September/October 2004 Volume 5 Edition 6



In this issue:


(full-text Advisor below, or click on title for single article window)

(complete Advisor in PDF format - 864 MB)

Editor: Dr. Scott B. MacDonald, Sr. Consultant

Deputy Editors: Dr. Jonathan Lemco, Director and Sr. Consultant and Robert Windorf, Senior Consultant

Associate Editor: Darin Feldman

Publisher: Keith W. Rabin, President

Web Design: Michael Feldman, Sr. Consultant

Contributing Writers to this Edition: Scott B. MacDonald, Darrel Whitten, Sergei Blagov, Kumar Amitav Chaliha, Jonathan Hopfner, Jim Letourneau and Finn Drouet Majlergaard

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Indonesia – A Time for Change

By Scott B. MacDonald

NEW YORK (KWR) President Megawati Sukarnoputri was once regarded as the great hope for Indonesian democracy. The daughter of former president Sukarno, she was expected to bring new life to the country’s nascent democratic institutions and to provide a human face of the role of government in the daily life of most Indonesians, be they among the millions of poor farmers in rural areas or the struggling urban middle class. Yet, Megawati was a disappointment to many. A sizeable majority of Indonesian voters (roughly 61% thus far in the counting) regarded her as aloof, uncaring and unable to deal with the pressing issues of corruption, more equitable economic growth and terrorism. As a result, on September 20, 2004, some 80% of the country’s eligible voters cast ballots, with a sizeable majority picking former security minister and general Susilo Bambang Yudhoyono as the nation’s sixth president since independence.

Probably Megawati’s most significant legacy will be that she presided over a very difficult period in her country’s history, maintaining some degree of national unity and being able to make a peaceful transition of power to her rival Susilo Bambang Yudhoyono following the historical event of the country’s first ever direct presidential elections.

In all fairness, Megawati did help to instill a greater sense of stability into a country still reeling from Suharto’s fall in May 1998, the concurrent economic collapse (real GDP shrank 14% during 1997-98), and the erratic tenure of President Wahid, who resigned in 2001. Indeed, it be argued that under Megawati’s brief three year administration the economy regained momentum (growing at 5% annually), inflation has become minimal, and the currency and stock markets have stabilized. Although terrorism remains a concern, Islamic radicals are hardly dictating the future direction of the country.

Why then did Megawati fail to win the elections, which saw its first round in April? A large part of the problem is that she failed to convince the majority of Indonesian voters that she really cared about their lives. Despite some moderately impressive accomplishments on the economic front, the primary concern of many Indonesians was that the pace of economic growth was not sufficient to make a dent in high levels of unemployment and underemployment, which together account for roughly 40% of the total work force.

Megawati also hurt her position with voters when she allied herself to Golkar, Suharto’s old political party, an association that tarnished her reformist credentials. In addition, the President was not helped by the perceived greediness of her husband, Taufik Kiemas, a wealthy businessman who named himself the head of a high-level ministerial delegation negotiating a multi-billion natural gas deal with China. Kiemas was not a member of the government. Along these lines, Megawati’s support among the urban and rural poor, formerly her main base, badly eroded.

Megawati also lost because her competitor Yudhoyono ran a better campaign. A former general with some training in the United States, Yudhoyono emerged in the voters’ mind as someone who would be tough on corruption and terrorism as well as take stronger measures to get the economy moving at a faster pace. He also has some appeal to foreign investors, having a reputation as being market friendly and open to new ideas.

Yudhoyono has a tough road ahead. He must appoint a cabinet, seek to introduce and implement policies that stimulate stronger economic growth, attract greater foreign direct investment, reduce unemployment and underemployment, and deal with terrorism. Potentially complicating matters, the incoming president lacks a majority in the nation’s parliament, with his Democratic Party holding only 56 seats out of 550 seats. Moreover, the largest party in the parliament, Golkar, has already indicated it will become the official opposition to the government, setting up its leader, former presidential candidate, Akbar Tandjung, as a possible power broker.

Yudhoyono will be the fourth president to follow Suharto, who was forced from power in 1998. Indonesians want jobs, public safety and cleaner government. There have endured slow employment generation, bombings and official corruption. Yudhoyono has an opportunity to break with this track record of former governments. It will not be an easy process. It requires a strong, pragmatic leader, who is willing to operate with a spirit of parliamentary government. Currently the new president will have some degree of good will from both the voters and foreign investors. He will have to move quickly to take advantage of that good will and develop some degree of policy momentum. Failure to address the country’s many challenges will only run the risk of slowing Indonesia’s return to sustainable growth and an improved standard of living for the population. Failure would also create more recruits for radical Islam. This is something that neither the majority of Indonesians or their neighbors what to see.

UFJ and Daiei: Japan’s Malaise and its Salvation

By Daryl Whitten

TOKYO (KWR) UFJ Holdings and retailer Daiei were the poster children of what was wrong with Japan during the Heisei malaise. However, the solution for the problems these two companies face, underlies the salvation that will allow Japan to emerge from its decade-long period of economic stagnation. In other words;

  • Japan’s banking industry is evolving from a “protected species” into a (hopefully) globally competitive industry, with each participant being left to find its own unique positioning;
  • Substantial consolidation is already taking place in many Japanese industries;
  • This is accompanied by a growing globalization of Japan’s domestic economy as well as freer cross-border capital flows that have fostered substantial net portfolio purchases of Japanese equities, and
  • As a result we are seeing both a growing domestic M&A as well as cross-border M&A wave that that is accelerating the consolidation/revitalization of Japan Inc.

UFJ Holdings Inc.

Japan had 19 “major” banks in the early 1990s. By 2004, the number had shrunken to essentially five banking groups: 1) Mitsubishi Tokyo Financial Group, 2) Sumitomo Mitsui Financial Group, 3) UFJ Holdings, 4) Mizuho Financial Group, and 5) Resona Financial Group. Moreover, the consolidation is not over. Resona Financial Group was effectively bailed out by the government, while UFJ Holdings is now on the block -- with the government being content to stand by on the sidelines and let the other banking groups bid for UFJ.

UFJ Holdings was formed by the merger of two second-tier city banks and a trust bank, effectively creating an infrastructure comparable to the other financial groups. But UFJ was always considered the weakest of the major financial groups, and to have one of the worst balance sheets in terms of big troubled borrowers. In effect, strong banks were merged with weak banks to create “an average” bank. But in the case of UFJ and Mizuho, the weak were gathered together in the hope of creating an average bank.

Subsequent FSA (Japan’s financial services agency) inspections revealed that UFJ forged documents and minutes of meetings to give a false impression of its bad-loan problem; lied to FSA inspectors; hid data on a separate computer system; and destroyed potentially incriminating documents. In addition, UFJ extended loans to companies that were not in need of funds in an apparent bid to inflate the amount of loans extended to small companies. For these fraudulent transgressions, the FSA slapped UFJ’s hand with a “business improvement order” and said they would “consider” taking the matter to court. These shenanigans also convinced the FSA that the group should not continue its banking operations under the current regime.

The special bank inspections that the FSA undertook in August were unprecedented in that the agency looked into the books of major banks only four months after last doing so. Banks have drawn up rehabilitation plans for retailers and other troubled borrowers, but these plans have often been criticized as too optimistic and thus unworkable. Speculation in the banking industry holds that Daiei was the prime target of these special inspections. In early June, the FSA conducted onsite inspections of large banks under a supervisory program drawn up in April. Although it did not disclose the names of these banks, they were eventually revealed to be UFJ Holdings Inc., Sumitomo Mitsui Financial Group Inc. and Mizuho Financial Group Inc. -- Daiei's three largest lenders.

The FSA is making doubly sure that there are no hand grenades in the major financial institutions’ balance sheets as blanket deposit protection will be lifted from next April. Additionally, the FSA deadline for banks to reduce stock holdings to within their shareholder capital, and non-performing loans to FSA-specified levels is March 31, 2005.

UFJ’s, fate is in some respect linked to Daiei’s as the bank is Daiei’s biggest creditor, with more than ¥400 billion in loans to the retailer. It is leading resistance to Daiei's demands for more money, in part because it has to meet a government deadline of March 31, 2005 to cut its own ¥4.62 trillion load of bad loans by two-thirds.

As the banks scrambled to bolster capital in late 2002, early 2003 by ¥2 trillion, some foreign investors were quietly accumulating bank stocks as Tokyo stock prices were plunging.

It is believed, however, that the foreign buying of UFJ was conceptual rather than based on in-depth knowledge of UFJ’s real financial condition. Since Resona was bailed out, many believed the worst that could happen to UFJ was they would also be bailed out, and shareholders rescued in the process. As news of UFJ’s fraudulent behavior with the FSA broke, however, foreign investors moved to dump the stock.

Now that UFJ Holdings is clearly on the block, the bank has positioned itself fairly well. Both MTFG and SMFG badly want UFJ’s trust business and their retail exposure in Osaka, or at least do not want their competition to have them. Some analysts argue that SMFG could better leverage UFJ’s assets, and thus can afford to pay more. However, so far the courts have supported MTFG’s assertion that they have a window within which they can negotiate with UFJ. SMFG’s offer of a 1:1 merger, however, has raised the stakes for UFJ, and its perceived value in the market place.

Consequently, the winner in terms of stock price is clearly UFJ, and whoever eventually merges the company will have to pay at least a fair price. It is still possible, however, that there will be a contested take-over bid for the company, which would be a first in Japan’s banking sector. If a take-over bid were to emerge, it is possible even foreign capital may be tempted to jump into the fray.

Daiei Inc.

Supermarket chain Daiei Inc. was founded by former Chairman Isao, who has since been forced to resign. During the 1980s, Daiei was the symbol of the retailing revolution in Japan. At its peak, it grew to operate 2,252 regular stores and specialty stores through its subsidiaries and franchisees. Its retail businesses include supermarkets, discount stores, department stores, and specialty shops. Other businesses include restaurants, hotels, and real estate services. Domestic sales make up more than 90% of its revenues.

A “Bubble” Poster Child

But in typical “bubble” fashion, Daiei diversified haphazardly during the 1980s, loading up on debt, but failing to keep up with new, more efficient competitors. Finally in FY2001 (to February 2002), the company effectively went bankrupt, losing ¥322.5 billion at the net income level, and reporting net negative equity of ¥297.4 billion. Interest bearing debt that year ballooned to ¥2,139.3 trillion, with 90% of this debt either short-term borrowings, or long-term debt due within one year.

Ever since, the company has been on life support, courtesy of its banks and the Japanese government, which have extended Daiei credit despite the ongoing deterioration of its businesses. Daiei came to epitomize the industrial sclerosis that befell much of Japan in the 1990s, and has proved to be one of the most challenging restructuring efforts to date. This is because Daiei had become “too big to fail”. Bubble logic dictated that Daiei couldn't be allowed to die, because they'd bring down their banks, trigger massive unemployment and cause heads in government to roll. With over ¥2 trillion in debt, Daiei effectively owned the banks, who were very reluctant to push for repayment from the company, or to write down their loan exposure. The latest restructuring plan represents the third such plan to be created since 2001, all with marginal success.

Daiei management has continued to reject requests by its main creditors to seek aid from the Industrial Revitalization Corp. of Japan, which ostensibly was set up to facilitate such restructuring. Daiei continues to insist it can halve its interest-bearing debt of ¥1,638.4 billion as of the end of Feburary 2004 by March, 2005 , by shutting outlets, selling assets, and asking banks and investors for more financial aid.

"Previously we had envisioned a new business plan that involved three banks and Daiei, but now we're working on the premise we'll need new business partners or investors," Daiei’s president Takagi said. Daiei is trying to persuade banks that the involvement of lawyers and securities companies in its latest plan will meet creditors' requirements for greater transparency, one of the reasons the banks are seeking the involvement of the bailout agency.

In Daiei’s revised restructuring plan to UFJ Bank and its other lenders, it is calling on Marubeni Cop. to assist it in its supermarket operations, and Tokyu Land Corp. to help it attract and administer tenants. The struggling supermarket operator also intends to ask the two companies and Deutsche Securities Ltd. to buy most of the ¥100 billion yen worth of new shares it plans to issue to increase its capital, while seeking roughly a ¥400 billion in loan waivers by banks, a move that will cut the firm's interest-bearing debt to less than half.

Daiei has been closing stores over the past two years. As of February of this year (FY2003), total stores (regular stores and specialty stores) had fallen to 1,677 stores from a peak of 2,252 in FY2001, including 84 regular store closures and 1,009 specialty store closures.

But revenues continue to undershoot plan targets. Same-store sales at Daiei appear to have fallen about 6% on the year in August, marking the sixth straight month the firm has missed its sales target of a 1% decline for this fiscal year. This partially reflects Daiei’s priority in the fiscal first half on generating profit rather than lifting sales, but its efforts to slash expenses are nearing their limit. Although a year-on-year fall in same-store sales was factored into its business plans from the beginning, the pace of decline is larger than expected.

President’s Resignation Will Tip the Scales

Investors appear to be betting Daiei will eventually lose its battle to restructure without falling into the arms of the IRC, as president Takagi reportedly will be resigning to accept responsibility for the company’s problems, and the intransigence of Daiei in responding to creditor demands. This is because the new restructuring plan failed to impress, and the company has had serious problems meeting its restructuring targets. Japan’s R&I credit rating agency recently downgraded Daiei’s credit again on Aug. 11, lowering its rating for Daiei’s long-term bond by one notch from B to B-. "The smooth relationship between Daiei and its main banks, on which the evaluation of Daiei's creditworthiness has been premised thus far, is changing due to differences emerging between the company and the banks over the formulation of a reconstruction plan," R&I said.

Wal-Mart To the Rescue?

Wal-Mart Stores, the world's leading retailer, has visited the IRC, and has hired banks to advise it on a possible investment in Daiei. The world's biggest retailer should make a bid for Daiei, say many Wal-MartÅfs shareholders and analysts who follow the company. Adding Daiei may help Wal-Mart overtake Aeon Co. and Ito-Yokado Co. to become Japan's biggest retailer by sales at the parent level. Wal-Mart's international sales in the six months to July 31 rose 19%, or almost twice the pace of its U.S. unit, to $25.6 billion.

Wal-Mart tentatively entered Japan in May 2002 by buying a 6% in Seiyu, and has an option to raise its current 37% holding to as much as 69% in 2007.

Wal-Mart is just beginning to work its magic on Seiyu Ltd.. It is plugging Seiyu into its international supply network and introducing new inventory controls. Those moves helped Seiyu narrow its first-half loss to ¥2.9 billion yen from ¥50 billion yen a year earlier. Interest-bearing debt was down to ¥460.4 billion as of December 2003, versus ¥633.3 billion in February 2002. But Seiyu, which reported losses in two of the past five years, recently cut its full-year sales forecast 1.3% to ¥1.09 trillion yen. Moreover, investors have yet to buy into the Seiyu restructuring story. Its stock is the second-worst performer on the Topix Retail Index in 2004, dropping 21%.

Will the Wal-Mart ploy work? There are a couple of conditions. Daiei first has to fall into the hands of the IRCJ. If this happens, then Wal-Mart is one of just two or three players in Japan with the experience and cash to turn around a retail operation as massive as Daiei. Secondly, Wal-Mart's Seiyu success story is still a work in progress.

Daiei’s Stock: A Roller Coaster Ride

Daiei’s stock had plunged from ¥500 in Q3 2001 to a mere ¥100 as the Nikkei 225 was hitting 7,600 at the height of investor concerns about financial fragility, deflation and Japan’s exposure to external shocks. In short, Daiei was being priced for bankruptcy. Thereafter, the major banks scrambled to bolster their balance sheets and Resona Bank’s rescue by the FSA, greatly relieved concerns that new FSA Minister Takenaka would push the banking sector to the brink of another financial crisis.

From Q2 2003, stock previously priced for bankruptcy soared, on the assumption that if other troubled banks were rescued, their most heavily indebted borrowers would also be saved, especially because a new organization called the Industrial Revival Corporation of Japan (IRCJ) was formed with the express purpose of revitalizing such troubled borrowers. Daiei’s stock price soared from the ¥100 level to a ¥635 high by April 2004, representing a massive 6.3-fold gain, and more than making up for the ground lost since Q3 2001.

But then the war of words between Daiei and its major creditors began, exposing serious differences about how the company was to be revitalized. Moreover, the company was refusing to consider revitalization under the IRCJ. As speculators bailed out of the stock, it plunged 75% from the ¥635 high to a recent low of ¥156, or basically where it was in early 2003.

Presently, there is an overhang of cumulative trading volume between ¥150~¥300, and the stock is still in a bear market, trading below its 13-week and 26-week MA. In reality, the stock is not worth ¥635 a share, unless it is broken up, the best pieces sold off, and the remainder successfully revitalized by someone such as Wal-Mart.

Solving “the Daiei problem”, however, will not only represent a major turning point in Japan’s bad debt problem, but also a big turning point in the restructuring of corporate Japan.

More Similar Corporate Culture

As Japan's corporate culture becomes more similar to that of Europe and the U.S., Japanese companies are less resistant than before to personnel reductions and the sale of operations. The stock cross-holding structure, which had impeded M&A bids, has disintegrated as well. A Commercial Code revision in early 2006 will make it easier for overseas companies to acquire Japanese firms through equity swaps.

Buyouts of well-managed Japanese companies could remain difficult in light of past experiences with failed takeover bids. To ward off unfriendly takeovers, managers of Japanese firms are likely to seek realignment of domestic companies and launch stock repurchasing programs and other measures to boost corporate value. These moves could lead to higher stock prices as corporate value is improved.

However, the fact remains that the stock market capitalization of leading Japanese companies is but a fraction of their largest global competitors.

Major corporations such as Canon Inc. and Kirin Brewery Co. are seeking increased flexibility in their stock buyback structures so they can be prepared for potential mergers and acquisition deals that involve these arrangements.

Until the changes to the Commercial Code were implemented last September, companies were bound for an entire year to a ceiling for stock buybacks that was decided at a shareholders meeting. So even if an unexpected acquisition opportunity presented itself, methods involving stock swaps faced restrictions.

Under the revised Commercial Code, the board of directors at a company has the freedom to set buyback amounts, in exchange for more information disclosure. This allows companies more flexibility in their capital strategies that make use of stock swaps. The changes will raise the number of options available to companies involved in M&As. However, it will also increase the corporate governance burden on companies to ensure that decisions about capital policies are fully explained to shareholders.

As a result of these changes, one can expect to see more restructuring and rationalizations over time, and continuing progress in Japan’s attempts to move further along the road toward a sustainable economic recovery.

Business Confidence in Russia is Under Pressure

By Sergei Blagov

MOSCOW (KWR) Despite the massive revenues Russia is enjoying from record oil prices, foreign investors have become increasingly put off by the yearlong legal campaign against Yukos and a summer-long crisis of confidence in the banking system. Taken together, an attack on Yukos, the banking crisis and a spate of terrorist attacks are taking their toll on business confidence in Russia.

Yukos, Russia's largest oil-exporting company, faces crippling demands to pay back taxes, and the authorities plan to sell its largest Siberian production unit to recover the multibillion dollar debt. In mid-September, the International Monetary Fund expressed concern about the impact of the troubles besetting oil major Yukos on Russia's standing as a place to invest.

IMF First Deputy Managing Director Anne Krueger, visiting Moscow, called Russia's investment climate "mixed" and noted that, on a net basis, capital had started flowing out of the country of late. "There is evidence around of foreign investment and people taking advantage of some of the opportunities created by ongoing structural reforms," Krueger told a news conference after meeting senior Russian officials. "[But] there does seem to be some hesitation," she said, expressing "some concern" about Yukos.

Krueger singled out overhauling Russia's fragmented banking sector, shaken by a recent crisis of confidence, as a key step. "Postponing reforms of the banking sector will only complicate matters in the future," she said.

Meanwhile, on Sep.14, President Vladimir Putin allowed Gazprom the go-ahead to acquire the government's last major oil company while simultaneously lifting an eight-year ban on foreign ownership of the gas monopoly's local shares.

Uniting Gazprom and Rosneft, two of the three companies considered best positioned to acquire the assets of besieged oil giant Yukos, dramatically strengthens the government's hold on the energy sector while paving the way for billions of dollars of foreign fund money to flow into the stock market.

Prime Minister Mikhail Fradkov told Putin he had come up with a way to increase the state's stake in Gazprom, the nation's biggest taxpayer, from 38 percent to a controlling one, a condition the Kremlin said had to be met before it would agree to the elimination of restrictions on foreign ownership in the company. Gazprom's subsidiaries own 16.6 percent of their parent company's stock, and Fradkov told Putin that they would exchange most of it to acquire Rosneft.

Currently foreigners are only allowed to buy Gazprom proxy shares bundled into groups of 10 and sold at a premium in the West as American Depository Receipts.

Gazprom CEO Alexei Miller later said the company would trade 10.7 percent of its own shares for Rosneft, valuing the deal at about $5.6 billion. "This is a deal the market has been waiting for a long time," Miller told journalists in televised remarks. "It will be a real locomotive for the whole Russian stock market."

The government believes it is creating what could be a global energy force along the lines of Saudi Arabia's Aramco, breathing new life into a depressed stock market. Some investors are less enthusiastic. "The Ministry of Oil and Gas Is Back," privately owned MDM Bank wrote in a note to clients, referring to the Soviet-era institution.

Putin's announcement on Sep.13 that he was rolling back more than a decade of democratic reforms by doing away with directly elected governors and parliamentarians, also sounded somewhat discouraging for investors. The merger of Gazprom with Rosneft is seen in line with Putin's drive to consolidate power, which started in politics and has spread into the energy sector, which is the lifeblood of the Russian economy.

Moreover, the head of the Federal Energy Agency,Sergei Oganesyan, recently told journalists that the state should ideally control about 20 percent of Russia's oil production. If the newly merged Gazprom-Rosneft were to take over key Yukos subsidiary Yuganskneftegaz, the state would gain control of 20 percent of national oil output. The new company will be well-poised to win any auctions the government might conduct for assets taken from Yukos.

Yet despite all this, the World Bank sounds positive about Russia. Russia ranks in the top third of countries in terms of doing business, according to a report published by the World Bank.

Despite acknowledging the country's need to improve corporate governance and transparency, the World Bank put Russia in 42nd place in its survey of legal parameters for businesses in 145 countries. The World Bank made no comparison to last year because its set of criteria has since changed. "Russia's business climate is one of the best in the region," the World Bank said in a statement earlier in September.

The report analyzes governments' regulations on such things as starting a business, hiring and firing workers, registering property, enforcing a contract and filing for bankruptcy. The World Bank positively appraised Russia's business climate because of the country's flexible employment regulations and improvements in business administration procedures.

It takes 36 days to register a new business in Russia, compared to 123 days in Azerbaijan. Registering a property takes 37 days in Russia, while in Croatia it takes more than 2 1/2 years.

The country's ranking was hurt by such considerations as the fact that it is the only economy among the countries with 40 largest stock markets without credit bureaus. Overall, Russia was placed in the second best of five categories, along with Armenia, Bulgaria, Georgia and Estonia.

Despite the World Bank’s optimistic pronouncements, big Western lenders have become concerned about Russia. In August, Societe Generale and ING Bank backed out of a megaloan to TNK-BP. Soon afterwards, a $500 million loan to Norilsk Nickel was scaled down to $300 million after HSBC abruptly left the lending syndicate.

The capacity of Russian companies to raise debt abroad has also been on the decline in 2004. While borrowed funds in the first quarter hit $1.2 billion in international placements -- including eurobonds, medium-term notes and commercial papers -- that figure dropped to $450 million in the second quarter, according to Standard & Poor's. In the long-term, Western lenders' reluctance could have a knock-on effect throughout the economy.

Less funds available to domestic banks will mean a decrease in loans to second and third-tier real sector companies, which do not raise debt abroad.

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India Finds it Difficult to Stamp out Terrorist Groups in the North-East

By Kumar Amitav Chaliha

MUMBAI (KWR) In the clearest sign yet that last December’s Bhutanese army offensive against the United Liberation Front of Asom (ULFA) failed to destroy the militant group, on August 14 a bomb in the central Assam town of Dhemaji killed 22 people, mostly children. They had been taking part in a parade to mark India’s independence day when the powerful explosion tore apart the ceremony. Many of the bodies were burnt beyond recognition.

"It was a most cowardly thing to do," Assam’s chief minister Tarun Gogoi told local media. He had no hesitation in attributing the attack to the ULFA. The bombing was followed by a further six attacks within a one-week period, which killed five and wounded more than 50. A grenade attack by ULFA militants outside a movie theatre in Dibrugarh in upper Assam; the rebels have repeatedly threatened attacks against cinemas carrying Bollywood films, which they describe as examples of Indian cultural imperialism.

The ULFA, along with two rival factions of the National Socialist Council of Nagaland, is the largest and most powerful of the many rebel groups operating in India’s northeast region. Since its inception in 1979, the outfit has been waging a violent struggle to create a separate country comprising Assam state.

One of the key difficulties facing New Delhi in its attempts to stamp out the various northeastern insurgencies has been the groups’ tendency to base themselves in neighboring countries. The rebel organizations, which fight for a variety of different but interlinked causes along ethnic and religious lines, first began operating from Bhutan in the early 1990s after being driven out of their encampments in India by New Delhi’s first coordinated offensive against the groups, 1990-91’s Operation Bajrang.

After years of diplomatic pressure in December last year India finally managed to persuade Bhutan to launch a military operation against rebel camps in that country. In a two-week long assault, the Royal Bhutanese Army cleared some 30 rebel encampments, not only those operated by ULFA but also those of the Kamtapur Liberation Organization (KLO), and the National Democratic Front of Bodoland (NDFB). The operation was hailed as a massive success and a body blow to the rebels, and for six months the insurgencies went into remission.

However, India failed to prevent the rebels from regrouping, partly because the diplomatic pressure that was successful in encouraging Bhutan to expel the militants has so far failed to sway Bangladesh, which provides safe-haven for an estimated 100 camps (although Dhaka vehemently denies this). The groups have also set up camps in Myanmar, and their ability to rebuild beyond the reach of India’s armed forces meant that last year’s offensive was always unlikely to spell the end of the insurgencies.

The failure of neighboring countries to help India in cracking down on the groups is not the only security problem facing the northeastern state governments. In August, a campaign by civil-rights activists in Manipur for the repeal of the Armed Forces Special Powers Act erupted into severe rioting. The 27-year-old federal law provides for soldiers to open fire on suspected rebels, arrest them, or search their homes without warrants from civil authorities.

The armed forces say they require the Act to effectively combat the insurgents, but a series of heavy-handed blunders by the military under the Act’s auspices have generated massive popular anger. State politicians have come out in support of the protestors, with many threatening to resign unless the federal government makes moves towards repealing the legislation.

Despite the brutal tactics of the ULFA and similar insurgent groups, there remains an undercurrent of popular support for their goals. Many native inhabitants of the northeastern states fear what they see as the exploitation and usurpation of their region by outsiders – immigrants from mainland India and neighboring Bangladesh and Nepal. While this remains the case, and neighboring countries continue to refuse India help in driving out the militants, the rebels are likely to continue their violent campaigns. Fund Research tracks equity and bond fund flows, cross border capital flows, country and sector allocations, and company holdings data from its universe of 5,000 international, emerging markets and US funds with more than $2.5 trillion in assets, including both offshore and US-registered funds. The data is used by top emerging markets and international analysts, strategists and portfolio managers. The firm also provides investment management clients with qualitative analysis on international markets.
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Will Larger Listings Bring Excitement Back to Thai Stock Market?

by Jonathan Hopfner

BANGKOK (KWR) Thai Prime Minister Thaksin Shinawatra’s trademark optimism was on full display on the first day of the Focus Thailand 2004 investment conference Sept. 20, with the leader telling an audience of local and foreign fund managers and executives that the country remained firmly on the growth track.

Despite internal difficulties such as and avian influenza, the persistent violence in Thailand’s south, and global uncertainty over oil prices, Shinawatra said, “'macro-figures for last year and this year have continued to be highly positive” for Thailand.

The prime minister predicted growth of up to 7 percent this year, noting that exports were rising and the nation’s foreign exchange reserves swelling, prompting Standard & Poors to recently reward Thailand with a long-term sovereign credit rating upgrade.

But Shinawatra was less sanguine about the fate of the Stock Exchange of Thailand (SET), which despite the country’s impressive economic performance has disappointed investors this year after emerging as Asia’s best-performing market in 2003.

The market shed some 16 percent of its value in the first quarter of 2004 after registering growth of 116 percent last year, hovering recently at around 650 points since breaking the 800-point level in January.

Shinawatra’s most recent reference to the decidedly lackluster market was a pledge in his weekly address Sept. 18 to launch an investigation into trading practices on the SET, soon after Ekkayuth Anchanabutr, a wealthy businessman and one-time fugitive prone to launching impromptu attacks on the current government, accused senior officials from the prime minister’s Thai Rak Thai party of manipulating securities prices.

Unfortunately, transparency and credibility – or the perceived lack thereof -- may not be the only factor causing some investors to overlook the SET. After years of delays, the government has still failed to bring some of the country’s most appealing corporations to market.

While there are ample protestations to the contrary – Shinawatra told a Sept. 9 luncheon staged by the Thai-Japanese chamber of commerce that he was “determined” to press ahead with the much-discussed privatization of several state-owned enterprises in the “near future” – the government’s privatization drive has stalled and further progress seems a distant, and politically tricky, possibility.

Since the Airports Authority of Thailand made its debut on the SET in March in a $439 million IPO that was 20 times oversubscribed, many local and foreign investors have eagerly awaited the listing of other government monopolies, such as the Electricity Generating Authority of Thailand (EGAT).

More than a few observers see state-owned firms as questionable buys. Many are inefficient and chronically overstaffed, and it is difficult to predict how they would fare in a more competitive market. But not even the most jaded commentators question the fact that with their varied sources of revenue, official connections, and commanding grip on much of the country’s infrastructure and resources, such enterprises present a tempting investment opportunity.

And it is opportunities like this that the SET sorely needs. With the vast majority of recent listings dominated by undersized manufacturers and producers, industry players such as Marc Fuchs, country manager for Credit Suisse First Boston Securities, have noted that many long-term investors still see the Thai market as “quite small.”

Even the government seems to be admitting that in terms of generating interest in the SET, bigger is better, with Minister of Finance Somkid Jatusripitak telling the Focus Thailand 2004 conference Sept. 22 that many foreign investors felt the relatively tiny size of most listed local companies limited investment opportunities in the country.

Jatusripitak said the planned debut of sizeable holding company Thai Beverage would mark a turning point for the SET, but the shortage of large corporations coming to the market means the pressure to sell off chunks of state-owned firms is mounting, and key not only to the SET’s future, but the government’s credibility.

Since plans to partially privatize EGAT in May in what would have been the largest initial public offering in Thailand’s history were scuttled by widespread labor resistance, the government’s privatization drive has produced little but promises. Provincial electricity and water monopolies are slated for listing next year while 2006 will apparently see the market debuts of the port and transport authorities.

And though regulators are unlikely to complete a legal framework for a newly liberalized telecom market for months or even years – making it nearly impossible to apply a market value to the state telecom providers – Minister of Information and Communications Surapong Suebwonglee has insisted the TOT and the Communications Authority of Thailand (CAT) will both be listed no later than the second half 2005.

But the deadlines for share sales in many state-owned firms have been broken many times in the past, and some analysts see the government’s position now as weaker than it was when the privatization balloon was initially floated. Mass protests by employees against the planned listing of EGAT have inspired similar sentiments in their counterparts at other state-owned firms, who after watching the government back away from the EGAT IPO are unlikely to allow even minute portions of their companies to be sold off without a fight.

In addition, the recent victory of an opposition party candidate in the election for Bangkok governor was a very visible indication that Shinawatra’s Thai Rak Thai party may not enjoy the virtual monopoly on power it thought it did. The party’s earlier predictions that it would take 400 out of 500 parliamentary seats in next January’s election have been quietly dropped, though its rural support base remains strong.

A weak showing in the elections could stifle any efforts by the prime minister and his team to forge ahead with the politically sensitive privatization initiative. While Shinawatra’s critics are no doubt viewing the apparent rejection of Thai Rak Thai in Bangkok as an indication that the upcoming polls will see the ruling party become a shadow of its formal self, potential and current investors in the SET will be hoping for a very different outcome.

No Nukes Not Likely-The Case for Uranium

By Jim Letourneau, Big Picture Speculator

CALGARY (KWR) In 1979, Reactor 2 at the Three Mile Island nuclear power plant suffered a partial meltdown. Public opinion galvanized against nuclear power aided by a series of popular No Nukes concerts and The China Syndrome, a movie portraying the nuclear industry putting profits before safety. Uranium prices peaked at $40/lb. In 1980 prices began to plummet and since 1984 they have not been above US$20/lb.

Nuclear energy has seen its prospects brighten considerably since then. Looming energy shortages force governments to make hard choices. Growing concerns about greenhouse gases from burning fossil fuels have led some environmentalists to advocate using nuclear power. That’s right, some environmentalists are now in favor of nuclear power. They prefer “carbon free” electricity with no air pollutants to the burning of fossil fuels.

The majority of uranium production is used in nuclear power generation. There are currently 438 nuclear power reactors in 31 countries providing over 16% of the world’s electricity. In several Asian and European countries the percentage of electricity generated from nuclear power exceeds 35%. Many existing nuclear power plants have increased capacity and China intends to quadruple its nuclear power generation by 2020.

While energy demand is forecast to remain strong, and oil prices remain over $40 a barrel, the current uranium price of $19.65 is less than it was in 1984. During this extended low price environment, marginal uranium producers were forced to cease production; properties were abandoned and claims lapsed. Today production is concentrated in a handful of major companies including Cogema, Cameco, Rio Tinto and Energy Resources of Australia. Uranium is now in short supply and an unforeseen mine shutdown or disruption in an enrichment facility could cause a major crisis for the nuclear industry.

Uranium consumption has surpassed annual production for the last 15 years while uranium prices languished. New uranium supplies are unlikely to be developed at prices below $20/lb. Investors need to be convinced that prices will remain high for the long term before investing in new projects.

Approximately 50% of global uranium production comes from Canada and Australia. With prices on the rise, a handful of junior exploration firms in these countries are restaking old claims and dusting off shelved projects. Companies with promising properties are seeing significant share price appreciation. This should help with the financing of capital-intensive exploration projects. However, the supply demand imbalance is unlikely to be corrected in the short term. It takes at least 10 years to turn a discovery into a producing mine. Permitting restrictions and bans on uranium mining in some jurisdictions are likely to increase the time it takes for new supplies to come on stream. The long time lag between shortage and increased production is why commodity bull markets usually last between 10 and 15 years. With analysts predicting uranium prices as high as $100/lb before the end of the decade, it appears likely that uranium prices are destined to move significantly higher before new supplies appear.

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Pursuing Business Opportunities in Scandinavia

By Finn Drouet Majlergaard, Gugin

COPENHAGEN (KWR) In some parts of the global business community there is a tendency to see Europe as representing the past, USA as the present and Asia as the future. The truth is a bit more diversified. Scandinavia, for examples, focuses very much on the future and opens a lot of possibilities for investors and companies looking for solutions to tomorrow’s problems.

Denmark ranks first among Europe's "Global Leaders" in information and communications technology, according to the "eEurope 2005 Index", which measures ICT development and Internet usage among 28 European countries, reports Sweden and Norway follow right behind. To Scandinavians this is no surprise -- but many foreign investors overlook the region.

Scandinavians are among the most creative and innovative people in the world. They are fast movers, flexible, and well educated. Furthermore Scandinavian countries are politically very stable and rarely have labor conflicts. An excellent infrastructure combined with swiftness in the collaboration between public and private organizations ensures a high degree of agility in the commercial life. Just as an example it doesn’t take more than a week to register a company in Denmark – and it is free!

Why is Scandinavia overlooked? The main reason is that Scandinavians are quite poor on marketing. They are very focused on creating, innovating and refining and don’t care much about market demands. This means that foreign investors and potential business partners only discover the gold if they have good relations inside Scandinavia already. And good relations are important -- as is a need to understand the Scandinavian cultures. In many ways the Scandinavian are closer to Asians than to Americans – culturally speaking. They rely on relations a lot more than a good bargain. You might have the best offer in the world, but if they don’t know you or the partner who has introduced you, you will most likely never get a deal. On the other hand – when a relationship is established you can rely on that relationship.

Who should look at Scandinavia?: In particular, the greater Copenhagen Area is interesting. The attractiveness of the Region has created the largest metropolitan area in Scandinavia with a population of 3.5 million inhabitants and a high concentration of companies. Approximately 3,400 foreign owned companies have chosen to locate there. Furthermore, 137,000 students attend courses at 14 universities with a scientific staff of about 10,000 researchers.

The industry and research environment in the region have proven to be particularly strong in food technologies, IT and life sciences. These three competence areas have developed over a long time through intensive collaboration between companies, research institutions, and universities.

Companies that are interested in looking at the possibilities are advised to go through the following steps, many of which are relevant to all international expansion strategies:

1. Make an assessment of the possibilities of your company. What are your strengths and weaknesses? What is your current strategy and how could an engagement in Scandinavia underpin this strategy.

2. Do you have the necessary resources available? (Skills, money, infrastructure, local contact, knowledge and processes)

3. Define precisely what you want to achieve and how much you are willing to invest. Do you want to acquire a company, establish collaboration or establish a branch of your company in Scandinavia?

4. Do the necessary research and business intelligence together with your local partner

5. Search, select and act based on the intelligence you have acquired

When you have acquired a company or established a relationship you need to focus on a successful transition in order to maximize the return on your investment. A lot of companies overlook this part – often with fatal consequences. What they need to go through is:

1. Spend some time getting to know your new partner. Find out how you compliment each other, create confidence and understand and respect each other’s cultures both national and corporate.

2. Make a detailed transition plan.

3. Choose a transition manager. It could be from your external partner, who has experience in doing this.

4. Monitor the transition process carefully

5. Evaluate the results and adjust where needed.

We all know examples on companies and even large multinational corporations who have failed because they didn’t take the transition and business transformation process seriously. Disney is a great example. They were very successful with their theme parks in the US and successfully expanded the concept into Japan. But when they came to Europe it all went wrong and Eurodisney is still suffering. Much of the problem might have been avoided with a more detailed analysis and transition plan.

Scandinavia, in particular, the greater Copenhagen area is an ideal choice for high-tech companies looking for areas of expansion. But there is a need to do things right, which means the need to have a local partner, who can guide one though the process and maximize the return on a corporate investment. Over tree thousand companies have done that already in the greater Copenhagen area alone – so what is stopping you?

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Emerging Market Briefs

By Scott B. MacDonald

Brazil upgraded from B+ to BB- with a stable outlook. Brazil is benefiting from a combination of high commodity prices, low global interest rates (though rising gradually), and the country's trade sector is booming. Exports represent 17% of Brazil's GDP, more than three times the level of four years ago. Brazil is also expected to post a trade surplus of $35 billion in 2004, boosting the current account surplus to 1.6% of GDP. The Brazilian economy is accelerating, leaping 5.7% y/y in the second quarter - the fastest growth rate in eight years. At the same time, Brazil's unemployment rate is declining and retail sales rose 12% y/y in July. Equally important, Brazil's fiscal management remains prudent. Brazil's primary surplus is 5.4% of GDP, well above the 4.25% target agreed upon with the IMF. Moreover, the Ministry of Finance may raise the primary surplus target to 5% of GDP. All of this is occurring at the same time the government is investing heavily in infrastructure. A new joint venture program (PPP) will bring in much needed investment to upgrade the country's ports, highways and electricity grid. It is, therefore, no surprise that S&P finally upgraded Brazil's credit rating to BB-. S&P's action came shortly after Moody's raised the country's ratings from B2 to B1.

Although Brazil's creditworthiness has some momentum, there are ongoing concerns. In particular, the country's overall external debt level remains high and there are growing concerns over a possible rebound in inflation. The IPCA inflation rate was 7.2% in August, versus a target of 5.5% in 2004 and 4.5% in 2005. Considering that Brazil's monetary program is based on inflation targeting, there has been pressure from many Brazilian economists on the central bank to raise interest rates to preserve credibility. Last week, the central bank (monetary policy committee is the COPOM) complied by hiking the SELIC rate to 16.25% and signaling this was the first of several rate increases. Many local analysts believe the SELIC will finish the year at 17%. The COPOM's decision was welcomed by the market.

We expect the Lula administration will continue to work on keeping a lid on inflation, while further upgrading the national infrastructure and working its way through structural reforms. At the same time, we have concerns the country's higher interest rates, if they continue to rise through 2005, could dampen badly needed economic growth. With a SELIC of 16.25% and an inflation rate of 7.2%, real interest rates are 9%. This is a major opportunity cost for Brazilian investors. Instead of investing in the real economy, many Brazilians are happily enjoying safe returns in government fixed income assets. High real interest rates are a disincentive for real investment. The problem becomes more acute as capacity utilization increases. Normally, high capacity utilization rates induce societies to shift their savings into fixed investment. However, an unnecessarily tight monetary policy may avert this from occurring in Brazil, leading to bottlenecks and inflationary pressures.

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Brazil faces the tough challenge of finding the right balance between quelling inflationary pressures and stimulating growth. Stronger and sustainable economic growth is needed to help reduce the debt burden. Brazil remains the largest single debtor in Emerging Markets. Yet, President da Silva has done an admirable job in moving the country forward. The question for his leadership is whether or not he can make necessary changes in what is currently a positive environment for Emerging Markets. We do not see any major liquidity crunch for Brazil in what is left in 2004 and believe that 2005 should be a manageable year. Foreign exchange reserves are a comfortable $49 billion and Brazil currently has access to international capital markets. The real test will come when international commodity prices begin to fall, something that may loom on the horizon in 2006. Hopefully, President de Silva and his team will have managed to move the country that much further down the path of a stronger and less-debt burdened economy. If not, Brazilian C Bonds will not be trading anywhere near their current 99 cents on the dollar - a far cry from 45 cents two years ago.

Book Review: A Continent for the Taking: The Tragedy and Hope of Africa

Howard W. French, A Continent for the Taking: The Tragedy and Hope of Africa (New York: Alfred A. Knopf, 2004). $25.00


Reviewed by Scott B. MacDonald



Click here to purchase Howard W. French's book, "A Continent for the Taking: The Tragedy and Hope of Africa," directly from

Veteran journalist Howard W. French has written an excellent account of the trials and tribulations of modern Africa (sub-Saharan Africa) as seen through the eyes of a sympathetic observer during the 1990s. Although he has hope in the title, the sense of tragedy is a far more overwhelming sentiment that permeates the pages. Beginning when he was a young man, making a trip with his brother through Mali, the sense of hope erodes as the reader follows French through the plagues of AIDS and Ebola, the massacres in central Africa (Rwanda) and a plethora of failed political and economic experiments in Congo (Brazzaville), the Republic of the Congo (formerly Mobuto’s Zaire), and Liberia. We are also left with a deep sense of frustration and anger at the West, which in French’s eyes, have consistently let Africa down. Indeed, he notes the lack of support from the West when the possibility of peace was melting away in Liberia during the 1990s: “Washington and its European partners were preoccupied with the crisis in Bosnia, though, and scarcely seemed concerned with what diplomats thought of as a messy, two-bit African affair.”

Three messages emerge from French’s opus. First and foremost, most of the rest of the world really does not care overly about Africa. As he notes: “Africa is the stage of mankind’s greatest tragedies, and yet we remain largely inured to them, all blind to the deprivation and suffering of one ninth of humanity.” Second, whatever interest there is in Africa from the outside is largely driven by self-interest. As he notes: “Africa interests us for its offshore oil reserves, which are seen an alternative to supplies from an explosive and difficult-to-control Middle East, or for rare minerals like coltran, which powers our cellular phones and PlayStations.” In a sense, it is the ongoing brutal nature of Africa’s encounter with the West that has caused the region’s political and economic development to be so badly off-track in the early 21st century.

The third message is that despite all of the misfortune, Africa and the Africans endure. The region has undergone horrible diseases that have decimated local populations, suffered from corrupt and brutal governments, and been a chessboard when needed for external powers, acting with little regard for Africans.
It is to the last point there are some weaknesses in French’s book. While the West decidedly has had a hand in creating Africa’s problems, local players have also had a role in the dysfunctional nature of many governments. Moreover, French chronicles some of the major disasters in Africa, but he has little to say about South Africa which witnessed a peaceful transfer of power from white rule to a more open parliamentary system, the economic success of Mauritius and Botswana -- both with functioning elective governments -- and Senegal’s peaceful development over the past several decades. Yes, much is amiss in Africa, but it is not all tragedy – there are a few spots of sunshine that indicate that Africans can manage their own affairs without a resort to force.

Howard French has written an accessible book that is must reading for anyone with an interest in Africa and current affairs.

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