How will Malaysian firms cope once the mega-FTA is in place?
Penang Institute
Press statement – 28 January 2016, Penang
Dr Lim Kim-Hwa, Chief Executive Officer and Head of Economics
Mr Tim Niklas Schoepp, Chief Operating Officer
Dr Lim Chee Han, Senior Analyst
Dr Negin Vaghefi, Senior Analyst
Ms Ong Wooi Leng, Senior Analyst
The Trans-Pacific Partnership Agreement (TPPA) is a comprehensive free trade agreement that involves 12 Pacific Rim countries: Singapore, Brunei, New Zealand, Chile, the US, Australia, Peru, Vietnam, Malaysia, Mexico, Canada and Japan. The motion on TPPA was approved in Parliament on 27 January 2016.
Are Malaysian firms competitive versus their peers?
Penang Institute undertook a study to evaluate the competitiveness of Malaysian firms, as measured against their peers from: 1) a sample of TPPA countries; 2) countries which are keen to join the TPPA but are not currently part of the twelve founding partners; and 3) other countries with similar levels of development compared to Malaysia.
In our report (available from www.penanginstitute.org/tppa), Malaysian firms are categorised into: 1) Government Linked Companies (GLCs) or companies with significant Bumiputera ownership (Bumi); 2) large private non-GLCs; and 3) small companies. Under carve-out clauses in the Malaysia chapters in the TPPA, the first category of firms enjoy certain exemptions and exclusions. Unless firms in the second category operate in certain industries, they will not be included in carve-out clauses in the TPPA. Firms in the last category consist of those that have actively traded stocks and are not in the FBMKLCI index. These are proxies for small and medium-sized entities.
Competitiveness measure 1: Firm size
We evaluate firm competitiveness from four angles. Firstly, we look into firm size as measured by market capitalisation and total assets. Larger firms are likely to be more competitive due to their ability to raise finance, achieve operational efficiencies, negotiate better business terms and participate in innovation. They are also more likely to attract better talents and be able to capitalise on the TPPA. These are all expected economies of scale.
Competitiveness measure 2: Stock market valuation metrics
Secondly, we use stock market valuation metrics such as Price-Earnings, Price-Sales and Market-to-book-value ratios to infer the firms’ competitiveness as perceived by the market. Generally, a higher ratio implies that the firm has higher growth. Besides, as stocks can be used as acquisition currencies, highly rated firms can acquire other firms using their paper.
Competitiveness measure 3: Firm leverage
Thirdly, we look at firm level leverage using net debt per share scaled by stock price, total debt to capital employed, total debt to total assets and total debt to total equity ratios. We are cognisant of corporate finance theories of optimal leverage ratios and of the fact that industry dynamics often determine leverage. Higher or lower leverage need not necessarily indicate better competitiveness; nevertheless, a cross-sectional comparison within an industry or sector would give an idea of the firm’s need and access to capital.
Competitiveness measure 4: Profitability
Lastly, we assess the firm’s competitiveness using profitability as measured by return on asset. This ratio captures the return on investment and firms’ ability to earn profits from its capital base.
Sample and period of evaluation
Our sample includes over 3,000 firms from 13 countries in Asia, functioning between 1997 and 2015. We further subdivide our sample firms into ten major industries and 41 sectors. We specifically investigate the period after 1997 because the Asian Financial Crisis that broke out that year provides a good structural break and would have synchronised the economic cycle of many countries in our sample.
Key findings
Malaysian firms are generally smaller measured by market capitalisation and have smaller Total Assets; they are disadvantaged in achieving economies of scale. Larger firms in Malaysia are more reliant on borrowings versus smaller firms, and versus their large overseas peers. Malaysian GLCs are fairly competitive versus their foreign peers, and large GLCs/Bumis are generally much larger and are higher rated, with access to borrowings. Arguably, these firms may be much better placed to compete as well as benefit from the TPPA, whereas smaller firms in Malaysia are generally substantially smaller than the large ones, have lower leverage, are lowly rated by the stock market (with market valuation less than book value) and are less profitable in many industries. These firms are likely to feel the competitive pressure arising post-TPPA.
Our analysis by industries and sectors shows that small firms are generally not competitive. This is quite apparent in the oil and gas industry, where the smaller players are either loss-making or earning profits that are lowest among their peers. Amongst banks in Malaysia, although they have profitability comparable to their peers and above average stock market ratings, they are reasonably small as measured by Total Assets. Hence, they may not be able to compete effectively. Perhaps due to these reasons, there are exclusion clauses covering both industries. As expected, technology firms in Malaysia are not competitive; however, due to rapid technological changes, our methodology which uses historical data may not capture the future opportunities in technology.
Firms not competitive in the basic materials industry are only concentrated in the mining sector. Malaysian firms operating in chemicals, forestry and paper, and industrial metals and mining sectors are reasonably competitive. Within industrial firms, apart from one non-GLC firm, electronic and electrical equipment companies exhibit below average competitiveness performance. As a whole, Malaysian firms in the consumer services industry are reasonably competitive, but may suffer more pressure from external competition due to their high debt, lower profits and smaller scale.
On the other hand, Malaysian consumer goods firms, in particular food producers, seem to demonstrate size, leverage, profitability and stock market ratings that indicate that they are reasonably competitive. This also applies to the telecommunications industry where GLC/Bumi firms, non-GLC firms and even small firms have competitiveness.
The TPPA debate in Malaysia has also touched on healthcare issues. Although lacking in scale, Malaysia has two small but highly profitable firms in the pharmaceutical and biotechnology sector. Nevertheless, Malaysia leads in the healthcare equipment and services sector; Malaysian private health company, IHH Healthcare, is very large and is highly rated by the stock market. High quality healthcare system is dependent on many factors such as accessibility to the best drugs, good delivery of service and protection of intellectual properties. Our findings show that while Malaysia lags in healthcare R&D, it leads in the delivery and private provision of healthcare.
The utilities industry is highly regulated and considered strategic in many countries. We find that Malaysian utilities perform well on many aspects and should be able to capitalise on the opportunities arising from TPPA.
Winners and losers
In conclusion, our analysis shows that there are TPPA “winners” and “losers”. While joining the TPPA could be a strategic decision for Malaysia, the right balance needs to be struck such that the “losers” (whether individuals or businesses) can have an alternative path of developing.
Although exclusion clauses can alleviate competitive forces in the short term, this may come at the expense of long-term development potential. This is particularly so due to the negative signals sent from the exclusion clauses. Malaysia may have lost an opportunity to undertake fundamental reforms to increase its competitiveness.
In this situation, we may have won the battle in getting the necessary domestic acceptance to join the TPPA, but lost the war in not addressing the structural issues impeding Malaysia’s ability to attract capital, retain talent and incubate innovative ideas.