Global Crisis

Dec. 1, 2003
The global financial crisis is giving both headaches and opportunities to U.S. electrical companies that are active overseas.At a time of political and

The global financial crisis is giving both headaches and opportunities to U.S. electrical companies that are active overseas.

At a time of political and economic uncertainty in the global market, U.S. electrical companies are keeping a close eye on their investments abroad while watching for new opportunities. In 1999, international expansion will continue, though in a more cautious way, members of the U.S. electrical industry say.

Hot market meets hard times

Only a few years ago, the global market was dynamic. Asia was the place to be for investors and expanding businesses. Latin America was a close second, helped by increased trade following the signing of the North American Free Trade Agreement (NAFTA). Russia and most of the other formerly communist countries of Eastern Europe opened their doors to outside investors, replacing Vladimir Lenin statues with Uncle Sam posters. Nelson Mandela was set free. Some said that politically and economically the world was getting a facelift. Most facelifts involve some discomfort, and the pain began for developing countries last year with the devaluation of currencies in Asia.

While the U.S. market enjoys declining interest rates, low unemployment and strong commercial and residential construction growth, countries like Russia, Brazil, Indonesia, Japan and Venezuela are going through some scary times, enough to frighten away many investors.

"If anything, there is a general world skepticism about all emerging markets (and) growth areas that were hot just months ago," says Don Leavens, vice president of economics and chief economist for the National Electrical Manufacturers Association (NEMA), Rosslyn, Va.

That skepticism, especially among financial institutions, is making it harder to do business in foreign lands. It's more difficult to get the credit needed to fund projects, and more difficult to get paid, says John SantaCroce, president and chief operating officer for Argo International, New York, N.Y., a distributor with operations in China, Italy, India and Venezuela, among others. "It's affecting us in that the customers are having difficulties getting U.S. dollars to pay for goods," SantaCroce says. "There are a lot more slow-downs in transactions to close, and once the transactions are closed, it's taking longer to open the letter of credit."

Asia: Bad case of the financial flu

What many had begun to call the "Asian century" has suddenly given way to a painful period of reconstruction in both the political and economic arenas. As recently as 1996, Asian countries were attracting a seemingly endless string of new business deals with U.S. companies. Thailand, Malaysia, Indonesia, China and Japan were especially hot.

The first signs of trouble came in July 1997 when the value of the Thai currency, the baht, dropped by 10%. This spooked stock markets throughout Southeast Asia, then Latin America and Eastern Europe. A few weeks later, a currency meltdown swept Asia as the currencies of Indonesia and Philippines plummeted, and in response the Dow Jones Industrial Average of the New York Stock Exchange dropped 7.2% and Hong Kong stock market lost nearly a quarter of its value. By June 1998, following drops in South Korea and other Asian markets, the Japanese yen had fallen to an eight-year low against the American dollar, driving down the prices of stocks and currency around the world.

"You gotta be afraid because in all of these places the business is off," says John O'Donnell, managing director of Electro-Mechanical Systems International Ltd. (EMSI), an electrical manufacturer's rep agency that specializes in the international market. "In Asia the business is off dramatically. Projects have stopped, there is no investment, there's very little confidence in the economy, so I am sure that anybody who is in the international business today and dealing in Asia has to have had a very difficult year."

The region's problems are many and widespread. U.S. President Bill Clinton has focused on attempts to revive the powerful Japanese economy. "Our country is strengthened if Japan is very strong," Clinton said at a recent conference in Japan. "If Japan is strong, that brings back Asia."

The problems faced by Japanese business leaders, especially in the banking arena, may prove difficult to fix, say many analysts. "Japan will not come back unless they address their bad-loan situation," says Kurt Karl, chief economist of WEFA, Inc., Eddystone, Pa., an international economic forecasting firm.

The main concern is that Japan is one of the top three trading partners for the U.S., says Leaven of NEMA. "Their banking crisis is probably 10-times worse that ours in the 1980s," he says. Japanese interest rates are down to zero percent, he says. If the country falls into a depression, "things can get really ugly" and U.S. businesses with dealings in Asia must be aware of these issues.

Japan may be a key player in the region's revival, but its problems are by no means the only concern of U.S. electrical companies dealing in Asia. Indonesia is a particular concern to several companies. The Indonesian rupee has lost 75% of its value and that marketis looking particularly grim for electrical suppliers, says John Peterson, president of Houston-based Warren Electric Group, with oil and petrochemical contacts that extend around the world.

"Most of the big decline that we have seen has been in Indonesia and a lot of that is in electronics assemblies," Peterson says. Warren Electric is doing some projects there, but Indonesia is not a permanent market for the company. "I am very leery of Indonesia," Peterson says. "We had the opportunity a year and half ago to enter the market. The Thompson family that owns our company very wisely thought that region was insecure. I don't know if they had a crystal ball or not but they chose not to participate...That proved to be a very sage decision."

Indonesia has also been a trouble spot for O'Donnell. Indonesia was EMSI's second-biggest market, but the area has been hard-hit by economic crisis. What was a $4 million market for EMSI last year had only brought $350,000 to $400,000 worth of business as of October this year.

Asia overall is a continuing problem, even with other regions suffering as well. "It's harder to sell in Asia," says Maria Del Amo-Lombardo, an international sales rep who is in charge of Syracuse-N.Y.-based Pass & Seymour/Legrand's export department. "We have a distributor here in the United States that only buys for export purposes and we haven't heard from him since January. He has been trying to struggle with prices, but I can't do much about it."

Latin America: Instability and opportunity

The Asian flu has given other markets around the world a bad cold. Latin America, already burdened with a reputation as a risky investment due to currency devaluations and political corruption, have been hit by investors' sudden fears of emerging markets. Some insiders, however, don't expect the region to suffer as badly as Asia. For example, Michel Camdessus, managing director of the International Monetary Fund (IMF), believes Latin America won't suffer from a widespread financial crisis like Asia and Russia.

Others are not so optimistic. Leavens of NEMA says Latin America is not insulated from an Asian-type crisis. "The same thing can happen there," he says. "We have seen some softening in South America too, particularly in Brazil and Mexico where we thought things were back on stable ground. They are not."

In Brazil, one of the largest economies in Latin America, the stock market has fallen 50% amid political instability and a federal deficit of 7%. Like many South American countries, Brazil has been forced to tighten credit, further hurting prospects for growth. Most of Latin America's largest countries such as Mexico, Argentina, Chile and Venezuela were seeing high interest rates as of November.

Argentina, because of its close relationship with Brazil, is very vulnerable to economic catastrophe, says Eugenio Aleman, director of Latin American Services for WEFA. The value of Venezuela's Bolivar dropped in late August and its neighbor Colombia devalued its peso last month by 9%, which might bring economic problems to Ecuador as well.

The fortunes of electrical companies with operations in Latin America can be strongly influenced by fluctuations in currency values. Warren Electric, which in July opened a facility in Venezuela, has been lucky because it gets paid in dollars, says Peterson. The Bolivar's value is far below levels seen earlier this year and Venezuela's price for oil has dropped, which has further weakened the currency.

For Latin America in general, the financial crisis in Asia is a double-edged sword. Latin American markets have taken a pounding and currency values have plummeted, but some say the Asian economy makes Latin America look like heaven. One reason may be that the Latin American market is much easier to enter right now, says Del Amo-Lombardo of Pass & Seymour.

"There's room for growth in Latin America," says Aleman of WEFA. Latin America has more experience in dealing with the international industry and has more experience in dealing with economic catastrophes.

In fact, Aleman has seen evidence of companies investing more into Latin America following the Asian crisis. Rep agency EMSI is one such company that has not been significantly affected by the crisis in Latin America despite heavy involvement in the region. In fact, O'Donnell says, his company opened an office last month in San Salvador, El Salvador, to better cater to that area. "It's a reasonable hub in terms of being able to go to other Central American countries," O'Donnell says.

Russia: Proceed with caution

While reviews on Latin America are mixed, there was universal agreement on Russia. Russia smells like trouble, many electrical industry members say. The Russian economic and political crisis has been escalating toward disaster over the past several months. The ruble is giving U.S. and foreign investors panic attacks and President Boris Yeltsin fired his cabinet in an attempt to keep power. The Russian stock market declined by 75% in mid-August.

"Russia is a humongous question mark.a lot of the companies that depend on Russia for trade are in big trouble right now," Leavens says. "There is no way you could get me to invest in Russia right now because they are on the verge of freezing markets."

Not only is Russia in trouble, its troubles appear likely to last awhile, according to SantaCroce of Argo International. "I don't think I would touch Russia," he says. "Russia's economy was never really strong, in my opinion; I think it will take a long time for it to get back. There is a lot of corruption and danger going over there. Russia just doesn't attract me as a growth market right now."

Kurl of WEFA says it will take at least 25 years to correct the problems in the Russian economic and political infrastructure and improve business conditions there.

Politics is at the core of Russia's economic problems. Articles in Russia's largest newspapers have already suggested a possible coup.

Global competition, global expansion

For the moment, U.S. electrical companies doing business in emerging markets are focused on protecting themselves from political and economic instability while scouting the landscape for bargains.

The greatest fear is not having free movement of capital. Countries in the throes of a currency crisis often try to close their borders and prevent capital from fleeing, which can hurt them in the long run. "When things get tough, they start freezing assets to keep them from fleeing the country and that really stifles the demand for people to invest in these countries. People go crazy thinking that their money could be locked up," Leavens says. "People have very long memories, and Mexico is really guilty of constantly freezing assets and turning them over to the state. That can be a major concern (for U.S. companies doing business there) and it can be a detriment to the recovery of these countries."

Another problem created by the financial problems in Asia and elsewhere is a reported flood of Asian and Latin-American-made products into the U.S. market. Some say that companies unable to sell enough of their products at home have concentrated heavily on exporting goods to stronger markets at a lower price.

"There is excess capacity worldwide. Things are slowing down (in the manufacturing sector)," Leavens says. "Some of the concern is not the products that are being traded; some are concerned that they (electrical manufacturers from abroad) might be dumping stuff-selling below what it cost them to produce it at home. Typically we try to prohibit that with our trade agreements."

Thanks to currency devaluations, those companies under pressure to sell their products in the U.S. are also more attractive acquisition targets for U.S. companies. While international currencies are on the floor against the U.S. dollar, acquisitions are very inexpensive and this is the time to acquire at a low cost.

SantaCroce of Argo International spent part of November in Asia, looking at the Korean and Japanese markets for bargains. "That's what I am looking to do in this trip," SantaCroce said before his journey. "Just to see if I can buy a company that two years ago I couldn't afford to buy."

SantaCroce is among those who believe the globalization of the electrical products industry will continue despite short-term obstacles. "We just opened up in the Philippines, and we're looking at Taiwan," SantaCroce says.

Many of the industry's international players see the current problems as temporary instability in a lucrative market. Leavens of NEMA says the industry will see more acquisitions abroad, but he believes prices in some Asian countries have not hit bottom. "The potential for asset values to decline is still there in Japan because of their protectionist measures. Eventually, they will give in to recover the economy of the country."

Companies are becoming more international, and the electrical industry will see further globalization, some say. A.T. Kearney's most recent study, for example, shows that global corporations are firmly committed to investing in emerging markets. Despite Asia's continuing problems, China and India still rank among the top five destinations for foreign direct investment, the study says. Brazil and Poland are fast becoming new favorites as well. Market size was cited as the single most important investment criterion. Brazil, China, India, Mexico and the U.S., which together represent 50% of the world's population, are considered to be the most preferred investment destinations over the next three years, the study says. Energy companies are bullish on Brazil, China and India.

The Asian crisis will continue to affect U.S. companies' financial results over the next year. "Many of the manufacturers are voicing concern that 1999 is going to be a much slower year than they (had thought)," Leavens said.

There are, however, some signs that we might have seen the worst of the crisis. Asia will be slowly turning around and "we will start seeing improvement in the second half of 1999," Karl of WEFA said.

Meanwhile, the U.S. electrical industry is optimistic. "People would be crazy to think that this is the end of the world," says Leavens. "The economies will definitely recover."