Executive Magazine

Fractured but not fretting

by Thomas Schellen October 2, 2012

written by Thomas Schellen

For a country facing economic turmoil and new business risk at every turn in the road this year, Lebanon sports an alarmingly content real estate sector.

Intermediaries whose livelihoods depend directly on commissions from arranging sales and rental contracts are not frantically waving red flags as many other of the country’s economic agencies are.

“The [sales] market is in slow motion since the beginning of 2011 until today, but there is still a market and it is not down,” said Walid Moussa, chief executive of PBM, a real estate brokerage and facilities management company, as well as secretary of the board of the Real Estate Association of Lebanon (REAL). “I always say the market is sleeping. When you sleep you wake up and just continue.”

Over at Ramco, one of the oldest intermediaries and consultancies in the Lebanese real estate sector, Director Karim Makarem agreed that both demand and prices are in a trough since the end of 2010, but he too would not talk of a crisis. “The word crisis entails too many negativities. I don’t believe the market is anywhere near that,” he told Executive.

Any analyst probing the market’s numbers without being very familiar with the peculiarities of Lebanese property might be excused for asking if that “sleep” is restful and if the denial of a crisis is just that — desperate denial. By the numbers, business in the primary brokerage activity of property sales is down again in 2012 to date, regressing for the second year in a row.

“According to the latest numbers, we are down 10, 12 percent on 2011, but 2011 was not such a good year either, it was about 12 percent behind on 2010,” said Elie Harb, president of Coldwell Banker real estate brokerage in Lebanon. That doesn’t sound too healthy, he acknowledged: “Two continuous cycles in the negative are not a good sign.”

A “staircase” market

Most brokers and research analysts at large local banks Executive queried said they see no crisis lurking in the lull of the local real estate market because they view market functions like a staircase, where prices go up and stabilize or freeze but not retreat. Phrasing it in a hands-on way, Christian Baz, owner and general manager of brokerage and facilities management company Baz Real Estate, said, “The price for properties in Lebanon will never go down. It always is stable or goes up.”

The staircase scenario is based on a threefold specificity which Moussa described as “the small size of the Lebanese market, non-debt financing of projects and high demand by expats and foreigners from the region.” According to Makarem, normal population dynamics of marriages and divorces and demand from regional buyers make local real estate an obligingly safe bet.

“There are still people who are getting married or move into their home and this demand will always exist regardless of external factors. Lebanese expatriates are still a market for buying at home; Arabs still believe in Lebanon and provide demand,” he said.

This is despite the fact that increased land prices and construction costs are making newly built apartments in Beirut less and less affordable, a trend that is not only hard to bear for newlyweds and new labor market entrants but also has led brokers to focus their efforts on marketing smaller units, just as it put developers of the traditional large units into a squeeze.

For Moussa, the disparity between growing real estate prices and local incomes is explained easily enough by the origin of demand: well-salaried Lebanese working abroad. “It is a supply and demand market and prices for real estate in the Lebanese market are related to the purchasing power of Lebanese expatriates. Many Lebanese expats are holding out on buying now but the minute things change, the Lebanese market will be alright.”

Adding in cultural factors such as attachment to neighborhood and community — which narrow the desirable locations that Lebanese buyers seek and thus supposedly increase the scarcity factor and resultant value retention of properties — the ruling perception is that the Lebanese real estate sector is not in, and is not going to enter, a crisis of property values or ever experience a real estate bubble. This is precious news for a country whose real estate sector, according to Coldwell Banker’s Harb, is worth about $12 billion in transactions annually. The huge caveat is that the reported real estate transaction figures can be both understated and late. Relative to gross domestic product, there is significant turnover in the real estate market, but that doesn’t mean there are no pockets of inefficiency and downside risks. Take the case of Mark Sleiman, an entrepreneur [interviewed by Executive in summer 2010] who started the company Creative Solution For Housing (CSH) in 2009, with the idea to provide a progressive home financing scheme for young career starters with good credit profiles but still low incomes.

The concept was to create “demand loyalty of young Lebanese to their country” by facilitating home loans with increasing payments. “I want the expatriates who work outside to buy at home, and I don’t want the young professionals to leave, by giving them a way how they can afford a home,” Sleiman said, but admitted that the company had done very badly over the past two years because of depressed demand for real estate and some creative differences with banks. In short, CSH is today in a state of dormancy with Sleiman voicing some — but by no means exuberant — hope that a pickup in demand from young Lebanese expatriates will give the company a second wind.

Syrian neighbors

When asked if the influx of Syrians driven from their country by the civil war there has brought new vigor to the Lebanese real estate market, brokers did not widely agree. “There is a lot of talk about Syrian families moving to Lebanon,” Makarem said. “This perhaps had a slight impact on the rental market. We have seen a little bit of it at Ramco, other people claim to see a lot of it. Some people claim to see none of it. It is open to debate.”

According to Moussa, the Lebanese who want to rent out apartments seek long-term tenants who will sign a contract for a minimum of one year. The Syrians who can afford apartments in Lebanon have so far largely asked for shorter-term solutions, one-month, three-month or six-month contracts. In this segment of short-term rentals, the market is delineated by vacation homes or ‘chalets’ and renters might have taken spaces that were not filled by Gulf Arab vacationers this summer. “There is high demand on short rentals but very weak supply,” he said.

Coldwell Banker, which has one of the largest networks of real estate operators in Lebanon, records the strongest rental demand in Ashrafieh, where broking of rental contracts accounts for 50 percent of the office’s revenue. “Other offices do not experience so much rental business. However, in the past month there were more rental activities due to the Syrian influx,” Harb said.

Schooling, safety and affordability are decisive for Syrian clients that have been looking for furnished apartments, said Baz, whose business is concentrated in Beirut’s Ashrafieh district. He explained that he observed an increase in demand for rentals as soon as the Syrian conflict engulfed the city of Aleppo with its large Christian population. “The war on Aleppo created a boom in demand for furnished apartments.”

According to Baz both rich and not-so-rich Syrians have been knocking on his door in search for apartments but the latter group mainly seeking to find places in Beirut’s northern hinterland where the rents are lower. In his view, the main difference why he saw demand grow substantially in 2012, from a very bad 2011, was that visibility has improved, in the sense that the Syrian conflict is not abating but also not spreading to Lebanon. “I think the situation in Syria is clear now,” he said. “Clients have visibility today — they rent and while they don’t buy like they used to, they buy small-size [apartments] and they invest.” The greater clarity about the Syrian civil war and its likely persistence meant for Baz that 2012 was his best year in rental brokering, and enabled his company to generate as much income in the first seven months of 2012 as he did in all of 2011. For Moussa, demand indications from Syrian customers could be realigned in September and point to where trends might be going into this winter and next year. “September in my opinion is a very important period to test the market for rentals, because the schools will start and people will have to take a decision. If people put their children to school, they will rent on yearly basis.”

Fundamentally, however, the limited impact of the Syrian demand correlates with the realities that most refugees cannot afford to rent in areas and price segments that the professional real estate intermediaries cover. According to Makarem, the situation in the low end of the real estate sector — also affecting the majority of Syrian refugees — is a mixture of consistent under supply and total deficiency of building quality. “The problem is that the lower end is particularly low-end,” he said.

Brokers do not dabble in this part of the Lebanese landscape, except perhaps in carrying out property valuation studies for projects that involve buying up decrepit properties for later demolition and development of the lands. In this context, the increased need for homes, or at least decent shelter, by Syrian refugees ties in with the permanent Lebanese housing crisis and its components of insufficient infrastructure, insufficient supply of socially adequate building stock and insufficient public and private sector management of mass housing needs.

The fuse of future crisis

This crisis, known and lamented but ignored in all practical terms, could come back to haunt the Lebanese real estate sector even in those housing segments where developers, brokers and buyers have a common market. This is because the housing crisis has a large infrastructure component that spans physical, social and administrative infrastructure, from roads and utilities to public transport and inefficient permit, registration and taxation processes for real estate.

In Harb’s assessment, a continuation of the Syrian conflict over several years could move demand by Syrian expatriates in Lebanon from rentals to apartment purchases, and he said it would be very conceivable that 20,000 requests for property purchases in Lebanon could originate annually from migrants — equal to the annual demand of Lebanese in a country where approximately 20,000 to 25,000 new units can be delivered per year.

Under the capacity restraints caused by insufficiency of hard and soft infrastructures, it would not be possible to drastically expand the supply of new units, Harb said, with overall negative effects. “This will put the Lebanese buyers into direct competition with these requests. The developer has no loyalty anywhere. These [Syrian people] will be paying in hard-core cash more often and make higher down payments,” Harb cautioned. “It could lead to an explosion in demand for real estate in Lebanon.”

October 2, 2012 0 comments

Economics & Policy

Executive Insight: Price wars

by David Tusam, Abhijit Navalekar & Najwa Aaraj October 2, 2012

written by David Tusam, Abhijit Navalekar & Najwa Aaraj

The thriving market for mobile services is intensely and relentlessly competitive, where mobile phones today outnumber inhabitants in 105 countries, according to the International Telecommunications Union, the United Nations body that works to coordinate telecommunications policy globally. Operators are constantly seeking new promotions, enticements and other marketing “hooks” to attract new customers, and capture share from their competitors.

In this noisy and highly-pressured landscape, one such hook — the price war — reaches the top of marketing department agendas with alarming regularity in markets of all maturity levels and across all service categories, voice and data. Yet, while this always sounds like a good idea, our research shows that in practice, this hook should be rejected quickly and firmly. Put simply, nobody wins. Price wars damage entire mobile markets every time they are rolled out.
Which factors make price wars look attractive? New market entrants, changes in market structure, regulation-enforced mobile number portability or simply aggressive management targets can all prompt marketing managers to push for the quick surge in sales that can come from a price war.

However, price wars leave the aggressor operator, and the market as a whole, worse off because they stop market value from developing to reach true potential. Consumers, superficially the winners thanks to tantalizing price offers, also lose. Network quality becomes strained as available capacity falls, driving dissatisfied customers to churn again. Customers expect ever better deals from their new operators, and the downward pricing spiral gains momentum.

Given the negative impact of price wars, telecom players should take steps to avoid them at all costs if they can. Indeed, where they have been successful in taking evasive action, the negative impact of price wars has been largely contained. Yet we also realize that situations can spiral out of control. In these cases, and only when there are no alternatives, we accept that operators have to join the battle. Hence our price war mantra: “Avoid if you can, win if you can’t.”

Anatomy of a price war

From the outside, all price wars look very similar. They start when one operator becomes an aggressor in the market. Prices are slashed, generous offers are made, and some consumers start chasing the best deal. Other operators quickly lower their prices in response, eager to contain the damage. More consumers churn, and eventually market prices stabilize at a new, lower level.

From the inside, the perspective is quite different. Gross additions to the aggressor jump as customers join the aggressor’s network. But network capacity is tested as traffic rises, with increased risk of blocked calls and lower voice quality. Competitors increase their media spend and offer incremental incentives to lure their customers back. Even if they succeed, their customers return at a lower average revenue per user (ARPU), similar if not slightly increased traffic, and after considerably increased cost of acquisition.

By any measure, the net outcome is positive for the consumer’s pocket in the short term, and negative for the operator. Value has been removed from the market for good, while the costs of acquiring and keeping customers have risen. Shareholder returns have been lowered permanently.

The Middle East has not been immune to detrimental price wars among competing operators after governments opened markets and subscriber numbers soared in the past 10 years. In one Middle Eastern country, for example, the mobile market was at 79 percent of potential value in March 2008 when a price war broke out. If ARPU and customer growth dynamics had remained at pre-war levels, it would have reached 100 percent of potential over the following year and a half. Instead, that year and half was spent on a damaging price war that reduced the market to 74 percent of its potential value. And yet the dynamic persists; while full-scale wars are rare, smaller scale price wars — in effect brush conflicts — break out in most markets on a monthly basis.

Facing the threat

We see three short-term “plays” that will allow mobile operators to face the threat of price wars, each requiring a different, defined set of capabilities. We also advocate a fourth, bolder play, in which the mobile operator completely revises its cost structure, and enters the fray with a sustained, structural advantage.

We refer to the short-term plays as: “Sword Waving”, “Surgical Strike”, and “Capture and Keep the Hill”. Each involves a measure of risk, but when applied correctly they can defuse a price war or shorten the conflict. We call the fourth play “A New War-Fighting Machine”, in which the mobile operator redefines its cost structure — and enters the “no-go area” where all-out price wars are waged.

Our first play, “Sword Waving”, aims to postpone conflict by signaling the intent to win, whilst not actually engaging. In this play, defending operators can deter a price war by drawing attention away from an imminent attack. We see operators using free minute bonuses for pre-purchased blocks of time, free trials of new content services, discounted tickets to an event for higher-ARPU customers and so on. In the best outcome, the aggressor retreats, and the price war is avoided.

“Surgical Strike”, our second play, acknowledges that conflict is inevitable. The defending operator changes the direction of the price war to its advantage, chooses the marketing weapons it will use, and hence aims to wrong-foot the aggressor. We see operators executing this play by targeting a narrow audience and focusing on value delivered, not price offered. Offering a time-of-day-bound, low-rate international tariff accessed only through referrals is one example of a possible tool. Executed correctly, this play can increase value extracted from a specific mobile market segment.

Our third play, “Capture and Keep the Hill”, joins the price war with an aggressive counter attack, limiting the scale of engagement while ratcheting up the level of intensity. “Capture and Keep the Hill” targets an entire market segment with the intent of dominating it, rather like isolating and taking a hill on a battlefield. Typical approaches may involve operators providing special services to niche vertical or lateral segments, such as medium and large enterprises or advertising agencies and creative media companies. In the best outcome, we see operators using this play to establish a commanding presence in a specific segment which yields sustained, protected value.

To weigh the risks of being forced into a price war against the potential gains that operators can achieve if they apply the above plays, we calculated a risk to reward ratio of 1.34:1 based on average additional revenues across three plays if the play is successful versus the drops in revenue that operators would risk if their plays are not successful.

Our fourth and final play is somewhat special. “A New War-Fighting Machine” requires mobile operators to rethink their business models. This play can involve organizational restructuring and process reengineering to yield substantial, structural reductions in operating cost. By dramatically refining and improving these structural elements, the operator builds a new war-fighting machine with a structurally lower cost model capable of supporting market price leadership. The result is an operator that can lead all-out price wars if necessary, entering the dangerous “no-go area” in which price war engagement and escalation are at their most intense.

While we believe price wars are in general value-destructive and produce no winners, we contend they are controllable and often avoidable if others are set to trigger them. Our three tactical plays present a framework within which operators can avoid the most harmful effects of conflict, while entering the fray where needed. Finally, our fourth and most demanding play outlines a roadmap for sustained market price leadership. Avoid if you can, win if you can’t.

October 2, 2012 0 comments

Finance

Unemployment in Lebanon

by Zafiris Tzannatos October 2, 2012

written by Zafiris Tzannatos

Unemployment in Lebanon is in excess of 10 percent, with youth unemployment close to 25 percent. This is despite the low labor force participation rate of educated Lebanese women (only 20 percent compared to 35 percent for the Arab region), and the high rate of emigration — some say nearly half of every cohort goes abroad to find employment.

Addressing this issue requires a better understanding of the forces underlying labor supply, especially education, as well as how the economy works and its impact on labor demand.

Education is good on average

In international comparisons of student learning — such as the Third International Mathematics and Science Study undertaken in 2007 — Lebanon comes at the top in the Arab region, making the Lebanese employable across the world.

Lebanon has one of the highest skilled emigration rates in the world (measured in terms of those that have university education) and the highest rate among the Arab states.

For the university graduates who stay behind, the unemployment rate has been increasing over time and now tops 11 percent, double the rate of Lebanese without a university degree pointing to an over-supply of educated Lebanese.

Much of education spending in Lebanon (80 percent) is private with public spending the lowest in the Arab world. Only one in four pupils are in public primary schools, one in 10 do not complete primary education and one in four do not complete secondary education.

An economy of constraints

Most of the jobs created in the Lebanese economy are in low value-added sectors such as wholesale and retail trade, repair and maintenance, transport and storage, food and hospitality services. Therefore employers have little concern about lack of skills and are unwilling to pay high wages. According to business environment and investment climate surveys, the prime concerns of employers relate to political instability, macroeconomic uncertainty, poor governance, cost of financing and weak public infrastructure.

These structural deficiencies in the economy have resulted in creating no more than 3,400 jobs annually in the last decade compared to almost 19,000 new job seekers coming into the labor market every year in the foreseeable future. This abundant labor supply alone is sufficient to depress wages, letting aside the presence of migrant workers, many of whom are undocumented and low skilled and prepared to work for low wages. How does all this come together?
Based on opinion surveys among executives, the World Economic Forum’s “Global Competitiveness Index 2012” ranks Lebanon last (that is, best) compared to all other Arab states in terms of “inadequately educated labor force.”

What can be done?

Tackling the lack of job opportunities for well-educated workers, which is leading to a high rate of emigration among the skilled labor force, is necessary to secure a progressive future for Lebanon. Geopolitical uncertainties, the high level of public debt that is bound to saddle the economy for many years to come and managing immigration are critical issues. But for political and logistical reasons, addressing them is a Herculean task.

On the other hand, governance and public infrastructure (such as electricity and transport) can be improved in the more immediate term to create a competitive and transparent business environment. This would add more high value-added activities to the economy and increase demand for a more skilled labor force.

It is also vital for the government to dedicate more resources to public education in order to meet the needs of less affluent Lebanese, who face unequal opportunities due to inadequate access to a proper education. Whether this would reduce unemployment quickly is yet to be seen, as the size of the existing excess labor supply and the “reserve army” of educated but non-working Lebanese women are disheartening. However, it will create a more inclusive future society. And an inclusive society is in many respects preferable to faster economic growth.

October 2, 2012 1 comment

Finance

MENA stock tips, October 2012

by Maya Sioufi October 2, 2012

written by Maya Sioufi

Bailout news dominated market headlines last month, but this time it was the European Central Bank (ECB) that committed unlimited funds to acquire the short-term debt of European countries in distress. Across the pond, the United States debt topped $16 trillion and the Federal Reserve announced a much anticipated third round of quantitative easing. For investment tips this month, Executive sat with Georges Abboud, head of private banking at Lebanon’s Blom Bank, and Mohammad Ali Yasin, the head of brokerage at National Bank of Abu Dhabi.

Georges Abboud

Bullish or bearish? With a lack of visibility in the markets, Abboud remains cautious and is keeping an eye out for high yielding fixed-income securities. “Investors are afraid of the valuation of equities,” says Abboud. He still recommends exposure to large-cap companies with solid growth in the pharmaceutical, energy and technology sectors but he would buy them on weakness and would sell them once they generate a 7 to 8 percent return.

Can Europe stick together? “It can’t afford not to,” says Abboud. He believes it is not in the interest of Germany to see Europe break up, as the majority of their exports are sold in Europe and they don’t want to see the Deutschmark, their former currency, resurrect with an explosion in value. As for Greece, while Abboud believes it might be better off if it left the Eurozone, its exit will send a very bad signal and cause a domino effect on other European countries. He doesn’t expect the euro to crash but is happy to sell the euro/dollar in the high twenties.

Favorite regions? US markets are now expensive, according to Abboud, and he would stock pick names in the technology sector such as Google, LinkedIn and Apple, which he would buy on dips. As for the European markets, despite their troubles, Abboud would add exposure to solid names such as AstraZeneca, which offers a 7 percent dividend yield. On emerging markets, he favors Russia as it is cheap and Abboud would gain exposure by acquiring energy company Gazprom, despite political risk.

Thoughts on MENA markets? Abboud sticks to his October 2011 recommendation of having some exposure to the stock market in Saudi Arabia and would diversify across sectors. As for Egypt, last October he was very positive about buying Orascom Telecom, he has since exited the stock after generating a significant return and wouldn’t be investing in this country for now due to political issues. In Lebanon, he likes Solidere, which he says is cheap, and could go to $17 within a short time on positive news. He is also bullish on Lebanese government bonds, now generating returns of 5 percent up from 3 to 4 percent in May.

Top investment ideas? While nothing “would make [him] jump on his desk” with joy, he does seem pretty keen on investing in US residential real estate. He is currently working on a partnership with a private equity firm in the US in order to provide his clients with a vehicle allowing them to gain exposure to the US residential market.

Mohammad Ali Yasin

Thoughts on the markets? “Avoid Europe” seems to be one of Yasin’s key recommendations as he sees a lot of value in US markets. As for Asia, with China and India’s economies slowing down, he is not keen on this region. Closer to home, he likes markets in the United Arab Emirates, Saudi Arabia, Egypt and Qatar.

Would an exit of Greece from the Eurozone come as a surprise? Yasin believes the Greek exit is priced in and if the actions of European Central Bank President Mario Draghi, in the upcoming weeks, help keep Greece in the Eurozone, he expects a rally in European markets. He believes some investors are positioning themselves for this by acquiring Spanish and Italian bonds. “If you are a gambler, you can take a position one way or another but if you are not a gambler then you stay out.”

Favorite asset classes to invest in? Yasin would place 60 percent of his portfolio in US, Saudi Arabia and UAE equities. He would place another 20 to 25 percent in corporate bonds and government-related bonds mainly in the Gulf Cooperation Council. The rest he would put in soft commodities or gold.

Top regions to invest in? He favors US equities within the developed markets. For the MENA region, he favors the GCC markets and his top pick is Saudi Arabia, followed by the UAE.

Top ideas? His top two ideas are deploying capital in the US technology sector, which he says “is the sector to be in if [US President] Obama is reelected, as whenever there is a democratic president, the technology and pharmaceutical sectors benefit.” He would also invest in the UAE equity markets with a preference for the banking sector.

October 2, 2012 0 comments

Finance

Q&A: Paul Donovan

by Maya Sioufi October 2, 2012

written by Maya Sioufi

European Central Bank (ECB)’s president Mario Draghi announced last month an unlimited bond-buying program to save the Eurozone and its debt-loaded countries. The United States Federal Reserve is also buying more bonds after it announced a third round of quantitative easing. Investors sighed with relief and markets reacted positively. The United States’ ‘fiscal cliff’ still looms, however, with massive, legally mandated tax increases and spending cuts coming into effect at the beginning of 2013 if no budget-balancing deal is found. For insight on these and other issues, Executive sat for a one-on-one with Paul Donovan, global economist at UBS, while he was in Beirut last month.

Draghi recently announced an unlimited bond-buying program whereby the ECB would acquire short-term government bonds of countries in distress. Is this a band-aid or leap forward for solving the Eurozone sovereign debt crisis?

It’s not a band-aid. I would say it is step forward; leap forward is a bit too far. It demonstrates that the ECB will not allow Europe to fail and that monetary union will hold together. Draghi is going as far as he can legally go at this stage. More will need to be done in the future to make the euro work properly but it possibly needs treaty changes. For now, this is an important step.

What is missing for the Eurozone to work properly?

For the euro to work, a banking union, a single bank supervisor, is needed. We are moving toward that and I think something will be established by the middle of next year. Secondly, we need some degree of fiscal integration. At UBS we prefer the term fiscal confederation, as it sounds more Swiss. Switzerland is a very good model with its highly independent cantons that share limited fiscal policy. We also need competitiveness in Europe and structural reforms.

Doesn’t Germany, which is highly dependent on exports, benefit from a weak euro? It wouldn’t want to see a breakup of the Eurozone as that would mean the Deutschmark would explode.

There is no question that Germany benefits from the existence of the euro. If the Eurozone were to break up, we have done a rough estimate that it would cost Germany 25 percent of its gross domestic product in a year. Germany’s main export market is Europe. Its banks would collapse as they hold French, Italian and Spanish bonds, which would become worthless; it’s chaos for the banking system. So Germany does benefit from a weak euro but the negatives of what is happening now are greater than the positives. Europe, Germany’s main export market, is very weak and German banks are weaker than they would otherwise be because the bond markets are weaker, which is why growth is likely to be below 1 percent this year.

Is a breakup of the Eurozone likely, in your opinion?

Anything is possible. Politicians do silly things from time to time. Our view is that if a country like Germany would lose 25 percent of its GDP in a year by leaving the euro then it would cost Greece maybe 50 percent of its economy in a year. It would be absolutely devastating. If Greece goes, Spain, Portugal and Ireland would leave within six weeks. It is bank runs that cause the collapse of monetary unions. Only four monetary union breakups took place in the last century, aside from when a country got completely destroyed like Germany after the [second world] war: the Austro-Hungarian Empire which broke up between 1919 to 1921, the US monetary union between 1932 and 1933, the former Soviet monetary union in 1991 and the Czechs and Slovaks in 1994. The trigger for the breakups, with the exception of the Soviet Union, was bank runs. The good news is that political leaders in Europe, the ones that matter, understand this, and that’s why we had the Draghi plan. Don’t get me wrong; the euro should never have been created, as it doesn’t work. Now that we’ve got it, it’s the Hotel California. You can check out but you can never leave. You have to keep this thing together because the cost of breakup is too high.

Is the upcoming fiscal cliff of concern to you?

No. It will be dealt with. Politicians in America, like anywhere else in the world, change their minds. There will be some fiscal tightening. We think most [former US President George] Bush tax cuts will be kept, most or all payroll tax cuts will be cut and most planned spending cuts will be reversed.

Who do you think will be friendlier to the markets, Republican presidential candidate Mitt Romney or US President Barack Obama?

Frankly, neither. I’m sure there will be a brief reaction and certain industries will be affected by certain party policies such as defense, healthcare and banking. The issue for us is that its not just the presidency, it’s the Senate which is very closely balanced and the House of Representatives and within that, the influence of the Tea Party among the Republicans and the moderates among the Democrats, etcetera. I don’t think you will get results where you pound the table and say buy or sell equities on these results.

With all the money-printing going on at central banks, do you think inflation is a risk going forward?

No. In developed countries, inflation is about 70 percent domestic labor costs and 10 to 15 percent commodity costs. I don’t see an increase in labor cost inflation in the current climate in the coming years. I do think commodity prices will trend somewhat higher but it will not be a major inflation issue. Printing money has never created inflation; printing too much money creates inflation. We have seen a huge increase in demand for cash globally and central banks have supplied that cash; that’s not inflation so I don’t see it as a major shock.

Are you worried about the slowdown we are seeing in some of the major emerging economies?

It is a mixed picture. We are seeing a refocus on domestic growth from global growth but I don’t think it will be a major crisis. If the emerging economies can manage more domestic demand coming through, they will sustain their growth.

Following the revolutions that the Arab world has witnessed, what are your thoughts on Middle East and North African economies?

There are a number of challenges for the region. As a result of the financial crisis and the European debt crisis, globalization of capital is reversing. For instance, French banks and life insurers invest in France; Italian pension funds invest in Italy.

For the MENA region, it is a problem because international capital will be less easy to secure and it will be harder to obtain the expertise that comes with it in many cases. Of course the region has a lot of capital so it can become more self-dependent, but capital coming from a sovereign wealth fund does not have the same motive as a private investment. My concern is that investments [may] become less efficient.

Also, political risk in the region is present at a time when many investors globally are adverse to risk. The problem here is that international investors first decide if they should invest in a region and then which country in the region. Countries with good stories might be overlooked for the time being. Hopefully when things will calm down, people will consider the region but at this stage, it is probably too early.

October 2, 2012 0 comments

The Buzz

Morning briefing: 2 Oct 2012

by Executive Staff October 2, 2012

written by Executive Staff

Economics

The Lebanese government may issue a dollar-denominated sovereign bond this month, the country’s Central Bank governor has said.

“The government and the Finance Ministry are thinking of going to the market again, maybe in October, with an issue of the Republic of Lebanon in dollars,” Riad Salameh said on the sidelines of a meeting of Arab central bankers in Kuwait.

He would not comment on details of the possible bond issue, saying it was up to the government to announce it.

Q&A: Neemat Frem

by Paul Cochrane October 1, 2012

written by Paul Cochrane

Neemat Frem is the president of the Association of Lebanese Industrialists, chief executive officer at INDEVCO Group and founder of technology service provider Phoenix Machinery. He recently sat down with Executive to discuss the state of the industrial sector in the face of regional turmoil, high energy costs and the economic downturn in Lebanon.

Let’s start off with some statistics. Lebanese industry had five years of strong growth, but 2011 and 2012 were slower, reflected in lower exports, a drop in machinery imports and also fewer bank loans to the sector. What do you attribute the drop to?

No doubt the first half of 2011 was tough… basically, Lebanese industry doubled in size in five years. In 2011, it was not a slow down in growth but a complete stop and it was the second half of the year that did all the damage. This year we started to regress, about 6 percent below 2011 — I am using exports as an indicator. Now, what do I attribute this fall to? What happened with the flare-up of oil prices was a major handicap to the Lebanese economy, and I can’t stress enough the fact that our economy is inversely correlated to the price of a barrel of oil, as we have no other form of energy. This is number one. The second factor is the turmoil in the Levant today. Also, a loss of confidence by the Lebanese consumer, and this has affected patterns of consumption, no doubt about it, plus the fact we missed our tourism season, which affected our local market.

Are you optimistic about the rest of the year?

I think 2012 will end as a tough year and I am personally worried, not only for the situation of industrialists but also because of the condition of public finances and the pressure it puts on the private sector. Our indicators are not good, to say the least. I know there is a major struggle within the Cabinet on the level of taxation policy and strategy, but I tell you with such public financing it is hard not to expect that the economic environment will be [negatively affected].

What is your stance on the draft law for a 50% tax cut on exports?

It would help for sure but we asked for 100 percent as that would really change things and attract foreign capital while enticing non-Lebanese industrialists to relocate here. But we ended up with 50 percent. Again, the problem is overall profitability, and it is not easy to be profitable today and to feel the effect as (the tax reduction is based on) profit tax rebates. To tell you the truth, we are not looking today at incentives from the public sector, but are worried about what kind of handicaps we will experience in the coming years due to the level of deterioration in the public sector. What sort of problems are we going to have due to this changing situation? This is my worry today.

What contingencies are in place?

The only contingency Lebanese had for a long time was to relocate, but this time I think the Lebanese are intelligent enough to do it in a flexible way, to stay in Lebanon and have new deployments in emerging countries, like in Africa. I see it more than exports in the coming era. I see Lebanese industrialists having satellite operations to protect their export markets.

One contingency that could be prepared for is if the border with Syria is completely closed.

I doubt it will be completely shut. So far it hasn’t, despite everything. If it is shut, our research shows that the two countries that are the hardest and most expensive to reach are Jordan and Iraq, as [there are] major land freight costs. The others, well, [there will be] a delay in time but costs are almost the same, to Saudi Arabia, Egypt, the United Arab Emirates and Kuwait. Regarding Europe it will be open, and the Balkans, which we… export to by land, as we have a RORO (roll-on-roll-off) vessel to Turkey and from there continue north.

Is the RORO vessel between Mersin (in Turkey) and Tripoli running effectively?

It is already in operation, twice a week. Again, for Iraq that is a way to get there, Kurdistan especially, but it is expensive, double the price.

What prices are we talking about?

It is around $4,000 to $5,000 for a 40-foot container. The problem is the land cost, this is why Iraq and Jordan are the problem. The Jordanian market is up north, not in Aqaba, so you need to drive there.

If we look at the situation in Syria it is obviously affecting us here, and in Syria companies are lacking raw materials and workers. Could Lebanese companies step in to fill the gap?

They already are, first of all in the Lebanese market as competition from Syria is decreasing by the day.

So taking up that slack is primarily for the Lebanese market, not replacing Syrian goods say sold in the Gulf? Could you see that coming?

The Syrians were never big competitors with Lebanese products. I foresee however that once everything settles down there will be a construction boom and a big market for Lebanese cement and other products.

Yes, figures are already being thrown around of $15 billion to $20 billion needed for Syria’s reconstruction, and this could be good for Lebanese business…

No doubt about it. Since the start of the Arab Spring there have been a lot of opportunities the Lebanese could seize, but our history has shown we don’t know how to seize these opportunities. And we haven’t till today. Will we this time? Only time will tell.

Is this due to the divergence between the private and public sector, where the private sector is left to do its own thing?

Mostly because the political situation needs to [fit] an agenda to seize opportunities for economic growth. But today, the government has other priorities and this is a problem.

…such as industrial zones talked about for years and years?

Forget about it, there is a complete paralysis on the economic zones. Today we are talking about developing private industrial parks and have suggested creating private power plants, as industrialists, and selling to the grid at the same contract and conditions as the government signed with the Turkish power ships that are coming (a three-year, $390 million contract to provide 270 megawatts); this is nothing but fair. What the government gave to a Turkish company should be starting conditions for Lebanese industrialists on the ground to sell electricity to the grid. We have given this proposal to the Industry Minister to put it on the agenda of the Cabinet, but we’ve had no answer.

Where would you set up such zones?

The Zahle area, near Saida or Batroun. You can’t go further than this.

Are there any success stories you’d like to highlight?

We are still surviving in Lebanon, which is a success story and still importing machinery. Okay, machinery imports have decreased by 12 percent this year, which is a leading indicator of growth in the sector, but for me it is quite an achievement. In other terms, in 2012 the sector will import almost $180 million to $200 million of new machines, and this goes straight to the expansion of the sector.

October 1, 2012 0 comments

Economics & Policy Industry

Outside the box

by Paul Cochrane October 1, 2012

written by Paul Cochrane

To Lebanon’s older generation, Carosserie Abillama is a household name, with ‘Abillama’ stenciled on the back of nearly every truck, tipper, tanker or ambulance in the country. The company, which has been around since 1933, is still at the forefront of trailer manufacturing and other automotive add-ons, although its name does not stand out as much as it used to amid the surge in vehicles and trucks on Lebanese roads over the past few decades.

Lebanon is also no longer the company’s major sales market, selling to 27 countries and approved for its high international standards by leading European companies Scania, MAN, Renault and Volvo. Abillama has even built trailers for Formula 3 racing cars, “which is at a very high level as it’s so image orientated,” said general manager Daniel Abboud.

Last year, however, Lebanon was a significant market, at 50 percent of sales, then dropping to 15 percent in 2012. “In terms of sales, Lebanon has not dropped that much, but exports have risen,” said Abboud. “This year our biggest market is West Africa, at 45 percent, followed by the Gulf at 25 percent and institutional buyers 15 percent.”

The surge in exports to West Africa was a deliberate strategy by Abillama to anticipate a potential drop in sales due to the crisis in Syria and its spillover to the Lebanese economy. Abboud put a dedicated sales team on the West African market, and “it worked.”

“I think we’re going to have a good year and next year even better. We have a nice order book,” he said, projecting annual revenues at $16.5 million, up from $14.5 million in 2011.

Part of the company’s success over the past 80 years has stemmed from predicting downturns and keeping sales diversified. “For a while, 90 percent of our market was Iraq before the Americans came [in 2003],” said Abboud. “We saw the dangers so stopped taking orders. It was a good approach, as if we’d stayed we’d have been in bad shape.”

A further key to success is Abillama’s research and development, and bringing out new products to stay ahead of the competition, such as a new cement mixer developed with an American company for whom Abillama manufactures to order, primarily for the Saudi Arabian market. “There is a lot more research and development in Lebanon than elsewhere in the region. In Saudi Arabia, Syria, the Emirates, they just copy others. The ‘Abillama tipper’ has been a generic term in Saudi Arabia for the past 40 years,” said Abboud.

In terms of competition, in West Africa Abillama vies for business with European firms, while in the Middle East, Iraq in particular, the company is facing stiffer competition from Turkey. “High quality Turkish producers were focusing on the European market, but they have lost it due to the economic downturn there so are turning to other markets where quality is important,” said Abboud.

Universal Metal Products

While Turkey poses a competitive threat to Abillama, aluminum tube manufacturer Universal Metal Products (UMP) sees the closure of Syria as a market and transport route for Turkish products to much of the Middle East as a boon for the company. “We are picking up slack not because of Syria so much, but due to Turkish suppliers being out of the market. They are now being restricted due to logistics and political reasons, and that trade link has been broken,” said general manager Nizar Raad.

UMP has experienced a major up-tick in sales to Saudi Arabia this year for the collapsible aluminum tubes it manufactures for the cosmetic and pharmaceutical industries. The situation in Syria, however, is causing logistical problems and heightened transport costs, deriving from export for which overland transport is the most cost effective method.

“We’ve made contingency plans for sea as there is the possibility of Syria blocking the route to Jordan,” said Raad. “We got the cost by sea freight, to Jeddah, and that is okay but the problem is the delays in offloading. Then the goods have to be driven to Riyadh, the main pharmaceutical hub. These time factors and delays are a problem.”

UMP’s exports are not totally dependent on the Middle East though. “We do export indirectly to Europe and the United States, so the lower euro is helping. We also export to Pakistan for special clients,” said Raad. He expects business to be similar to last year, neither growing nor contracting.

Resource Group Holding

Resource Group Holding – soon to be called just RGH – are an investment group that manages a diversified portfolio of businesses in the Middle East, West Africa and Asia. The company expects to have similar revenues this year as 2011, at over $100 million. But this is not down to less business in the Middle East and Africa, its core markets, or any loss in trade to Syria. Indeed, RGH’s telecommunications infrastructure arm Serta was granted permission by the United States Office of Foreign Assets Control (OFAC), which oversees sanctions, to sell equipment sourced from the US to Syria this year.

Revenues are expected to hover around the $100 million mark because the group is going through a period of consolidation as well as significant investment, with Chief Operating Officer Dany Eid expecting to see returns next year and for RGH’s revenues over the next five years to grow by more than 100 percent to exceed $200 million.

In Lebanon, RGH is expanding its 4,000 square meter Inkript facility, which handles high-security printing, from checkbooks to lottery tickets, electoral voting cards and bonds, to bank cards and electronic-passports, by a further 16,000 square meters, financed through a subsidized loan from the central bank and the Investment Development Authority of Lebanon. The expanded facility is slated to open by end 2013, and will create further employment, adding to the current 500 working at the plant in South Beirut. Elsewhere, RGH has 200 employees in lottery business Intersektion’s brand Afrijeux in Chad, and 300 other employees in Lebanon and abroad.

In further expansion, RGH bought a factory in Saudi Arabia last year to make mobile phone SIM cards and scratch cards. “We bought the facility to cater to the sizable Saudi market and have proximity to our customer base,” said Eid. “The plant is still in the restructuring phase, so we expect this investment to yield results as of next year.” The group is also involved in the smart phone gaming business through investing in a startup called Game Cooks, which co-produced the hit game Birdy Nam Nam. “With the Arab world as the primary target, games like Run for Peace and Déjà Vu have witnessed over 1 million downloads so far in less than a year,” said Eid.

Eid sees Lebanon’s strength as being able to not only manufacture goods at a high quality, but also to combine development with value-added and follow up solutions. “The future is in value-added and solutions. At a group level, our products are already highly technical, such as printing, and through products that provide solutions, like software for SIM cards. What makes our products hard to compete with is that they are relatively unique, as clients for printing, for instance, are mainly governments and banking sectors, and competition at that level is lower.”

Vresso

For Vresso, a manufacturer of customized stainless steel kitchens and exclusive distributor for 50 food service equipment and laundry brands, the dampened economic climate in the Middle East has slowed sales this year, most evident in Syria with hotel and tourism-related projects on hold. But with exports accounting for 60 to 65 percent of business and selling to over 30 countries, Vresso is weathering an economic downturn in one area and focusing on others. “We are optimistic about the future, especially emerging markets opening up, but I won’t say where because our competitors would be on a plane tomorrow,” said Carl Sabounjian, Sales and Marketing manager at Vresso.

Sales have been surprisingly good for the company, even for stainless steel kitchen units that have a price tag anywhere from $10,000 to more than $200,000. To bolster sales of such expensive items, Vresso has been offering more credit facilities. The tactic has worked. “Business has been very good, quite great in fact, especially for restaurants, super markets and coffee shops, as well as with private villas and wine cellars,” said Sabounjian.

Vresso has 120 employees within the group, and 40 employed in manufacturing stainless steel cabinets, tops and refrigeration units. Steel sheets are bought from local importers, then cut, bent and welded at Vresso facilities, with products manufactured from scratch to customer specifications.

“Next year a lot of new models are coming out, and a lot of foreign franchises — especially internationally renowned restaurants — are coming to Lebanon so we see a good market ahead,” said Sabounjian, forecasting that once the conflict in Syria is over there will be significant business opportunities.

October 1, 2012 0 comments

Economics & Policy Industry

Exports in mayhem

by Paul Cochrane October 1, 2012

written by Paul Cochrane

Syrian industry has been seriously hit by the ongoing conflict, suffering from a lack of raw materials, workers, energy and capital amid heightened risk. Multinational companies such as Proctor & Gamble that sold fast-moving consumer goods exited the Syrian market last November when European Union sanctions went into effect.

Turkey has not filled any supply gap, with exports from Turkey into Syria dropping from $2.3 billion in 2011 to just $302 million in the first five months of this year. However, exports from Lebanon to Syria have risen by 18 percent to date on 2011, to $126 million, while for the first time in years Syrian products headed the other way have fallen, by 8 percent to $142 million, according to Lebanese Customs data. Are Lebanese industries stepping up to fill an apparent supply and demand gap?

The short answer is: not really. Firstly, demand for non-essential items in Syria has plummeted as prices have risen, people’s finances have been squeezed, and stores are infrequently open, if at all. Take for example the sales of Lebanese cosmetics firm Ch. Sarraf & Co., part of the Malia Group, in Syria. When the group started a distribution company there in 2008, sales quickly reached the same volumes it had taken 10 years to achieve in Lebanon. It was a good market. But since the uprising began in March, 2011, business has dropped.

“We are facing export difficulties so a few months ago we put aside stock as a preemptive measure, but demand [for cosmetics] is about half of what it used to be as purchasing power is down,” said the company’s general manager Joanne Chehab. “People are only buying products of first necessity, although shampoo is still one.”

A second factor is that demand for more life-sustaining essentials has also not risen. According to a report in As Safir newspaper, the Lebanese Farmers Association said that exports to Syria have dropped by two-thirds on last year. Demand has equally not risen for items more suitable for life under a siege than fresh fruit and veggies — tinned and packaged foods. According to the head of a leading Lebanese agro-industry company who asked to remain anonymous, there has been no marked demand by Syrian companies or traders.

One necessary product that is facing production shortages in Syria is pharmaceuticals, yet while there may be demand, potential increased exports from Lebanese pharmaceutical companies are complicated by the borders still being under the regulation of the Syrian state.

“Until now, exports from Lebanese pharmaceutical companies to Syria are subject to regulations by the Syrian authorities; that is why it’s not as easy as one would think [to export],” said Neemat Frem, president of the Association of Lebanese Industrialists. “But in areas that are unregulated, that is completely different, and we might see more in those areas.”

Cash flow curbs

While generator manufacturer Saccal Industries has witnessed a 100 percent growth in demand for generator sets due to power shortages, Syria is not as lucrative a market as one would expect. “We are selling more but there is the problem of cash flow. People are afraid of spending money in the current environment,” said the company’s general manager Asaad Saccal.

The United States sanctions banning the use of Visa and MasterCard, as well as transactions in dollars, and the considerable depreciation of the Syrian pound are both major contributing factors to the squeeze. “We are selling for cash not credit as the currency is fluctuating a lot,” said Chehab. “We sell in Syrian pounds and then transfer on the spot.”

Compounding the situation is problematic distribution, which has become more difficult. Traders are looking for higher margins to cover inflated insurance premiums and container hires.

A little silver lining

So what has caused the up-tick in exports to Syria reported this year? Data is not broken down by category, but one reason for the increase is a 25 percent spike in exports of machinery, spare parts and engines due to international sanctions, according to economist Kamal Hamdan.

Another factor is fuel. Subsidized Syrian fuel used to be smuggled into Lebanon; but as the conflict dragged on and shortages emerged in Syria, this flow has reversed, causing Lebanese imports of fuel from abroad to jump, both to make up for lost supply to the domestic market and to feed the export and smuggling markets in Syria. Lebanon’s imports of oil and mineral fuels have surged 89 percent year-on-year, to $3.2 billion. Non-hydrocarbon imports on the other hand have grown just 1.8 percent, according to Byblos Bank data.

In addition to fuel exporters and smugglers taking advantage of the conflict, some other companies are also directly and indirectly benefiting from industry shutdowns in Syria. Aluminum tube manufacturer Universal Metal Products (UMP) has noted an increase in orders from Saudi Arabia, which the company does not attribute to the closure of three Syrian manufacturers in the same field — they did not have the ISO specification required in the kingdom’s market — but rather the drop in Turkish trade with Syria.

“Due to the broken trade links with Turkey we are picking up slack from Turkish business they have lost,” said UMP’s general manager Nizar Raad. On the labor side, for manufacturers such as Carosserie Abillama, the closure of Syrian manufacturers provided the Lebanese firm with skilled workers that had been laid off.

All in all, there is little silver lining to the Syrian crisis for Lebanese industry, with the situation causing more damage to the sector than any potential sales up-ticks due to shortages over the border.

Where industry may well experience an upside in the near future is if goods that have been hoarded away start running out. Otherwise, it will not be until the conflict is over, when the rebuilding effort in Syria creates a massive demand for materials and products.

October 1, 2012 0 comments

Economics & Policy Industry

Round-about routes

by Paul Cochrane October 1, 2012

written by Paul Cochrane

If the Syrian crisis escalates further and the border with Syria closes, Lebanon would be cut off from the rest of the region with the only way in and out being by sea or air. So far the border has remained open, but the Syrian conflict has already caused a significant drop in cross-border trade and a rise in maritime shipping.

Last year, an average of 450 trucks crossed the border daily with goods destined for Syria, Turkey, Jordan, Iraq and the Gulf countries. But with the security situation deteriorating, exporters are increasingly reluctant to transport cargo by land. Insurance is up 3.5 percent to cover the risk, and companies are being held financially responsible for hired trailers. The deposit on a 20-foot (6.1 meter) container is $4,500 to $5,000, and $7,500 for a 40-foot (12.2 meter) container. “It is a cash deposit for the empty container to cover all issues, from accidents to kidnapping,” said Fadi Haddad, general manager of shipping and logistics firm Masafat International.

In addition, there are increasingly delays at border crossings onwards from Syria, driver shortages and visa issues for Syrian drivers to enter Saudi Arabia (see box page 56). “We are facing a lot of obstacles: risk, the shortage of drivers, visa delays, and visa costs, and all this is adding up. There are also more checks at Masnaa [the Lebanon-Syrian crossing] and at Deraa [between Syria and Jordan], which holds up convoys for three to five days,” said Nizar Raad, managing director of Universal Metal Products. “So far Deraa has remained open but sometimes we wait a week or two for a trailer to go through.”

Higher oil prices have also added to costs and the overall price of transporting a trailer to the Gulf has risen by 15 percent on last year. All of this has led to an approximately 50 percent drop in the number of trucks crossing from Lebanon into Syria, to between 200 to 250 a day, according to Gezairi Transport.

Paying for Safety

With land transport having accounted for an estimated 70 percent of cargo to Iraq and the Gulf, unsurprisingly exports to Iraq have dropped, down 39 percent in the first quarter on the same period last year, and by 15 percent overall in the first half of the year. “Before the Syrian conflict, Beirut was a good transit point for cargo for Iraq, now there are a lot of doubts,” said Haddad. “Traders are asking what will happen to their cargo if it gets stuck due to a crisis during transportation in Lebanon or elsewhere.”

The re-export trade has certainly been hit, at $193 million worth of goods moved in the first half of the year compared to $379 million for the same period in 2011. Meanwhile, exports to Turkey have dropped 40 percent, despite the launch in June of a privately operated roll-on, roll-off (ro-ro) vessel between Tripoli and Mersin to circumvent Syria. Sea transport has become an increasingly viable option for traders, especially if the cargo is expensive. “We’ve had requests from clients to study sea routes, as by land it is risky. But shipping costs are higher [so] trucks are still going,” said Haddad.

Indeed, land transport is still the preferred option as it is more straightforward for a single trailer to go door-to-door than have to transport cargo to the Beirut port, load it into a container, unload it at the receiving port, and then re-load it into a trailer. It is also more time-consuming and costly.

While a trailer would take roughly a week — without any unusual border delays — to get to the Gulf, by ship it takes on average 20 days. “[A] one week delay at sea is very common, and you can’t claim for a delay,” said Haddad. Shipping costs to the Gulf are also around 40 percent higher than trucking.

Nevertheless, with land transportation increasingly fraught and time consuming, companies are clearly willing to pay the premium to make sure cargo arrives in one piece. According to statistics released by the Port of Beirut, export shipping operations by the top eight freight forwarders reached 26,305 TEUs (Twenty-foot Equivalent Unit) in the first half of the year, up 18 percent from 22,293 TEUs in the same period of 2011.

October 1, 2012 0 comments