at 32%, possibly attributable to family-based firms. A vital question will be how many of these have the potential to grow in scale.
Macro v Micro – the continuing appeal of ‘old’ economies
If the attractions of a large and fast growing market are driving Australian investment in China and other rapidly developing economies, how do we explain the continued focus on the ‘old’ economies of Europe and North America?
‘Economic conditions abroad’ are reported as a barrier to their offshore expansion plans by 42% of Australian companies, with 17% nominating this their top barrier. Last year the figures were 48% and 21% respectively, suggesting that improving global economic conditions are buoying confidence somewhat.
However, the geographic breakdown tells a more mixed story. Unsurprisingly, sentiment is most negative amongst companies focused on Europe and to a lesser extent North America, with 57% and 47% of potential Australian investors in those regions concerned about ‘economic conditions abroad’ (see Chart 3).
Chart 3: Economic conditions abroad as a barrier to offshore expansion
How to square this caution with the prediction that Europe and North America will share equal top place with South East Asia as destinations for Australian direct investment in 5 years time?
No doubt this partly reflects the underlying strengths of these economies despite the risk of persistent macroeconomic weakness. Large, prosperous, transparently regulated and easily accessible markets will always be an attractive place to invest. And a sluggish macroeconomy doesn’t necessarily mean individual sectors can’t be dynamic. Challenges such as an ageing population or financial market reform may spur opportunities in particular sectors such as health and aged care or IT consulting. Finally, current market weakness may turn up tactical opportunities to acquire fundamentally sound assets at reduced prices.
Persistent structural barriers - finance remains key
Some significant structural barriers to offshore expansion persist beyond the ups and downs of the economic cycle. Lack of local business and market knowledge, protection of IP and exchange rates continue to rank in the top 5 barriers to offshore expansion (see Chart 4).
Chart 4: Top 5 barriers to offshore expansion
Access to finance remains the key constraint to the offshore expansion plans of Australian businesses. In 2009, at the height of the credit crunch, access to finance was nominated as a barrier to expansion by 58% of respondents with 34% naming it their top barrier. In 2010, with global credit conditions easing, access to finance was still the top barrier overall with 43% naming it as a barrier and 26% naming it their number one barrier. Only back in 2008 was access to finance relegated to second rank though a still high 29% identified it as a barrier.
Retained earnings are by far the most important source of finance for offshore operations. Debt facilities from Australian financial institutions, and even more so foreign ones, rank well behind. This suggests that there is a structural element to the financial constraint. Reflecting GFC fallout, Australian financial institutions have increased slightly as a source of finance from 30% last year to 32% in 2010, while foreign financial institutions have dropped back from 23% to 18%.
Consistent with findings in previous years, access to bank finance is most difficult for small and mid-sized companies; larger companies enjoy both better access to finance overall as well as greater ability to tap international financial institutions (see Chart 5).
Chart 5: Respondents using debt facilities to fund offshore expansion
Opportunities abound but getting started is hardest
The 2010 EFIC Global Readiness index shows that many Australian companies are actively seeking opportunities in larger markets. With Australian companies earning almost $20 billion in repatriated profits from their direct investments offshore in 2009*, or 1.5% of GDP, successful globalisation of Australian businesses offers an important opportunity to contribute to our economy.
Offshore investment choices are shaped by both ‘macro’ considerations such as dynamic long-term growth rates in rapidly industrialising markets and ‘micro’ opportunities in individual sectors. Understanding – and balancing – the opportunities and risks presented in a still-uncertain global environment is a key task for any Australian company eager to grow.
The easing of the global credit crunch has not fully translated into easier access to credit for global expansion. Creating more globally successful Australian firms is a two-step process: picking the right opportunities when making the initial step offshore and then climbing up the global sales ladder. That is a challenge at which many Australian businesses have excelled. As in 2009, the challenge for financiers and government is to help ensure that ‘bankable’ opportunities attract the funding they require.
*ABS 5302 Balance of Payments International Investment Position Table 22
The information in this report is published for general information only and does not comprise advice or a recommendation of any kind. While EFIC endeavours to ensure the information is accurate and current at the time of publication, EFIC makes no representations or warranty as to its reliability, accuracy or completeness. To the maximum extent permitted by law, EFIC will not be liable to you or any other person for any direct or indirect loss or damage suffered or incurred by any person arising from any act, or failure to act, on the basis of any information or opinions contained in this report.