Legatum Capital continues the legacy of Sovereign Global which was de-merged in December 2006.
Legatum Capital continues the legacy of Sovereign Global which was de-merged in December 2006. Sovereign Global was founded in 1986 by two New Zealanders, Christopher and Richard Chandler. The company evolved from a manufacturing, importing, retailing and property development group established in New Zealand in 1972. In 1986, Messrs Chandler decided to change the business from building commercial businesses to capital management in the larger and more robust international markets. They therefore divested the New Zealand trading businesses and founded Sovereign Investment as an international capital management company.
The lessons learned in small and medium sized businesses in the competitive New Zealand market were to be immensely beneficial in the larger global marketplace. Such daily challenges as the high cost of capital, volatile economic cycles and discriminating consumers provided formative experiences which led to the development of effective risk management techniques and an understanding of the need to constantly evaluate and innovate the business.
The successful development of New Zealand's economy from a small and isolated agricultural nation is a case study in development economics. Since the early 1980s New Zealand has prospered by opening its markets and deregulating barriers to business activity. It is one of the world's most transparent societies offering equal opportunities based upon a strong Anglo-Saxon legal system.
The experiences gained in New Zealand's rapidly evolving economy of the 1980s provided an understanding of a transition economy which would prove helpful in recognising inflection points in other countries.
In the period from 1986 to 1991, Sovereign concentrated its investment activities in Asia. In 1987, with Hong Kong preparing to transition to Chinese rule, Sovereign acquired and redeveloped a substantial portfolio of prime commercial real estate.
The Hong Kong property market had risen to great heights between 1979 and 1981, but then tumbled as rapidly and as far as it had climbed due to a massive oversupply of space. Merchants of gloom predicted that it would be many years before the market absorbed the oversupply.
The slump in property prices was reflective of Hong Kong's broader economic recession in the mid 1980s. This was exacerbated by the flight of capital following British Prime Minister Margaret Thatcher's announcement on 19th December 1984 of the decision to return the colonial territory to China in 1997. It was clear that an inflow of capital with a long-term perspective was required to end the uncertainty over Hong Kong's future.
It was against this background of uncertainty that Sovereign bought Century Square, a prominent commercial property in the centre of Hong Kong. Over the following years, Sovereign acquired three further prime real estate properties - California Tower, Bank of Tokyo Building and Finance Tower. Sovereign also invested in the securities of several Asian companies, with a primary focus on the real estate sector.
In 1988 commercial office rentals and valuations began to recover due to the resurgence of confidence and capital back into the territory. Hong Kong has an enviable track record as one of the world's most adaptable economies, able to recover quickly from economic setbacks. Hong Kong plays an important role as an international financial and trading centre, in addition to being the commercial gateway to China. But the ultimate sources of strength for Hong Kong are its highly flexible workforce and entrepreneurial managers.
From 1991 to 1993, Sovereign supported the transition of several Latin American countries to democratic, free market economies.
Brazil entered the 1990s as the world's 10th largest economy with a population approaching 180 million. Its Gross Domestic Product ('GDP') of $377 billion was double that of Mexico, its nearest Latin American rival. But despite Brazil's huge potential, its people and its markets have struggled for generations under institutionalised political corruption that has inhibited economic development.
Brazil was beginning to emerge from a decade of hyper-inflation (rates exceeded 1000%) towards an economy founded upon orthodox economic policies and fiscal responsibility. But the uncertainty caused by President Collor's impeachment proceedings in 1991 led to a sell-off of Brazilian equities as capital flight accelerated.
Brazil's growth and development depended upon reversing the obstacles to capital and investment flows. Only when barriers to international capital were removed was the country and its corporations able to gain access to the investment necessary to build a sustainable economy.
Following the deregulation of the Brazilian stock market, in 1991, Sovereign was among the first foreign portfolio investors to enter the Brazilian stock market, acquiring a significant position in Telebras, the state-controlled national telephone company.
Other investments in Brazil included Electrobras, the Brazilian power generation and distribution monopoly, and Banespa, the bank of the state of Sao Paulo. During this time Sovereign also invested in Latin American government bonds which were restructured following the 1980s debt default across the region.
For a decade, from the birth of the Russian stock market in 1994, to 2004, Sovereign was the largest institutional portfolio investor in Russia.
Even in the final stages of Communism, Russia's economy ranked as one of the largest in the world. On the basis that it contributed half the GDP of the USSR, this placed it ahead of Germany, at around $1 trillion (on a purchasing power parity basis). But with its emergence as an independent state following the collapse of Communism in 1991, Russian GDP contracted severely, slipping to 10th in the world behind China, India and Brazil.
Starting with the birth of the Russian stock market in 1994, Sovereign made equity investments in companies including Unified Energy Systems, Mosenergo and Irkutskenergo in the electric utilities sector, the Novolipetsk steel mill and various oil and gas companies including Gazprom, Lukoil and Surgutneftegas.
In 1998, Russia defaulted on its $40 billion domestic debt obligations, causing the Rouble to plunge and the stock market to fall 95% in Dollar terms from its mid 1997 highs. However, as economic and political uncertainty diminished and commodity prices strengthened, Russia began the road to recovery.
In addition to economic opportunities, all market participants in Russia's rapidly changing economy of the 1990s were faced with ethical and moral choices. Dilutionary share issues, intimidation and fraud were considered tame at a time when bankers were being murdered and competition for valuable resources often devolved into a test of force by private militias.
It was clear that if Russia was to develop a trustworthy and prosperous capital market then capital market participants - whether domestic or foreign - would have to stand up for investor property rights and ethical corporate governance. This is what Sovereign did with its investments in Novolipetsk and Gazprom.
By April 2006, the windfall of high energy prices had driven foreign exchange reserves over $200 billion. In the preceding six years, economic growth averaged 6.7% and the stock market increased five fold.
In late 2002, Sovereign made a significant investment in the Japanese banking sector as the economy started to enter a period of sustainable recovery following the asset bubble collapse and deflation of the 1990s.
Japan's economic significance is immense. The country, with a population of 127 million, is the world's second largest economy (third on a purchasing power parity basis) with a GDP of 4.7 trillion US dollars. It is the third largest trading nation and the largest creditor state, with net external assets of approximately $1.1 trillion.
In the aftermath of the 1980's asset bubble the Japanese financial sector was left with bad loans totalling 43 trillion yen, or 8% of GDP; the manufacturing sector had huge over-capacity; land prices stagnated; and the stock market was depressed. This tipped Japan into prolonged recession as the country suffered a severe deflationary cycle. The 1990s were marked by many false dawns and uneven structural reform.
The arrival of a new political leadership in 2001, in the guise of Prime Minister Junichiro Koizumi, sent a clear signal that Japan was ready to break with the capital destructive policies of the past. Koizumi adopted a reformist approach to monetary policy, appointing Toshihiko Fukui, a known monetary conservative, to the governorship of the Bank of Japan in 2003.
The combination of Fukui's monetary stimulation and Minister of Economy Takenaka's work to clean up non performing loans in the banking system has put the Japanese economy on a sounder footing. Capital allocation practices have improved and cross-shareholdings between financial and industrial enterprises have been significantly reduced.
These developments have provided the catalyst Japan needed for recovery - the commencement of a journey from deflation to inflation. The stock market has responded to the turnaround with the Nikkei index rising to over 17,000 in 2006 from a low of just under 8,000 in 2003.
Sovereign invested in Korea starting in 2002 as the country was still recovering from a financial crisis that had significantly weakened its economic foundations.
South Korea's economic miracle, since the end of the Korean War in 1953, has been spectacular. The country has emerged from an agrarian economy into an industrial powerhouse in little over one generation. It is the world's 11th largest economy with a GDP of $680 million and provides a home to a diverse collection of large manufacturing industries and global brands including Samsung Electronics, Daewoo and Hyundai. However, the economic growth model was aggressively mercantilist with the government sponsoring the build up of a number of large, diversified, export-oriented family groups or 'chaebol'. Unhealthy government-business relationships resulted in the chaelbol monopolising available credit through government directed funding. These funds in turn were misallocated to a wide variety of capital destructive activities, including donations to political parties.
In 1997 the Korean economy collapsed after the reckless debt fuelled expansion by the chaebol brought down a system that had prioritised scale over profitability. The chaebol owed $350 billion to Korean banks which could not be serviced. The banks could neither foreclose nor write off bad loans without themselves collapsing. Indeed much of the banking system was ultimately bailed out by the government. Between July 1997 and June 1999, 11 of the 30 largest chaebol collapsed. The country was given $58 billion in financial assistance by the IMF, the largest bailout in history.
Sovereign made its first investment in Korea in 2002, as the country setting its sights on becoming the leading financial centre in north east Asia, acquiring a 3% stake in Kookmin Bank, one of Korea's leading financial institutions. However, it was the collapse of the share price at the country's third largest chaebol, following an accounting scandal, that led to one of Sovereign's most publicised investments. In 2003, Sovereign became the largest shareholder in SK Corp, South Korea's largest oil refining company.
In February 2005, Sovereign acquired a 7.2% stake in LG Electronics, a leading manufacturer of white goods and consumer electronics, and a 7% stake in LG Corp, the holding company for the LG Group. The group is widely regarded as a well managed modern chaebol. All of Sovereign's investments in Korea have reflected a desire to help build national role models transitioning to international standards essential to meet the global ambitions of Korea's leading corporations.
Legatum has made a significant commitment to India, with over $1 billion invested to support the development of the country's financial services sector. Financial institutions are like an irrigation system in an economy carrying precious liquidity to the areas that really need it through insurance, savings products and general banking services that ultimately create higher standards of living. Wise capital allocation and commerce are the best means of accelerating prosperity. They have the power to dramatically change the lives of the 44% of Indians living on less than $1 per day.
Present day India is one of the fastest-growing economies in the world. On a purchasing power parity basis, it is already the world's fourth largest economy - trailing only the United States, China and Japan.
Whilst in 1991 the country was in the throes of a foreign exchange crisis and forced to turn 'cap in hand' to the IMF for assistance, by 2006 it had in excess of $145 billion in foreign exchange reserves - 25% of that accounted for by the booming IT sector. This is a staggering pace of change.
There are, of course, a number of challenges still looming on India's horizon. Much of India's infrastructure is antiquated, and cannot support the expanding population. Education is highly uneven - with a few excellent universities offset by a much larger system of schools that are not serving local populations. Regulations and trade unions still hamper business, and with India importing 60% of its oil needs and an increasing amount of natural gas, it is vulnerable to global energy prices.
The global economic impact of India's emergence will be profound - India is estimated to grow to 17% of world GDP in 2050 from a mere 2% in 2004. Financial services have a key role to play in ensuring that India not only fulfils this potential, but in transforming the country's growth into prosperity for all.
