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Yes, Minister

“Minister,” said Humphrey, “I beg you not to refer to it as a tin-pot African country. It is an LDC.”

This script extract is taken from an episode of the British television comedy Yes, Minister, which was first broadcast in March, 1980. The hapless minister – The Rt Hon Jim Hacker (sat down in the picture) – learns from his smooth-talking civil-service, private secretary – Sir Humphrey Appleby (holding the brief) - that ‘poor’ countries were called ‘underdeveloped’, but this was deemed inappropriate. Next they were known as ‘developing’, but that was considered patronising; so they became ‘less developed countries’, or LDCs. Should this also cause offence, then – according to Appleby – they might be renamed ‘Human Resource-Rich Countries’, or HRRCs.

The joke (and we appreciate, today, it will be far from funny for many) was that the labels might change, but the mindset did not. The world has always been divided into rich and poor, The West and The Rest, the haves and the have nots. However, nearly 40 years later, we are pleased to say categorisations such as third world, poor and underdeveloped have long since disappeared, although developing and emerging are still widely used. For this reason, we were happy to learn the World Bank recently ceased referring to ‘developing countries’. Why? Bank officials concluded these countries have become so successful that the term no longer had any real meaning. On the measures that actually count, such as infant mortality, life expectancy, educational standards, or public health, there is not much difference any more between the ‘developed’ and ‘developing’ world. By way of example, Glasgow now has a significantly lower male life expectancy (71 years) than Vietnam (75 years).

We accept metrics used to calibrate economic progress are many and varied, and there is a great deal of ambiguity as to whether the growth (expressed in GDP terms), achieved by a fast-growing nation, actually translates into rewarding investment returns at the corporate level. Indeed, investors today still routinely avoid committing capital to buy the equity (E) or debt (D) of companies based in emerging market (EM) nations. With the result that EME and EMD continue to be under-owned asset classes, in global mandates. Much like the script from our 1980’s political sitcom, we argue this reflects an outdated and somewhat jaundiced mindset, and we purposely position our portfolios differently.

So, what has changed?


Let’s take ourselves back to the period leading up to the Global Financial Crisis (GFC). In 2006, the Lehman Brothers’ board had a finance and risk management committee, chaired by an 80-year old director, which met only twice that year and twice again in 2007. Nine of the company’s directors were past retirement age and one had been on the board for 23 years. Four of the directors were over 75; one was an actor, another a theatrical producer and there was even a former US Navy admiral. Shockingly, only two of the board members had direct experience in financial services. Before 2008, the firm had no one at board level familiar with the kinds of derivatives that ultimately caused the collapse of the 158 year old Wall Street business; which remains the biggest bankruptcy filing in US corporate history.

Poor corporate governance has long been quoted as a reason not to invest in EM companies. Some of the events leading to the demise of Lehman Brothers were outside its control; however, it is clear governance standards were weak and, as the events of the GFC unfolded, it was apparent this was endemic across many companies in the world’s largest and most sophisticated economy. As we know, a raft of legislation has subsequently been passed to tighten standards globally, but more work still needs to be done and this is why the G for Governance remains the single most important factor in corporate ESG assessments. It would be misleading to suggest EM-based companies have not been the subject of equally poor or worse governance issues, but law makers have created a more robust infrastructure and there is growing evidence the rights of minority shareholders are being respected and their voices heard. If these trends continue, they have the potential to lower risk, improve capital stewardship and structurally improve shareholder returns.

By way of an example, lets look at Samsung; a leading global electronics conglomerate, with a presence in handsets, tablets, PCs/PC peripherals, networking, consumer electronics, appliances and components (semiconductor, LCD/OLED panels). It was founded in Suwon, South Korean, in 1969 and listed in 1975. Having had a poor reputation for governance in the past, the company has undertaken a number of initiatives that have benefited minority shareholders in recent years. For example, in November 2016, it announced a roadmap to “enhance long-term shareholder value creation” and improve shareholder returns, capital management and the operation of the board. This included:

  • allocating 50% of free cash flow to shareholder returns in 2016 and 2017 (prior range was 30% to 50%), including a 30% year-on-year increase in 2016 total dividends and a share repurchase plan
  • creating a new Governance Committee, comprising independent members, that will assess board decisions and proposals
  • retaining external advisors to conduct a review of the optimal corporate structure
  • announcing the intention to cancel its treasury shares (those held internally by the company itself for future use, thus diluting other shareholders)

Global leading companies

Samsung is a respected household name throughout the world, but this is just one of many. Kia, Hyundai, Alibaba, Beko, Huawei, Lenovo, Turkish Airlines and Taiwan Semiconductor Manufacturing Company (TSMC) are equally well established businesses, with global reputations.

One common argument used against investing in EM corporates is many businesses simply replicate services or technologies developed elsewhere, inferring innovation is lacking and financial rewards associated with ‘first mover advantage’ rarely exist. Again, we think this is a very blinkered view and, during a recent visit to Edinburgh to meet an EME specialist team, we were introduced to another Korean company called Woory Industrial. It is unlikely that many readers will have heard of it, however, Woory is fast becoming a global leading manufacturer of components for automotive climate control and electrical parts. Electric vehicles (EVs) cannot rely on the heat produced from their engine to warm the inside of the car. Woory’s high voltage positive temperature coefficient (PTC) heaters are award winning and, as the demand for EVs climbs, the company is very well positioned to benefit from this. Penetration levels are already surpassing company expectations.

Growth and earnings

Improving governance and the emergence of highly competitive and profitable companies should be a beacon for global asset allocators. The image that follows helps illustrate why capital inflows into EME and EMD have increased over the past 12 months. However, these flows still have some way to go in order to replace the capital that left the asset class between 2011 to 2015; hence our earlier statement – many investors are underexposed.

Implications for portfolios

In addition to this corporate picture, economic fundamentals across broad EM nations also continue to improve. Albeit, reference to real interest rates, EMFX, inflation, government balance sheets and trade volumes – whilst very important – is a somewhat sterile and very academic-based reflection of the opportunity we believe exists.

A far more informative message came from another manager we met in Edinburgh. He would not mind us describing him as a developed market specialist, however, he had recently returned from a two week business trip to South East Asia – Vietnam, Philippines and Thailand. This was his first visit to the region and whilst there, he met business leaders, government officials, hoteliers, manufacturers, Uber moped riders and street side chefs. When we asked what his key takeaway was (not meaning this to be food related) – he replied the trip had made him ‘much more bullish about the global economy’. Indeed it had led him to question at what point is it acceptable to own an EM company in a traditional global equity mandate? Much like Sir Humphrey and The World Bank, perhaps the industry needs to rethink its labels? Until mindsets change, given the value we perceive EM assets offer, we remain confident in our non consensus positioning versus many of our peers.

Julia Warrander and Russell Waite

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