Excerpts

INTRODUCTION The Emergence of Emerging Markets "There are no markets outside the United States!" The year was 1974. I was a young banker, still wet behind the ears, working at Bankers Trust Company in New York. I had been asked to conduct a study on recycling petrodollars. Helping governments overseas to invest on a truly global basis seemed like a logical concept. But when I interviewed the bank's trust department (at the time among the largest in the United States), an intimidating executive tugged on his red suspenders and wrathfully snarled: "There are no markets outside the United States. The man had at least two decades of experience in the banking industry on me. My own perspective was, for better or worse, different. I had grown up in Holland and had owned a few shares of Philips, Shell, and Unilever as a boy. Little did my interlocutor at Bankers Trust (nor I, for that matter) know that the great inviolable institution we worked for would one day be taken over by Deutsche Bank -- a global rival from one of these "nonmarkets." Experiences like this made me skeptical of conventional wisdom. They taught me to rigorously scrutinize faulty assumptions that even the experts -- in some cases, particularly experts -- all too frequently make as a matter of course. Ever since taking a course in development economics at the Netherlands School of Economics from Professor Jan Tinbergen (a brilliant econometrician who later became the first Nobel Laureate in economics) I had been fascinated with the fate and fortunes of what was then known disparagingly as "The Third World." Later, as a graduate student in Russian and East European studies at Yale in the late 1960s, I realized that central planning and communist ideology had little future, and longed to find out how foreign investment might help or hurt Third World development. At Bankers Trust, I gained some exposure to a few of the more exotic forms of Third World economic development. I helped Iran Air lease airplanes and hire crews in Ethiopia, was involved in financing Ghana's cocoa exports, and grew wise to the ways -- many of them laughably one-sided -- that developed nations interacted with what were in many cases recent European colonies. Less than a year into my first job at Bankers Trust, I surprised no one more than myself by becoming suddenly, uncharacteristically, and inexplicably bored with analyzing American companies for the bank's credit department. For some reason, the dynamism of the world seemed to lie elsewhere. I managed to convince my open-minded superiors at the bank that it would be useful -- not just to me personally, but also to the bank -- for me to take a trip to Asia to study foreign investment in the region. My trip turned out to be, as the popular parlance of the time had it, a mind-blowing experience. At the Seoul airport in 1971, the military policeman at immigration cocked his gun when he mistook the sunglasses in my pocket for a weapon. Seoul looked like a city in the Soviet Union, which I had just crossed on the Trans Siberian railroad: shabby, chilly, and poor. No skyscrapers yet loomed over the cramped center city and antiaircraft guns were starkly visible on just about every street corner. Even after a decade of 9 percent growth, Korea's per capita income stood at a dismal $225 (it is now over $10,000) although that was already three times higher than that of India. Still, the executives I met were already dreaming of export markets when they were not conducting their compulsory military training exercises. That first trip to Asia took me to an exotic continent in which the war in Vietnam was still raging, to a Japan stuck in its first postwar slump, to a China still closed to outsiders like myself, and to an India nervously watching Bangladesh separate itself from Pakistan. Cars that looked like throwbacks to the 1950s were the only ones to be seen on the roads in New Delhi. Yet I could already feel the dynamism of many companies I visited, and their determination to make it big. I heard how companies from Hong Kong and Singapore were beginning to relocate their most labor-intensive operations to their lower-cost Asian neighbors. I intuitively grasped during that youthful Asian sojourn that multinationals would one day be attracted to subcontracting labor-intensive operations to countries with an abundant, cheap labor supply rather than merely assembling components in protected, local mass markets. Upon my return to New York and Bankers Trust, I went to work for the International Department, an island of like-minded souls, but elsewhere there were few who shared our enthusiasm for the booming business prospects of Asia. This abiding sense of being outside the loop provided an important motivation for my acceptance, several years later, of an offer to move to Thailand to manage a local investment bank, majority-owned by Bankers Trust, which I chose over a rival offer to run the bank's branch in Paris. Bangkok or Paris? After my Asian trip, the choice seemed obvious to me, but one that many of my colleagues at the bank found hard to understand. I spent the next four years in Bangkok happily learning the ins and outs of foreign markets as the managing director of the premier Thai investment bank. We were instrumental in bringing some of the first shares issues of local companies to the stock market, while riding like a bucking bronco one of the perennial boom-and-bust cycles of the Securities Exchange of Thailand. My turbulent tenure in Bangkok taught me that foreign investors would be better off hedging their bets by investing in a basket of markets in developing nations as opposed to a single one. Equally important, I observed the astonishing rapidity with which local firms absorbed international lessons, from raising chickens or producing textiles to assembling cars, and how they often managed to add their own local innovations to the mix. In 1979, I left Bangkok for Washington, D.C., to join the International Finance Corporation, the private sector arm of the World Bank. Initially, I was taken aback to learn that the idea of portfolio investment in developing economies was regarded with suspicion, as fundamentally unsound. The knee-jerk reaction of the majority of development experts at the World Bank Group was surprisingly dismissive and resistant to the idea of investing in immature economies. How could these tiny and volatile casinos, my colleagues wondered out loud, possibly exert the slightest impact on real economic growth and development? How could these fledgling economies ever gain traction or attention or sizable investment flows from serious investors? This was my second lesson in how seriously flawed conventional wisdom can be. Under the leadership of my courageous and decidedly unbureaucratic director and later friend, David Gill, another former investment banker, and with a handful of colleagues we gradually convinced the skeptics at IFC and the World Bank that increasing portfolio investment in developing countries might help entrepreneurs succeed and make companies less dependent on foreign aid and debt. My stay in Thailand had convinced me that a number of interesting new companies in the Third World were simply being ignored by major investors. But as David Gill used to say, correctly, "Finding one single successful example of people making money will be more convincing than a hundred academic papers." That is precisely what we proceeded to do. Yet even sympathetic listeners tended to raise eyebrows when we brashly proclaimed that, in the near future, foreign portfolio investment would become more important than the World Bank as a source of funds for developing economies. At the time, IFC only invested directly in a strategy that requires an investor to take a major stake in companies and often a seat on the board of directors. To IFC's lasting credit, any number of major emerging market blue-chips would never have evolved to their current size without its seed money and perhaps more importantly, strategic and technical advice. Yet surprisingly little had been accomplished in the area of portfolio investment, which requires an investor to purchase shares on the open market after the company has been listed and gone public. In a speech to the local Thai-American Chamber of Commerce before leaving Bangkok, I first proposed the idea of creating an investment fund that, as opposed to investing in a single country, would pursue a diversified strategy of investing in a group of countries to minimize the risk of one economy crashing and taking the entire fund down with it. We were acutely aware that the very idea of portfolio investment in still rudimentary capital markets would continue to invite skepticism without hard data to back it up. One of my first self-assigned tasks at the IFC was to commission a study of the stock performance of leading firms in a number of developing economies. Those returns, computed for the years 1975-1979 with the help of Professor Vihang Errunza of McGill University, turned out to be quite attractive. Now, well armed with good data, we were determined to present them to the investment community in as dramatic a fashion as possible. HOW "THIRD WORLD" BECAME "EMERGING MARKETS" In September 1981, I stood behind the lecturn at Salomon Brothers headquarters in New York City, preparing to pitch the idea of a "Third World Equity Fund" to a group of leading investment managers. Our central message to prospective investors was that our data demonstrated a real possibility of making real money in emerging markets, despite their admitted volatility. Developing countries, we argued, enjoyed higher economic growth rates and boasted a rich set of hitherto-ignored promising companies. We persuasively demonstrated that investing in a basket of companies and countries would provide the diversification required to mitigate the risk of investing in individual stocks and countries. Twenty to thirty fund managers, including representatives from TIAA-CREF, Salomon Brothers, J.P. Morgan, and other major institutions, attended that conference. Judging by the faces in the crowd, I could sense that some were clearly intrigued, others were skeptical, and that just possibly we might win over one or two confirmed skeptics to our cause. At the conclusion of my presentation, Francis Finlay of J.P. Morgan remarked: "This is a very interesting idea you've got there, young man, but you will never sell it using the name 'Third World Equity Fund'!" I immediately knew he had a point. We had the goods. We had the data. We had the countries. We had the companies. What we did not have, however, was an elevator pitch that liberated these developing economies from the stigma of being labeled as "Third World" basket cases, an image rife with negative associations of flimsy polyester, cheap toys, rampant corruption, Soviet-style tractors, and flooded rice paddies. Over the weekend, I disappeared into one of the mental isolation spells my wife and children so heartily dislike, but which I often find oddly productive. Racking my brain, I at last came up with a term that sounded more positive and invigorating: Emerging Markets. "Third World" suggested stagnation; "Emerging Markets" suggested progress, uplift, and dynamism. The following Monday, I sat down at my desk at IFC and dashed off a memo that made my message explicit. From now on, we would consistently refer to our Third World database as the Emerging Markets Data Base and the first index we created for emerging markets would be the IFC Emerging Markets Index. Thus, a phrase was coined. Born from conviction and based on firsthand observation in Asia, it was also a branding maneuver at a time when brands remained the exclusive province of consumer goods companies like Procter & Gamble. In the following years, we spent a lot of time negotiating with governments and convincing investment bankers as well as investors to create various country funds. And finally the diversified "Third World" equity fund became a reality as the Emerging Markets Growth Fund managed by Capital Investment, Inc., the first and soon largest fund of its type with a group of prestigious institutional investors from all over the world. Templeton, another candidate to manage the IFC-inspired fund, soon set up its own New York Stock Exchange listed fund. Just weeks before the October 1987 stock market crash on Wall Street, with a group of colleagues from the World Bank, I founded a new firm, Emerging Markets Management, focused exclusively on investing in emerging markets. Over the years since, we have actively participated in the often-dizzying ups and downs of those markets and companies together with such other pioneers as David Fisher and Walter Stern of Capital, Mark Mobius of Templeton, and Nick Bratt at Scudder. In the initial years, we were often the first analysts to interview companies' managers. My former experience as an interrogator in the Dutch Army stood me in good stead when I attempted to sort the wheat from the chaff while deciphering and discounting often inscrutable management spin. We learned that companies in many emerging markets were often heavily protected by their local governments, not very competitive, and all too quick to take on crippling loads of debt. The traumatic crises of the 1990s in Mexico and Asia changed all of that. Leading companies were forced to become competitive not just in their domestic markets, but on the global stage. Some did precisely that; others perished. The survivors in this struggle for survival of the fittest became better, leaner, more finely focused, less dependent on debt. The groundwork was laid for the best of the lot to become fiercely competitive and, in a word, world class. Twenty-five years ago, most sophisticated investors considered the notion of putting even a tiny portion of respectable retirement funds or endowments into shares of "Third World" countries as nothing short of preposterous. Today, a number of those countries have gone from Third World to Emerging, while a few are even recognized as major economic powers. Yet in the minds of even knowledgeable observers today, the firms that form the foundation of these economies are still widely regarded as third-rate, at best second-rate, and certainly by no means world class. The evidence suggests otherwise. The companies portrayed in the following pages are in many cases models to be emulated, examples to learn from, and repositories of skills and knowledge that we in our comfortable cocoons may not even imagine exist. Being newcomers in the global competitive race, these firms have found niches others ignored and have conceived innovative strategies others disdained but that are, in fact, better suited to an interconnected world and volatile new markets. They all followed different roads to success, but most of us in the developed world know neither the companies nor the people who run them nor the strategies they employed to claw their way to the top of fiercely competitive industries. I hope to change that with this book. Copyright (c) 2007 by Antoine van Agtmae Excerpted from The Emerging Markets Century: How a New Breed of World-Class Companies Is Overtaking the World by Antoine van Agtmael All rights reserved by the original copyright owners. Excerpts are provided for display purposes only and may not be reproduced, reprinted or distributed without the written permission of the publisher.