Managing joint ventures and alliances

40% of joint ventures and strategic alliances result in divorce within five years. Making them work is about going beyond best practice, says Dr Alan Barlow, former CEO international engineering group and former partner at PricewaterhouseCoopers.

The world economy is emerging from its biggest ever global recession. Organisations' approach to growth in the 2010s will be very different. Management’s mantra will be how to optimise what’s already in place, at minimum marginal cost with returns over the near term and at low risk.

However management will also be cautiously taking steps to secure growth opportunities. Some cash rich companies will benefit from bottom fishing with acquisition of under-valued companies.

Joint ventures and strategic alliances
Joint ventures and strategic alliances are a proven tactic for management to secure faster and lower risk growth. The alternatives are to grow organically (100% control but generally slower growth); or with acquisitions (faster growth but demanding on capital and challenging to integrate post-acquisition and secure the forecast benefits).

Benefits
Joint ventures and strategic alliances allow faster growth by accessing markets and technology, and sharing and controlling risks. The main catalysts for the growth in such alliances are: the increasing internationalisation of markets; the growing importance of innovation management (with rapid technology transfer and shorter product lives); and, the increasing costs of R&D (with the complexity of technology and convergence of it).

Downsides
With such benefits, there are also potential downsides. 40% of joint ventures result in divorce within three years – which is not necessarily a sign of failure. But, when joint ventures are not properly managed over their life time, then the exit costs can be huge.

For example, after ten years of operating in China with its local partner, the French company Danone accepted an exit settlement of 21% below its book value as payment by its local partner of $450m for the 51% majority ownership of their joint venture*. The divorce took place because Danone accused its joint venture partner (Wahaha) of setting up at least 96 parallel companies, with production and sales networks, that competed with the joint venture.

Danone also believed its local partner was in breach of confidentiality agreements. While Danone ‘controlled’ the joint venture at board level, the Chinese partner had almost total day-to-day control.

Best practice for success
For success at joint ventures and strategic alliances, there is a strong body of best practice. This includes:

• plan, plan and plan - objectives, operations, resources and contingency
• balance trust with self-interest - avoid being selfish or naïve
• anticipate strategic conflict in advance and continuously - avoid the tendency to gloss over conflict
• establish clear strategic leadership - the vision and purpose of the venture with unambiguous and unbiased authority
• learn flexible management - recognise the evolution of the venture, understand all partners’ intents and roles, and communicate effectively
• allow for and gain from cultural differences - the law of requisite variety, and components of culture
• manage strategic asset transfer - including technology and understanding
• learn from the partner and the venture.

Negotiating framework
These are basic, generic requirements. It is important to go beyond them, particularly in three distinct areas. Firstly, it is vital to prepare your own negotiating framework, that is, what is important to you in and from the joint venture. Similarly, it is exceedingly useful to draft what you believe to be the important considerations for your prospective partner. They are likely to be considerably different to yours, as both of you are contributing and requiring different ‘returns’ from the joint venture. Such a framework and assessment then becomes a tool for comparative assessment of what you are achieving and/or acceding in the negotiation, and that of your prospective partner.

Managing differences in organisation structures and business drivers
It is also increasingly important to understand and manage the differences between the parents’ decision making structures and its business drivers. Both of these two considerations vary tremendously between corporations. Organisation structures for western corporations can, for example, vary from centralised-hierarchical to decentralised-federal, with a wide range of variations.

Likewise the four main causes of growth are: cash, market share, growth and profit. It is impossible to maximise all four concurrently, which is another reason for the generally big differences between the businesses forming a joint venture. Again, a clearer understanding of your partner’s mix will greatly help both successful negotiation and subsequent ongoing operations.

The problems above are exacerbated when, for example, western and Asia Pacific organisations form a joint venture. The difference and the impact of factors affecting their business growth and organisational decision making can be dramatic. These must be managed for success.

Joint ventures and strategic alliances only exist because each party has something the other party wants at a point in time. Hence, in the face of changing market circumstances and as corporate learning takes place over time, divergence between the joint venture partners should not be unexpected.

Mastercourse - Joint ventures and strategic alliances
In recognition of the importance of joint ventures and strategic alliances to businesses, CIMA has introduced a new Mastercourse - Joint ventures and strategic alliances presented by Dr Alan Barlow. Through a series of case studies, the Masterclass delivers best practice and proven frameworks for initial and ongoing negotiation and management of joint ventures and strategic alliances for ensuring greater success.

*Source: Financial Times, 10 November 2009.

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The benefits of Islamic finance

Experts in Islamic finance believe their way of doing business has shielded them from the global credit crisis. Read original article.

• Information on the CIMA Certificate in Islamic Finance

But how does it differ from conventional Western finance?

A former executive director of the International Monetary Fund, Dr Abbas Mirakhor, says wider Islamic economics relies on God's guidance, handed down almost 1,400 years ago.

There is a "consciousness of a supreme creator and a system that he has provided", he says.

What we know as the conventional Western way does not have that, which is "really the major difference between the two", he adds.

In practical terms, the most significant difference is that charging interest is not allowed in Islamic finance.

FEATURES OF ISLAMIC ECONOMY Dealing in interest, liquor, pork, gambling or pornography are prohibited under Sharia law Islam forbids all forms of economic activity which it deems morally or socially harmful Individuals must spend their wealth judiciously and not hoard it, keep it idle or squander it Muslims have a duty to contribute a percentage of their wealth to deprived and poor sections of Muslim society

Neither are most forms of speculative investment permitted, such as hedging or derivatives trading.

"We don't recognise the concept of interest... to look for some profit from trading money," explains Dr Bambang Brodjonegoro from the Islamic Development Bank.

"In the Islamic concept, money is strictly for the purpose of exchange or storing value, but not for the transaction of looking for excessive profit," he says.

Sharing risks

How then, does an Islamic bank, and a customer who puts money in that bank, make a profit?

The Qur'an contains principles Muslims must follow when they do business

The system is asset-based, with tangible assets or commodities at the heart of it. There are buyers and sellers, not borrowers and lenders.

Here is a comparison.

In Los Angeles a customer who wants to borrow money to buy a car would go to a conventional bank and agree a loan. The bank would hand over the money.

There would be regular repayments, which include interest accrued on the loan.

In Lahore a customer could go to an Islamic bank and sign a contract with the bank to buy a car from them.

The bank would not loan the money but buy the car itself. Then it would sell it to the customer at a mark up.

The customer would agree to pay back the cost in instalments over a regular period.

One of the core principles at the heart of Islamic economics is risk sharing. The bank and the people who put their money in it share any profit, or loss, from investments.

"In Islam we appreciate merit, so if someone works harder in a business...they (the bank) will get the sharing benefit," explains Dr Brodjonegoro.

"The more important thing is that there will be no bank that rules everything. It will be bank and borrowers at the same level and they share the risk and benefit."

Alternative way

This sense of equality is important. It is one of the defining characteristics which proponents of Islamic economics say make it different from the conventional western way.

It is time for Islamic finance to pause and think of the direction it is taking Prof. Habib Ahmed, Islamic finance expert

Islamic economics also highlights a belief in benefitting the wider Muslim community.

The former IMF Executive Director Dr Mirakhor says that it chimes with "a movement toward becoming more 'other conscious'...having consciousness about the other fellow, about the general public interest."

This contrasts with what he described as the "simple narrow basis of self interest which motivates, supposedly, the economic agents in the liberal economic system."

Some see the Islamic model as an alternative. Others see it as complementary to the system which has dominated the western world.

"I don think that this Islamic banking system is the alternative, that we have one or the other. I think this is a complimentary service, a way of doing service," says Prof Ekmeleddin Ihsanoglu, Secretary General of the Organization of Islamic Countries.

"It needs to be an option there where people can find different ways of doing the same thing."

Compromising principles

Islamic economics is not the exclusive preserve of Muslims.

London is emerging as a major financial centre for Islamic finance. Islamic banking products are also widely used by non Muslims in Malaysia.

"This is an alternative system that can be applied to everybody. Everybody can use it regardless of their religion," says Dr Brodjonegoro from the Islamic Development Bank.

Major banks like Britain's HSBC and Citi of the US have set up Islamic banking subsidiaries that are flourishing. Some of the champions of the Islamic way want to see business expand beyond the natural market of Muslim countries.

They believe that now, more than ever, there is a market for non Muslims who share in the values espoused in Islamic economics.

But there are some who fear that by expanding the Islamic way is becoming less Islamic.

Time to reflect

"Unfortunately what is happening is that Islamic finance in some ways is moving more and more closely to the conventional finance," says Prof Habib Ahmed, a world authority on Islamic finance.

"If you look at the development in the past few years, Islamic finance appears to be mimicking most of the products of conventional finance."

There has never been a better time to champion an economic model which is different to the one laying in shreds on Wall Street, says Prof Ahmed. But he believes that the Islamic concept is being diluted.

"As people after this crisis are looking for solutions...the Islamic finance industry is moving towards that very system," he says.

"I think it is time for Islamic finance to pause and think of the direction it is taking".

World Check - Global i Report April 2009

China’s Fistful of Dollars

By Geoff Dyer in Beijing

The flotation of Blackstone in June 2007 has already gone down as one of the symbolic events in America’s financial bubble – the end-of-an-era deal when some of Wall Street’s savviest insiders decided to cash out.

Yet the listing of the private equity group could also be the turning point in another chapter of financial history; one that will shape the world that emerges from the current crisis: the moment when China really began to question its deep financial entanglement with the US.

China Investment Corporation, the country’s sovereign wealth fund, had not even begun formally operating when it spent $3bn on a 9.9 per cent stake in the private equity group. With Blackstone’s shares down 84 per cent since flotation, CIC’s new executives have become the target of furious attacks by bloggers who think China was conned. “They are worse than wartime traitors,” says one recent chat-room posting. “Blind worship of the US by so-called ‘experts’,” complains another.

China’s near $2,000bn (£1,380bn, €1,560bn) in reserves, the world’s largest, are often viewed outside the country as a great strength – an insurance policy against economic turbulence. But within China, they are increasingly seen by the public and even some policymakers as something of an albatross – a huge pool of resources not being used at home that will plunge in value if the US dollar collapses. Why, people ask, should such a relatively poor country bankroll such a rich one?

Even at the elite level, the sense of frustration occasionally bubbles over. “We hate you guys,” Luo Ping, a director-general at the China Banking Regulatory Commission (CBRC), complained last week on a visit to New York. “Once you start issuing $1-$2 trillion ... we know the dollar is going to depreciate, so we hate you guys, but there is nothing much we can do.”

As China’s economy slows sharply, the debate on how to manage its reserves is intensifying. Some propose spending the money at home; others want more diversification of investments. But the consensus behind recycling foreign currency into US government securities is coming under attack.

The discussion is hugely important for the Obama administration. At the very least, the Chinese government is likely to become much more forceful in trying to influence US economic policy. “There should be more give and take; some sort of guarantee that our interests will be defended,” says Yu Yongding, a leading economist at the Chinese Academy of Social Sciences. Given the vital role that China has played in financing US deficits, Washington “should at least be a little nicer”, he says.

The explosion in China’s foreign exchange reserves has been one of the more remarkable episodes in recent financial history. The official total is $1,950bn, but Brad Setser, of the Council on Foreign Relations, a New York-based think-tank, who tracks China’s foreign assets, puts the real figure at nearer $2,300bn – equivalent to more than $1,600 for every Chinese citizen.

Below: Beijing’s key role in the american debt mountain

From that total, Mr Setser calculates that about $1,700bn is invested in dollar assets, making the Chinese government by far the largest creditor of the US. Last year, when its economy was under extreme stress, China lent the US more than $400bn – equivalent to more than 10 per cent of Chinese gross domestic product. “Day after day, China is the single biggest buyer of Treasury bonds in the market,” he wrote in a recent report. “Never before has the US relied so heavily on another country’s government for financing.”

MR RENMINBI:

Tough talker

China’s point man for financial issues is Wang Qishan, a former banker and mayor of Beijing who became a vice-premier last year. Tough-talking and blunt, he has a record of pushing though difficult reforms and led a dialogue between China and the US last year.

But like most senior leaders, he rarely talks publicly about the Chinese currency. Analysts say any significant shift in policy either on the exchange rate or on foreign reserves would have to be approved by the nine-member standing committee of the Communist party political bureau.

Within China, a popular backlash against the scale of these investments in the US has been building for some time. Founded in 2007, CIC controls assets equivalent to only about 10 per cent of the total reserves, yet it has become a lightning rod for criticism. Not only has its Blackstone investment gone sour, but CIC also invested $5bn in Morgan Stanley before the bank’s shares slumped. CIC also had money in Reserve Primary Fund, the US money market fund which froze redemptions after the collapse of Lehman Brothers.

A European banker who has been advising CIC on its overseas strategy says: “This is a completely unique situation for Chinese bureaucrats to face – having their every decision debated, analysed and often attacked in the media and on the internet. I get the feeling that they are all shell-shocked.”

Almost every week, a new proposal is launched to find a better way of investing the money. State media reported this week that a fund might be set up using reserves to back overseas investments by oil companies. Such ideas follow a flurry of recent natural-resources deals involving Chinese companies – most notably Chinalco’s planned investment in Rio Tinto – although none of these deals has directly involved foreign exchange reserves.

Another much-touted plan is for China’s finance ministry to “borrow” dollar reserves from the central bank, which would be swapped into local currency and spent on social projects.

Even the body that manages the bulk of the reserves, the State Administration of Foreign Exchange (Safe), admitted last week that it was debating new approaches. “We will actively expand channels and ways to use the foreign exchange reserves. In particular, we will explore how the reserves can better serve domestic economic development,” said Deng Xianhong, deputy director of Safe.

Yet officials recognise that there are still powerful reasons for China to keep buying Treasury bonds. If the authorities want to maintain most of their vast holdings in liquid assets, there are few options that match the depth of the US government bond market. And if China did not want to accumulate so many reserves, it would have to let its currency strengthen – exactly what the government does not want at a time when exports are crumbling.

China’s leaders have made it clear that, in the short-term at least, they will keep supporting US markets. They want to be thought of as responsible global citizens during the crisis. They also know that a strong signal that China was backing away from dollar investments would damage the value of the enormous holdings it already has.

“We believe that to maintain a stable international financial market is in the interests of shoring up market confidence ... and facilitating early recovery of the international markets,” said Wen Jiabao, the Chinese premier, in a recent interview with the Financial Times, although he hinted at a shift in strategy when the crisis was over. As Arthur Kroeber, managing editor of the China Economic Quarterly, puts it: “China’s default policy is to pursue stability at all costs. They do not want to rock the boat when things are unstable.”

Yet if China has few options but to keep buying US Treasuries, it can still try to turn its investments into some sort of leverage. Think-tanks close to the government have been given the task of devising concessions that China can seek in recognition of its bigger role in international economic affairs. Zha Xiaogang, of the Shanghai Institute for International Studies, has published an “economic wish-list”, which includes a relaxation of US restrictions on exports of sophisticated technology to China.

Chinese policymakers are also becoming increasingly critical of US financial policies. Last week’s barbed comments from Mr Luo of CBRC were the most colourful indication of Chinese fears of a dollar crisis (see above right). But there have been other hints from senior leaders. “We hope the US side will ... guarantee the safety of China’s assets and investments in the US,” Wang Qishan, a vice-premier, told Hank Paulson when the former US Treasury secretary visited Beijing in December. Given public scepticism over the reserves, a tougher approach from Beijing would be well-received at home.

One of the ideas being discussed in Beijing is pushing for the International Monetary Fund to have greater authority to issue critical judgments about the health of the US economy and its financial system. Officials also hope to use purchases of US debt as a diplomatic weapon against protectionist measures in the US.

Arguably, China has already shown it can influence US decisions. One of the reasons the Bush administration was forced to recapitalise Fannie Mae and Freddie Mac last year, economists say, was because China had started to sell its bond holdings in the US agencies in favour of Treasuries. “China is beginning to behave like a normal creditor,” says Mr Setser.

Ultimately, China’s influence on US policy faces two big constraints. The dollar’s status as the world’s reserve currency gives the US huge flexibility that other countries with large deficits do not enjoy, much to the frustration of many Chinese officials. China’s unwillingness to let its currency appreciate more also limits its leverage.

But the political debate is likely to be very different. The Sino-US relationship used to involve lectures from Washington about China’s undervalued currency and its closed financial markets. Now they will include Chinese warnings on the risks of inflation in the US and dollar weakness. Fiscal conservatives in the US, worried about the country’s impending borrowing binge, have an unlikely new ally: Beijing.

BEIJING’S KEY ROLE IN THE AMERICAN DEBT MOUNTAIN

The level of Chinese demand for US Treasury paper could play a crucial role in determining the interest rates the US government has to pay for its rapidly growing debt pile.

In the past year, Chinese investors – mainly its central bank – have become the biggest foreign holders of US Treasuries, increasing their holdings 15 per cent last year to nearly $700bn (€545bn, £485bn).

Foreign investors now own about $3,000bn of US Treasuries, or more than half of the amount publicly available. Whether Chinese buying continues to increase this year at the same pace could be an important factor in the outlook for the Treasury market.

In turn, the level of demand from China depends on the health of the US economy. The fewer Chinese goods Americans buy, the fewer dollars China will have to invest in dollar-denominated assets.

“China has become such an important player in US Treasury holdings that it will be critical to the direction of yields whether new money continues to be invested by China in US government debt,” says Alex Li, a strategist at Credit Suisse.

Chinese buying cannot be taken for granted. For example, in November, China sold $9.2bn of Treasury debt, the first month of net selling from the country since June 2008. By December, the last month for which data exist, China was a buyer again – highlighting the potential for swings.

Officially, China remains committed to the US Treasury market. But at a recent conference in New York, Luo Ping, a senior official of the China Banking Regulatory Commission (CBRC), expressed an ambivalence that is shared by senior officials from Saudi Arabia to Japan, also big buyers.

“US Treasuries are the safe haven; it is the only option,” said Mr Luo. “Once you start issuing $1-$2 trillion ... we know the dollar is going to depreciate, so we hate you guys, but there is nothing much we can do.”

Although these remarks were made with a smile, the CBRC quickly sent a note to the foreign press saying that China’s policies remained unchanged.

In addition, analysts are becoming conscious of growing opposition within China to the policy of investing so much wealth in low-yielding dollar assets.

“This is an area of criticism [China] will increasingly be sensitive to as it seeks to reduce its reliance on export-led growth,” said Chris Wood in his weekly publication for CLSA, the regional brokerage.

“It may all be a giant game of chicken. But it cannot be taken for granted that China will be willing to buy US paper for ever.”

See also:

• Opinion: This is not the time to attack China

• G7 softens tone on China

• China urged to boost domestic demand
  

• Short View: Why hopes of decoupling could be premature
  

• Wen looks at fresh Chinese stimulus
  

• China to go on European spending spree
  

The Credit crunch in Numbers

More or Less BBC Radio 4 and iPlayer Subscribe to the podcast

As the downturn takes hold, BBC Radio 4's More or Less programme looks at the maths behind the credit crunch. Read original article.

Since 2007, presenter and economist Tim Harford has been exploring and explaining the numbers which have contributed to - and have characterised - the global economic downturn.

He met the mathematicians at the heart of the City - and found out why some say they are to blame for the financial crisis.

He uncovered the flaws of the bankers' bonus system, and discovered a mathematical error which might have led the banks into trouble.

He interviewed quantitative finance expert Paul Wilmott and The Financial Times journalist Gillian Tett.

And he met the guardians of what could be the financial world's most important number.

You can listen to all of Tim's reports here.

PAUL WILMOTT, QUANTITATIVE FINANCE EXPERT

Paul Wilmott is a lecturer in financial mathematics and runs the profession's most popular website.

He is a fan of quantitative finance - but he thinks that its misuse has played a part in creating the current banking crisis.

In November 2007, More or Less asked whether the financial mathematicians known as "quants" - short for quantitative analysts - were to blame for what was then being termed "the credit squeeze".

WHO ARE THE QUANTS?

Paul Wilmott discussed his concerns with Professor William Perraudin of the Tanaka Business School at Imperial College London.

Tim Harford chaired the discussion.

The risks of risk management

In December 2008, Tim invited Paul Wilmott back to talk about the problems in more detail.

Banks and hedge funds rely on highly-paid mathematicians and economists - "quants" - to evaluate risk.

So why did they not they see the credit crunch coming?

Paul Wilmott says some mathematicians have a tendency to get fixated on the numbers, failing to think about the big picture.

RISKY RISK MANAGEMENT

He posed a scenario.

Imagine you are at a magic show. The magician takes an ordinary pack of 52 playing cards, and gives it to a man in the audience to shuffle. He then asks a volunteer to think of a card. "The ace of spades," she replies.

The magician turns to the man with the pack of cards and removes a single card from the deck. What is the probability that the card is the ace of spaces?

To hear the answer listen to the interview, or read Paul Wilmott's article on the risks of risk management.

A fundamental mathematical error

Paul Wilmott says an additional cause of the credit crunch is that people simply got their sums wrong.

GETTING THE SUMS WRONG

He told More or Less these errors might have contributed to the mispricing of financial derivatives, and thus to the travails of the banks, the credit crunch, and the economic downturn.

The maths of the bonus system

Many traders were paid bonuses if they made money.

And yet, collectively, their trades bankrupted some banks and nearly bankrupted many more.

THE TRADER'S DILEMMA

Why did traders, paid for performance, all make the same mistake at the same time?

Paul Wilmott set out the trader's dilemma.

AT HOME WITH THE QUANTS

In October 2007, Tim Harford got a glimpse into the world of the quants.

The most successful of these talented mathematicians will come up with mathematical formulae that make them and their bank or hedge fund employers millions of pounds per year.

They are highly secretive about their work, not wanting others to know the details of their systems.

MEET THE QUANTS

But one of them, William Hooper, invited Tim Harford into his beautiful London home.

Read more about quantitative analysts

A trader's apology

William Hooper has since left the world of finance to start his own business.

He has been reflecting on the global economic problems and the question of who is to blame - read A trader's apology.

GILLIAN TETT, THE FINANCIAL TIMES

Gillian Tett is an assistant editor of the Financial Times and oversees the global coverage of the financial markets.

Five years ago, she was shocked to discover what she says could best be described as an iceberg in the middle of the City.

The role of the media

She was studying media coverage of the City and began to realise journalists were doing lots of stories on stocks and shares, mergers and acquisitions, but nothing on what had become a much bigger part of finance - the credit and derivative markets.

She says business journalists were simply not covering the City in a representative way.

THE FINANCIAL ICEBERG

You had a small part of the financial system bobbing above the water but a vast shadowy mass of activity pretty much hidden beneath the waves.

And hidden not just from ordinary people, but hidden from politicians, from many regulators, and unfortunately from much of the media too.

UNDERSTANDING LIBOR

The London Interbank Offered Rate - LIBOR - has been dubbed the financial world's most important number.

Published each day in the UK, it is the rate at which the banks lend to each other and it influences over $150 trillion (£100 trillion) of funds worldwide.

The Libor number is compiled by putting together the estimates of the cost of borrowing from at least eight banks, and then discarding the highest and lowest of the sample to leave an average rate which then becomes the daily 'Libor Fix'.

LIBOR

But the figure's validity is being questioned, with critics dubbing it "the rate at which banks won't lend".

Tim Harford was granted exclusive access to the operations centre where the daily rate is compiled.

More or Less is broadcast on BBC Radio 4. To find out more, visit the programme website, or subscribe to the More or Lesspodcast.

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