Sample Essay China Global Competition in Financial Markets as it entered pact with the world trade Organization
INTRODUCTION
Background and Scope
In 2001, China embraced global competition in financial markets as it entered pact with the World Trade Organization (WTO). Prior to this milestone, its financial market undergone four institutional reforms; namely, split of central bank function with specialized institutions (1979-1986), expansion of non-bank intermediaries such as insurance companies and opening of capital markets (1987-1991), rise of two stock exchanges and participation of foreign insurance firms (1991-1996), and improved governance towards commercial banks as well as financial markets as a whole.
Before the membership to WTO, China’s financial services industry is considered unprepared against international rivalry. Annual savings of households are largely concentrated on bank deposits, the share of small and medium private businesses to finance is very small, agricultural banks were malfunctioning, the leverage of state enterprises are high, and non-performing loans are increasing. The regulation aspect is also weak with out-dated accounting, auditing and reporting standards. The four largest state banks have also minimal profit and largely insolvent which undermine their capacities to support the financial sector.
Retail banking, which is supposedly the source of industry opportunity, was underperforming. Its financial market’s experience in international banking lacked the management guile as well as necessary technology to exploit advantages in global finance. Foreign bank penetrated the country but they shared very small portion of total assets, loans and deposits compared to the whole industry. Further, only those banks that have established connections with Hong-Kong and other Asian markets were able to partially integrate to China’s financial sector. This hampered international banks to transfer global technology and practices to the local financial industry.
Amid these pre-WTO bottlenecks, China aggressively moved forward on a global scale. Its commitment to WTO in liberalizing financial services became one of the most promising proposals in both WTO and Uruguay Round histories. In the banking sector, foreign firms will be detached from restricted selection of office, allowed to offer local currency services and elimination of barriers to own, operate and establish foreign banks. In the securities sector, foreign firms can participate in B share transactions, foreign investment banks will be allowed to underwrite and enter joint venture on a controlled scale which also includes fund management, and foreign companies can elect representatives to domestic exchanges. Lastly, in the insurance sector, geographical restrictions will be phased-out, operations of foreign insurers and reinsures will be allowed, foreign life and non-life insurers can enter joint ventures, and there will be easier processing of licenses for foreign insurers.
The radical actions of Chinese financial market have two contradicting implications; namely, additional capital and liquidity on the banking sector on one hand and fierce foreign competition on the other. In this case, the risk involved in WTO-integration is more apparent to be directed on lowering the cost of financial services that would lead to industry growth rather than increased savings or investment. Several industries such as housing are thirsty for competitive environment to achieve efficiency and effective pricing. The connection between the state-owned enterprises (SOEs) and the four major state banks will also benefit foreign competition. Foreign companies can restructure the management practices the local industry failed to apply because of the vast scope of managerial issues that major banks are confronted. There is a lack of specialization and foreign companies can participate in changing the traditional banking methodology[A1] .
In 2004, three years after WTO-integration of Chinese financial industry, banks continued to be the most prominent financial sector. Loans remained the major source of financing with a large share of 72.8% compared to the government bonds, stocks and corporate bonds having 14.4%, 12.3% and 0.5% respectively. However, the performance of the four major state banks including eight other joint stock commercial banks was poor with emphasis on the accumulation of a large amount of non-performing loans (NPLs). Prior to 2003, asset management companies (AMCs) that were created by the government absorbed these NPLs. Time has changed and the government is more willing to increase participation of foreign investors to mitigate NPL problems rather just simply authorized waiving-off by AMCs.
The extent on how market-driven strategies are applied in Chinese financial market is mystery of today. In 2004, investment banks are not allowed to operate in China while there are still hurdles of allowable transactions between domestic banks and foreign investors. With weak banking sector amid WTO membership, the financial industry of the country is facing not only stagnation but eventual failure to integrate to global economy. This issue brings on the forefront other sectors of the domestic financial industry that would mitigate difficulties of the banking sector. The role of other sectors could be very minimal relative to the role of banks but they can have potentialities in shouldering economic pressures that the banking sector is currently addressing. Consideration of other financial sectors such as securities, fund management and insurance can also update the country’s commitment on WTO[A2] .
Justification of the Topic Chosen
Recently, it is concluded that WTO commitments are indeed being resolved. Many local cities were opened to at least 100 foreign banks with emphasis to shareholding of a global institution (i.e. Citibank) on these operations. Joint ventures and alliances between the four major state banks and foreign investors were also encouraged to maximize global reserve for financing and management expertise. Further, the capital market, or significantly the “other sectors”, had begun to allow outsiders to penetrate domestic stock markets through Qualified Foreign Institutional Investors (QFII). With these, it can be argued that the Chinese financial industry and its WTO performance are phased to global integration. Patience for waiting the emergence of intended results through time is the only utmost concern at the moment.
However, QFII had quota restriction on domestic stock market (e.g. UBS was allocated $800 Billion quota), there were various different share classifications, governance is unstable and 2/3 of shares are non-tradable. There are more. Initially, foreign ownership stated in WTO commitment for both securities and fund management should not exceed 33%. Chinese financial institutions are continuously discriminated in major exchanges such as New York and London. Lastly, the only way that substantial financial reform will happen to the country is to defeat the profitable objectives of the four major state-owned banks. On one hand, foreign banks will be likely more competitive in almost all customer aspects and the other financial sectors will get hold of the major part of the banking sector in terms of economic influence (e.g. banking independence).
The development of hedge fund sector could be the best representative metric on how profound WTO commitment had been addressed and on what level Chinese financial industry had been integrated to global finance. This implication comes from the fact that hedge funds accumulate many billions of dollars which cannot be raised solely by an investment-restricting environment. It can also determine the performance of Chinese Government in its effort to direct its economy towards market-driven form. This implication comes from the one important feature of hedge fund sector which is its exemption against direct regulation from regulatory bodies. Finally, strategies and instruments used for managing hedge funds are based on non-banking sector performance such as bond arbitrage, long/ short equity and analysis of events (e.g. distressed companies and merger deals[A3] ).
Aims and Objectives of the Research
Using the hedge fund sector as the metric of Chinese financial industry integration to international markets, this study aims to derive several findings. Generally, it will describe the history and present condition of the Chinese hedge fund. The data that will gathered will undergo comparison with hedge fund sector of both developed and emerging economies to establish the degree of success of Chinese hedge funds on relative terms. In the literature review, several theories and empirical evidences will show comprehensive understanding on such comparison and also will offer guide on how to appraise the financial industry of the country based on its hedge fund environment.
The political motivation for developing the hedge fund sector will also be studied which could concretize the future direction of the sector. Assuming that hedge fund activities is an international phenomenon for economies, there is a need to study the extent of being global of an economy if it entered hedge fund transactions. The vitality of hedge fund to international strategies of both corporate- and government-level will benefit on this regard. There are several objectives that this study will consider; namely,
- To understand the relation between the development of hedge fund sector and internationalization of economies.
- To compare Chinese hedge fund development to other economies and better appraise the former performance.
- To describe the current situation of hedge fund sector in the country and forecast its future position.
- To evaluate implications of politics and political ideologies to the hedge fund growth.
- To analyze the current structure of the hedge fund sector such management, clients and regulation.
Hypothesis
- The extent of hedge fund development in China and the level of its global finance integration are positively-related. It is earlier mentioned that the hedge fund sector is one of those non-banking sectors that are not well-developed and hardly known to the local finance industry. After WTO, the local industry proposed measures to integrate global industry through invitation of foreign institutions which include non-banking sectors.
- The hedge fund sector in the country is underdeveloped as of the moment including onto the near future and does not serve as a good comparison to the normal hedge fund operations done by more mature markets. This is the situation despite the fact that China’s financial stock accounts for 4.5% of the world’s total behind UK, Japan and US with 6%, 15% and 30% respectively[A4] . Governance and regulation problems will hamper hedge fund growth and acceptance as a crucial sector.
- The success of hedge fund sector is largely dependent on political aspects more than anything else. Possible national elements that contribute to its success are culture, economy, technology, environment (e.g. geography) and international relations. However, the ideology of the Government is the main driver of hedge fund development which may overlook the benefits of hedge fund growth. Without political will, hedge fund sector will not improve and ample global finance integration will take a longer journey. In another view, lack of commitment for a market-driven economy by national leaders will lead to failure not only of hedge fund sector but also the financial industry as a whole.
LITERATURE REVIEW
Background
In history, the bible indicated the first hedge transaction ever. Joseph who wanted to marry Rachel settled a contract with the latter father named Leban. Initially, they agreed that the option would have a maturity of seven years and Joseph will pay it through labor. However, at expiration, Leban offered his older daughter named Leah instead as Joseph’s wife. Rather accepting the offer, Joseph opted to buy another option also to Rachel for the same maturity. This positioned Joseph as the first ever absolute manager that manages risks on settlements. In a more recent time, Aristotle wrote a story about a peasant philosopher named Thales who turned-out to be a success in managing option contracts. At the time when the prices of olive-press are low, he bought a substantial part from the owners believing that his philosophical prediction was accurate. His prediction of good olive harvest the up-coming season was not popular as the owner’s opinion of a bad season is in union. At the time of harvest, the prediction of good harvest was correct and Thales became rich in selling the olive-press at a higher price.
When Thailand’s baht experienced devaluation in the late 1990s on what to be referred as Thai crisis, there are other areas in the financial industry that significantly contributed to this effect aside from hedge funds. This included short selling by the market, enormous pull-out of loans by foreign banks and liquidation of position to securities. For this part, market actors particularly banking entities acting in similar strategies largely impacted Thai’s economy. This is especially true when foreign banks intensified a unison outflow of investments to domestic banks when the latter failed to address NPL difficulties. Thus, the fear that hedge funds could manipulate markets and infuse financial collapses is challenged. It is, however, taken that foreign markets are the favorite destinations of hedge funds due to large craving for risks.
Existing Theories
Development of the Theory
Identify Literature Gap
1. General financial market in china
In 2001, China embraced global competition in financial markets as it entered pact with the World Trade Organization (WTO). Prior to this milestone, its financial market undergone four institutional reforms; namely, split of central bank function with specialized institutions (1979-1986), expansion of non-bank intermediaries such as insurance companies and opening of capital markets (1987-1991), rise of two stock exchanges and participation of foreign insurance firms (1991-1996), and improved governance to commercial banks as well as financial markets as a whole.
Before the membership to WTO, China’s financial services industry is considered unprepared against international rivalry. Annual savings of households are largely concentrated on bank deposits, the share of small and medium private businesses to finance is very small, agricultural banks were malfunctioning, the leverage of state enterprise are high and non-performing loans are increasing. The governance aspect is also weak with out-dated accounting, auditing and reporting standards. The four largest state banks are also not profitable and insolvent which undermine their capacities to support the financial sector.
Retail banking, which is supposedly the source of opportunity, was underperforming. Its financial market’s experience in international banking lacked the management guile as well as necessary technology to exploit advantages in global finance. Foreign bank penetrated the country but they shared very small portion of total assets, loans and deposits compared to the whole industry. Further, only those banks that have established connections with Hong-Kong and other Asian markets were able to partially integrate to China’s financial sector. This hampered international banks to transfer global technology and practices to the local financial industry.
Thus, the commitment of China to WTO in liberalizing financial services became one of the most far-reaching proposals in either WTO or Uruguay Round. In the banking sector, foreign firms will be detached from restricted selection of office, allowed to offer local currency services and elimination of barriers to own, operate and establish foreign banks. In the securities sector, foreign firms can participate in B share transactions, foreign investment banks will be allowed to underwrite and enter joint venture on a controlled scale which also includes fund management, and foreign companies can elect representatives to domestic exchanges. Lastly, in the insurance sector, geographical restrictions will be phased-out, operations of foreign insurers and reinsures will be allowed, foreign life and non-life insurers can enter joint ventures, and easier processing of licenses for foreign insurers.
Accelerating Financial Market…. Page 13
Similarities in Financial Management
Traditionally, risk management is viewed exclusively in the lens of financial instruments like acquiring insurance. By creating financial hedges to firm’s liquidity, preservation of the firm’s resources from the risk of loss due to decision-making can be possible. In the contemporary view, however, risk management is considered an integrated process and risks are deemed to affect the whole operations of the firm (2003). As a result, traditional management techniques are directed to particular problems in order to operate the risk management system of modern firms either domestic or multinational. These two kinds of firms undergo a similar financial assessment schedule.
The first task is to identify the occurrence of potential loss in the company’s key departments and evaluate the impact of such looses to the financial attribute of the firm (2003). This phase is done in a proactive manner. The second step is to select among the identified risks those that will be disengaged in management decisions and those that will be retained and controlled to reduce the severity of the possible loss. It can be quite distorted to accept losses, but these looses are elements of a certain corporate activity that cannot be entirely depleted. In this stage, coordination and expertise of involved managers are crucial to rationalize retained risks. The third level is to inform the budget department of the firm if the company has the financial capability to absorb the retained risks. If not, those activities could be transferred to other capable companies. This situation can be illuminated by a banks, human resources agency and insurance firms wherein internalization could mean huge amount of risk exposure.
The fourth step is the implementation stage wherein managers allocate scarce resources from the programmed risk retained activities to people, money and time (2003). This includes activities such as safety program for employees, purchasing insurance and provision of petty cash revolving funds. At the end of the process, monitoring of the internal (improvements in net income) and external environment (federal regulatory changes) is necessary to identify the need to restructure the existing risk management model for the firm to obtain optimal use of its resources and economically leverage risks.
Differences in Financial Management: Multinational Firm’s View
Entering a new market involves several pre-access transaction requirements. One major stakeholder that a firm should please is the political factors that execute international laws and economic policies as well as drives society towards a certain “balance”. Firms are expected to perform their share of societal responsibilities that can reinforce and improve the balance. In this view, MNCs has certain characteristics that small firms do not have which can make resolution of pre-access transaction easier. Typically, MNCs require large number of employees as they serve larger market base. With this, unemployment can be minimized with indirect positive effect on poverty levels and crime rates. As a result, the workload of authorities is mitigated which can be a motivating factor to accept foreign firms.
In addition, MNCs needs larger and more sophisticated infrastructure to be able to operate outside its headquarters. It has to acquire land, construct buildings, install communication technologies, and other necessary infrastructures. Aside from using local labor and raw materials to realize establishing a subsidiary, the capital deployment has long-term benefits for the host country. It can promote research and education and stimulate local production. In summary, the government can save the public budget because pump-priming comes from private entities. The former can focus on basic needs like health, transportation and security. This can be another motivation to encourage foreign firms for local investment.
Third, pre-access difficulty can also arise in transactions that call for foreign firms’ knowledge about the host country explicit and implicit policies. The latter symbolically refers to “under-the-table” contracts formed between a local authority and foreign firms. Being unaware of the prevalence of “grease money” particularly on imported goods makes local authorities de-motivated to allow the trade. In this respect, the experience of MNCs counts. The years of international trade gives them the advantage to operate in different environment and adjust their actions according to political cultures. As their contract is polished accordingly, local authorities feel MNCs are less threat to disrupt the continuance of implicit policies. In addition, MNCs have more cash for grease compared to small firms that can intensify the trade support of local authorities. This practice, however, distorts contract provisions regarding societal responsibility.
Ways to Deal with the Complex Global Environment
Political risk insurance (PRI) is a guarantee or hedging mechanism available to a foreign corporation operating under domestic political risks. PRI allows premium payment to the foreign corporation from the loss or damage consummate with the potential loss. Under PRI, three broad categories of political risks would generally be covered; namely, war/ political violence (i.e. due to unprofitable operations), expropriation/ breach of contract (i.e. due to adverse affects to income streams from assets and operations) and transfer risk/ inconvertibility (i.e. restriction of capital movement across country borders). Since political risks are country-specific phenomenon, multinational companies varying PRI policies that makes PRI highly dependent not only to the nature of politics of the host country but also the managerial strategy of multinational corporations. The latter is an indication that companies can minimize political risks according to their way of handling them and incorporating into corporate strategy.
On the other hand, local debt financing (LDF) is a part of the foreign corporation’s total financing comprises of bank borrowings, bonds, operating-leases and trades of credit which does not entitle its creditors ownership of the company. Although LDF keeps internal control to the corporation, it requires interest payments and more rigid policies and requirements to ensure liquidity and long-term financial health of the debtors. Like PRI, LDF can serve as hedging mechanism to reduce the risk of blockages of earned funds to a foreign subsidiary due to repatriation policies from the home country. In addition, when the foreign corporation (e.g. or subsidiary in this case) allows local currency debt, it minimizes the adversary risks of foreign currency changes of the home country where parent company is located. LDF allows subsidiaries to use the available capital of the host market to augment its financial and business needs where home funds, currencies and assets are not accessible, restricted or costly to obtain.
However, PRI and LDF have features that are compatible in certain situations that can optimize or rationalize their uses. PRI usually serve as a pro-active action of the foreign corporation to hedge political risk while LDF is largely based on sudden reaction of the corporation to prevent financial problems. When PRI is not availed in the first place, the corporation should use LDF while the presence of PRI can be maximize if combined with LDF options. Due to this, PRI can exist without LDF and still come-up with a relatively predictable outcome while LDF would be too ambiguous without PRI as the latter serves as the ultimate insurance policy. If any, LDF uses can be maximized from the perspective of gaining efficient asset portfolio. But if the corporation wishes to have a super-efficient portfolio, it should incorporate PRI that can be classified as zero-risk investment. Further, PRI can be applied in developing and poor countries where political risks are high due to relative economic instability while LDF can be a very lucrative option that can be applied in more stable developed economies that can save foreign corporations of insurance and other transaction costs.
Technological advancements change how businesses communicate, transact and deliver products/ services to its customers. In marketing, the advantages of internet technology have already proved many companies of its effectiveness and positive impact. Direct marketing is a consumer-direct channel wherein corporate messages and delivery of products/ services are able to eliminate the need of retailers or middlemen. As a result, the business has first-hand knowledge of customer needs, thus, improving the quality of its products/ services. While other forms of marketing channels are available, the internet is considered optimal because it does not only foster customer satisfaction but also other corporate benefits such as cost-efficiency, creation of customer database and substitute for advertising.
However, the adoption and acceptance of internet technology because of its efficiency has its backlash, leakage of customer information and spoilage on privacy. Computer security is a long-time issue discussing the ability of corporations to protect customer information from unauthorized access and/or misuse, damage, and interference. Perhaps in marketing endeavors of firms, internet can annoy customers due to unsolicited e-mails, bogus promotions and complexity of web design. But information threats to e-marketing have better chance to be covered by security policies of firms (e.g. Yahoo! encryption and authentication, internet access policies in the US, remote access policy and virus control policy). In addition, there is a relatively lesser interest from adversaries to attack corporate information from the marketing rather on the financial side.
In this respect, the issue of e-banking should be studied more than anything else. For some customers, bank savings can be the most important legacy of their life that they would protect it with all of the available resources and options. For private companies, money is the foundation of their business transactions and would protect their credibility on handling payments to ensure the most important customers (i.e. those that have money) will not leave the relationship. Like e-marketing, e-banking has its advantages and disadvantages. In effect, businesses that use the technology in their payment scheme can also result financial benefits (e.g. increase in customer base due to efficient payment) and costs (e.g. increase litigation fees due to legal action from customers who are applied with computer attacks).
E-banking would be a relatively simple process with business-to-business or business-to-consumer loops. However, when the business is an intermediary, a broker or a middleman between the supplier of products/ services and customers, financial impacts of e-banking become more complicated. For example, security policies would be more disintegrated because two entities (i.e. the intermediary and the supplier) have different frameworks in viewing the business model. Although this would adversely affect customer inclination to e-banking, the situation would also serve as an incentive for intermediaries to create competitive advantage regarding security issues in e-banking. As a result, this research about the financial impact of e-banking is necessary with reference to Hong Kong travel agency operations.
Market Structures in China
Perfect Competition (Agricultural Sector)
Implicitly divulged by Xinhua News Agency (2002), China government is the actor that primarily ignites the existence of an independent and active agricultural industry. Specifically explained by Helsell (1997), the move released regionalization of agricultural output and ended the historical separation of value chain activities which prohibited farmers selling their products or creating their own raw materials. At present, integration is pushed to most part of the country. The method also includes the existence of agribusiness firms, mostly in coastal areas, initially numbered at 3,000. They are responsible of providing needed information to all farmers that has yet to enjoy the promise of economies of scale when producing in an informed manner. In this support, agricultural workers were transformed to a farmer-entrepreneur. No more problems on where to source out expensive farm inputs because the state-owned firms provided them most of the supply. In addition, the agribusiness firms bought any output, similar to contract growing, so that the farmer has no worries on where to market its products. Lastly, technology transfer for quality output was made available including training to upgrade skills and knowledge on the usage of new developed technologies.
The state’s role is aimed to create an environment that would make the agricultural sector competitive. The incentives of farmer-entrepreneur under the scheme served as motivation to produce at highest quality. Otherwise, their output would not be purchased by the state-firms or will be priced in an inferior manner. The hidden agenda is to make them competitive and take whatever pricing the state firms deemed necessary. Obviously, pricing within state standards would result to a uniform pricing strategy. Perfect competition is needed to bring out the best from the farmer-participants that will make long-term success to China through foreign investment and export.
A 1995 book written by Lester Brown asked, “Who will feed China?” The question is rather a challenge to their government. With a population that topped most of the food consumption statistics, China needs to produce quality products in order to gain international acceptance of their exports. With this, the agribusiness firms are situated in such a way that it will prove to the foreigners that their food is worth buying, producing and consuming.
Monopoly (Shanghai’s Dairy Giant)
The Shanghai Dairy Group Company (SDG) has a number of factors that made it a monopoly in the dairy market of Shanghai. Cited by Helsell (1997), it owns the crucial and important factors of production. It sourced out 60-70 percent of its inputs from its wholly owned subsidiary farms. Although the remaining 30-40 percent is produced through sub-contracting, the provision of technology and training to the contractors established harmonious relationship that built the backbone of loyalty between the company and the small producers. With these two examples, inputs are generally incorruptible from the hands of the dairy giant.
The facts stated in the report had grabbed advantages for the firm. Economies of scope stemmed at the nationwide sales network of the company created the incentive to produce lower cost of additional output unlike other small firms. Also, the ownership of a milk and milk powder production bases added the uniqueness of the integration supremacy of the firm. In China, milk is not popular historically. This fact made disincentives for other firms to construct milk factories. However, Shanghai Dairy Group thought beyond short-term profitability which the later converted into market power. Lastly, to finalize the large integration network of the firm, it also owns storage companies, distribution companies and retail stores saturating the market at all levels (Helsell 1997).
This power inherent to the company made it formidable in competition. Seemingly, it could wipe out any competition that would dare its market leadership especially in Shanghai area. The experience in the sector, knowledge of Shanghai market preferences, integration strategies, relationship with contractors and 5,000 level of labor force, it could be hard for new entrants to share the pie with the firm. To note, although substitutes are present in the market, it accounted to a minimal 5% which probably settled through highly differentiated dairy products or those produced for a specific market segment like high-end consumers, certain manufacturing company and export requirement (Helsell 1997).
Monopolistic Competition (Foreign Fast Food Firms)
Although China is gifted with wide agricultural land and enormous labor force, it needs the penetration of the Western investors for western plate experience among others like fried chicken, pizza and other fast food offerings. These areas were not yet tapped by the country that was presently limited in the traditional noodle and tea restaurants and expensive five star dining (Hatfield 1997). This made several foreign investors successful. Most of them produced variety of foods to offer at reasonable prices. As mentioned in Business Wire (2001), Kentucky Fried Chicken is named as the “as powerful and growing brand in China” and also considered as the most popular international brand. Its prominence, however, is limited to fried chicken because pizza belongs to Pizza Hut and Papa John (Business Wire 2005). Although the two are known players in the fast food industry, KFC dilemma is also their major constraint to saturate all line of products in a fast food chain.
According to and Sutcliffe (2001), monopolistic competition is comparable to perfect competition aside from the heterogeneous product offerings within the industry that somehow gives firms the capability to increase the price of its products and services. The fierce competitor of KFC in China is McDonalds (Hatfield 1997). The latter has variety of prominent products that appealed greatly to the Chinese community like French fries which was accounted to increase the demand of potatoes from United States for years to come. Also the report explained, Mos Burger from Japan targeted the hamburger consumption allowing it to gather most of its sales through hamburgers. In the pizza services area, Pizza hut and Papa John are considered close competitions (Business Wire 2005). The former offers relatively expensive menus because of the extra-ingredient added like the stuff crust (Mallas 2005) while the other based on quality and strategic locations of its branches within cities (Business Wire 2005). Similarly other fast food firms, mostly foreign investors, are increasing in number in the country like Ronghua Chicken, California Fried Chicken, Care de Coral, Tieban Steak, Chalon and Hartz (Hatfield 1997). Their entrance to the market is characterized by perfect competition but rather their products are several. From this, they select the line of product(s) where they could gain competitive advantage from others.
The increase in competition to exploit the expensive and limited traditional cuisines of most Chinese restaurants is largely caused by the loose intervention of the government against free-trade. Consequently, monopolistic competition was the resulting product because foreign firms wanted to concentrate on one area of food service to prevent direct competition to a more established firms like KFC which penetrated the borders as early as 1987 (Business Wire 2001). With such tactic, its product offerings gained added premium that somehow granted its control over price. Added to the fast food business incentive is the concentration to a specific product, not totally withdrawing the line of homogenous offerings the same as industry competitors like beverages and desserts, by which marketing expenses are minimized in favor of the dearest product or service offering.
Oligopoly (Former State-Owned Communications Giant)
According to China Telecom (2001), the entry of China Railcom in the communications industry had toppled the prices of local and international calls including installation charges to low levels. The decrease of its prices affected the pricing of contemporary few players like China Unicom, Communications, China Netcom, and China Telecom. Since the intent of the new entrant is to cut the national average with ten percent decrease in local calls and twenty percent in overseas calls, it signaled the need for other players to bring down prices. It is no wonder that China Railcom had the liquidity and infrastructure capability because it was a former division of Ministry of Railways (M2 Presswire). From the sole responsibility to provide communication services to the rail transportation industry, the company was grated authorization to serve the general public on 2001.
The eminent competitive advantages of China Railcom are derived from the heavy investment of the government during its inception. Because of this, the characteristic of an oligopoly market to bar a potential entrant ( 2001) did not affect the established infrastructures of China Railcom to penetrate the market. It was also exempted to pursue heavy marketing to be known in the market. The desirable qualities and requirements were inherited since its creation by the state. Added to its intrinsic capabilities, it also offers a wide variety of communications services like fax, telegraph, network resource lease, public data transmission, Internet access, and wireless paging (M2 Presswire 2003). The internet provision of the firm was strengthened by its venture with Riverstone that made possible the upgrade of virtual services for several cities for audio to video offerings.
Just like other market structure, oligopoly in China is manipulated by the government. The move to privatize Railcom created a tacit collusion in which rivals in the industry were forced to react to the price leader other than other factors that could ignite competition like quality issues (Sloman & Sutcliffe 2001). Formerly, the market of the firm is limited to the rail transport hindering its market power by the countervailing power innate to a single consumer. But as it went public, the government investments poured to establish its railway connections that made it one of the largest telecommunication’s networks in China paid off. Although threatening to the profitability of other oligopoly players, the entrance of Railcom produced positive gains for the public for low cost communication service. Probably, this is one of the major reasons the government decided to privatize the formerly state-owned firm.
Economic Efficiency, Equity Outcomes and the Role of the Government
Using Economics for Business 2nd Edition of e 2001 as reference, the following findings and conclusions are attained with the aid of the above examples.
From all the market structures, oligopoly is the most consumer-friendly. Unlike in competition structures, there are several numbers of firms which the consumer would try to select the most significant value-adding products/ services. The broader the market players, the greater the consumers’ effort to pin point the low cost or quality leader which could be limited and not attained because of transaction costs. The position of China Railcom as former state-owned communications provider not only instituted its brand name in the minds of the population but also created its low-cost capabilities and prosperous infrastructures. To maximize the important role of oligopoly, the government should try to multiply several examples of Railcom for the benefit of the local people on basic necessities and utilities. In return, this strategy should guard private firms within the industry that would eventually resist the diminishing profits due to low prices and thus withdraw its investments.
On the other hand, perfect competition has biggest impact for a firm to become efficient at levels of value chain. Unlike oligopoly and monopoly, perfect competition assures the existence of invisible hand in the free-market. This means that no one could control the prices of commodities that signal the basic cause of competitive advantage, at least in price, which is producing at the lowest possible cost. The idea posts maximization of factors of production. As a result, the macroeconomic status of a country would reach its maximum potential. Since natural or synthetic inputs are properly used, there is high occurrence of local surplus that could penetrate foreign markets. However, the government must guard exploitation of natural resources especially the bodies of land and water. To note, several explorations of mining industry had caused soil erosions. These abusive acts could result not only of several positive returns but also negative externalities that could hurt the industry in the long run.
Third, monopolistic competition could be considered the catalyst of innovation in the market. The desire of the firm to take advantage of a discovered technology or other business improvements could make the industry survive in the long run with different line of products and services to offer. For a consumer, every breakthrough is undoubtedly crucial to their everyday life. In addition, the emergence of information technology firms supplied the requirement of every industry to attain efficiency at work. The importance of innovation is countless and has no boundaries. Fast food chains tend to be creative and more customer-oriented through this kind of market structure. In this case, the government should be strict on patents to avoid disincentive for innovative ventures like research and development endeavors of firms.
Lastly, monopoly is considered the least beneficial market structure in a macroeconomic view. It brings down efficiency and innovation because it is unguarded and free from the competition. Because of this, consumer-friendliness is unlikely to result because the control in prices could result to selfish acts to recoup investments or gain more. Consequently, the government should guard if not make this market structure an oligopoly. .
Capital Structure of Banks versus Ordinary Companies
The financing structure of banks is unique due to several reasons. Bankruptcy is out of question due to the presence of insurances for deposits that banks kept as its assets. In the case of insolvency, banks can easily access such funds and can shoulder and face gearing that is comparatively beyond ordinary companies. The moral hazard theory, however, also prevents banks to enjoy insurance coverage above the underlying assets. To curb the situation, only the minimum capital ratio is preferred to assure that opportunity to hedge risk and gain tax efficiency of debts.
Further, major deposit insurance companies such as FDIC have dual roles being an insurance and regulation company. In effect, the ability of banks to use a capital structure with lower ratio is barred. For example, strong performing banks are bound to equity over debt financing. This concretized the fact that weak performing bank's preference to withdraw its investment can pump the wealth of its shareholders. The quality of charter of each bank also affects the direction of its capital structure such as increasing charter value can result to minimal gearing and the opposite is the same.
Equity holders of banks also carried limited liability which also distant their deposit insurance from any default arising from their banks. Due to this, the position of banks when it comes in borrowing is covered by the protection of the state. In effect, contracting parties with bank's leveraging plans can see the bonds of banks as similar to treasury bonds (i.e. they are risk-free). However, regulation from the same government like capital requirements deters the full exploitation of banks from insurance claims. For example, US banks are required to maintain a standard capital ratio throughout a specific period.
In the case of St. George bank, its performance also affects its capital structure. In its Interim Report 2006, St. George posted 11.5% increase in profits before significant items and in accordance to accounting standards while after significant items resulted to 0.3% increase to this percentage. Dividend also rose to 10.4%, earnings per share (EPS) increased by 9% (excluding hedging and derivatives), return on equity up to 23% from 21.8% and expense to income down to 44.1% from 46.8%. By this data, it can be said that the firm has strong earnings potential and continues to be going-concern to its business reflected by its cost-effectiveness in cutting down expenses or in a different approach providing superior products/ services at low costs.
Further, shareholder funds continue to gain as shown by EPS which means that investments in the firm have its way of increasing its value in the future. This increase is also advantageous to investors because the movement of EPS is consistent to the movement of dividend payout. Return on Equity (ROE) is also dubbed by the firm as superior (ASE 2006) although their announcement of strong expected performance in the future might pull this dubbing if the management does not meet its goal. As an illustration, the aggressive volume taking of the firm had provided a year-on-year earnings and revenue stimulation in all its three key business areas in lending, retail deposits and managed funds. The firm, despite this aggressiveness, had continued to perform well in its operations as shown by its interim result in March 2006 at $502M compared to $443M in September 2005.
Optimal Capital Structure
The weighted average cost of capital (WACC) determines the cost of main individual sources of capital which can be in the form of debt capital, equity capital and retained earnings (Mcmenamin 1999 p. 436). This means that the discount rate (at 8%) used in appraising the NPVs of proposal 1 and 2 sufficiently included the necessary investment costs that must be covered by investment benefits. The firm can have NPVs which can be readily used to evaluate investment decision without the anxiety of missing out some “costs” of funding. In addition, WACC can combine financing alternatives which can result in having the least cost capital structure that maximizes firm’s investment ability.
However, WACC cannot by itself classify whether an individual source of capital is being used to finance a new investment or not (Mcmenamin 1999 p. 437). There is a need to install monitoring system to account the financing performance of each project which can result to additional monitoring cost otherwise WACC would be inconsistent across time horizons. Also, as WACC offers a scientific basis for a firm to have minimum financing rate and available discount rate (which is used in NPV calculation), it is a common approach for firms to have its own preferred cost of capital (p. 440). Due to this, WACC does not reflect the practical problems and evaluation criteria that most managerial decision-making uses.
The immediate preceding statement may reflect the dynamism of several factors that affects WACC like interest rates, taxation and dividend policy among others. As observed, there are controllable and uncontrollable catalysts that affect WACC values. No wonder, management opted to set “target” cost of capital for consistency, convenience and practicality (p. 440). Further, WACC is only appropriate when the project under consideration reflects the current profile of a firm. In effect, each investment proposal should be consistent with the present operations of the business in order to prevent substantial changes in financial and business risks.
Aside from WACC, there are two alternative costs of capital approaches that embodies expected return and beta (or market risk) and so complementing the weakness of WACC. They are useful in appraising unique investments and those companies that are not listed in stock exchanges (p. 442). First, the pure play approach necessitates scanning of a listed company in the stock exchange with similar risks and operations to investment under consideration. Second, the subjective approach which is less satisfactory than the former but can be very efficient when the former methodology did not result to actual finding.
2. How about hedge fund market
3. How is the hedge fund structured in China
4. Any law or regulations for hedge fund in China, if yes, what are they
5. Who controls those hedge funds? Individual or government?
6. What is the role of hedge fund manager
7. How to become a fund manager in china?
8. Who are the clients for the fund. Where did they get the clients
9. How to setup a hedge fund?
10. Any inside dealing problem
11. Forecast the Chinese hedge fund market, what are the problems
- Abstract (Brief summary of the dissertation) (1~2 pages)
- Acknowledgements (a “thank you” to ppl who helped you for the dissertation)
- Declaration
- Table of Contents
Chapter 1 Introduction (4~6 pages)
1.0 Background & Scope
1.1 Justification of the topic chosen
1.2 Aims of research
1.3 Objectives of research
1.4 Hypothesis
Chapter 2 Literature Review (6~20 pages)
2.1 Introduction/Background/Hypothesis
2.2 Explain the theories existed
2.3 Development & current state/perspectives of the theory
2.4 Identify the literature gap
Chapter 3 Research Methodology (8~13 pages)
3.1 Introduction/Overview of theoretical framework/Hypothesis
3.2 Research philosophy/logic & scope/paradigm
3.3 Research design (include: approach, strategy and purpose, etc)
3.4 Data collection methods
3.5 Possible generalisation of research
3.6 Justification of methodology adopted
3.7 Limitations
Chapter 4 Case Study (Optional)
Chapter 5 Research analysis and findings (15~40 pages)
5.1 Introduction/Overview
5.2 Scenario description
5.3 Data and statistic analysis
(can include: trend analysis, hypothesis tests, models, etc)
5.4 Summary of findings
Chapter 6 Conclusion (5~14 pages)
6.1 Introduction
6.2 Summary of authority theories and policy
6.3 Conclusion of findings
6.4 Solution and recommendations
6.5 Research limitations & further research directions/possibilities
6.6 Personal reflection (optional)
References/Bibliography
Appendices (Tables, graphs and figures)
Proliferation of information technology (IT) and transactions involving mergers and acquisitions (M&A) are both effective outcomes of free-market economies (Diwan, Kudiba & Mcginn 2002). However, each country in question has different levels of being "free" like the comparison of US and Europe or Japan. The former economy has a more flexible labor market than the latter economies. As a result, US-based companies have been able to down size its workforce through investments in IT saving them substantial costs. Aggravatingly, Europe and Japan have comparative disadvantage in financial systems that limit the M&A initiatives of domestic firms. As observed, these two cited corporate issues relating to the level of being "free" of an economy can have business-level and government-level merits. In this veil, it is interesting to study not only the area of inter-country performance on IT and M&A but also their crucial connection to each other.
To illustrate the relationship of IT and M&A, specific industry can be sampled. In 2000 onwards, banks and other financial institutions shifted to a trend of M&A in endeavor to develop synergies (Cornett, Mcnutt & Tehranian 2006). As entities in M&A have multifaceted characteristics, integration of obvious but unconfirmed and also complex information through IT systems is an inherent M&A supporting mechanism. On the other hand, there is the chemical industry where M&A was less utilized as business strategy nonetheless IT systems were relied upon to enhance communication of its diverse global research and development (R&D) sites as well as combat competitive threats for timely product delivery. Industry illustrations show that M&A strategy does not necessarily result to IT involvement especially when industry players expand using its own resources (e.g. as in the case of chemical industry). In effect, there is an opportunity to focus studies in specific industries where M&A is emphasized (e.g. banks) to maximize exploration and findings in IT and M&A relationships.
There are abundant literatures that cited the importance of information technology (IT) in the finance industry (1995; 1996; 1996). The study of Yeuk-Mui discussed that IT mediates the transactions from retail banking and market deals. Specifically, IT addresses productive and administrative processes, show transparency in different level of those processes and finally IT share information and also provide automation. However, although IT is evidenced to share ideas without hindrance of authority, it is also attributed to higher stress levels among employees and also boredom due to standardized tasks. Finally, with lower social relations and lack of participation, IT is an ineffective machinery of financial institutions. In the findings of the study where insurance companies and its call center agents are studied, intrinsic aspect of call-agenting and management concerns affect work skills instead of IT. In addition, electronic surveillance affect work attitude of employees insignificantly while networking capabilities of IT does not have strong relation with employee performance. With this, the importance of human resource is highlighted which should not be compromised by IT.
The role of IT as resources of an individual insurance company is also undermined by the emergence of "transactional customer" (Rotella, ________). This modern customer demands real-time transactions in any devices at consistent performance from the companies. To resolve these issues and capitalize on IT, modern financial institutions tapped M&A activities during the last decade. However, the accelerated IT upgrade did not develop without problems on consolidating fragmented operations and unique processes/ culture of the combined firms. Outsourcing from the vendors is available and the firms can simply purchase the right to use the technology. However, even though outsourcing of IT has low penalty for problems, the reward for excellence is also low due to same imitability and foregone competitive advantage as competitors intend to purchase (Apal & Saharia __________). Vertical integration implemented by large banks to include insurance services also threatened the longevity of existent and full-time insurance companies due to differentiated products that may result (Pintar ____________). As a result, horizontal combination of insurance companies with IT in the fore is the only measure to defeat expanding banks and growing sophistication of customers.
A good example of a successful horizontal integration with IT as the motivating/ driving force is the Gerling and NCM merger of 2001. In the onset, over 15 Million Euros (i.e. 30% of combined IT budgets) will be saved through synergy of IT technologies and 60 Million Euros for turnover contribution of the merger using the IT synergy. The integration in the credit insurer industry is motivated by three dimensions; namely, strength of international network, range of product offering and size which can translate to larger market base, comprehensive/ integrated product offerings and large investments/ liquidity. The model that the merger use is in accordance to business strategy and IT strategy alignment where support from hiring of external consultants, top-level management, creation of task groups, close coordination and time-boxing are the central policy. The two-month due diligence is applied to evaluate the resources of the two firms but the difference of the evaluation is that it is focus on not getting the deal but on determining how the deal would work such as covering not only finance, legal and commercial issues but also operations, IT, corporate communications and human resources (i.e. pro-active evaluation not passive). In the one-year pre-merger integration, anti-trust laws are addressed and the twenty-eight integration teams begun to plan about the adjustments to every business area. In the post-merger integration, the rule "integrate according to time constraint" is strictly implemented and the integration plans are implemented within such constraint.
The cornerstone of the IT integration issue in Gerling and NCM merger lay in the choosing the target IT system. In accordance to four approach of the alignment framework, the merged firm also chose the best alternative which happened to be use of IT of NCM and complete refusal of any integration between the different IT platforms due to time-boxing. However, the migration of data from one center to another was applied with utmost care and in gradual manner. The big bang alternative is not used even with time constraints because the quality of service and performance will be highly disrupted. The workforce group using IT systems are also divided in migration absorption depending on the functionality and the risks attached to the IT platform. The core stakeholder is customers so migration is focused on privacy and reliability of the transfer. The governance of the merger is supervised by Operative Project Board that resolve conflict between the Business Project Leader and the IT-delivery focus IT Project Leader with Integration Office coordinates the integration program to all concerned. Supporting areas which aid in time-boxing approach and its succeeding benefits were made possible by identification of the right channels for communication (i.e. teams also travel in foreign subsidiaries) and also becoming familiar with the cultural people that will receive the message and instructions.
Aside from this important case study, major consultancy firms also focused their study to large multinational firms M&A. It is found that there is no increase in shareholder wealth amid cost-savings and synergy. This finding is concretized by Singaporean study which found minimal abnormal returns during and after merger deals even showed negative abnormal returns (2005). In the case of acquisition, the acquiring firm exemplified minimal attribute to success because speculations about overpriced bid lurked. On the aspect of evaluating the success of the merger, the findings were not concretized because managerial and employee biases tend to overtake objectivity. Success is also blurred by the finding that only 0% to 1% resulted in appreciation of stock value upon announcement (Andrade, Mitchell, & Stafford, 2001). To resolve these issues, (188) End-user Computing Satisfaction Instrument that defines successful merger and IT integration with content, accuracy, format, ease-of-use and timeliness of information. In addition, there are some other works and models such as (1998) which shows IT factors like efficiency zone (doing things right), effectiveness zone (doing the right thing), and understanding zone while Task-technology fit model is proposed by Goodhue (1995) which evaluates IT integration through development process, use process, quality of the IT and impact on the organization.
The problem of choosing the most suitable success model to serve as guide in evaluating IT integration and performance (______) found that there are four notable categories; namely, user satisfaction with integrated software's system, information quality and its use; efficient and effective IT integration management, efficient IT staff integration and IT ability to support the underlying motives in the merger. It is also noted that such categories are not isolated but are interrelated to each other that can cause one or affect the other. The study also tackled the proper actors who can address questionnaires. End-users serve as the primary respondents to test the success of IT with appropriate questions being asked to IT professionals, management and other stakeholders. It is obvious that the end-user side is the cornerstone of IT integration. The findings of(___________) as well as the customer-driven migration approach by the case study supported the idea that IT integration revolved on people. With business-IT alignment in mind, cost-savings cannot make the firm grow without focus on the users and customers that IT only focused with cost-savings without synergy and simplification of market cannot go well with performance. In addition, possibility of employee downsizing can have traumatic effects to remaining workers which may minimize trust to the new IT platform which can inflame resistance.
