Arbitrage as a global strategy

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ARBITRAGE: EXPLOITING DIFFERENCES Sameer Mathur, Ph.D.

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Agenda

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Sameer Mathur smathur.com Asst. Professor (Marketing) 2009 – 2013 Ph.D. and M.S. (Marketing) 2003 – 2009

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Recommended Reading

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Producing where it is cheapest and selling where it is most profitable Capitalizing on differences between countries What is Arbitrage?

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Globalization is about producing where it is most cost effective, souring capital from where it’s cheapest and selling where it is most profitable N.R. Narayana Murthy Arbitrage

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Arbitrage is the original cross-border strategy Example: Spices could be sold for several hundreds more in Europe than in India. Importance of Arbitrage

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Walmart : $18 billion worth of goods bought from China savings approach of $3 billion greater than operating income from international stores Lego: suffering in its own field Mega Brands: sells cheaper blocks sourced from China Lego: molding its own blocks in Europe Importance of Arbitrage

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C ultural A dministrative G eographic E conomic Bases of Arbitrage

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Capitalizing on image of country French wine, Jamaican reggae music Country of origin benefits Cultural Arbitrage

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Basis: favorable effects related to country or place of origin. French culture’s image overseas explain international success of French couture, perfumes, wines and foods. Global spread of American popular culture explains its dominance in fast-food market. Cultural Arbitrage

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Opportunities for Cultural Arbitrage Brazil = association with football, carnival, beaches = cultural-arbitrage potential Brazil’s Brahma beer gone global; but fancier bottle, premium positioning

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Capitalizing on differences in regulations in countries Tax-Havens, Free trade areas Semi-legal in some cases Administrative Arbitrage

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Legal, institutional, and political differences from country to country allow for arbitrage opportunities Tax differentials: 1990s, Ruport Murdoch’s News Corporation paid income taxes at less than 10% instead of 30-36% How? By placing its U.S. acquisitions into holding companies in the Cayman Islands. Its major competitors (such as Disney) were paying close to the official rates Administrative Arbitrage

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“Round tripping” 1/3 of FDI flowing into China is estimated to have originated in China Secures better legal protection, tax concessions, etc. Hot spots for administrative arbitrage Enclaves Tax havens Free-trade areas Cross-border cities Export-processing zones Administrative Arbitrage

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Using differences in physical location as an advantage Importing fresh produce during winter Reduced transportation costs increased scope of geographic arbitrage. Geographic Arbitrage

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Transportation and communication costs have been decreasing, but still a large scope of geographic arbitrage strategies. 90% drop in air transportation costs since 1930 = new opportunities. Flower Market: Aalsmeer , Netherlands: 20 million flowers auctioned everyday. Geographic Arbitrage

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Trading companies used to take advantage of large international variations in prices for products by getting them from one country to another. Some geographic arbitrageurs have indeed lost some ground in recent decades. Lower transportation costs + greater connectivity made it easier for manufacturers and retailers to exploit these opportunities themselves. Geographic Arbitrage: Losing Ground

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Exploiting differences in costs of labour and capital between countries Outsourcing labour to reduce costs Reduced transportation costs have also allowed for greater economic arbitrage Economic Arbitrage

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Fluctuations in price or currency Unreliable suppliers or producers Political sensitivity against outsourcing labour or utilizing tax-havens Risks of Arbitrage

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Indian Pharmaceuticals engage in a variety of arbitrage strategies Contract manufacturing for Western companies because of cheaper labour Indian patent laws allow pharma companies to recreate brand name drugs Indian Pharmaceutical Companies

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Comprehensive arbitrage strategy is required. Long term benefits require a sustainable competitive advantage. Using too many arbitrage strategies at once may disrupt growth . Managing Arbitrage

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A number of challenges arise in managing arbitrage strategies. Risks, such as political risks. Sustainability of arbitrage strategies and how they are influenced by firm-level resources. Managing Arbitrage

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Lego chose to outsource arbitrage opportunities to a contract manufacturer, Flextronics, and focus on its intangible assets. Wal-Mart decided to build a competitive advantage around arbitrage by developing distinctive capabilities to manage a huge cross-border sourcing operation. Managing Arbitrage

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Companies cannot ignore benefits of arbitrage. Arbitrage opportunities can be found based on the CAGE framework. Conclusion

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Summary

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Over 500,000 views from more than 95 countries http://www.slideshare.net/ProfessorMathur/ Sameer Mathur smathur.com http://www.facebook.com/ProfessorSameerMathur/

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