Devaluation’s Price
By late July, Orlando Ayala knew he had a serious problem in Southeast Asia, where a rash of currency devaluations was strangling the demand for imported software.
After battling software pirates to build up a $200-million-a-year market for Microsoft Corp.’s products in the region, Ayala was determined not to let jittery investors and speculators ruin his work.
Within 24 hours, the software executive had devised a plan designed to keep his distributors in business until the worst was over.
Ayala’s efforts could cost the software giant a hefty chunk of change, but it might also mean the difference between survival and bankruptcy for dozens of Southeast Asian companies that had staked their future on selling imported U.S. technology. In just a few months, the cost of those products had risen 20% to 40% due to the drastic weakening of the local currencies.
“We will sustain the pain for as long as it takes,” said Ayala, Microsoft’s senior vice president for the intercontinental region.
Here in Thailand, which has suffered a nearly 40% decline in its currency against the dollar since July, the strategies of U.S. technology firms and their partners’ struggles to stay afloat provide a revealing window into the dynamics of the Asian economic crisis and the Darwinian nature of global economics.
Southeast Asia represents a relatively small share of overall revenues for companies such as Microsoft, IBM Corp., Compaq Computer Corp. and Hewlett-Packard Co., and many analysts say that as long as sales in the United States and Europe remain strong and Japan and South Korea don’t slip further into recession, the Asian crisis won’t have a dramatic impact on the fortunes of U.S. tech firms.
Still, this region had been one of the fastest growing in the world, and investors are more then a little nervous about the problems. When Oracle Corp., for example, last week revealed poor earnings due in part to slipping Asian sales, its shares plunged 30%.
And with many local tech firms facing extinction, the ability of major international tech companies to bolster the industry could have significant long-term implications for the region’s recovery and the technology sector’s growth prospects.
For Microsoft, the choice was simple.
Although Southeast Asia represents less than 2% of the company’s overall revenues, it has been one of its fastest growing markets, expanding by 60% last year. The software giant was determined not to lose momentum.
Ayala, who had been in charge of the Latin American region during the 1994 peso crisis, knew that demand for a high-priced product like imported software could disappear virtually overnight when an economy goes into a free fall sparked by a currency run or stock market crash.
“The real challenge for us is to see that the markets are not going to dry out 100%,” he said. “Mexico was a real learning experience for a lot of us.”
Microsoft’s immediate concern was giving local distributors some protection against currency fluctuations so they could keep products moving. The software giant set up a regional system to monitor exchange rates on a monthly basis, and agreed to sell its products to distributors at a certain exchange rate even if the currency weakened further. In November, the company was guaranteeing its prices at a rate of 36-to-the-dollar, even though the Thai baht had weakened to 40.
Microsoft, after all, with its $10 billion in cash on hand and global presence, is much better equipped than its Thai partners to manage currency risk through hedging or other programs.
“We’re blessed with a relatively strong balance sheet and the flexibility to make these decisions,” said Greg Maffei, Microsoft’s chief financial officer.
The software company also decided to cut prices and extend payment schedules for customers having trouble paying bills on time. In Mexico, the firm sometimes gave vendors up to six months to pay their bills, according to Ayala.
But Microsoft expects its distributors to absorb some of the losses by cutting their margins and making changes in their businesses to reduce costs.
“I’m not going to cover 100% of their torture,” Ayala said. “As in any business, you have to have rational people in the middle who will say, ‘I can take this much pain, how about if you take this much.’ ”
The pain is severe for Manit Jatejarungwong. His company, Tech Pacific Thailand, is the Thai branch of Southeast Asia’s largest distributor of imported technology, and before July his biggest headache was managing frantic growth.
Now, with some of his biggest corporate customers facing bankruptcy and PC sales collapsing to 50 units a month from 500, Manit is just trying to stay alive.
Microsoft’s currency risk protection effort, and similar programs from other large U.S. suppliers, have allowed Tech Pacific to avoid huge price increases on many of its products.
Many U.S. companies--including IBM, Hewlett Packard, Compaq and Digital Equipment Corp.--are starting up leasing programs so cash-strapped customers can still proceed with plans to upgrade their technology. Some firms are even slashing their U.S. dollar prices to ease the currency shock.
“We need to help out our partners,” said M.L. Chaivat Chayangkool, managing director of Digital Equipment Corp. Thailand.
In spite of those efforts, Tech Pacific has experienced a drop-off in private-sector business of close to 50% in recent months, according to Manit.
And the prospects for future purchases by Tech Pacific’s biggest client, the Thai government, have dimmed considerably: the beleaguered government was forced to agree to a series of strict fiscal reforms, including major cutbacks in government spending, in return for a $17.2-billion bailout from the International Monetary Fund.
Tech Pacific, which does half its business with the government, had hoped to be a major player in a now-endangered government plan to invest millions of dollars in educational technologies.
“And even if their budget is not cut drastically, the effect is the same because their money cannot buy the product they want anymore since it is worth only 60% of its value in U.S. dollars,” Manit said.
While Manit has watched many of his competitors close their doors or slash their work forces, he has not yet had to take any Draconian measures. But his 49 employees have been warned not to expect any pay raises this year, even though they will be working much harder to push their products.
“Strategically, we must become even more aggressive,” he said.
Narong Intanate, president of Value Systems Co., Thailand’s largest distributor of Microsoft products, said the crisis will be an interesting test of U.S. firms’ commitment to the market. While many large, deep-pocketed companies are working closely with their local partners and keeping their eye on the long term, some smaller U.S. firms have panicked and are pressuring their distributors to pay their bills sooner and refusing to assume any of the currency risk, according to Narong.
“Their business has disappeared,” he said. “And when this is all over, I think they will find they have made a major mistake because they won’t be able to get back into this market.”
Narong also views the present crisis as a trial by fire for Thai firms with global aspirations, weeding out those that can’t reduce their costs and compete against foreign firms on an equal footing.
The hardest part will be convincing Thai companies faced with mounting debts and a slowing economy not to sacrifice long-term competitiveness for short-term cash savings by cutting their technology budgets, he added. “If we cannot live with this uncertainty, the big multinationals will come in and we will not survive,” he said.
Although Narong has no plans to cut his 140-person work force, he expects some of his 900 dealers won’t survive the coming months. He predicts the biggest fallout will be among computer products retailers specializing in software, who will face even greater competition from pirates offering illegally copied products at a fraction of the price.
Even before the fiscal crisis, piracy was a particularly tough problem here, where an estimated 80% to 90% of the software is illegal.
“Software will be the hardest hit because people can use it without paying for it,” said Narong.
That nightmare has already begun for Steve Matous and Nantawan Sushato, owners of the Bangkok-based Lexcel retail chain, which specializes in imported software.
When the Thai baht started its free fall in July, the couple were on the verge of signing an agreement to open six new stores in shopping malls throughout Thailand. Instead, they have closed two of their stores and are struggling to keep the remaining three open.
Luckily, Nantawan has a full-time job as a professor at Chulalankorn University. Her husband, who has done some computer consulting on the side, has even contemplated starting up a small discount variety goods business to keep the cash flowing.
“I’m just playing it by ear, doing one deal at a time and trying to see if I can make a profit,” Matous said.
The shelves of the Lexcel store in Bangkok’s Phanthip Plaza, a giant shopping plaza specializing in computers, electronics goods and software, are filled with inventory purchased before the July devaluation pushed the baht price of goods through the roof.
But even though the retailer hasn’t raised prices, the store is empty on a Sunday afternoon--a stark contrast to earlier times when there were lines snaking out the door. Lexcel’s customers, largely upper-middle-class Thais interested in high-quality educational software and expatriates hankering for the latest titles, aren’t in the buying mood.
Even Thai government agencies, which are required to show receipts indicating that they purchased legal software, don’t have money because of the government cutbacks.
Sales have also been dampened by the recent increase in the value-added tax to 10% from 7%.
Once their inventory is depleted, the owners of Lexcel will have to buy their new titles at the post-devaluation prices and boost their own prices, which they fear will drive even the few remaining customers away.
They are contemplating expanding their business to include hardware, which has higher margins and is more difficult to pirate. But competition in that field is fierce as well.
“In this kind of economy, you cannot expect much from your customers because our customers are also in trouble,” said Nantawan. “I’m a government employee and even we’re not quite sure whether tomorrow the government might have to decrease its staff or our salaries. It’s really unstable.”
While Lexcel’s owners are bracing themselves for more competition from software pirates, they are also getting some satisfaction from knowing that even the bad guys get hurt when the economy goes bad.
“One guy here who has a small pirate shop used to do 1.5 million baht, now he’s only doing about 200,000 baht a month,” Nantawan said. “He said, ‘Look at me, even an illegal guy can go broke.’ It’s a big joke.”
