Weekend reading links

1. The latest in the list of University-driven regional economic growth is Phoenix and Arizona State University (ASU). The region has emerged as the chip-making capital of the US. 

Today ASU is a microelectronics Petri dish — a hive of research and development for the semiconductor industry — while also establishing itself as America’s leading conveyor belt of engineers. All of this has laid the groundwork for the “Valley of the Sun” as the beating heart of the country’s chipmaking boom... The university has become one of the most important engines for a city that some have described as the new US semiconductor capital. The shift has come amid a scramble in Washington to rebuild domestic capacity to manufacture semiconductors, offering billions of dollars of incentives for companies to build fabrication plants (“fabs”). ASU’s engineering school now boasts 24,000 on-campus students — more than any other standalone university in the country — and has plans to expand that number to 30,000 within the next three years. Another 8,000 study via the internet after it introduced America’s first fully-accredited online degrees in electrical, software and mechanical engineering...

Capital has poured in. More than $60bn of investments have been announced in Maricopa County — in which Phoenix sits — since 2020, according to data from fDi Markets. Put another way: of the $242bn that has been invested in American chipmaking in the past two decades, more than a quarter of that has flowed into Maricopa County in just the past four years. Three years ago, with the help of ASU and Crow, Phoenix bagged its biggest prize: TSMC, the world’s largest maker of high-end semiconductors. The Taiwanese company announced a $12bn investment to build a fab to the city’s north in 2020. Last December, the company increased its commitment to $40bn... ASU is collaborating with chipmakers by adapting curriculums, developing new research initiatives and further expanding its engineering department...

In the global battle for high-tech funding, research universities are now being deployed to the front lines, helping US cities attract the biggest capital investments with the promise of a skilled workforce that has become central to the ability of tech groups to expand... In Pittsburgh, Carnegie Mellon University has helped transform a city once known for its rusting steel industry into a robotics and AI hub. Cleveland has been reinvigorated, in part, by Case Western Reserve University. In some ways, those municipalities are following the model established a half-century ago by Stanford University, where research and innovation were instrumental to the creation of Silicon Valley.

Phoenix has had some history of semiconductor manufacturing, and it has benefited enormously from TSMC whose arrival has turbocharged investments into the region. 

Phoenix had the advantage of its legacy semiconductor manufacturers to help build on when Crow took the helm of ASU. Intel has had a presence in the region for more than four decades and is now expanding significantly — pumping $20bn into two new fabs in Chandler, in Phoenix’s south-east. But the region’s arrival as a chipmaking superpower has been cemented by TSMC. In the city’s north-west, its burgeoning plants are rapidly growing out of a plot of land larger than New York City’s Central Park.

Needless to say, the massive influx of investments has exacerbated the talent shortage. This is best exemplified by TSMC itself which has delayed the opening of its first plant by a year to 2025 and has had to fly-in more than 500 workers from Taiwan. 

2. FT has a series on the impact of rising interest rates. The first covers the struggles of PE industry when faced with high interest rates. The industry is sitting on $2.5 trillion of dry powder it's struggling to deploy.

This is a nice summary of the PE industry during the long period of low interest rates since 2008-09,

“Many of the reasons these guys outperformed had nothing to do with skill,” says Patrick Dwyer, a managing director at NewEdge Wealth, an advisory firm whose clients invest in private equity funds. “Borrowing costs were cheap and the liquidity was there. Now, it’s not there,” he adds. “Private equity is going to have a really hard time for a while . . . The wind is blowing in your face today, not at your back.”... The co-founder of one of the world’s largest investment firms points out that almost the entire history of the industry has played out against a backdrop of “declining rates, which raise asset values and reduce the cost of capital. And that’s largely over.” “The tide has gone out,” says Andrea Auerbach, head of private investments at Cambridge Associates, which advises large institutions on their private equity investments. “The rocks are showing and we are going to figure out who is a good swimmer.”

Faced with rising rates and declining deal volumes, the industry is doubling down on what it does best, financial engineering. 

They have begun borrowing heavily against the combined assets of their funds to unlock the cash needed to pay dividends to investors. Some firms favour these loans because they remove the need to ask their investors for more money to bail out companies struggling under heavy debt loads. Another tactic is to shift away from making interest payments in cash, which conserves it in the short term but adds to the overall amounts owed... Interest payments are deferred, with the payments added to the company’s overall debt burden. This helps alleviate cash flow pressure in the short term, but it is an expensive form of borrowing that eats into the future returns of equity investors. It can also backfire if the company does not grow rapidly enough to ultimately cover its future interest costs. This year, Platinum Equity’s portfolio company Biscuit International raised €100mn of (payment-in-kind) PIK debt at an 18 per cent interest rate to resolve short-term balance sheet issues, according to people familiar with the matter. Unusually, Platinum itself provided the financing, they said. Solera, another Vista-owned software company, swapped some of its existing cash-pay debt with PIK notes this summer, according to filings with US securities regulators. One private equity executive, speaking in general about companies deciding to forego cash interest payments, referred to these deals as a “Hail Mary”...

Hg Capital, one of Europe’s largest buyout groups, has been particularly innovative, developing a model that other firms including EQT and Carlyle are replicating. It involves holding on to its best-performing assets for longer than is normal, transferring them between funds and generating returns for its backers by selling small parcels of these companies to other investors. Through such tactics, Hg has owned Norwegian accounting software company Visma for nearly 20 years. During that time its valuation has gone from about $500mn to almost $25bn, making it one of the industry’s greatest returns on paper, according to people familiar with the matter. The UK buyout group has been at the forefront of another strategy: using the cash flow of its already leveraged assets to borrow more money to fund investor payouts, a practice known as net asset value financing... Other buyout groups are also turning to NAV loans to accelerate distributions as the traditional exit routes from investments — a sale to another company, or a flotation on the stock market — become more difficult... continuation funds, where a private equity fund sells an asset to another fund it manages at a higher valuation... During the boom times, these deals were a quick way to realise investment gains and own promising companies for longer. But sceptics have criticised the deals because money from one fund is used to cash out earlier investors at values that in some cases now look high.

Moody's analysts have warned that more than half of single-B minus rated US companies will not be generating enough cash to cover their Capex while serving their debt. It estimates the interest coverage ratios for these companies to touch 0.91 by December from 1.32 at the end of 2022. 

John Plender has a good summary of the challenges facing the PE industry. He points to a stunning fact about how private capital displaced public capital.

Between 2005 and 2020, according to the OECD, almost 30,000 companies delisted from global markets via conventional takeovers, share buybacks and leverage buyouts. Over most of that period delistings were not matched by new issues so there was a net loss of listed companies, mainly in the US and Europe.

3. The SEBI in India has tightened disclosure requirements for foreign investors with large stakes in single stocks or corporate groups. This should be seen in the wake of the Hindenburg expose of Adani Group companies, wherein the Group companies were accused of using foreign shell entities to influence stock prices and circumvent the 25% minimum public float requirement. The disclosure requirements mandate that foreign investors holding 50% of their Indian assets under management in one company or corporate group or having more than $3 bn invested in Indian equities will have to reveal identifies of all people controlling or profiting from the investment vehicle. 

It appears to have sparked off outrage among those who have a vested interest in keeping the ownerships masked. 

Cyril Shroff, managing partner at Cyril Amarchand Mangaldas, said Sebi appeared to have “charted its own path on a disclosure regime disproportionate to the needs of the capital markets” and added that the change was “susceptible” to legal challenge. The regulatory shake-up has spooked some investors, said Sumit Agrawal, founder and partner at Regstreet Law Advisors and a former Sebi official. “There is a shared apprehension that an overly rigorous approach from Sebi could potentially disrupt their carefully crafted investment strategies,” he said.

Don't be surprised if in the days ahead, the financial market players and their supporters in the media will project this progressive step to remove the cloak of opacity from large foreign investors in Indian equities as one more example of the flippant changes to rules that's a characteristic of the Indian government!

4.  Some facts about active management of funds

Morningstar, the financial data firm, publishes semi-annual active-passive barometers tracking more than 8,000 US funds and about 26,000 European-domiciled funds with assets of $17tn and €6.3tn respectively. In the decade to June 2023, only a quarter of US-based active strategies survived and beat passive alternates. In Europe, only 17 per cent of active equity managers and 23 per cent of active bond managers registered similar success... passive has grown substantially in size and now accounts for 39 per cent of the $41.5tn global funds market and 23 per cent of the $98tn total industry assets under management.

5. India R&D facts of the day

India’s R&D spending peaked at around 0.8 per cent of gross domestic product (GDP) in 2008, and has declined since then to 0.65 per cent of GDP. In comparison, China spends around 2.1 per cent of its GDP on R&D and the US around 2.8 per cent of its GDP. Germany and Japan spend over 3 per cent of GDP on R&D and Israel an amazing 5 per cent of its GDP. The world average is around 2.2 per cent of GDP... India’s public sector R&D spend at 0.36 per cent of GDP is the highest in the world, more than Russia’s 0.34 per cent, US’s 0.28 per cent, France’s 0.27 per cent, Japan’s 0.25 per cent, and Israel’s 0.07 per cent of their respective GDPs. India’s huge underspend comes not from its public but from its private sector, where R&D budget needs to be much higher.

6. Mumbai is undergoing a transportation infrastructure construction boom

Three metro lines now function in the suburbs, longer stretches are under construction. There is a massive coastal road project with dedicated bus lanes, to bypass existing traffic corridors and carry four times the traffic of the existing, short sea link; a 22-km trans-harbour link over the water from mid-town Mumbai to the mainland nearing completion; a new airport under construction; overhead connector roads to link the east and west of the city; and multi-kilometre tunnels under the city as well as the sea. Construction work is on at a furious pace as most of these projects are slated for completion in the next couple of years. The only thing not being expanded, it would seem, is the suburban rail network that is the city’s lifeline.

The scale of the construction dwarfs earlier projects, like the Worli-Bandra sea link, the Bandra-Kurla financial district, and the original Backbay reclamation that created the business district of Nariman Point. Separate from the transport projects, the extent of real estate construction (said to be 150 million square feet) has been assessed as being five times Nariman Point. The coastal road involves reclaiming much more land from the sea than before. The transport projects will provide new north-south corridors and east-west connections by rail and road, and link the island city to the mainland, and from there to the new airport and Nhava-Sheva port. In a couple of years, the city should be easier to move around in.

7. Devangshu Datta writes on retracted scientific research in the context of retraction of over 10 papers published by Nobel winning genetic researcher Gregg Semenza of the Johns Hopkins University. The earliest paper dates back to 2005 and they have been cited over 750 times. 

The spate of retractions also started in October 2022 after these papers were flagged by a pseudonymous researcher “Claire Francis”... So, many of the papers were “live” for over a decade. When a top-echelon scientific team publishes, millions may be spent on follow-up research. For example, according to Reuters, the US National Institutes of Health spent $588 million to research the use of stem cells to regenerate heart tissue. But this was a blind alley based on 31 falsified papers published by Dr Piero Anversa and his team at Harvard... Dr Elizabeth Bik, a Stanford microbiologist, has spent a lot of time looking into this. She claims she’s examined over 100,000 papers in her domains of competence, and found apparent image falsification in 4,800 papers and other signs of fabrication in an additional 1,700. Thus far, her reports have led to 950-odd retractions and corrections published in many more.

One more reason to be cautious about blindly accepting scientific findings, especially when they go against the grain of intuition. 

8. Indian Express points to the ED charge sheet to explain how the former Jet Airways (JIL) founder Naresh Goyal diverted money from JIL to himself.

The ED chargesheet noted that over Rs 1,000 crore was paid as agent commission to companies linked to the promoter himself. Goyal also allegedly siphoned off funds by making JIL grant loans worth over Rs 4,057 crore to Jet Lite Ltd but adjusted a large part of it against ticket sales... The agency has claimed that Goyal allegedly siphoned off funds by paying “irrational” and “inflated” commissions to general sales agents (GSA). Almost 50 per cent of these funds were cornered by his own companies. Under him, JIL also had transactions with some professionals and consultants with whom there was no evidence of services provided... Further, a group of inter-linked companies’ total revenues came entirely from doing business with Jet Airways. “During the course of investigation, it was revealed that payments were made to various professionals and consultants for the services rendered by them to the tune of 1,152 crore as per audited financials for the FY 2011-12 to FY 2017-18 of JIL,” the ED chargesheet has said...

Among these, one Pathak HD and Associates was hired for salary payout to senior managers in the company and paid a total of Rs 279.51 crore. PHDA, in turn, sublet the contract to SA Sangani & Associates (SAS), a company linked to it. As per financial statements of SAS, the nature of its business was “to carry on the business of manufacture, trade and deal in botanical products, mosquito coils, repellents, chemicals, pharmaceutical products and special purpose”. But a forensic audit by E&Y revealed that payroll processing was to be initiated by SAS from April, 2018, onwards; however, the company itself was inaugurated two months later on June 13, 2018. Similarly, one Choice Consultancy Services Private Limited (CCSPL) involved in infrastructure development solutions raised invoices to JIL “for advising on steps to be taken for improvement in credit rating of the Company”, the chargesheet has said...

The most significant siphoning off funds, as alleged by ED, was done through payments to GSAs. According to the agency, despite the entire airline industry having moved to modern ticketing and accounting systems with the advent of internet, JIL continued with the “obsolete” GSA system where more than Rs 2,365 crore were paid to close to 100 GSAs hired by JIL. Interestingly, almost 50 per cent (Rs 1,141.50 crore) payments went to JIL’s related entities. These included Jet Airways LLC, Dubai; Jet Airways of India INC, USA; Jet Airways Pvt Ltd (JAPL); and Jetair (UK) Limited, United Kingdom, which were all directly or indirectly linked to Naresh Goyal.

It's shocking that these obviously fraudulent transactions escaped the scrutiny of JIL's auditors. They should be held to account along with Naresh Goyal. What were rating agencies of JIL doing? It's also a pointer to the quality of due-diligence that banks undertake when giving out large loans. Such obvious negligence should attract criminal liabilities against those involved in the due-diligence and approvals of these loans. Such egregious and large-scale diversion could not have happened without the highest level collusion with all gatekeepers and creditors. 

India has had too many instances of exposures such corrupt practices, These exposures are most likely only the tip of the iceberg. Don't be surprised if many high-flying corporate leaders have such skeletons waiting to tumble out even if some sunlight is shined on their accounts.

9. China responds to real estate crisis by doubling down on manufacturing, especially in electric vehicles and semiconductors.

China has already built enough solar panel factories to supply the entire world’s needs. It has built enough auto factories to make every car sold in China, Europe and the United States. And by the end of 2024, China will have built in just five years as many petrochemical factories as all of those now running in Europe plus Japan and South Korea... Before the pandemic, China’s banks were increasing their lending to real estate by more than $700 billion a year. In the 12 months through September, the total loans outstanding to real estate fell slightly... By comparison, net lending to industrial companies skyrocketed from $63 billion in the first nine months of 2019 to $680 billion in the first nine months of this year. That money has gone partly toward building a semiconductor industry that may allow China to wean itself from imports and bypass American export controls, as well as toward categories like electric car manufacturing and shipbuilding.

10. Taylor Swift's Eras tour and Beyonce's Renaissance Tour is arguably the greatest music event of all time. Taylor Swift has revolutionised the relationship a singer has with fans and upended the prevailing music industry's business model. She has disrupted the middleman economy in the industry. Will this model catch on?

This article explains how the Eras Tour has made her a national sensation across Argentina, a female Messi. The friendship bracelets that have become a feature of Swiftie fandom has become pervasive.

In a country of 46 million people, Ms. Swift sold roughly 200,000 tickets across three sold-out shows, and yet the waiting list still had more than 2.8 million people — enough to fill Argentina’s biggest soccer arena, El Monumental, another 40 times.

People camped for months on tents "so they could be first in line when the doors to the show opened and the fans could sprint to the guardrails along the stage for a closer view."

Both tours have had massive impact on economic output in the regions where they concerts were held.

The survey company QuestionPro estimates that Ms. Swift’s concert could generate some $4.6 billion in economic activity in North America alone, taking into account both stadium capacity and people’s reported spending plans on things like tickets, merchandise and travel. That would be roughly on par with the revenues the Beijing Olympics generated in 2008, after adjusting for inflation. Beyoncé’s shows are expected to spur $4.5 billion in spending, based on a separate QuestionPro survey.

It isn’t just tickets that have motivated people to open their wallets. They are staying in hotel rooms, buying elaborate outfits, spending on flashy manicures and attending sideline parties that are generating business and boosting spending in host cities. Shade Hotel, in Manhattan Beach, Calif., held a Taylor Swift pre-party where guests sported costumes, wore Swift-themed temporary tattoos and sipped on a signature “Lavender Haze” cocktail, a reference to one of the most popular songs on her latest album. Both the hotel and its neighbors reported surging demand that pushed up room rates and sold out many properties. Boxie Studio in Los Angeles, which offers small photo studios of carefully curated backdrops for social media, was selling tickets that allowed visitors to film TikToks or snap Instagram shots in rooms that mirrored Taylor Swift music video sets...

Knock-on effects from the concerts have drawn the attention of national economic authorities: Sweden’s statistics agency said that Beyoncé’s tour helped to fuel inflation there, and a Federal Reserve survey of business contacts reported that Swifties had bolstered hotel revenues in the Philadelphia region. While concert-related spending has not been concentrated enough to show up clearly in national data in the United States, some think it could help to slightly improve the odds of a gentle cool-down instead of an abrupt stop to economic activity. The events are keeping consumers active during a summer when shrinking savings might have otherwise slowed their spending... The concerts have become a big boost for local tourism... The shows have also driven broader consumer spending in cities like New York, where searches for lounges, aestheticians and nail technicians in the week leading up to Beyoncé’s performance in East Rutherford, N.J., saw triple-digit percentage increases compared to the year before, according to an analysis by Yelp. Concertgoers were also booking their hair and nail appointments weeks out.

Taffy Brodesser-Akner has a long read profile of Swift in NYT

The organizing principle of the Eras Tour is that it is a celebration of Taylor Swift’s own eras — how, at 33, she has already cycled through so many periods of identity on her public journey from girl to woman. Her life story is one that you could read about in the reams of magazine profiles that have been written about her over the years, one that even the least Swift-engaged young women across at least two generations have learned by sheer internet use and osmosis: She grew up on a Christmas-tree farm in Wyomissing, Pa., where she would listen to Shania Twain and Faith Hill and LeAnn Rimes and watch VH1’s “Behind the Music” and record demo tapes to send to Nashville. At 12, she sang the national anthem at a 76ers game. Soon after, she called her friends to see if they wanted to go shopping with her, but they all said they were busy. So her mother took her to the mall instead, and there were her friends, hanging out together. Her mother turned her around and took her to a different mall, but you can imagine that Taylor Swift died a little that day, and what she was reborn as was someone for whom there was not enough love and approval in the whole world. She would write a song about the experience, and she would feel better. She would realize that this new person she had become was someone whose best work would come from her reactions to the world, her urgent metabolization of her pain into poetry...

Her dancing is a combination of intricately executed choreography and the kind of literal-gesture dancing that has you put your thumb and pinkie to your head to indicate a phone call. It’s a form of dancing I haven’t done in front of anyone for years; it’s the kind of thing I used to do with a group of other young women or girls when there were no boys around, or at least no boys we cared to impress. That’s what this entire concert reminded me of — time I spent in my own teenage bedroom, singing songs and pinballing between sexy stripper moves and goofy square dancing. Maybe that’s what Eras really is: the acknowledgment of girls as people to memorialize, of who we are and who we were, all existing in the same body, on the same timeline. You are your sluttiest version, your silliest version, your most wholesome, your smartest, your dumbest, your saddest, your happiest — all at once... Her songbook is really only minimally about romantic love, and the best part of romantic love, which is its moment of revelation. It’s maximally about the other things that happen to a person in life: about the sometimes-questionable, sometimes-great, sometimes-tragic aftermath of that revelation, but it’s also about loss and betrayal and friendship and revenge... Eras as proof of concept, a woman looking back on her youth to remember what she is made of, not with shame but with curiosity and even delight.

11. Bond vigilantes may be the biggest disciplining forces on fiscal populism.

The vigilantes have targeted nations all over the world. They helped force UK prime minister Liz Truss out of office, by selling off the UK’s bonds and currency in response to a budget-busting tax scheme. They compelled two old populist warhorses, Recep Tayyip Erdoğan of Turkey and Luiz Inácio Lula da Silva of Brazil, to embrace fiscal restraint. Erdoğan shelved bizarrely unorthodox policies and appointed financial market veterans to restore investor confidence. Notice the pattern. Financial markets are now so large, dwarfing any national economy, that the vigilantes usually prevail. Leaders take them on at their own risk. In the US, where complacency is high and many seem to think the global investors will never tire of buying American debt, it’s worth pondering the fate of the losers. Brazil, Turkey and the UK changed their wayward ways under vigilante pressure and are so far better for it. Taking on the bond vigilantes is mostly a losing battle but that won’t stop many politicians from trying.

12. Fascinating article in FT about how Tesla is trying to set a new model for automobile manufacturing assembly line. 

Tesla chief executive Elon Musk argues that legacy assembly processes need to be changed for battery-powered vehicles, simplifying and speeding up carmaking with fewer suppliers and vehicle models. Some car executives and analysts expect Tesla’s process — which Musk calls “gigacasting” — to set a new benchmark for building vehicles, replacing the vaunted Toyota Production System based on just-in-time manufacturing efficiency... Tesla has been using gigacasting as a manufacturing method for its Model Y sport utility vehicle since 2020... Traditionally, the main body of a car has been made by welding or stamping together a large number of separate parts. Gigacasting or megacasting, on the other hand, uses casting machines to force molten metal into moulds under high pressure to produce large aluminium body parts, such as the entire underside of a vehicle.

The industry has been using casting for years for smaller aluminium components, but Musk’s plan to make whole car bodies using the technology has forced other carmakers to think bigger... “Megacasting is the perfect example of where you can replace 100 parts with just one,” said Erik Severinson, head of strategy at Volvo Cars. This saves time, labour, cost and factory space, replacing multiple robots that weld car parts together with a single machine. The cost of changing hundreds of parts means carmakers typically produce a vehicle for 14 years, with modest changes half way through its life cycle. Casting would change this timeframe and allow carmakers to refresh their line-ups more quickly. Gigacasting using aluminium is also one response to the way that massively heavy auto batteries are reshaping how cars are designed... executives are wary of producing vehicles with a single moulded underbody. As things stand, changing one damaged part in a vehicle is relatively cheap and easy. If the whole underside had to be replaced, it would lead to a significant rise in the number of vehicles deemed too costly to repair. Manufacturing experts agree this is potentially a major drawback of the technology. “The big question is how many cars being made with [gigacasting] have to be written off to make it not worth using,” said one automotive manufacturing expert who advises Toyota and other carmakers. Toyota is considering whether producing an underbody in several pieces could reduce repair and insurance costs — potentially important factors for an automaker with a much wider global market than Tesla.

13. Finally, the week saw WeWork filing for Chapter 11 bankruptcy in the US under the weight of more than $18 bn in office lease obligations. The company which provides 900,000 desks to clients at more 700 locations in 37 countries, said it had amended 590 leases and cut future rent obligations by $12 billion. The company also asked permission to scrap 69 leases in US and Canada. The bankruptcy filing will not affect its franchises outside US and Canada. See also this on the bankruptcy. 

The irony of this bankruptcy is that it comes at a time when flexible working models is leading to companies vacating their large headquarters offices and moving into co-working spaces. This points to the inherent problems with the WeWork business model of taking large space at prime locations with full-rent long-term leases and offering several non-essential features, all of which added to its costs. 

In hindsight, it's difficult not to feel that WeWork is good example of the problems with the VC model of financing entrepreneurs. All the problems with its business model were egregious and frequently cited in public commentaries even as Adam Neumann and Masa Son were flying high with the $47 bn valuation in January 2019. Its slide into bankruptcy has been a collapse in slow-motion played out over the last three years. It crowded out financing from others with far more grounded business models. This was resource misallocation and crowding-out big time. And shockingly Adam Neumann was allowed to exit with a handsome package even as serious governance problems, including fraud, had already become apparent.