Some five major US hedge fund style institutions controlling many tens of billions of dollars have just concluded a week in Australia to determine whether to make a major plunge ‘down under’. And, if so, where to invest.
They returned home excited about Australia but their investment strategy conclusions were stunning and potentially nation changing.
I know the names of some of the institutions but I obtained their conclusions on the basis that I would not reveal their names.
The institutions concluded that Australia was a first class global opportunity for investment in a range of enterprises that had a strategy and/or technology to disrupt the fat, high-margin Australian leading companies. And where progress was made on such an attack the second leg of the strategy would be to short the shares in the company or companies that were beginning to suffer.
They also discovered that a global management weakness to attack, that exists among most big global companies, is particularly prevalent in Australia.
Leading the list of industries where disruptive strategies had great potential in Australia is banking but the potential extends across the board, including retail.
In the case of banking the four majors dominate the economy and achieve margins rarely seen anywhere else in the world. They are also measured by institutional shareholders on rates of return on capital and predictable earnings per share growth. Shareholders want high returns via dividends so the banks and other majors have limited scope to sacrifice profits to meet any attack.
Accordingly the US institutions saw big banks as overripe plums. It’s a question of backing the right attacks. Clearly some will come via technology developments, which make Australian banking giants vulnerable to the likes of Google. But given the complexity of local rules, disruptive attacks may come from locals helped by technologies which lower the cost of entry. Currently we are seeing Macquarie backing significant disruption in home finance via Yellow Brick Road and other vehicles. There are at least 10 small banks attacking portions of the banking market and one or two may become serious contenders for the majors.(Small banks are forcing an industry sea change, October 15).
I isolated Australian Defence Bank, which has a much lower cost base from the majors and is expanding very quickly in both loans and deposits. But recently I noticed Heritage Bank has linked with Qantas in the Qantas cash card. There is now capital available to fund major disruption.
Looking back there are many examples where disruptive companies have been big winners in Australia. Seek, Carsales and Realestate.com were major disrupters to the high margin newspaper classifieds; Coles under Wesfarmers was a major disruption to Woolworths but now both Coles and Woolworths are under attack from Aldi and Costco who both have disruptive strategies. The disruptive international online retailers caught the local department stores napping. I could go on.
In each case what made the incumbent major vulnerable was that executives were not encouraged to risk their careers on major innovation or strategies that could insulate the majors from disruptive attack because of the need to maximise returns on capital and earnings per share.
This is a global management weakness in today’s world of high change but it is particularly prevalent in Australia. Once the US hedge funds start backing attacks on Australian majors someone will wake up that part of the measurement of performance should be innovation and strategic ability to counter disruptive attacks. That would change the nation.