Car subsidies are a tax on other innovative activity

As Australia’s car industry  faces its many challenges political debate has broken out about whether the industry should receive more subsidies. There are no new arguments in the current debate with supporters pushing that the industry is needed to support jobs, innovation and a continuation of value added activity in Australia. The counter point of view turns on whether channelling money into the car industry is the most effective way to support jobs, innovation and value added activity in Australia.

While there is no question that the arguments of the supporters of subsidies have merit, I struggle to embrace their side wholeheartedly. The car industry worldwide has indeed a long history of innovation and this innovation has had spillover effects into many other areas. But I have two core concerns with the level of support given the car industry: 1) The car industry also has a long history of being slow to change direction and evolve their business models; and 2) There are many small nimble companies innovating on a world class level that are being starved of capital that is going to the car industry.

The first concern is essentially asking the question as to whether the car industry is  best placed to invest tax payers dollars to achieve the economic outcomes desired of it. The big manufacturers’ delays in developing clean/cleaner technology is a case in point. For years they were happy to milk the profits from their higher margin SUV vehicles, while paying very little attention to the impact of rising fuel prices. Only when they were on their knees did they begin to truly invest in clean/cleaner technology alternatives. But by then, the fat profits from years of high SUV sales had been wiped away by operating losses associated with falling sales as higher fuel prices bit hard. So, they came back for more subsidies to pay for investment in clean/cleaner technology. In effect they squandered the profits generated off the back of prior subsidies. Profits that ought to have been invested in clean/cleaner technology alternatives to drive the next wave of profit growth.

The second concern is asking the question why are we not channelling more money directly into the smaller companies to support their world class innovation activities. Arguments that this happens indirectly through the car industry are specious at best as the car industry has long shown its first concern is its own vested interests, as you would expect of any business/industry. My example above clearly demonstrates the inefficiency of relying on the car industry to indirectly support other innovative activity, jobs and value added activity. They are actually a tax on other activity through their stranglehold on subsidies.

Unfortunately, the debate has again been hijacked by politicking around the sound bite aspects. Hundreds of millions of dollars of subsidies will go to the car industry, at the same time as small innovative companies go to the wall because they can’t raise a few million dollars.

The difference between critical analysis and support

Start-ups are difficult beasts for a multitude of reasons, but let me focus on just one today.

The founder is the lifeblood of a start-up, but they can’t do it on their own. And therein lies the challenge of bringing a great idea to a commercial proposition.Working with founders to give them enough rope to ensure they have the support they need but not so much rope as they hang themselves.

In providing the necessary support for founders, non-founders (often the Board and professional/sophisticated investors) need to ensure rigour and discipline are an integral part of the culture of any start-up. All companies, no matter what stage they are at, require rigour and discipline, in whatever form is appropriate for the business’ circumstances. This involves a process of continuous analysis of the business strategy and its execution. However, often this process is interpreted by founders as demonstrating a lack of support or that it is creating innovation inhibiting structures.

In fact the truth is quite the opposite. Critical and continuous analysis is supportive of the business and the founder and if done well, this process will establish and maintain a solid fundamental underpinning to the business and its strategy and set it up for success.

When founders start to resist processes such as this, one should seriously consider their motives and dig deeper to ensure the founder is not setting up a structure populated by “yes” men. If that is the case, the business will no longer critically assess its strategy and its execution.  No matter how good the idea is, the business will, more often than not, be on a path to failure.

A good Board and good investors play a critical role in preventing such practices developing. This is where they really earn their stripes in a start-up.

Just do it….

The Economist last week featured a special on Australia, in which it made several interesting points about our place in the world and what we may be able to achieve. The essence of their challenge to Australia and Australians was that by employing a little self belief the nation has the potential to make significant advances in economic growth and standards of living. Well beyond what we may achieve if we continue to wait for the rest of the world to take the lead.

I was particularly drawn to The Economist’s comparison of Australia and California and its point that Australia has the capacity to create its own Silicon Valley. On a number of occasions I have written about the strong fundamentals of Australian innovation, the strength of our economy and regulatory and legal framework, the capacity of our people to produce world class innovation and our enormous pool of investable capital. Add to that our country’s capacity to attract skilled immigrants to complement our own skilled workforce and it is not an undemanding task to imagine the creation of our own Silicon Valley.

So what is stopping us from doing just that? A lack of self belief and awareness of our role in a modern global economy.

I often hear that we are not successful innovators because we suffer from the tyranny of distance. But this is nonsense. Instead we are geographically advantaged. We are a critical party in the fastest growing region in the world. Enormous growth potential exists on our doorstep for our innovative companies, who ought not need to tramp off to the US to make it.

But they lack one thing – the necessary infrastructure and funding to realise their potential. But this doesn’t mean we need to keep moving offshore. It means we need to invest wisely in ourselves and then reverse the brain drain this country has continually suffered.

To achieve this our political leaders need to be visionary, but not necessarily courageous. They all accept that innovation is a critical component of economic well being, but fall down on the implementation.

Our innovation shortcomings are not the result of a lack of talent or capacity, it is plainly due to a lack of support from government and the private sector. But, if the private sector is to play a bigger role, the government needs to take the lead and be innovative in its policy making and the way in which it engages the private sector.

That is the challenge for governments of all persuasions.

Ignore innovation funding at our peril

Innovation is universally recognised as a significant contributor to economic growth and higher standards of living. So why is it so difficult to get proper investment and support into local innovation? More specifically, why is there very little attention paid to encouraging superannuation money to be invested in local innovation.

The recently released Cooper report on Australia’s superannuation system contained some useful recommendations, however the report and the public debate have had a heavy emphasis on fees paid for the management of superannuation fund investments. Don’t get me wrong, this is a useful debate to be had. However, it seems to have become the debate about superannuation.

Yet fees only have a small impact on total returns made by superannuation funds. The real debate to have is about how superannuation funds are invested, because this has a far greater impact on return outcomes and the living standards of superannuants. I have noted living standards deliberately, because superannuation outcomes almost exclusively are focused on the returns earned. That is fine, but equally important are living standards. There is no point in having a large pool of retirement income, if living standards are falling. And a sure way to improve living standards is through innovation.

Unfortunately, there isn’t too much debate about this, probably because it is an inherently more difficult subject matter to present. But that shouldn’t excuse the government and the industry from having the debate. Especially in the current climate when there is such an enormous disconnect between the allocation of investable capital and domestic economic requirements and when the broader domestic economic outlook is so strong.

We were reminded of this problem yet again when the Future Fund recently announced that it would invest in Indian innovation. Thereby, continuing a long held preference of it to invest in overseas innovation instead of local innovation. Unfortunately, the Future Fund is not alone in this regard – all local superannuation funds would rather invest in overseas innovation than local innovation. Furthermore, no local superannuation fund is actively investing in local innovation.

As problematic as this is, the problem becomes more acute when one considers how, under a carbon tax regime, this country will develop alternative energy sources when our largest pool of private capital is not supporting local innovation.

Whatever the government allocates to assisting to develop alternative energy (and to other innovation pursuits) will be wasted unless and until private capital is engaged to support local innovation over a sustained period of time (across all segments, not just alternative energy).

And until this happens this country will preside over a massive destruction of economic wealth and our elected representatives will be condemned for riding the mining boom into the ground.

What gives, Treasurer?

Treasurer Wayne Swan, yesterday posited that mining boom 2 would not deliver the same revenue gains as mining boom 1. I personally find this difficult to swallow, but in any event the obvious question to ask is: If this is truly the case what will the government do to diversify its revenue streams? Specifically, will the government make a proper commitment to funding and supporting innovation in order to capitalise on our strong economic position and provide the diversification from our mining sector that is sorely needed? Now, we should be doing this anyway, but the Treasurer’s comments logically provide the opportunity to turn this into a reality.

But don’t hold your breath.

Where are the initiatives to create jobs in other areas to counter the pull from mining? Why in the last few weeks has the medical research community had to lobby the government intensively to stop them from stripping A$400m from the medical research budget. The consequences of which are estimated to cost A$129b over time. There are also strong rumours that there will be a 25% cut across the board of research funding.

So at a time when the Treasurer wants us to believe that mining boom 2 will not be as beneficial as mining boom 1, and is using this to justify budget cuts, we are seeing constraints put on the sectors that have the potential to make very strong contributions to growth and standards of living. Moreover, these constraints are expected to come at a ridiculously high cost in an absolute sense and relative to the size of the budget cutback.

How is this possible?

Storm Financial Will Happen All Over Again

I have been watching with interest the Storm Financial saga (and other similar cases). Inevitably in cases like this the attention is focused squarely on the operator as the doer of wrong and regulators and legislators take reactive action to try and prevent such things happening again. But what I want to focus on is the almost certain prospect that a Storm Financial case will occur again in the future. Why am I so convinced? Because the underlying fundamental investment strategy employed by Storm Financial was not illegal. The investment strategy was simply a leveraged play on the stock market taken too far and without proper and adequate investment controls. Right now I can buy stocks, I can borrow money to fund the purchase of those stocks, I can use my life savings to buy those stocks, I can take out a margin loan to buy those stocks, I can have too much exposure to those stocks, and so on.

As I have said before the only way to effectively minimise the chances of a Storm Financial happening again is to put more attention and resources into properly educating the workforce and our children about investing. The earlier the education process starts the better off we will all be. We have a compulsory superannuation system and so every worker has a vested interest in being better educated. The ability for one to self manage their super makes education even more important. But if people are unable to make informed decisions life savings and retirement incomes will continue to be lost or severely impaired. Not many people have the resources to recover from such losses, so government should work harder on proactive measures, rather than reactive regulatory and legal measures. It is too late then.

 

Where are Australia’s repeat entrepreneurs?

Over the years there have been a number of Australian start-up success stories. Problem is we are very bad at promoting our success and so the failures grab all of the attention without challenge.

One thing that puzzles me particularly is the profile of our successful entrepreneurs. Specifically, we just do not hear about them. Either because they are happy to stay in the background or simply because we do not have the forums to promote their successes and allow them to pass on their experience to the new batch of entrepreneurs coming through. Either way this is a great shame and their experience and expertise is in danger of being wasted.

Collectively, we have to do better than this.

 

How to waste a trillion dollars…..

Australia has just over A$1.2 trillion in superannuation/pension assets. By some measures this is the 4th largest pool of such capital in the world. This is particularly impressive when Australia ranks around 17th in the world on a GDP basis. So how does Australia invest this pool of capital to create wealth and higher living standards for its superannuants? Well, actually, it doesn’t really.  Instead it invests the vast majority of it in old capital – that is, by buying listed shares and bonds of Australian and overseas companies. Very little of this capital goes to creating new capital in the economy and being invested in the assets that will drive wealth creation and higher living standards.

Australia suffers from a chronic shortage of infrastructure, innovation, health and education funding while at the same time it has an abundance of capital. The economic and social benefits of investing in infrastructure, innovation, health and education are indisputable. Moreover, the returns from these investments are entirely consistent with the objectives of superannuants – wealth creation and higher living standards.

So what gives? Vested interests and lazy government policy, that’s what.

The Superannuation industry is big business these days and participants are petrified from straying from the pack. Everyone is focused on monthly returns to deliver a marketing edge and to preserve/improve market share to the detriment of long-term returns. Personally, I would rather a focus on long-term returns to deliver a wealth and standards of living edge.  All the while the government legislates a transfer of wealth from employers to superannuants to superannuation funds to the funds management industry. At the same time it decries the fees superannuants pay to have their investments managed and the lack of investments in the critical areas noted above. Well, why not formulate polices that will encourage appropriate investment in these  areas?

John Maynard Keynes once said: “It would not be foolish to contemplate the possibility of a far greater progress still.”

Australian Innovation policy – nothing to see here, move along please….

According to the OECD innovation accounts for 50% of  long-term economic growth and higher living standards. Which means it is kind of important for a country to have a strong innovation policy. So why is it that in an election campaign (Australia’s federal election) where the major parties are fighting each other on economic credentials there has not been a single announcement of any significance on innovation policy?

No matter who wins the election, Australia will be stuck with a Government that does not understand the significance of, nor is capable of implementing, good innovation policy.

This is truly a sorry state of affairs and one that will have serious adverse consequences.

Cooper has made a good start, but more education is needed.

The Cooper review into Australia’s superannuation system has come up with a number of sensible recommendations. Cooper has recognised that an extraordinary amount of superannuants’ savings are wasted on investment management fees. This type of fee dominates the total fees incurred and yet the benefits from investment management fees are not proven. Cooper pointed out that over the last 5 years around 66% of Australian equity managers and 76% of International equity managers have failed to earn a return greater than the market return. For fixed income it is a staggering 97%. It is important to also note that it is generally accepted that around 80% of performance comes from asset allocation decisions. Therefore, the majority of time and money is spent on the component that generates the least amount of performance, if at all. How did it get to this? Marketing.

Cooper has hit the nail on the head by recommending that the investment focus be on asset allocation rather than manager selection. The problem is that superannuation funds are very large businesses these days and they are operating in a highly competitive environment. You can’t differentiate yourself by selling vanilla products, no matter how sensible they are. This is where the difficulty lies in the recommendations having a real practical impact.

The recommendations need to be supported by a greater effort and, financial commitment, to educate superannuants. The investment game is made complex to protect vested interests and boost profits, but at the end of the day investing need not be so complex. The simple investment strategies stand the test of time, the complex ones rarely do. Efforts in this area will go a long way to improving outcomes for superannuants.