Accountability

Held to account

Which big organisations and companies are accountable?

THE International Olympic Committee is the least accountable global organisation according to a survey published on Wednesday December 10th by One World Trust, a British think-tank. The study ranks 30 companies, inter-governmental organisations, and voluntary groups and charities, according to an index based on criteria such as transparency, participation with outsiders and how complaints are dealt with. The IOC was found to be the least transparent in its workings, while the International Atomic Energy Agency and Care International were found to be worst for setting out ways to deal with external complaints or whistle-blowing. Businesses are most likely to respond to complaints and banks score best for transparency. Charities and aid agencies are most likely to involve outsiders in decision-making.

• If you enjoy reading this subscribe to my RSS feed!

Investment Banking

Is there a Future?

The loneliness of the independent wall
street,.

IN THE early years of this decade, when banks did quaint things like making money, the mantra on Wall Street was: “Be more like Goldman Sachs”. Bank bosses peered enviously at the profits and risk-taking prowess of the venerable investment bank. No longer. “Be less like Goldman Sachs” is the imperative today.
Of the five independent investment banks open for business at the start of the year, only Goldman and Morgan Stanley remain. Doubts about the sustainability of the model are rife. In earnings conference calls on September 16th, the chief financial officers of both firms had to bat away analysts’ questions about their ability to survive on their own. Spreads on their credit-default swaps, which protect against the risk of default, soared as investors digested the implications of Lehman Brothers’ demise (see chart).

Universal banks, which marry investment banking and deposit-taking, are in the ascendant. Bear Stearns and Merrill Lynch found shelter in the arms of two big universal banks, JPMorgan Chase and Bank of America. Barclays, a British universal bank, is picking at the carrion of Lehman Brothers. The mood at Citigroup, seen until now as one of the biggest losers from the crisis, is suddenly bullish: insiders talk up the stability of its earnings and the advantages of deposit funding.
Regulatory antipathy to universal banks has also eased. Although the 1933 Glass-Steagall act, which separated investment banks and commercial banks, was repealed in 1999, the universal model is still viewed with suspicion in America. Among measures announced on September 14th, the Federal Reserve temporarily suspended rules restricting the amount of money that banks can lend to their investment-banking affiliates. Many are sceptical that this rule makes much practical difference. Even if the investment-banking arms of universal banks nominally have to raise money separately, their parents’ ratings still make their funding cheaper. By the same token, if they get into trouble, the effects ripple through the entire balance-sheet. Even so the suspension, and the dramatic reshaping of Wall Street, represents the final repeal of Glass-Steagall.

Can Goldman and Morgan Stanley survive as independents? In normal times, the question would seem ludicrous. Both banks had profitable third quarters, with Morgan Stanley beating expectations comfortably. Rivals’ disappearance should allow them to grab new business and has already helped to increase pricing power: Morgan Stanley hauled in record revenues in its prime-brokerage business. Both have reduced their most troubling exposures; both can call on decent amounts of capital and strong pools of liquidity. And both can marshal strong arguments that they are better managed than their erstwhile peers.
The problem, of course, is that these are not normal times. Although the firms condemn the rumour-mongering, stories that Morgan Stanley was looking for a partner continued to swirl. As The Economist went to press, Wachovia, an American bank, and Citic of China were among the names in the frame.
Three doubts hang over the independent model. The first concerns the risk of insolvency. Investment banks have higher leverage than other banks (in America at least), which worsens the impact of falling asset values. They do not have the safety-valve of banking books, where souring assets can escape the rigours of mark-to-market accounting. And they lack the stable earnings streams of commercial and retail banking. In other words, they have less room for error. Goldman’s reputation for risk management is excellent, Morgan Stanley’s a bit patchier. But asking investors to take valuations and hedging processes on trust is getting harder by the day.
The second, related doubt concerns their funding profile. As a group, the pure-play investment banks have relied heavily on short-term funding, particularly repo transactions in which counterparties take collateral as security against the cash they lend. Both survivors say they are nowhere near as exposed to the risk of a sudden dearth of liquidity as Bear Stearns was. They could also argue that retail deposits can be as flighty as the wholesale markets: just ask Northern Rock and IndyMac, both of which suffered rapid withdrawals. Even so, a further shift towards longer-term unsecured financing will be the price of survival for Morgan Stanley in particular.
That would increase costs, which in turn raises the third doubt, profitability. As well as dearer funding and lower leverage, the investment banks face the prospect of weakened demand for their services. As and when the market for structured finance revives, it will be smaller and less rewarding than before. Demand for many services will not go away, but in a world of scarcer credit, universal banks will be tempted to use their lending capacity to win juicier investment-banking business from companies. “Don’t give me the bone,” says one European bank boss. “Leave some meat on it.”
By these lights, universal banks appear to offer clear advantages to both shareholders and regulators. Yet some of those advantages are illusory. For regulators, larger, diversified institutions may be more stable than investment banks but they pose an even greater systemic risk. “The universal bank is the regulatory equivalent of the super-senior mortgage-backed bond,” says one analyst. “The risks may look lower but they do not go away.” And deposit funding is cheaper than wholesale funding in part because those deposits are insured. Measures to protect customers may end up allowing banks to take on risks that endanger customers.
For shareholders, too, the universal bank may offer false comfort. A model that looks appealing in part because assets are not valued at market prices ought to ring alarm bells. Sprawling conglomerates are just as hard to manage as turbo-charged investment banks. And shareholders at UBS and Citi will derive little comfort from the notion that the model has been proven because their institutions are still standing. If the independent investment banks survive, they will clearly need to change. But they are not the only ones.

• If you enjoyed reading this,subcribe to my RSS feed!
  

Economy in a fall?

Business this Week

The American government made its biggest intervention yet in the credit crisis by taking control of Fannie Mae and Freddie Mac. The “government-sponsored enterprises” have financed around 80% of all mortgages in America this year. With a large part of their $5 trillion debt and mortgage-backed securities owned by central banks and investors outside the United States, Hank Paulson, the treasury secretary, reiterated that both companies are “so large and so interwoven” in America’s financial system that the failure of either one would cause great turmoil in world markets.

The director of the Congressional Budget Office, an advisory agency, said that Fannie and Freddie would be counted as part of the public sector in future analyses of the federal budget. The CBO had just estimated that the deficit for the 2009 fiscal year would soar to $438 billion.

Missing out on the bonanza

Stockmarkets briefly rallied on the news of Fannie’s and Freddie’s rescue. However, stockbrokers in the City lost millions of pounds in potential commission when the London Stock Exchange suspended trading because of a computer failure.

Russia’s RTS stockmarket index sank to a two-year low as investors fretted that falling commodity prices would hurt the Russian economy. Another factor was the surprise decision by Russia’s antitrust regulator to press ahead with fining Gazprom, the state-controlled gas company, for withholding access to its pipelines from a gas operator in Tartarstan.

A technical glitch was blamed for the reappearance on a newspaper’s website of a six-year-old article describing United Airlines’ bankruptcy. The item was picked up by Google’s news service and UAL’s share price fell by 75% before the airline reassured investors that the story was old news—it le

ft bankruptcy protection in 2006.

In harm’s way

Lehman Brothers

suffered another rocky week. The investment bank predicted another huge quarterly loss and unveiled more measures to boost its capital, including a sale of property assets. E

arlier, its share price tanked when Korea Development Bank pulled out of talks about buying a stake. Credit-default swaps on Lehman’s debt leapt to levels higher even than in March, when the markets were in turmoil preceding the bail-out of Bear Stearns.

Washington Mutual ousted its chief executive. Kerry Killinger had led the Seattle-based bank since 1990, turning it into one of America’s leading mortgage lenders. However, the removal of Mr Killinger did little to ease fears about WaMu’s prospects. Its share price plunged on news that regulators had put the bank under special supervision.

The Pentagon suspended a controversial competition for a $35 billion contract to build new flying tankers. The air force had awarded the contract to an aircraft made jointly by EADS and Northrop Grumman, but Boeing complained about the procedure for assessing the bids and in July the whole process was reopened. Robert Gates, America’s defence secretary, now thinks a “cooling-off period” is needed.

Altria, the parent company of Philip Morris USA, agreed to buy UST in an $11.7 billion deal. UST makes America’s leading brands of smokeless tobacco, Copenhagen and Skoal. Although there are fewer smokers in America, the number of people chewing tobacco has shot up; it is particularly popular in the South.

Opaque production targets

OPEC ministers revised their complex yield allocations, which the cartel’s president said amounted to a cut of 520,000 barrels a day in output based on what member countries actually produce. Some OPEC members are keen not to let oil prices fall too far; they have dropped to almost $100 a barrel from a high of more than $145 in July.

The Iraqi cabinet approved a preliminary agreement that will create a joint venture between the state-run South Oil Company and Royal Dutch Shell to develop natural-gas resources in the Basra region. It is the first deal between a Western oil company and Iraq since the invasion of 2003 (Iraq recently approved a $3 billion deal with China to develop an oilfield).

It emerged that Carlos Slim, a Mexican telecoms mogul and the world’s second-richest man, holds a 6.4% stake in New York Times Co. Mr Slim denied he was making a strategic move into America’s media market and said the investment was “strictly financial”. Earlier this year the struggling newspaper publisher fought a proxy battle from a hedge fund pushing for big changes at the company. It has laid off staff in the newsroom and taken other cost-cutting measures to offset a decline in advertising revenue.

Brazilians in China

Footlose Capitalism

China's largest brazilian community enjoys the benefits of
globalization

IN DONGGUAN, a city of some 7m people situated 90km (56 miles) north of Hong Kong, factories abound producing everything from furniture to car parts, helping to fuel China’s economic boom. But take a closer look and you may spot something rather less familiar: a thriving community of Brazilians, estimated to number 3,000, most of them working in the footwear industry.
They trace their roots to southern Brazil, which was the bustling centre of their country’s shoe-export business until the early 1990s, when a sharp reduction of Brazil’s trade barriers, an appreciating currency and pressure from cheap Chinese labour combined to cause exports to stagnate. In 2007 Brazil exported 177m pairs of shoes, 12% below the early-1990s peak of 201m. Many firms that survived moved north, to parts of the country where labour costs less. Meanwhile China powered ahead, with its share in world shoe exports, already the largest, doubling to two-thirds over the same period. Dongguan is now China’s footwear capital, exporting 600m pairs a year. And many more are made elsewhere in China on behalf of Dongguan firms.

Chinese firms undermined Brazilian producers at the cheaper end of the market, thanks to the abundance of cheap labour, but the know-how and craftsmanship needed to make fancier shoes were in shorter supply. This encouraged a slow trickle of skilled Brazilian production controllers and sewing technicians, some armed with advanced degrees in tanning, to cross the ocean to hawk their skills and knowledge to Chinese companies.
Ricardo Correa, the owner of Paramont Asia, which sold more than 35m pairs of ladies’ shoes last year, moved to China in 1995, prompted by the combination of price pressures in Brazil and a shortage of skills in China. His firm takes design specifications for shoes from its customers and then manages product development and quality control in factories in China (and now in India and Vietnam, too). Most of the resulting shoes are then shipped to America. Of Paramont’s 800 employees, 100 are Brazilian, and day-to-day business is conducted in English.
Brazilians in other professions have followed the shoe specialists to provide supporting services, such as running restaurants or teaching their compatriots’ children in Portuguese. Dongguan’s Brazilian community is now China’s largest, twice the size of Shanghai’s and almost triple the size of that in Beijing. Brazil’s foreign-affairs ministry plans to open a consulate in the nearby provincial capital, Guangzhou, this year so that it can serve its citizens better. In the past two Brazilian presidential elections, a polling station was even set up in Dongguan—a novelty for local Chinese.
The Brazilians seem to have adapted well to life in China. They observe that crime rates are lower than at home, and they can earn higher salaries than local workers or their counterparts in Brazil. “The more I go back to Brazil the more I like China,” says Ari Filipini, another Brazilian who works at Paramont.
But the march of globalisation continues, and it is now putting pressure on Dongguan’s factories to cut costs. Some shoemakers are shutting factories and moving further inland or to cheaper parts of Asia. For firms like Paramont, which are already farming out production to distant factories, this is not yet a big problem. But the Brazilians moved once before, and they could always move again.

Fairground Rides

Ups And Down

Italy's manufacturers of amusement
rides hit a dip

THIS month a brightly coloured, trailer-mounted “Matterhorn” fairground ride will leave Bertazzon 3B’s factory in Sernaglia, a village nestling under the Alpine foothills north of Venice, bound for a travelling amusement park based near Rochester, New York. Bertazzon 3B is one of around 50 family firms in a manufacturing cluster in north-east Italy that leads the world in turning steel, fibreglass and electronics into roundabouts, bumper cars and other fairground thrills.
Swiss, Dutch or German companies hold sway when it comes to large and expensive roller coasters, but Italians dominate other rides. Alberto Zamperla, chief executive of Zamperla, the biggest of the Italian firms, with sales of €40m ($55m) in 2007, says attention-grabbing “spectacular” or “extreme” rides (rather than those aimed at children or families) are most in demand at the moment. Zamperla’s Giant Discovery reaches a speed of 110kph (70mph), rotating its riders and swinging like a pendulum to suspend them upside down 45 metres above the ground. Italian dominance in such rides depends on a constant stream of innovations in electronics and materials.
Competition from Chinese firms, which are good at copying Italian designs and are strong in small and medium-sized rides, is a cause for concern. Mr Zamperla has responded by setting up his own manufacturing operation in China. And as in other areas of manufacturing, some firms hope to fend off the Chinese by emphasising Italian craftsmanship. Michele Bertazzon’s family firm, which specialises in traditional Venetian carousels with horses and carriages, and makes all its components in-house, is taking this approach. “We don’t do fear,” he says.

More than 80% of the rides built in the region are exported, and Bertazzon 3B expects to earn about half of its €5m sales in America this year. But the weakness of the dollar against the euro in recent years has caused problems for the industry, says Enrico Fabbri, boss of the firm that carries his family’s name. Fabbri, based in Bergantino, a village that calls itself the capital of carousels and has a museum dedicated to them, no longer sells in America. At Sartori, a firm that makes rides including the Techno-Jump, Cyber Loop and Twin Twister, American sales have fallen from about 60% of the total to zero since 2000.
The recent strengthening of the dollar may help matters somewhat, but slowing economies around the world are likely to reduce demand as families tighten their belts, and the credit crunch is affecting both manufacturers looking to finance production and customers who want to buy new rides. The Italian firms hope that new amusement parks planned for Dubai, South-East Asia and China will boost their order books. But the business of making fairground rides has always been a roller-coaster affair.

Advertising

Postmodern Wrigle

To save Microsoft, Bill Gates adjust his
shorts

THE self-appointed marketing experts of the blogosphere immediately pounced on the opening shot of what will probably be this year’s most discussed advertising campaign. Microsoft, the huge but boring software company that has been pummelled by the advertisements of its smaller and cooler rival, Apple, is fighting back. How? By having Bill Gates, its co-founder, chairman and arguably its personification, buy shoes with Jerry Seinfeld, a comedian, as his adviser. Just look, the bloggers are screaming: further proof, if any were needed, that Microsoft just doesn’t get it.
Admittedly, the first television spot of the campaign is bizarre. All that Messrs Gates and Seinfeld seem to talk about is, well, shoes. How they “run tight”. How best to stretch them. Windows and Office, Microsoft’s ubiquitous flagship products, are not mentioned at all. The word “Microsoft” is mentioned exactly once. Computers come up only insofar as Mr Seinfeld wonders whether they might someday become “moist and chewy”. Mr Gates replies with a subliminal hint, a subtle wriggle of his boxer shorts. What does any of this, the critics ask, have to do with the purpose of the ad campaign, which is to salvage the reputation of Vista, the latest version of Windows?

Crispin Porter + Bogusky, the agency behind the campaign, is known for risqué and off-beat humour. Sometimes it does the trick. When Crispin had a kinky German pair of engineers “unpimp your auto”, it revived the Volkswagen brand. When it had a decidedly mischievous “king” play all sorts of tricks, it arguably made Burger King as cool as fast food can be. But on other occasions its style seems to misfire. A campaign that made fun of the word “algorithm”, on the assumption that ordinary people don’t know what it means, did not help its client, Ask, a small search engine, but instead boosted the fortunes of Ask’s larger rival, Google.
Is Mr Gates’s shopping spree with Mr Seinfeld another misjudgment? Perhaps not. The ad appears to have set up the forthcoming campaign with an ingenious twist that its critics have missed. Its viewers, Crispin assumes, have been watching Apple’s ads, in which a nerdy, pale, chubby and hapless “PC”, played by the actor John Hodgman, talks to a hip, suave and unruffled “Mac”. Ironically, however, it is the PC who has become famous and won hearts, despite being the butt of all the jokes, whereas the Mac character is cool but smug, and would not get invited to anybody’s dinner.
Mr Gates, Crispin’s creative types must have realised, is the authentic embodiment of the PC character: geeky, awkward, dressed for a cubicle rather than a bar, unglamorous but unpretentious, able to get the job done, if not excitingly. And like the PC in Apple’s ads, the Bill Gates in Microsoft’s spot has an impish side that occasionally peeks out. One of the world’s richest men comes across as unassuming and approachable, the antithesis of Apple’s aspirational cool, which some find annoying and snooty. In a country that loves to poke fun at “elitists” (especially during elections), it would be wrong to write off Microsoft’s new campaign just yet.

Boeing and Airbus

Striking Differences

Both have big order books and similar
strategies, but only Boeing is on strike.

MANY manufacturers would love to be where Boeing and Airbus are: both have orders stretching years into the future, with exciting new products in demand and vigorous customers in Asia to take up the slack in Europe and America. Both aircraft-makers have been changing their business models to cut costs with much more outsourcing, bring in new risk-sharing partners and get closer to growing markets such as China.
But here their fortunes diverge: this time Boeing is going down, while Airbus is bouncing back from a prolonged crisis. Boeing has shut down production of commercial jets because of a strike by assembly workers that seems to be as much about job security as about pay and benefits, whereas Airbus is pressing ahead with outsourcing work, this week selling a factory near Bristol to GKN, a British engineering group, and announcing plans to open a factory in Tunisia. Airbus workers accepted a measly pay rise of 1.5% this year and swallowed the loss of 10,000 jobs—but Boeing workers have rejected a pay offer of 11% over three years, plus bonuses.

The reason Airbus is able to press ahead with more outsourcing is that the company has been in a crisis for more than two years, and its workforce knows it. Its flagship double-decker A380 is more than two years behind schedule, and the strength of the euro against the dollar has hit profits hard. This week Louis Gallois, chief executive of Airbus’s parent company, EADS, said that, despite the dollar’s recent rise, the exchange rate still posed a grave danger to Airbus, because its costs are largely in euros, whereas planes are priced in dollars. He announced a further round of cost-saving measures this week to lop off a further €1 billion ($1.4 billion), on top of €2.1 billion of cuts already under way. Mr Gallois says there will be no more job losses because production will expand by 50% over the next few years. Indeed, Airbus is hiring as it ramps up production of the A380.
Airbus’s outsourcing suffered setbacks earlier this year, when the credit crunch scuppered its plans to sell factories to German and French suppliers. But now Mr Gallois and Tom Enders, the boss of Airbus, are pressing ahead, by taking over the project to build a factory in Tunisia which was going to be built by one of Airbus’s big French suppliers, for example. Mr Gallois also said that production of A320s in China was proceeding because of the need to be close to that huge market; that Airbus and EADS would expand their activity in India because of the supply of good engineering talent there; and that production of aircraft parts would increase in the Maghreb to take advantage of low-cost labour on Europe’s doorstep. Factories in Mexico are also a possibility, especially if EADS eventually wins the controversial air-tanker-refuelling contract from America’s defence department. EADS shares rose 9% this week, helped by the stronger dollar and by Mr Gallois’s plans for extra savings.
French workers may hold noisy protests and demonstrations over job cuts, and the country’s railways and other public services are often wracked by strikes. But in the French private sector, strikes are rarer and seldom last long. And it is Boeing, not Airbus, that now has a strike on its hands. The International Association of Machinists and Aerospace Workers is one of America’s most powerful unions. Tom Wroblewski, one of its leaders, said this week that the price of a settlement had gone up since his 27,000 members went on strike. But already Boeing has offered 11% phased over three years, with about another 3% in cost-of-living adjustments and one-off bonuses of up to 6% of annual pay. In addition, the company is proposing an eye-watering 14% increase in pensions.
That the union has called a strike despite such largesse shows how worried it is about Boeing’s shift towards outsourcing. Boeing greatly expanded its use of outsourcing with the 787, about four-fifths of which is made outside the company, largely in Asia and in Europe, before coming to Seattle for assembly. But this proved unexpectedly difficult to co-ordinate, contributing to mounting delays on the fastest-selling new aircraft ever launched. The 787 was at least 14 months behind schedule even before the strike brought things to a halt, at an estimated cost to Boeing of $100m a day. Boeing has been tweaking its outsourcing model to impose more control on the supply chain. And soaring labour costs at home strengthen the case for more outsourcing in future, despite the problems Boeing has had so far.
The union is worried about a more insidious form of outsourcing, closer to home. A previous agreement allowed Boeing’s suppliers to deliver parts straight onto the factory floor at its Seattle sites. The next step, the union fears, is for contractors to start fitting parts onto planes on the line, displacing well-paid workers. It wants job security, with the payroll headcount linked to the number of orders and production rates. It wants a chance to compete formally with outsourcing contracts in a bid to keep hold of the work. But its aggressive pay demands and strike action would seem to work in the opposite direction.
A federal mediator failed to avert the strike on September 6th and is still hovering in the background, trying to get talks restarted. But the previous machinists’ strike back in 2005 lasted 28 days, and one in the mid-1990s went on for nearly ten weeks. Meanwhile the 787 just gets later and later, and suppliers have started putting their workers on shorter hours.

Business and Regulation

A New Kind Eastern Promise

It is now easier to do business in
Europe than East Asia, says a new report.

IN “BIOSHOCK”, a hit video game from last year that was heavily influenced by the libertarian philosophy of Ayn Rand, the main villain builds a fantastical city under the sea, where businesses can escape the stifling grasp of government. If you are an internationally minded entrepreneur looking to set up a small to medium-sized business, that is probably going a little far. But where should you set up shop? Much depends on where the government acts as your concierge, and where it acts as your parole officer. “Doing Business 2009”, the latest edition of an annual survey carried out by the World Bank and one of its subsidiaries, the International Finance Corporation, comes to a surprising conclusion: it is now easier to do business in eastern Europe than in East Asia.
Every year the survey tracks the state of business regulation in 181 countries and then ranks them using a scorecard that takes into account how long it takes to set up a business, how easy it is to hire and fire workers, and the level of corporate taxes, among other things. This year, as in the previous five years, economies in eastern Europe and Central Asia have consistently seen the fastest pace of positive reform (see chart). Last year their average ranking was neck and neck with that of countries from East Asia and the Pacific. But this year the eastern European countries pulled ahead, with an average ranking of 76, compared with an average ranking of 81 for East Asian countries.

On average, it takes 21 days to register a business in eastern Europe, which is 27 days faster than in East Asia. Setting up a company in Indonesia costs 77.9% of the average annual income per person; in Georgia it costs 4%—though there is the small matter of political risk to factor in. Firing a worker costs an average of 53 weeks’ salary in East Asia, compared with 27 in eastern Europe. All this cutting of red tape has brought results: Poland now has as many registered businesses relative to its population as Hong Kong does.
Eastern Europe’s rapid progress has been due, in part, to the accession requirements imposed by the European Union (EU). These include regulatory reforms that are often enacted by countries that aspire to membership, but have yet to be admitted. For instance, the EU requires new members to create a “one-stop shop”—a single point of contact at which entrepreneurs can register their businesses. Before Macedonia became a candidate for EU membership in 2005, it took 48 days to start a business there. After three years of reforms, it now takes nine days.

Governments in eastern Europe have discovered the virtues not only of a light touch, but also of a swift gavel. The report finds that commercial disputes are, on average, settled more quickly and at less expense in eastern Europe than in East Asia. Bulgaria reduced trial times by requiring judges to refuse incomplete filings rather than allowing multiple extensions.
East Asian countries still have the edge in some respects: it is easier to move goods across their borders, for example. Government-imposed fees to export a standard 20-foot cargo container average $859 in East Asia, compared with $1,428 in eastern Europe. Businesses in East Asia also face lower taxes. Taxes on profits in eastern Europe are among the lowest in the world, typically around 10%, but labour taxes and compulsory pension contributions increase the overall tax burden on business.
Of course, a few East Asian economies are still miles ahead of eastern Europe. Singapore ranked first for the third successive year. Hong Kong was fourth, behind New Zealand and America. But Georgia, Estonia, Lithuania and Latvia secured places in the top 30, even as Russia lagged behind in 120th place. Azerbaijan was the top reformer. It cut the number of procedures needed to start a business by half, eased restrictions on working hours, moved its tax system online and introduced new laws protecting minority shareholders. True, laws on the books may be different from real conditions on the ground. Still, the number of registered new firms jumped 40%.
Eastern Europe is not the only region that has done surprisingly well. The study also found that economies in Africa implemented more positive reforms in the past year than in any previous year on record. These examples prove that countries need not be rich or powerful to create a better environment for business. Businessmen need not retreat under the waves to the gloomy world of “Bioshock” just yet.

The Business of Giving

Non-profit Capitalism

An initial public offering with a

difference

“WE RUN a business here—but instead of selling cars or candy to kids, we’re selling hope and leadership,” says Nancy Lublin, the chief executive of Do Something, a non-profit group which promotes volunteerism by teenagers. On September 17th she is launching an initial public offering (IPO) to raise the $8m needed to double Do Something’s activities by 2011, by which time it plans to be engaging with around 21m of America’s 32m teenagers.
The IPO prospectus, put together by Do Something’s board of chief executives and technology entrepreneurs, contains the usual market data, a description of the 15-year-old organisation’s activities, an overview of the competitive landscape and bold claims about its qualities (“Do Something is also one of the most efficient organisations in the United States”), all designed to convince investors that it can achieve its ambitious goals. The only thing that stops it from being a typical IPO prospectus is the absence of any pledge to make a profit. On the contrary, the opening boilerplate explains that “units offered in conjunction with this prospectus represent a perpetual interest in Do Something; this interest is strictly philanthropic, with no provision for cash returns at any time.”
This imitation of the for-profit IPO process may seem gimmicky, but in fact it is part of a new trend to improve how non-profits are financed, so that they can escape the obsession with short-term fund-raising that is pervasive in the charitable world. With money in the bank to finance the next three years’ operations, Ms Lublin and her team will be free to focus on reaching Do Something’s goals.
Other non-profits have done something similar, including Teach for America, which puts recent college graduates into needy schools, and College Summit, which aims to increase the number of poor children going to college. VolunteerMatch, a sort of eBay for volunteers, is in the process of raising $10m. George Overholser of Nonprofit Finance Fund, one of the pioneers of this trend, reckons that around $200m of “philanthropic equity” has been raised by non-profits in the past few years, and another $100m is sought.
Do “investors” get anything for their money? Do Something promises “a significant social return on investment”, quarterly performance updates and a conference call with management. But none of these recent philanthropic IPOs actually gives investors voting rights, unlike during the boom in “joint-stock philanthropy” in 18th-century England. Back then, social entrepreneurs such as Thomas Coram, who started the Foundling Hospital in London, were fired when they failed to perform. Still, Ms Lublin says that if her new shareholders ever ask her to step down, she will go.

American Corporate Profits

The outlooked is deteriorating even for the best-performing firms,let alone the troubled ones

A TURN FOR THE WORSE

The second quarter of this year was the most profitable ever for "BIG OIL":the six largest Western oil companies reported a 40% jump in profits, to combined $51.6 billion.Exxon Mobil, the biggest of them all , banked $11.7 billion, the highest ever quarterly profit reported by an American firm, beating its own record . But nobody expects a repeat os such feats of capitalism in the quarter soon ending, thanks to the humble in the oil price from it's peak of $147 in July.And given on them,the oil giants may think that is just as well.

However, anyone tempted to hope that falling energy cost will mean higher profits for other American firms should think again. To the extent that oil prices are falling because of slowing global growth-the likeliest explanation, despite the flap earlier this year about the role of speculators-then they they are likely to be an indicator of falling profits accross the board. As oil prices tripled between 2002 and 2007,aggregiate corporate profits doubled.Both reflected strong global demand, points out David Rosenburg, an economist at Merill Lynch.

He says the recent decline in energy prices is a “symptom of demand destruction” that has dire implications for overall profitability. Mr Rosenberg has just written a gloomy report identifying “four horsemen” that will do their worst to American corporate profits: thinner profit margins; paying down debt as tighter financial conditions take their toll; lower energy prices; and a combination of slowing growth outside America and a stronger dollar. He predicts 7% falls in profits for firms in the S&P 500 both this year and next.
Until recently corporate profits have held up fairly well, even in America—except in financial services, where profits have been wiped out by the subprime-mortgage crisis and the credit crunch. Overall profitability for the S&P 500 was down by 31% on a year earlier in the fourth quarter of 2007, and by around 27% in the first half of this year, the second-worst three-quarter performance since the second world war, notes Martin Barnes of Bank Credit Analyst, a research outfit. (The worst was during the recession in 2001.) Yet, excluding financials, profits in the rest of the S&P 500 were actually up by 4.6% in the year to the second quarter of 2008.
This relative health was largely due to high energy prices, which benefited energy firms such as Exxon Mobil. They now account for 20% of S&P 500 profits, up from around 5% five years ago. Profits have also been buoyed up by strong demand from overseas, especially emerging markets. Domestic-based American non-financial firms have seen their profits decline at an annualised rate of almost 14% during the past six quarters, says Mr Barnes. But the profits of overseas subsidiaries of American non-financial firms have risen for 22 consecutive quarters, typically showing double-digit annual gains; they now account for 50% of the total profits.
Already countries that represent half of American exports, including big trading partners such as Japan, Canada, Germany and France, have posted at least one negative quarter of GDP growth, says Mr Rosenberg. As the global economy slows, the boost from abroad seems likely to weaken. Add to that the fact that the dollar has been rising like a homesick angel ever since The Economist’s Big Mac Index pronounced it too cheap in July, and it seems certain that this will be a disappointing quarter for many internationally leaning American firms. Moreover, several economists predict that the recent rise in the dollar is the start of a long-term trend.
“American companies are simply not prepared for this,” says Wolfgang Koester of FiREapps, a provider of software for managing currency risks. “They took the free ride on the falling dollar, and by and large are not hedged against its rise.” The more the dollar rises, the more it will help foreign firms that export to America, which have had to work hard in recent years. For instance, Airbus, Europe’s aviation giant, has struggled because it relied on dollar revenues to cover its euro costs.
If the dollar stays where it is until the end of the year and global growth in industrial production slows to 2% from 4.5%, the growth in overseas profits of American firms would slow to 2.5% in 2009 from 21% this year, Mr Barnes calculates. If the dollar were to rise by another 5% in trade-weighted terms, and global growth were to fall to zero, overseas profits would drop by 7%.
Mr Rosenberg is gloomier than most economists because he expects America’s GDP to shrink over the coming year, whereas the consensus is that it will continue to grow, albeit modestly. Wall Street’s equity analysts, by contrast, predict an increase of more than 20% in S&P 500 profits in 2009. They assume that the fortunes of financial-services firms will improve and America’s economy will grow. But profit growth of over 20% is typically associated with a rise in GDP of around 4.5%, and it has never occurred with GDP growth of less than 3.2%, which is roughly twice the consensus forecast for next year, says Mr Rosenberg. He suspects that equity analysts, who are having one of their least accurate years ever, are too busy trying to forecast profits for this quarter to correct their outlook for 2009.
Although Exxon Mobil can live with earning profits at a slightly slower rate, a growing number of firms are struggling to turn any sort of profit or even to bring in enough money to pay their debts. Moody’s, a rating agency, recently raised its forecast of defaults on high-yield corporate bonds to 7.4% over the next 12 months. The actual default rate over the past year is 2.65%—and 4% at an annualised rate so far in 2008—up from a low of 0.96% in 2007. The number of debt issues that are distressed (ie, are yielding at least 1,000 basis points more than Treasury bonds of a similar maturity) has soared to 27% of those in the main Merrill Lynch high-yield index, up from 1% last year.
The list of troubled firms has now extended far beyond the housebuilders and building-supplies firms that were the first casualties of the subprime-mortgage crisis to include retailers, casinos, publishers and cable-TV companies, points out Martin Fridson, a veteran observer of corporate bonds. Companies with distressed debt now include such household names as Delta Air Lines, Clear Channel, Toys “R” Us and Reader’s Digest. There would already have been more high-profile bankruptcies, points out Mr Fridson, except that at the peak of the credit bubble some of today’s more troubled firms managed to borrow “covenant lite” debt that makes it harder for creditors to demand their money back. But that seems likely to delay only briefly the arrival of the Grim Reaper.