“Never get outta the boat”

“Never get outta the boat” [1]
Andrew Lumsden, Partner, Corporate Advisory, Corrs Chambers Westgarth
Introduction
Recently, the investment community has raised serious questions about Australian company’s ability to successfully expand offshore. The critic cite everything from an inability to define competitive advantage or articulate smart strategies to the lack management skills.
In March this year Peter Morgan of 452 Capital told financial planners that he would never invest in an Australian company that expanded overseas.[2] These comments were made some weeks after Telstra announced a write-down of its Asian business operations but before AMP wrote off $2.6 billion on its business in Britain.
“Why if there’s such a good deal to be done overseas would a seller come to Australia first?” Peter Morgan was reported as saying. “It’s because their second-rate deals”
Expanding offshore allows Australian companies to access bigger markets, as well as diversifying risk across markets and currencies. Offshore investment facilitates exports by building networks in overseas markets. In the 12 months to 30 June 2001,Australian companies invested $417 billion more than 42% of this was direct investment.[3] Understanding why their endeavours should be supported and how to do it successfully is an issue of major significance to the nation.
A recent survey of large enterprises by the Productivity Commission found that 50% of firms reported that offshore investment had increased their overall profitability and 35% reported higher exports as a result of foreign direct investments.[4]
The issue often comes down to a willingness and capability to learn from experience (even if some experiences are frightening) and clearly articulating skills and expertise. We cannot support calls to never to leave the comfort of domestic shores for fear of confronting the jungle of overseas business. The consequences of failing to embrace the global jungle are substantial and one consequence of an unwillingness to ‘explore’ is Australia ending up as a mere branch office of global companies.
Is there one story?
There is no doubt that the field is filled with mixed stories, Australian companies have set off into the jungle as “national champions” but have returned wounded, their tails between their legs with the sweet fruit left somewhere else.
Some of our most respected companies have been involved, including National Australia Bank with Homeside, BHP with Magna Copper, Lend Lease and its US investment business, Telstra’s Asian operations and many others. Southcorp has run into trouble because of its distribution strategies overseas (rather than its foreign acquisitions).[5] Smaller companies in boutique markets such as Wattyl, Country Road and Aristocrat have also had frightening trips through the jungle of overseas.[6]. One survey estimated that in the past five years, 20 Australian companies have lost almost $40 billion in write-downs and losses in overseas investments. The problem is not just individual company failures; overall foreign investment performance is poor. Three of the four biggest markets for Australian direct investment fail to produce returns above the bond rate.[7]
Then again, a few such as Foster's Group, Westfield, Leighton Holdings, News Limited, Amcor (second attempt), CSR, James Hardie have enjoyed long-term success honed from an Australian business model and it remains to be seen if more recent adventures off the boat like Macquarie Bank's investments in Asia and more broadly, ANZ's Asian business development, Computershare offshore business can be made successful.
What’s the problem?
Why are so few Australian corporations able to globalise successfully?
Australian markets are small. If the most successful Australian companies cannot grow larger domestically, they are left with little choice but to expand overseas, accept a foreign takeover offer, or try and do both at once by way of a dual-listing merger with a foreign firm (Rio Tinto, BHP Billiton, and Brambles). There is a widespread suspicion that the headquarters of dual-listed companies will gradually drift overseas,relegating the former Australian head office to branch-office status.[8]
Management theory holds a successful global strategy has three elements - development and domestic refinement of a sound core strategy; internationalising the core strategy through expansion of activities and adaptation of the strategy; globalising the strategy by integrating it across countries.[9]
Why persist?
As one recent commentator put it “The choice is simple: either stay dominant in a domestic oligopoly and manage declining profitability by continually finding ways to slash costs, or find new overseas revenue.”[10] History would suggest that the other alternatives are not likely to serve Australia well. Selling to an overseas acquirer or returning cash to shareholders adds little to the wealth of the nation.
Another common reason for Australian companies' difficulties in developing a global presence is their lack of size. Many argue that we should modify the domestic market concentration restrictions to allow companies to develop that are able to compete in the global marketplace. An alternative view is that given the size of Australia’s marketplace dominating a sector completely diminishes the company’s ability to utilise alliance s effectively. Powerful companies that dominate all parts of the Australian value chain may find it difficult to adjust to the role of alliance partner (possibly in a minority role) and to extract value from the alliance.
Despite the high risks and difficulties associated with leaving the safety of the boat, Australian companies cannot afford to listen to the short-term demands of the investment community.
Structural adjustment
The existing franking credit system means that foreign-sourced income however is ineligible for a franking credit. Thus investors, who are being taxed at the highest marginal rate of 49%, are effectively paying 64.3% tax on dividends paid to them as a result of foreign-sourced income. Investors are penalised for investing in Australian companies who are becoming more global and receiving larger and larger shares of their operating revenues from foreign sources.
This is counter-intuitive for investors in small countries as their companies attempt to become successful in foreign markets and hence become a more secure and diversified investment providing improved returns.[11]
Allowing streaming of dividends to foreign shareholders from foreign revenue, without reducing franking credits for locals would be a significant step helping to address this imbalance. So would modernising the “controlled foreign corporation” rules to reduce compliance in countries with comparative tax levels. Add to that a change to the definition of corporate tax residence so that Australian companies can have greater flexibility in the operation of overseas subsidiaries.[12]
Conclusion
The stories of the companies that have in fact been successful have some common threads. These include a sound overseas strategy that leverages off domestic experience and the persistence to learn from the inevitable errors[13] that follow any adventure outside the safety of ‘the boat’.
Hard lessons will be been learnt from overseas expansion. Managers must learn to under-promise and over-deliver It will almost invariably cost much more then budgeted and much longer than anticipated. The investment community must appreciate the need for patience and to manage their expectations. Our companies and their local investors must learn from their mistakes rather than retreating to the safety of the boat.

[1] With apologies to John Milius and Francis Ford Coppola. From Apocalypse Now:
CHIEF: You forgot the mangoes, didn't you?
CHEF: Mangoes? There as a fucking tiger in the woods -- I could've been eaten alive. I'm never going into that jungle again. I gotta remember never get out of the boat; never get outta the boat.
They move off; swallowed by the darkness. The jungle noises remain.
WILLARD (V.O.): He was right, the Chef – Never get out of the boat. Absolutely god damn right. Unless you were going all the way. Kurtz got off the boat. He split from the whole fuckin' program.
[2] Jan Eakin “Home truths and global warnings” The Age (Melbourne) 20/05/ 2003.
[3] Investing in Australia at http://www.dfat.gov.au/geo/australia/tradingnation/investing_in_australia.html
[4] Offshore Investment by Australian Firms: Survey Evidence, Productivity Commission, Commission Research Paper, , Feb-02
[5] Chris Wright “Overseas And Under Water” Australian Financial Review 24/05/2003.
[6] Bill Beerworth “Going global needs right model” The Australian Financial Review 06/05/2003.
[7] Adele Ferguson and David James “Secrets and traps” Business Review Weekly 06/05/2003 pg 40.
[8] Bill Beerworth “Going global needs right model” The Australian Financial Review 06/05/2003.
[9] Bill Beerworth “Going global needs right model” The Australian Financial Review 06/05/2003.
[10] Adele Ferguson and David James “Secrets and traps” Business Review Weekly 06/05/2003 pg 40
[11] Skontnicki Tom “The branch-office economy fights back” Business Review Weekly 06/5/2001 pg 35
[12] The Government has announced an intention to consider these matters “Review of International Taxation Arrangements – Consultation Paper” 26/08/2002
[13] Adele Ferguson and David James “Secrets and traps” Business Review Weekly 06/05/2003 pg 40 The authors survey a number of companies and conclude that the reasons include: failure to stick closely to core areas of expertise; failure to take a long-term strategic view; flooding the foreign acquisition with second-rate expatriates who do not understand the culture, market or legal system; paying too much for the business; failure to manage synergies; and an inability to buy the number-one or number-two business. In addition, Australian companies' lack of size makes it difficult to use acquisitions to create cross-border advantages between different consumer and financial.