TheChek News Flow

Berlusconi’s empire faces a tricky future without him

One of the bigger losers of last weekend’s European elections was Italy’s Silvio Berlusconi, whose political party suffered its worst defeat in 20 years. The beating has fanned speculation about the 77-year-old former prime minister’s political succession. The same questions should be asked about the Berlusconi family holding company Fininvest, which owns television Mediaset, football team AC Milan, publisher Mondadori, film distributor Medusa and advertising buyer Publitalia.

Mr Berlusconi’s companies have done well over the past few years partly because of a regulatory and business environment tied to his political presence. From 1994 to 2011, during which Mr Berlusconi was prime minister four times, he maintained control of Mediaset, which is Italy’s largest private television network. He gave up executive management of the group years ago and professional managers run the business.

But analysts openly referred to a “Berlusconi premium” enjoyed by Mediaset shares (about 60 per cent of the company is listed) when he was in political office. An academic study published in February this year found a significant pro-Mediaset bias in the allocation of advertising spending during Mr Berlusconi’s political tenure. The authors found companies attempting to curry favour shifted their spending towards his broadcast channels when he held power.

Unluckily for Mediaset and Fininvest, Mr Berlusconi’s political decline has coincided with disruption in the media industry. Mediaset’s model is under pressure from upstarts such as Netflix, while its advertising sales were hit hard during Italy’s deep recession. Complicating the picture, the ageing media mogul has to contend with a dynastic succession to rival his one-time friend and fellow mogul Rupert Murdoch. Fininvest ownership is shared among his five children from two marriages. Marina Berlusconi, 47, his eldest daughter, is chairman of Fininvest, and Barbara Berlusconi, 29, one of two daughters from his second marriage, is executive vice-chairman of AC Milan. They are strikingly different personalities with opposing views about the business, say people who know them.

The composition of Italy’s parliament has not changed as a result of the European vote. Matteo Renzi, prime minister, still has a messy majority and may draw on Mr Berlusconi for support. But even for an investor with a three-year horizon, the political underpinning of the Mediaset fortunes is likely to decline. The populist Five Star Movement, now Italy's second-largest party ahead of Mr Berlusconi's Forza Italia, is also strongly against his media empire.

From an industry perspective, the Berlusconi empire is seeking to adapt its strategy. Its pay-TV business, which was set up to blunt the growth of Mr Murdoch’s Sky Italia, is seeking a partner to help pay for TV rights. Vivendi’s Canal Plus and Al Jazeera are rumoured buyers. But people close to the French group and the Qataris suggest there may be less interest than is being reported in the Italian press. One adviser to the Qatari royal family points out that buying into a television group famous for showing nearly naked showgirls may not be top of their wish list.

AC Milan, the football team that was at the heart of Mr Berlusconi’s populist political propaganda, is on the block for a little shy of $1bn as match day revenues are falling. Mr Berlusconi denied a report in March that Lazard had been instructed to find buyers, but two people familiar with the dossier confirm its existence.

It would be tempting to conflate the Mediaset story with succession questions rife among the other larger-than-life Italian entrepreneurs of Mr Berlusconi’s postwar generation. What will happen at Giorgio Armani, or the Ferrero dynasty behind Nutella and Ferrero Rocher when their octogenarian founders step aside? Who will succeed 89-year-old founder Bernardo Caprotti at supermarket group Esselunga or Joseph Nissim, the nonagenarian consumer goods entrepreneur behind Italian brands Rio Mare tuna, Neutro Roberts soap, Omino Bianco and WC Net detergent and Collistar cosmetics?

But these retail and consumer groups have strong brands that fit the bill for an industrial buyer, sovereign fund or private equity group looking to turn European products into a global business.

Predicting the future for Mr Berlusconi’s empire is trickier. For political and industrial reasons its best years seem behind it. Italy’s most famous businessman has work to do to plan his legacy at a political and corporate level to avoid the maxim of Louis XV of France: “Après moi, le déluge.”

GSK salesmen want ‘bribes’ reimbursed

GlaxoSmithKline, the UK pharmaceutical company at the centre of a Chinese corruption scandal, is facing protests from junior employees who say the company is refusing to reimburse them for bribes they were ordered to pay by their superiors.

Beijing officials have accused senior employees at GSK’s China subsidiary of orchestrating a “massive and systemic bribery”, while the company was notified earlier this week that Britain’s Serious Fraud Office has opened its own criminal inquiry.

Now some Chinese sales staff are complaining that GSK has denied bonuses, threatened dismissal or refused to reimburse them for bribes they say were sanctioned by their superiors to boost the company’s drug sales. In some cases, managers instructed them to purchase fake receipts that were used to cover up bribes paid in cash or gifts to doctors and hospitals, according to salesmen interviewed by the Financial Times.

In some instances, managers disguised their involvement by using their personal email address to instruct staff to pay bribes and by ordering junior staff to claim on their personal expense accounts – even if the bribe was actually paid out by the manager – according to these people.

In late March, disgruntled staff sent 25 representatives to GSK’s headquarters in Shanghai, where they unfurled a banner that read: “Return my hard-earned money.” The amount owed totals tens of thousands of renminbi for many of the affected employees. Most claims cover the months before Beijing announced it was investigating GSK last July.

”All the expenses were approved by the company,” the group wrote in a letter to management.

“The expenses were paid with our own money, and although the receipts were not compliant, it was our managers who told us to buy the fake receipts,” said one former GSK salesman.

In China, restaurants issue a standardised official receipt for meals and other sales, but there is a brisk business in China of faking such receipts.

GSK has stepped up scrutiny of staff expense claims in China with help from auditors Ernst & Young since the scandal erupted. Staff were instructed to produce bank records to prove that they paid amounts directly to merchants. Those who were unable to do so, or who provided receipts that could not be authenticated by the tax office, were denied reimbursement and their year-end bonuses.

Some staff were warned not to implicate their supervisors, according to a former salesman: “Our manager approached each person before they were questioned and asked them not to mention his name. He even prepared a story for them to tell the investigator.”

GSK said: “We have zero tolerance for unethical or illegal behaviour and anyone who conducts such behaviour has no place in our company. We believe the vast majority of our employees uphold our values and we welcome employees speaking up if they have concerns.”

The company acknowledged in April that a “very small number” of its 7,000 Chinese employees had been dismissed following an audit of expense claims.

“Where we have found potential issues, we have thoroughly reviewed them and have withheld payments and taken disciplinary action including dismissal where appropriate. We are determined to ensure our processes are being properly followed.”

The case has cast a cloud over GSK and caused a sharp sales drop in China – an important growth market for the company. In a bid to repair the damage, Sir Andrew Witty, chief executive, late last year announced an overhaul of marketing practices, including an end to target-based pay for sales representatives.

28 MAY 2014

Developments in Europe continue to make global headlines. Taking a step back, Deputy Chief Investment Officer and head of European portfolio management Andrew Balls outlines PIMCO’s long-term outlook for the world’s largest economic zone, focusing on how low growth and inflation trends and policy responses may shape Europe over the coming three to five years.

Q

What is PIMCO’s secular outlook for Europe?

A

Balls: The central idea in our global secular outlook is for a New Neutral policy rate for central banks, with the U.S. Federal Reserve’s (Fed) rate likely to be close to zero percent in real terms, adjusted for inflation, over the next three to five years. Likewise, owing to very high leverage, demographics, fiscal tightening, more constrained credit conditions and – in the case of the eurozone – the aftermath of the sovereign debt crisis, policy rates are likely going to remain very low at the European Central Bank (ECB) and the Bank of England (BoE) over the secular horizon. This has broad implications for European markets.

We expect ongoing renormalisation of eurozone markets. Over the coming three to five years, we expect the eurozone to grow at a 1%–1.5% real rate, close to its trend growth rate of about 1.25%, but with some chance of a period of above-trend growth given the improvement in financial conditions. This equates to roughly 3% nominal growth that, while not very strong, should be enough to maintain overall stability and probably permit a very gradual reduction in government debt levels.

There are tail risks, for sure, around this secular baseline, but we see the eurozone as offering a wide range of opportunities for European and global investors alike, both from a top-down, macro-driven approach and from bottom-up security selection across the capital structure

Metso: Weir not?

Finnish group should have at least discussed Weir’s latest proposal

Sometimes the flowers and the chocolates just don’t impress. Scottish engineer Weir Group approached Metso, its Finnish peer, on March 26th with an all-share offer. Metso refused to even discuss the proposal, even after Weir sweetened the deal by 13 per cent to €4.6bn. Those flowers having wilted, Weir will now slope away. Metso’s investors should ask why. Its share price on Wednesday dropped three per cent.

Weir’s last effort would have added a third to the undisturbed share price of €23. Not bad, really; hopeful traders had pushed the share price towards one-year highs. Moreover, Liberum believes that cost savings could improve earnings by a fifth, suggesting even greater upside to the combined company. Together Weir’s and Metso’s high margin after-market services plus the latter’s speciality in automation could make a good fit.

Admittedly, the Finnish company has changed a lot since the new year and perhaps needs to find itself. After spinning out its paper business, Valmet, management believes it needs more time to explain the new Metso’s strategy. When might management deliver this? Later this summer; again, no dates. Anyway, Metso believes that its key division, mining – three quarters of its profits – has hit bottom, so selling out at current prices would be premature. If true, one should expect a convincingly optimistic outlook for that industry at Metso’s next strategy day.

Metso may not know itself yet. Today its shares trade at just under 18 times this year’s estimated earnings, in line with most peers, and do not stick out as good value given single-digit earnings growth estimates through 2016. Unless Metso’s management can lay out a growth plan for the coming couple of years, it may remain a wallflower for some time.

--> CTXS

The impact of convergence continues to gain momentum. It means fixedonly

players are entering mobile and mobile-only players are responding

by moving into fixed. In the absence of M&A, we expect this increased

competitive intensity would restrict sector growth over the next five years.

We are cautious on the benefits of mobile consolidation. With little

evidence to support price repair optimism and likely heavy regulatory

concessions, we estimate mobile consolidation improves a market’s longterm

growth prospects by 1 pp pa. But we believe ongoing convergence

competitive pressures will drive “double” consolidation – a second layer of

consolidation between fixed and mobile players. We argue that this could

provide a further 1 pp of long-term growth improvement, reversing the

negative impacts of convergence and delivering modest sector growth.

With the sector generating c.US$1 tn of CF pre-capex over the next 5 years,

we estimate upwards of US$200 bn could be spent on M&A consolidation.

We see several reasons for the sector to continue re-rating above its

ten-year peak multiple: declines are coming to an end and underlying

growth returning to pre-financial crisis levels on the back of lower

regulatory and macro headwinds; consolidation could improve the growth

outlook further. Our strategists argue the market cost of equity could

reduce by 1 pp in the medium-term; we model 8% for telecoms (from 9%).

We now see 15% weighted average upside for the sector.

Our European telecoms structural framework helps identify winners and

losers in a convergent world, with fixed-only players best positioned. We

have also developed a screen to identify the countries most likely to benefit

from double consolidation. Overall, we see BT as the best way to play

convergence, Iliad and Telecom Italia as key beneficiaries of consolidation

and Liberty Global as a beneficiary of both. With TI added to the Conviction

List, all four stocks are CL Buy. Though the other large incumbents are

beneficiaries of consolidation, we argue this is largely reflected in

valuations; we retain Sell ratings on DT and Orange; we remove Belgacom

from our Conviction List but retain a Sell rating. Finally, we upgrade

ZonOptimus to Neutral from Sell following underperformance.

McDonald's Corp Sees return of $18-20B in cash to shareholders over 2014-2016

- Plans to return $18 to $20 billion to shareholders between 2014 and 2016 through a combination of dividends and share repurchases, representing a 10% to 20% increase over the amount of cash returned between 2011 and 2013; Refranchise at least 1,500 restaurants by the end of 2016, primarily in Asia/Pacific, Middle East and Africa (APMEA) and Europe, reflecting a more than 50% increase in refranchising activity compared with the prior three-year period; and Analyze G&A spending with the primary intent of reallocating resources to higher return initiatives and growth areas, including development of the Company's global digital capabilities.