Despite having the dubious distinction of being labeled as having "a damaged culture" or as "the sick man of Asia," the Philippines is one of the so-called Tiger Cub Economies of Southeast Asia and one of the Next Eleven (N-11) countries. But for American investors who want to invest in the Philippines, the only realistic options are the iShares MSCI Philippines Investable Market Index Fund (EPHE) and the Philippine Long Distance Telephone Company (PHI) or PLDT. Other well-known Philippine stocks or companies like Ayala Corp (OTCPK:AYALY), Globe Telecom (OTCPK:GTMEF), Jollibee Foods Corp (OTCPK:JBFCF), San Miguel Corp (OTCPK:SMGBY) and SM Investments Corp (OTC:SVTMY) are only thinly traded on the OTC.
However, the recent election of Benigno "Noynoy" Aquino III (son of former President Cory Aquino who replaced Ferdinand Marcos) has fueled optimism that the Philippines has finally turned a corner. Does that mean it's time for investors to take a serious look at investing in the Philippines through Philippine ETFs or stocks like the iShares MSCI Philippines Investable Market Index Fund or the Philippine Long Distance Telephone Company?
James Fallows' Essay: "A Damaged Culture: A New Philippines?"
I should begin by mentioning that I lived and worked in the Philippines long enough to have had the "pleasure" of meeting Imelda Marcos not once, but twice at cocktail parties (with one having been given in her honor!). As odd as it may sound meeting a former co-dictator in such surroundings, it may not sound so odd if you were to read a controversial essay written by James Fallows for the Atlantic Monthly entitled: "A Damaged Culture: A New Philippines?" Fallows wrote the article not long after the Marcos family fled. At the time, he was widely derided in the Philippines as the type of foreign journalist who parachutes in to write a quick hatchet job of a story before flying back out. However, a quarter of a century later, the term "a damaged culture" seems to have entered the lexicon of at least some members of the Philippines' intelligentsia to describe what ails the country.
Hence and after you read the prospectus for the iShares MSCI Philippines Investable Market Index Fund and do your own research on the Philippine Long Distance Telephone, you might want to spend some time reading "A Damaged Culture" to help you decide whether an investment in the Philippines should be considered as a long-term addition to your investment portfolio or more of a short-term bet on President Aquino.
The Philippines Economy: A Stool Propping Up Oligarchs
As for the economy of the Philippines, the country is certainly not a "banana republic" but its economy is still not exactly well-diversified either. Hence, the economy of the Philippines can best be described as a stool with the most important economic legs being:
Remittances. From the start of the year until August, $13.733 billion in cash remittances (up 7.6% from a year ago) were coursed through banks in the Philippines by the more than 10 million Overseas Filipino Workers (OFWs) and Overseas Filipinos living abroad. And that's just the money sent home through official channels. Much of this remittance money will find its way into the top and bottom lines of shopping mall operators and real estate developers controlled by the country's oligarchs.
Electronics Exports. After human capital, the exports of electronics make up a good portion of the Philippines' exports - meaning the country will be impacted by any slowdown in the global electronics industry. Likewise, the rise of manufacturing in China did partially gut the Philippines' electronics sector. But with China no longer being a cheap manufacturing destination, Vietnam lacking qualified talent and the flooding in Thailand last year showing the need to have diversified supply chains, the country is back on the radar screens of electronics manufacturers. It's just that labor unions and complex labor laws still make the Philippines uncompetitive on the cost front, plus the country is disaster prone.
Outsourcing: Call centers and BPOs (business process outsourcing) are flourishing in the Philippines and have expanded the country's middle class. But those industries are also plagued by low hiring rates due to misguided education policies back in the 1990s that led to the widespread use of Tagalog rather than English in the country's underfunded schools. Moreover and unlike India's outsourcing industry which has created homegrown but NYSE-listed global outsourcing giants like Infosys (INFY) and Wipro (WIT), the only way for American investors to gain more direct exposure to the outsourcing industry would be to invest in Philippine Long Distance Telephone Company which has significant investments in the Philippine call center and BPO sector through its ePLDT and SPi Global divisions.
Moreover, the following potential legs that could turn the stool into a chair of an economy (or more) still have a number of problems:
Agriculture. The Philippines has fertile agricultural land, but the country must import rice because much of its agricultural land remains underutilized due to uncertainty over land reform plus foreigners or foreign investors cannot own agricultural land (albeit there are ways around this through leases or JVs).
Tourism. The Philippines has some of the nicest beaches in Asia, casino gaming is legal, medical care is inexpensive for foreigners seeking medical tourism and the country is close to China and the developed countries of North Asia. However, the lack of infrastructure and concerns about security keep most tourists who aren't of Filipino descent away.
Mining. The Philippines' mineral and geothermal energy resources easily rank it among the most important countries in the world in terms of its potential for exploiting natural resources, but opposition by some activists in the catholic church, environmentalists and nationalists (among others) along with uncertainty surrounding mining laws has largely scared away most potential foreign investment in the mining sector, while most Filipinos with mining work experienced have long since migrated. Hence, the Philippines has (thus far) missed out on the commodities boom.
Finally and thanks to both history and geography, the Philippines has an economy and political system still dominated by a few oligarchs who control big conglomerates or near monopolies and political dynasties (with perhaps around 150 or so families making up the later). That hasn't changed under Nonoy Aquino (himself very much a part of the oligarchy and a political dynasty) and it won't change in the near future.
Philippines ETF: iShares MSCI Philippines Investable Market Index Fund
With that said, let's take a closer look at the iShares MSCI Philippines Investable Market Index Fund - an ETF created at the end of September 2011 to track the MSCI Philippines Investable Market Index. As of late October, the iShares MSCI Philippines Investable Market Index Fund had a respectable market cap of around $132 million, up around 33% since the start of the year and up over 12% since inception - not a bad performance for investors:
A look at the holdings of the iShares MSCI Philippines Investable Market Index Fund reveals the following stocks which would be difficult for Americans to invest in as most are only thinly traded as ADRs on the OTC:
iShares MSCI Philippines Investable Market Index Fund Holdings
|Holdings (October 25, 2012)||Weight|
|SM Investments Corp (OTCPK:SVTMF)||10.39%|
|Ayala Land Inc (OTC:AYAAF)||7.67%|
|Philippine Long Distance Telephone Company (PLDT)||6.81%|
|SM Prime Holdings Inc (OTC:SPHZF)||5.87%|
|Aboitiz Equity Ventures (AEV)||5.50%|
|Ayala Corporation (OTCPK:AYYLF)||4.51%|
|Universal Robina Corporation (OTCPK:UVRBF)||3.67%|
|Aboitiz Power Corp (OTCPK:ABZPF)||3.62%|
|Bank of the Philippine Islands (OTCPK:BPHLF)||3.51%|
|Alliance Global Group (OTCPK:ALGGF)||3.46%|
|International Container Terminal Services, Inc. (ICTSI)||3.27%|
|San Miguel Corp. (OTCPK:SMGBF)||3.10%|
So what are these companies that make up over two-thirds of the holdings of the iShares MSCI Philippines Investable Market Index Fund? Here is a quick look:
Ayala Corp. Controlled by the German-Basque Zóbel de Ayala family, Ayala Corp. is considered to be the best managed family-owned conglomerate in the Philippines. Ayala Corp. also controls Globe Telecom (the other major telco beside the Philippine Long Distance Telephone Company), the Bank of the Philippine Islands (the country's oldest bank) and Ayala Land Inc (the country's most prestigious shopping mall and real estate developer).
Aboitiz Equity Ventures and Aboitiz Power Corp. Controlled by the Aboitiz family, another Basque family who are based in the southern city of Cebu, much of the holdings of the Aboitiz Group are in the Central or Southern part of the Philippines.
San Miguel Corp. The Philippines' largest beverage, food and packaging company, San Miguel Corp. has lately been diversifying into heavy industries, including power and other utilities, mining, energy, tollways and airports. San Miguel Corp.'s chairman is Danding Cojuangco, an estranged cousin of Cory Aquino who fled on the same aircraft as his close confidants, Ferdinand and Imelda Marcos, but later he got back most of his sequestered wealth and his interests in San Miguel Corp.
SM Investments Corp. The Philippines' largest shopping mall developer, SM Investments Corp.'s and SM Prime Holdings' founder Henry Sy also controls Banco De Oro or BDO Unibank, one of the country's largest banks in terms of assets, and China Banking Corporation.
Universal Robina Corporation (URC). A core subsidiary of JG Summit Holdings, Inc. (JGSHI) conglomerate, which is controlled by the Chinese Gokongwei family, the Universal Robina Corporation is one of the largest branded food product companies in the Philippines. In addition, parent company JGSHI has recently sold Digital Telecommunications Philippines, another local telco, to the Philippine Long Distance Telephone Company.
Alliance Global Group. Controlled by the Chinese Tan family, the Alliance Global Group has interests in the food and beverage industry, real estate development and quick service restaurants.
International Container Terminal Services, Inc. (ICTSI). A port management company that owns and operates 25 terminal facilities in 18 countries, ICTSI was created by Enrique K. Razon whose family has been managing harbors in the Philippines for three generations.
As you can see, an investment in the iShares MSCI Philippines Investable Market Index Fund is more than just an investment in a few conglomerates as it's also an investment in the Zóbel de Ayala, Aboitiz, Cojuangco, Sy, Gokongwei, Tan and Razon families as they call all the shots in their respective companies. In other words, it could be like investing in Denver-Carrington from the TV show Dynasty (and don't forget all of those cat fight scenes between Linda Evans and Joan Collins...)
That aside, it should also be mentioned that the Philippines is one of the most disaster prone countries on earth due to being on the Ring of Fire. Manila is overdue for a major earthquake and typhoon season (roughly July through November) has been increasingly causing widespread havoc and flooding over the last few years. A major natural disaster will always be inevitable and one in the Philippines will certainly impact the economy and the iShares MSCI Philippines Investable Market Index Fund.
The Philippine Long Distance Telephone Company or PLDT
Finally, with a listing on the NYSE, the Philippine Long Distance Telephone Company, usually referred to as PLDT in the Philippines, is the country's largest telecommunications company and it operates with three main business groups: 1) Fixed line, 2) Wireless and 3) Information and communication technology (including ePLDT, which controls several outsourcing companies; and SPi Global, a major outsourcing provider with 18,000 employees around the world).
The Philippine Long Distance Telephone Company dates back to the American commonwealth period and it came under the control of Ramon Cojuangco, a cousin of Cory Aquino, in the late 1960s. Marcos then seized the company during the martial law period but Ramon Cojuangco's son, Marcos Antonio "Tonyboy" Cojuangco, got it back after Cory came to power.
Today, the Philippine Long Distance Telephone Company is under the control of its chairman and major investor, Manuel V. Pangilinan, through his Hong Kong listed First Pacific Co Ltd (OTCPK:FPAFY) and that's where the story starts to get complicated. That's because First Pacific also controls the Philex Mining Corporation (OTC:PXMFF); Indonesia-based PT Indofood Sukses Makmur Tbk (OTCPK:INDFY) which is one of the world's largest instant noodle manufacturers; and Metro Pacific Investment Corporation (MPIC) - which in turn controls or has major stakes in Meralco (one of Manila's main electric utilities), Maynilad (one of the major water companies), some tollways and several hospitals.
In other words, Mr. Pangilinan has his plate full and his fingers in plenty of different pies (he recently gave up a decade-long quest to acquire GMA Network Inc., the Philippines' second-largest broadcast network). Moreover, either he or the Philippine Long Distance Telephone Company are also dealing with the following major headaches right now:
The Philex Mining Corporation was recently slapped with a P1 billion (around $25 million) fine for two accidental leaks of mining waste at its only operating mine. Those operations were also ordered suspended for the rest of this year.
PLDT's P70 billion (around $170 million) deal to acquire Digital Telecommunications Philippines Inc., the country's second-largest fixed-line and the third-largest mobile telecommunications provider (the Sun Cellular brand), from the Gokongwei family has not worked out so well as regulators forced it to give up an important 3G frequency at the behest of Ayala Corp-controlled Globe Telecom Inc., which claimed PLDT would have a virtual monopoly over consumers after the merger.
TV5 (which is owned and operated by the Associated Broadcasting Company, which in turn is owned by MediaQuest Holdings and which in turn is a wholly-owned subsidiary of the Beneficial Trust Fund - the PLDT retirement fund) continues to hemorrhage money after losing some P4.1 billion (around $100 million) last year.
If you find the above troubling from a corporate governance standpoint (or it just sounds too much like an episode from the TV show Dallas), then you probably should not invest in an emerging markets stock like the Philippine Long Distance Telephone Company that's really a conglomerate within another conglomerate controlled by oligarchs.
Otherwise, income investors should note that as of late October, the Philippine Long Distance Telephone Company had a forward dividend yield that was above the 3% mark. However, it's worth noting that this dividend has historically been paid twice a year (as emerging market stocks often have difficulty paying a quarterly dividend given their unstable cash flows) and it's paid at the discretion of management (or rather at Mr. Pangilinan's discretion).
Finally, investors might want to consider the Philippine Long Distance Telephone Company by comparing it with other emerging market telco stocks like PT Telekomunikasi Indonesia (TLK) in Indonesia or Mahanagar Telephone Nigam Limited (MTE) and Tata Communications Limited (TCL) in India. The latter is a better comparison given it's part of the huge family-controlled Tata conglomerate (which is also into outsourcing).
A Final Word About Investing in The Philippines
As I noted in the beginning, James Fallows' essay "A Damaged Culture: A New Philippines?" is well worth reading. However, let me also add that it should not be the final word before deciding whether or not to invest in the Philippines. After all, the Philippines has a long history of one or two steps forward followed by one (and sometimes more) steps back. Yet the country has still managed to make considerable progress since the end of the Marcos era (albeit, that was a very low point).
Likewise, look at where other emerging market countries like China, South Korea and even Colombia were not that long ago and how they managed to turn themselves around. Hence, it might be best to compare the Philippines' situation along with the fundamentals and performance of the iShares MSCI Philippines Investable Market Index Fund and the Philippine Long Distance Telephone Company with other emerging market ETFs or telco stocks you are considering. Other Philippine ADRs or stocks like Ayala Corp, Globe Telecom, Jollibee Foods Corp, San Miguel Corp and SM Investments Corp are simply too thinly traded on the OTC to be worth considering by American investors.