Mumbai: He is co-founder of Stern Stewart and Co., the company which devised the EVA (economic value-added) metric that helps companies calculate whether they earn more than what their capital would have earned in projects and companies with similar risk profiles. Dressed in a suit, and wearing a hat and a dopey bag with several pockets, Joel Stern seemed reluctant to do the interview in the five-star hotel lobby, saying it was noisy. It seemed serene and quiet to us.
Stern then took us on a tour of the hotel—to find a small cosy corner where he could share with us his grim prediction on US president Barack Obama’s tenure, about Indian businessmen, the world recession and why God is an Indian. Edited excerpts:
Crisis talk: Stern says the US economy may be down by a minimum of 3% and possibly as much as 5%. Ashesh Shah / Mint
How often do you visit India?
Three to four times a year. I had never been to India prior to 1999. That year, I gave a talk in San Jose, California, to a group called TiE, The Indus Entrepreneurs. It was a Saturday morning. I didn’t expect more than 10 people to show up that day. Guess what happened? Seven hundred people showed up.
That was my first exposure to India. A man walked over to me. He said he was from HCL and he wanted me to work with his company in California. I said, it’s not going to happen because the people in Delhi would have to approve.
And that’s exactly what happened. HCL invited me to Delhi in 1999. One of the companies in the HCL group, called NIIT, and the chief executive was a man called Rajendra Pawar. He was wondering whether we would like to work for his company. I told him that if we do, then HCL will be the first Indian client. He said in that case you should give me a discount. He was always negotiating (laughs).
When did your association with the Tatas begin?
In 1999. Morgan Stanley invited 100 guests and they let me give a speech to the audience. One of the people in that gathering was a man called Mr F.C. Kohli of TCS (Tata Consultancy Services Ltd). Probably amongst the five most curious people I’ve ever met in my life.
What was about him that was different from the rest?
He was always thinking, always asking questions, always reading. Maybe a year later, I gave a talk to Assocham. When I spoke, I presented my ideas and a mathematical model that described this idea.
I showed the mathematical model. No place else in the whole world ever asked me the next question. Could you show us the derivation of the model (laughs aloud). If you touched me, I would have fallen right down.
I was in shock. Because my students at Columbia University say...please don’t show it (a mathematical model) to us (laughs again). But in India, the chief executives wanted to see the mathematical model.
But I did remember saying this. Excuse me, before I show the derivation, is there anybody here who does not want to see it? And no hands went up (laughs again). These Indians!
That happened in 2000. We had a chance to work with the Tata group. I had a chance to meet with their chief financial officer, a bright smart man: Ishaat Hussain, director (finance), Tata Sons. And Mr Ratan Tata. I made a presentation to them. And Mr Tata said to me, if you were me, what will you do?
What did you tell him?
I told him the truth. I will not hire me to do everything. I will select one piece and make that a pilot and see how it does. And that’s what he did. He selected TCS. What was interesting was Mr Kohli wanted to be the pilot.
Who are the other four (curious people)? Is there another Indian?
His name is Adi Godrej. He goes to my conferences and he always shows up first. You know why? He wants to sit in the front row and he doesn’t want anybody interrupting him.
My background is physics and mathematics. I came to economics very late in my schooling. I started taking classes. It was all too amazing. I thought to myself, could you use mathematics to actually model things? I started to study Milton Friedman. In the economics department in the University of Chicago, and after that, I became interested in financial economics. I studied with Merton Miller, of Miller-Modigliani fame. All these people eventually won the Nobel Prize. Myron Scholes, who won for the Black-Scholes (options) pricing model, was my classmate.
When did you start forecasting on the economy?
I was with Chase Manhattan Bank. I was running the consulting operations of the bank. The chief economist of the bank was my friend. His name was Bill. And Bill told me, I want to give a piece of advice: Do not forecast bad times. The reason is if it doesn’t happen, people will never forget that you said it will happen. If it does happen, they will blame you for it. They will say it was caused by your dopey forecast and (that) people listened to you and stopped buying.
Will India suffer long from the ripple effects (of the global recession)?
Oh yes. India’s long-term growth rate was 5% a year. All the way to the 1980s. Singapore, 6% a year. Along comes China. Nobody thought anybody could grow in double digits. Well, if you start with a very low number you can grow in double digits. But their growth rate was accelerating. It was unbelievable.
When they were up to 10% and 11%, (people) said, “Man, this is for real.” The sudden and unexpected surge was so huge that it had an unbelievable impact on commodity prices. The big questions now are how long will it last, how bad it will be and how much of it will affect India, China, Singapore? The general view is the recession will be over some time in 2009. Obviously, they’ve been drinking sake.
I believe China will be affected more than India for two reasons. One, India has been on a solid path for 25 years. The country is in great shape. Not the infrastructure. I mean, I don’t need a massage. I don’t need a masseur. I just have to ride your roads. My whole body kind of goes like this (he shakes his whole body).
The British tradition of industry here is very powerful and very good. If you meet people in banks like ICICI Bank, they are as 21st century as Goldman Sachs. India has the IIMs (Indian Institutes of Management) and IITs (Indian Institutes of Technology), there are lots and lots of people who are well trained in India.
How’s China different?
China is experiencing what I call first-generation success. Here, success is part of the normal process. In China, you can’t believe what is going on. The unemployment numbers are just going through the roof because they are scaling back like crazy. You don’t get the same feeling of disaster here in India.
Here is my gut feel. In the US, almost all people are saying that US economy will be down this year by 2%. That’s wishful thinking. It will be a minimum of 3%, almost certainly 4% and possibly as much 5%. The worst of the crisis is still ahead of us.
For example, it is possible even now that Citibank (will be) gone. It’s possible that Mr (Vikram) Pandit knows that if he doesn’t sell off those assets and replenish his shareholders equity, maybe he will not have shareholders equity.
Whether it is Tata Motors or Tata Steel, I haven’t looked at the numbers, I bet you, share prices are down very sharply. Why should that be? Tata Motors gets most of the business in India. Why should their share price get impacted?
But the slowdown has impacted us in India, and the acquisition of Jaguar Land Rover (JLR) has given them a lot of pain. Maybe temporarily, but pain all the same.
That (acquisition) was really smart. Actually I like Jaguar, although I cannot afford it. Listen, when Ford bought Jaguar, someone had lost his mind. Because you have to understand that the culture is completely different.
It’s like the difference between Daimler and Chrysler. Or between Price Waterhouse and Arthur Andersen. When Price Waterhouse and Arthur Andersen were talking a merger, I told my friend Jim Schiro who ran PwC (PricewaterhouseCoopers) that you are making a big mistake. The PwC culture is completely different from Arthur Andersen.
(The Tatas’) timing wasn’t that great. But there’s always tomorrow. As long, as they have enough equity to carry through into two-three years from now then the Tata-JLR would be fine. Plus it was at a distressed price. He paid almost nothing for it.
So how will all this bad news evolve?
Here’s the next shoe that will fall. General Electric (GE) will lose their triple-A rating. They thought they are a bunch of smart boys. And GE Capital took on mortgage loans, too. That was not smart. That was easy money.
Is this a time to make acquisitions?
Yes, it is. One of the rare opportunities to buy lower.
But many large Indian corporations such as Hindalco-Novelis, Tata Steel and Corus Group and Tata Motors and JLR are in some amount of pain.
Bad luck. In hindsight, shareholders may ask, why enter markets in an economy that is slower than the Indian economy? They (Indian companies who made those expensive acquisitions) looked at the wrong required return of capital employed. They should have instead looked at required return for risk—both lender’s risk and shareholder’s risk—and they were only looking at covering their cost of debt. They were not looking at the required return on their equity. If they had, they would never had paid those prices.
It happens all the time near the end of the economic expansion. Some of the smartest people drink sake and then say anything is possible. They lose their discipline.
When companies make such acquisitions, what goes wrong?
People should have realized that our economic expansion was suffering from old age. World economic expansion runs no longer than seven years.
If you are in the middle of the circus and you are down on the floor. People are clapping and the music is terrific. You even believe it.
If I were making an acquisition of Jaguar in 2007, and I would say you better be getting it cheap. And they did. They didn’t pay much for that; that was a good acquisition. But you are right in terms of the steel business. Take a look at Mittal. They bought Arcelor, right. They bought a steel company in South Africa... They paid some nifty prices, too. Take a look at their share prices. They have gone downstairs. One of the things why the markets take a deep dive is because the markets become aware with the benefit of hindsight that they overpaid. But at the time they overpaid, I didn’t see any journalist say: Oops, are you sure? Have you overpaid?
Do you see a future for conglomerates?
Yes I do. The whole business of core competencies...there is value in each of the businesses. In other words, if you add up the value created, the total value is greater than the individual business.
Somehow, there is expertise that creates value that exists because these units work together. In GE, they are in the refrigerator business; what does it have to do with airline engines? But if you take a look at GE performance over the years, there is something quite unique about their people. They have outstanding business managers. So when he moves to another division he doesn’t forget his old colleagues. He continues to give them ideas. That’s part of their excellence.
GE was always a conglomerate. Even if you go back to the 1940s, it was a conglomerate.
And there are still some companies that are conglomerates... Paramount, Viacom, Teledyne Northwest. Then it became a big trend to de-conglomerate. In my view there is no general theory of management that says that conglomeration is a bad thing.
If you talk to the people at the Tata group or the Reliance group, they will tell that they are interested in making investments on which they can earn a high rate of return. If they pay a high entry price then they have to believe that they are going to perform brilliantly on that high price. Otherwise it will not be worthwhile. It is my opinion that Reliance Industries and the Tata group historically have been very successful in operating their businesses. They have been conglomerates the same way GE has been a conglomerate. The people on top are just like Jack Welch, they know what they are doing.
I hope none of the Indian companies is tempted to buy the American auto companies. It is a gigantic black hole... And they have had a very bad luck... When the price of oil went up, they said stop the SUVs (sport utility vehicles), lets do hybrids. As soon as they got the hybrids ready, the price of petrol collapsed. General Motors’ Rick Wagoner must have said, “God, are you Indian?” Because he got whacked. It costs $350 million (Rs1,704.5 crore) to switch plants. We know now for sure that God is Indian.
What would be your advice be to Indian corporate captains?
This is the time to drive down fixed costs in your business. You shouldn’t shut down the plants. You should moth ball the plants for three years from now, if the occasion so demands it. Keep in mind the growth rate in India will still be positive. I don’t think it will be six or seven (per cent). India, I think, will be like Japan before the 1990s.
In my opinion, there will be a very large number of candidates available who are attractively priced not in India but outside India... The benefit of having cash is to make acquisitions. In my opinion, this is a fantastic opportunity to make acquisitions literally anywhere.
• Adi Godrej always shows up first at my conferences so he can sit in the front row and no one interrupts.
• When Ford bought Jaguar someone had lost his mind. When Tata bought Jaguar, it was really smart.
• Jaguar-Land Rover was a distress sale. The Tatas paid almost nothing for it.
• The top people at Reliance Industries and the Tata group are like Jack Welch—they know what they are doing.
• Growth rate in India will still be positive. India will be like Japan before the 1990s.
• People in banks such as ICICI Bank are as 21st century as those in Goldman Sachs. There are lots of well-trained people in India.