Schumpeter

PRAISE be to the Indian legal system! Businessmen do not say that very often but Vittorio Colao, the boss of Vodafone, may have uttered something along those lines on January 20^th after the firm’s four and a half year odyssey through the Indian courts came to end. At risk had been a basic assumption used in takeovers the world over, and also, for the British mobile telecoms firm, at least a couple of billion dollars. That was what that the local tax authorities argued Vodafone was liable to pay due to its 2007 takeover of an Indian mobile outfit majority owned by Hutchison Whampoa, a Hong Kong conglomerate (which is still India’s biggest ever in-bound acquisition). India’s supreme court overruled an earlier court judgement and Vodafone was exonerated.

Continue reading "Supreme Vittorio"»

IT WAS the Apple of its era. Just like the late Steve Jobs with computers and music-players, George Eastman (pictured below behind the camera, with Thomas Edison) did not invent the camera and photographic development. But he simplified the technology. He outmaneuvered rivals. And he marketed his products in novel ways.

Yet the empire Eastman started to build at the end of the 19^th century, and which dominated the 20^th, did not last long into the 21^st century. On January 18th Eastman Kodak filed for Chapter 11 bankruptcy protection in New York. The firm was laid low by the rapid shift to digital photography and away from film, where Kodak once earned 70% margins and enjoyed a 90% market share in America.

These handsome profits meant that the firm could invest huge sums in research and development. Yet ironically, extensive R&D contributed to Kodak’s undoing, since the firm ended up pioneering the very digital cameras that went on to kill its core business. The profits also allowed Kodak to be a generous and caring company for generations of employees in Rochester (New York), where it is based, and beyond. This, too, added to its troubles, since its pension obligations left it with less capital to diversify or invest in promising areas that might have saved it.

Kodak says that it has secured a credit facility of $950m with an 18-month maturity from Citigroup to help it through the restructuring process. It has also appointed a "chief restructuring officer", Dominic Di Napoli of FTI Consulting. Under the rules of the Chapter-11 procedure, companies remain going concerns, but a court will supervise debt repayments and restructuring. In some cases operations are shuttered and assets sold off, but Kodak hopes that bankruptcy protection will give it the time to transform itself into a profitable business.

The company's digital imaging and printer businesses generate billions of dollars in revenue a year—but not enough to cover costs. When film sales collapsed in the 2000s, Kodak tried to diversity into new business areas, from drugs to chemicals—with mixed success. In some cases pricey acquisitions were abandoned.

It is a historic comedown for a firm that once defined American industrial power and inventiveness. Yet its problems were not unlike those that other big American technology near-monopolists had to deal with in the 20th century. National Cash Register (NCR) was once one of the world's top computer makers, but has been reduced to making ATM machines and high-end registers. Xerox, the pioneer of copying machines, is struggling in the competitive market for imaging products and services. Even AT&T, the telecoms giant, was not able replicate the dominance it once enjoyed in handling long-distance calls. The only American technology heavyweight that has successfully reinvented itself is IBM—and more than once. In recent years the firm deftly managed the shift from selling hardware to offering software and services.

The morale of Kodak’s fate is that technology trends are often clearly visible, but changing a successful company is exceedingly hard. NCR was not able to adapt to the world of personal computers. Xerox could not find the right formula to compete in a world with many rivals. AT&T failed to adjust to the Internet (and was acquired by one of its smaller "baby bell" local phone companies, that later took its former parent's grand name).

Kodak fared the worst since the shift to digital photography was so massive and sudden. Perhaps a new management team will be able to revitalise the firm. It still owns an extensive portfolio of valuable patents, a legacy of its past R&D prowess, which generates millions annually. Its brand name is recognised the world over.

Yet Kodak's fate ought to be a lesson for today’s technology powerhouses such as Google, Microsoft and Facebook. No firm, however strong, can count on continued success: market dominance is only a snapshot in time.

THE biggest oddity of Kodak's woes and Fujifilm's revitalisation is that, as we put it in a story this week, "Kodak acted like a stereotypical change-resistant Japanese firm, while Fujifilm acted like a flexible American one." The article looked mostly at Kodak, since it is the news: an iconic American powerhouse lies at death's door.

But a closer examination of Fujifilm is also warranted to understand how it made the transition away from film—in particular after Kodak filed a lawsuit against the Japanese firm alleging patent infringement on January 13th. Where Kodak is trying to monetize its R&D in its one core business, photography, the digital imaging sector accounts for only about one-fifth of Fujifilm's revenue, down from more than half a decade ago.

Continue reading "Sharper focus"»

REMEMBER the old joke about the dim tailor who takes a loss on each piece of clothing but hopes to make it up in volume? In the business of flat-panel screens for televisions, it is not a joke.None of the companies that make large liquid crystal display (LCD) panels earn money from it. Not Samsung or LG Display from South Korea, which produce the most, nor Japan's Sharp and Panasonic, nor their Taiwanese rivals. Between 2004 and 2010 the industry lost a combined $13 billion, calculates Alberto Moel of Sanford C Bernstein, a brokerage.

It is not for lack of demand for the product. Consumers spent $115 billion on 220m flat-panel televisions last year. Many more displays—some 2.5 billion screens worth $100 billion—went into smartphones, tablets, gaming gadgets, satellite-navigation devices and the like, according to DisplaySearch, which keeps track of such things.

Continue reading "Cracking up"»

FOR customers about to splash out hundreds, or even thousands, of dollars on something like a new television or car, it makes sense to try out the goods and ask some questions before parting with their money. So it is also sensible for them to visit the dealership with the fullest range and the best customer service. But ample showrooms and well-trained staff are costly. And consumers may find that, having made their choice, they can save money by buying from dealers who skimp on such expenses—or, in the case of internet-only sellers, who spend nothing on maintaining physical outlets.

Rival dealers also like to see others invest in high-quality stores. In one of the cheekiest examples of low-cost sellers free-riding on other retailers’ lavish spending, Dixons, an online electronics retailer in Britain, ran a big advertising campaign in 2009 urging the public to try out televisions and other gadgets in big department stores—and then go to its website and buy them more cheaply (ironically, the parent company of Dixons operates physical stores vulnerable to online free-riders).

Unsurprisingly, high-quality retailers have trouble recouping their costs—a phenomenon economists call a “missing market”. That is a good thing for consumers: free-riding dealers keep prices down. But they also cause problems. The pressure on prices forces full-service dealers to cut spending on showrooms and advertising. As a result, fewer consumers may get to know the products, and overall demand for them may fall.

Carmakers have tried to overcome free-riding by guaranteeing each dealer an exclusive territory by banning other dealers from opening outlets there. But this causes problems of its own. A local monopoly reduces a dealer’s incentive to keep prices low. That, in turn, risks reducing demand and hurting the manufacturer. So carmakers have also sought to impose price ceilings as well as strict quality standards on dealers’ showrooms. Such market-distorting rules have attracted the attentions of antitrust regulators from time to time.

The rise of internet car-sellers has acerbated the free-rider problem. In the past ten years the proportion of car-buyers relying on the internet to research which model to buy has risen from 19% to 94%, according to a recent study of car-buyers worldwide by Capgemini, a management consultancy. Even in developing countries such as India and China, the study finds, online window-shopping is now the usual way people look for a new car. And 42% of buyers worldwide say they expected to make their purchase online. Carmakers are also getting worried about price-comparison websites like TrueCar, which prompt dealers to offer ever-bigger discounts (see article in our print edition).

In America most car-buyers still visit a physical dealership to do a final test-drive and complete their purchase of a new car. Yet a dealer who tries to please the carmakers by maintaining palatial showrooms is forced to compete with shabbier outlets in neighbouring districts—which put their low prices up on internet price-comparison sites.

A paper by two American-based academics, published in 2001, just as the dotcom boom had turned to bust, suggested a market-friendly answer to all this. The manufacturers themselves could open “hybrid stores”, in which the full range of their products are beautifully displayed, but with not much stock. Consumers could try out the products, even if they ultimately bought them from a retailer elsewhere. The best-known adopter of this approach is Apple, a computer maker, whose chain of stores in city centres and shopping malls let browsers try out the company’s gadgets, with lots of bright young assistants offering advice, but with little pressure to buy.

Joe Oddo, one of the authors of the Capgemini report, notes that carmakers are increasingly following suit. Many have opened chains of Apple-like car showrooms in city centres, where potential buyers can kick tyres, sit behind the wheel and maybe even do a test-drive. Those who decide to buy are typically directed towards a retail dealership close to their home, which will also offer the after-sales services that motorists prefer to have close by. This is unlikely to reverse the trend towards fewer, larger dealerships (see chart). But neighbourhood dealers will no longer need to maintain such well-appointed and heavily staffed showrooms. The free-riding problem is unlikely to go away, but it will be less costly 

PATRICK BYRNE (pictured) is the chief executive of Overstock, a Utah-based online retailer. But he is better known—indeed, notorious in some circles—for his campaign against Wall Street over what he has long portrayed as an unholy alliance of brokers and hedge funds bent on profiting from the illegal (or “naked”) short-selling of shares, not least those of his own firm.

Five years ago, Overstock filed a naked-shorting case in California against a bunch of Wall Street firms. The gist of the accusation was that they had conspired with clients to manipulate short sales of the company’s shares in order to allow more shorting (and thus generate bigger brokerage fees) than would otherwise have been possible. The effect, Overstock alleges, was to depress its share price.

Continue reading "A not-so-short story"»

IT IS just a concept for now, but the Accord Coupe that Honda unveiled at the North American International Auto Show in Detroit on January 9th could determine whether the Japanese carmaker can recover after a devastating year in the wake of the March 11 earthquake and tsunami that ravaged northeast Japan.

The disaster—along with the subsequent autumn flooding in Thailand—cost Honda a huge chunk of its production that it is still struggling to catch up on. That, in turn, sent many potential buyers scurrying to Korean, European and American rivals. The firms operating profit plunged a staggering 68% to 52.5 billion yen ($683m) during the second quarter of the Japanese fiscal year. And Honda has signalled that it is not likely to do much better when it reports the next quarter’s results in late January or early February.

Continue reading "Running out of time"»

AN EXAMPLE for Christian Wulff, Germany’s beleaguered president? When Philipp Hildebrand resigned as president of the Swiss National Bank (SNB) on January 9th, after a scandal involving personal foreign currency trades, he seemed visibly relieved. He was his old self as he told reporters that he simply could not establish, beyond doubt, that his wife had switched SFr400,000 into dollars on August 15th, two days before a powerful SNB intervention in the foreign exchange market, without his knowledge. “That was the case, but I can’t prove it,” he explained. Rather than compromise his power to make tough central bank decisions in future he was resigning, he said.

That ended nine years at the Swiss central bank, the last two of them as governor. “I’d like to think I’ve been a damn good central banker,” he said. And there are many who would agree. As Swiss governor for the International Monetary Fund, a member of the Basel Committee on Banking Supervision and vice-chairman of the fledgling Financial Stability Board he has been a refreshing figure in international finance, partly because of his former market experience at Moore Capital Management, a hedge fund. He has to surrender those roles along with the SNB presidency. In Switzerland he was one of the first to demand that the two biggest banks raise more capital. And he helped to force through a “Too big to fail” law designed to make their sorties into investment banking safer.

That earned him enemies, particularly among right-wing politicians. Was politics behind the breaches of bank secrecy that provided the details from his personal bank account that led to his resignation? “I think it’s up to you to find that out,” he told reporters. After a break, however, Mr Hildebrand and his lawyer Peter Nobel will be considering what legal action to take, and against whom. Meanwhile, there are questions about the governance of the Swiss National Bank. One issue is the code of ethics, which allows board members too much freedom to trade. With hindsight Mr Hildebrand agreed that personal foreign exchange dealing does not fit with the role of a central bank governor, who should have “absolute credibility”. Another issue is doubts about the independence of a central bank which has a board that includes people with private-sector involvement. Expect a long-overdue shake-up.

IT WILL be a particularly nasty war—but not for the reasons most expect. On January 4th President Obama circumvented Senate objections to Richard Cordray (pictured, with the president), a former prosecutor, as the first chairman of the Consumer Financial Protection Bureau by appointing him while lawmakers are in recess. The legality of the move is particularly suspect, given that the enabling legislation begins by saying “the Director shall be appointed by the President, by and with the advice and consent of the Senate.” But it also triggers a second war, which most likely will be even more emphatic.

When the Consumer Financial Protection Bureau was created in July 2010, it was granted two types of authority. The first is powers which existing government agencies had already exercised and which were moved to the new body, notably the power to supervise banks. The second sort is an array of broad new powers—which the bureau can only now, with a director in place, begin to enforce.

The new powers come in various forms. Departments will be opened to protect members of the military and older Americans, foster research and financial education as well as ensure “fair” lending (meaning bank activities involving women and minorities). These will be able to initiate investigations tied to anything “abusive”, a term that has yet to be defined. The law also states that the “director may prescribe rules and issue orders and guidance, as may be necessary or appropriate to enable the bureau to administer and carry out the purposes and objectives of the federal consumer financial laws.” In activist hands, that passage could come to mean a lot.

To the bureau’s fans, all this is a blessing: a new legal standard and a swarm of aggressive new government offices to attack a financial industry whose deception and unfairness has long escaped proper scrutiny and penance. Not only will bad institutions be attacked, but good people will be spared. Harpoons will finally have been forged able to spear sharks—and strong safety nets knitted to catch the aggrieved, and the naïve.

Critics see a vast new prosecutorial bureaucracy able to initiate investigations and bring charges, all based on an undefined standard. In theory, some say, the breadth of the bureau is so vast that one of its departments could prosecute a financial firm for providing a common product to a particular segment of the population, while another could prosecute the same firm if it chose not to serve the same group. Merely being examined for such issues—many exploratory probes are anticipated—will generate vast legal fees.

The bureau also has much discretion to pursue its goals. Unlike many (but not all) government departments, it is not Congress that will determine its budget. Instead, the body will be entitled to 12% of what the Federal Reserve Banks spend on their operations, with funds coming from the Fed’s profits (which otherwise would go to the government). Unlike most (but not all) government agencies, the leadership position will be vested in a single person, rather than a board (often drawn, by law, from more than one political party).

What is more, special provisions in the law mean overturning an action by the bureau, or booting its director, will be nearly impossible. These protections are far stronger than for most other government agencies. They most closely resembling those granted to the Fed, although it has a far more limited scope of action. Finally, the bureau will be able to dispense funds.  They will go to those it considers financial victims, but if they cannot be identified, the money can be spent on what the bureau believes to constitute consumer education or financial literacy.

To the bureau’s fans, these provisions are essential to make the regulator truly independent and capable of educating consumers. To its critics, these provisions are evidence of government run amok: vast powers, no responsibility for systemic damage, disdain for individual choice and responsibility, and on top of all that, a slush fund with an amorphous mandate to be channeled to supporters.

The Republican senators who had resisted the appointment of the director want three changes to the bureau: the right for Congress to review its budget; an agency management with a board rather than a single leader; and a method for ensuring that bureau’s actions do not produce bank failures. These objections are unlikely to go away after the president’s recess appointment. And various business groups are sure to put forward legal challenges to curtail the bureau’s authority.

Meanwhile, in his first day as the bureau’s director, Mr Cordray vowed to get tough, reeling off a number of segments of the financial world that he planned to go after. So epic battles are inevitable. Less clear is who, in the end, will be found to be more abusive: the firms Mr Cordray attacks, or the bureau he has been appointed to run.

(Photo credit: AFP)

IT IS starting to look like a sustained attack. On January 4th an article in Die Weltwoche, a Swiss weekly magazine, accused Philipp Hildebrand, president of the Swiss National Bank (SNB), of personal currency speculation while the SNB was intervening to stabilise the Swiss franc/US dollar rate. That reignited a controversy that seemed to have died down after the SNB’s own pre-Christmas investigations—conducted by PwC, an accountancy firm—exonerated Mr Hildebrand of any infringement of the bank’s rules on personal-account dealing. That report was hurriedly published by the SNB on January 4th, along with the central bank’s code of ethics.

The controversy began in December when the Swiss Federal Council reportedly confronted Mr Hildebrand with allegations of suspicious trading, which had been brought to them by Christoph Blocher, a right-wing politician. Mr Hildebrand immediately told the SNB board, and an investigation started.

Continue reading "Called to account"»

In our year-end special edition, we look at the best and worst in economics, business and finance in 2011, and ahead to 2012

The aftermath of the euro summit, why banks and governments are propping one another up and a bleak outlook for the European economy