Spotting Zombies

There have been a few articles in The Economist lately about so-called Zombie companies. They refer to businesses which are kept alive on some form of life support system, but which are doomed to die. It is generally healthy that such firms are killed off quickly, so that subsidies are not wasted and so the staff can start the task of finding other jobs in more productive enterprises.

 

One of the disadvantages of furlough schemes is that they can freeze this healthy churn in economies by keeping Zombies alive. If these dying firms had to pay their staff they would go under, and they will have to give up once the furlough is ended, it is healthier that this happen sooner rather than later. Compared with Europe, the US has followed a balance of supporting its economy by paying citizens more than firms, and The Economist credits this for allowing fewer Zombies and a faster resumption of growth.

 

There seems to me to be some merit in this argument, although there must be many other factors involved in selecting the best policy, for example targeting the most needy, speed and avoiding abuse. Furloughs were lauded in the early weeks of the pandemic for being efficient in all these areas.

 

The concept of Zombie firms made me wonder just how many firms might be considered Zombies, even in normal times, and how to spot them. I can argue that I’ve worked in a few Zombie firms in my time and that large chunks of economies might be classed that way.

 

There are various ways to grow profits in businesses. The purest are to put new or improved products into the market in order to acquire new customers or earn more from existing customers. Firms can also grow revenue by charging more for existing products from existing customers. There are also many ways to reduce costs or to alter cash flow profiles by managing working capital or investment.

 

Growth is more imperative than it used to be, at least in publicly traded companies, because investors today demand a consistent high return on capital. The other important trend is the radical lowering of prevailing interest rates. This makes the future relatively more important than the present. With a 10% discount rate, the first ten years or so dominate a net present value calculation, but with a 5% rate, projections out to twenty-five years or more are relevant. In a high discount rate world, firms with legacy assets can squeeze the lemon for a long time to eke out an attractive value, via costs or incremental revenue gains. In a low discount rate world, it is hard to create a competitive value profile without pure growth. Mature sectors facing demographic headwinds are especially vulnerable.

 

This is the essence of there being so many Zombies now. Pure growth is hard to come by, especially with Amazon and China hovering up most of what is available. So firms have to resort to more and more desperate measures to be able to project a cash flow profile that keeps investors invested. These firms can be argued as disguising their death spiral, or Zombies.

 

 There are many Zombie survival moves available, even when governments aren’t distributing pandemic subsidies. My favourites are the retail ones, because that is my background. When marketing becomes all about promotion, it is a total giveaway. Look out for retailers who rely more and more on stamps and offers. These are the last resort to hold on to existing customers and to drag extra sales from them, even low margin sales, in order to bolster the short-term and delay defections. In the US, Marshalls, Bed Bath and Beyond and JC Penney are examples. Once a retailer has started down this road, there is no escape.

 

Linked to this are heavy promotional advertisers and channel stuffers. Why to car companies throw so much money down the toilet on TV adverts? It is because it is all they have. It brings sales forwards from existing customers, and stuffs their dealers with stock, but it is a slow death spiral. Financing plans fall into the same category.

 

Then there are business model tricks, much beloved by private equity. Moving from direct operation to franchises and then brand licenses effectively sells future upsides and dilutes brand value, but does generate cash. Lease and lease back deals on property are similar. Selling off parts of a portfolio does the same, as does restructuring pensions. This sort of financial and business model engineering nearly always spells doom next times there is a downturn.

 

Outsourcing, offshoring and cost cutting are at least more structural than the tricks above, but the problem is that they are one-off tricks. They can boost profitability for a while, but reduce upside and tend to lose impact once competitors have copied. These are a staple of private equity too: look at ABInBev, and its recent struggles now the playbook is becoming exhausted.

 

Other cost cutting is even more insidious. Zombie firms will often reduce R&D and defer maintenance investments. It can be argues that the entire US economy can be classified as this sort of zombie – just look at the state of the infrastructure. Share buy backs are a good acid test of this type of activity.

 

Other tricks involve mergers and regulation. A Zombie industry can extend its life by firms buying each other out and milking margins for a time. This can work even longer if the sector has barriers to entry or regulatory advantages. US pharmacies are good examples. One acid test is to compare prices with those in other markets. In the US, pharmacies telecoms and realtors have pulled these tricks for a long time, but Amazon and others will ensure an eventual comeuppance.

 

This is an extensive playbook. In the days of lazy investors and competitors, high interest rates, possible windfalls and one-off opportunities, firms could survive more or less forever using these moves. They can still last a long time. Banks hate bad debts and have a bias to existing clients, so they will keep lending long past the time they should. Passive investors stay in the game too long too, especially when dividends are high and when a stock lingers in an index (so must be retained by tracking investors).

 

I looked at the thirty firms currently in the Dow Jones index, and I think as many as half might be zombies if I am a tough judge. The department stores, car companies and industrial generalists like GE departed the Dow a while ago. But where do you see true growth in Boeing, or Caterpillar, IBM, Exxon, Dow Chemical, Amex or Walgreens? I can argue that even P&G, Coke, Nike or MacDonald’s might be vulnerable to Zombiefication in the medium term. Verizon and Disney have some strengths but are in dangerous sectors. Outside of healthcare and technology, there might be zombies everywhere.

 

The other side of this coin are the winners, notably Amazon. Zombies are perfect for winners. They prop up sector prices and margins and can be picked off gradually without ever posing any sort of threat. Facebook and Google will also hoover up the excessive desperation advertising of Zombie sectors for many years yet. There are also Chinese upstarts in many sectors that will be salivating at the prospects for taking business in the west, without having to resort to state subsidies or intellectual property theft.    

Thinking Outside of a Bigger Box

 During the pandemic, there have been attempts by some of the publications to which I subscribe to think outside of the box. The pandemic has acted as an accelerator and made it possible to envision a radically changed society and a fleeting opportunity to take actions to bring this about. Both Time and The Guardian Weekly sponsored a series of articles on the subject. I found them both highly disappointing.

 

The overriding approach of these articles was to take a current gripe and to wish it away. Corporations would suddenly be more socially conscious, and would take a longer-term approach. Everybody would have somewhere decent to live, especially the historically downtrodden such as people of colour and immigrants. Education would embrace technology and become more enlightened. A green revolution would miraculously solve climate change. Racism would no longer exist.

 

There were various recurring themes in the articles. One was the portrayal of a leftist utopia that signally failed to recognise the benefits that markets have reaped for humanity. Another was the assumption of unlimited government money for investment, without any consideration of where this money might come from or the unintended consequences of spending it. A third was a lack of any coherent pathway towards the utopia: often a tiny example project was quoted with the lazy assumption that it could be easily scaled.

 

Most of my takeaways from this were rather depressing. Many on the left appear to be terrible managers, and even their good ideas can be easily swatted away by conservative forces. But I also found it depressing how limited their ambitions were.

 

There were a couple of glorious exceptions. Rich territory included reimagining cities. I love the idea of the mayor of Paris of working towards the fifteen-minute city, in which all citizens should be able to find most of what they need within fifteen minutes on foot, bike or public transit. This has legs. The vision is clear and appealing. It starts with current reality, and incremental steps can easily be identified and ranked according to cost and benefit.

 

The idea has potential even in the home of the SUV, the USA, though probably only in the bigger cities for the time being. The pandemic has opened up some possibilities, and I think our leaders could be braver in their experiments. In New York we have an Open Streets initiative, but it mainly seems to take very easy wins such as quiet residential streets next door to a park.

 

Why not be bolder? Where I live in Forest Hills we have a rather traditional high street – it can have a European feel and was one of the attractions leading us to choose the area. But the street would be so much more pleasant if it was pedestrianized, and that is quite feasible. One bus route would have to be marginally rerouted but the street is not important for any commuter routes. Take away the cars and Austin Street could become a permanent home for outdoor dining, café culture, markets and small businesses and simply walking. There must be hundreds of such opportunities within New York City, yet the mayor’s office seems to lack the vision or courage to implement them, even now. Habit and lobbyists run deep in the USA.

 

Still, practicality is not my main gripe with most of the articles. The primary purpose of such pieces should be courageous re-envisioning, yet most were rather incremental. I would have preferred it if some had challenged more fundamental assumptions. Here are two that are ripe for a challenge: the nation state and work.

 

Imagine a world where the role of the nation state was radically reduced. My model is of a world where nations were a bit like US states. Some powers would remain at that level, but many would become regional or global and others devolved to cities. A passport would become more like a driving license.

 

Global free movement, with only bridgeable financial restrictions rather than ideological or racial ones, would unlock the ultimate human right and plenty of innovation. We could get rid of most of the military jingoism on the planet, and its destruction and waste too. Nasty populism would lose most of its oxygen. Global challenges such as climate change could be addressed globally. Trade could be global, with a single currency and a monetary policy designed for humanity not rich elites within rich nations.

 

Most of the crap in the world today can be laid at the door of the nation state. Watch the news for the next few nights and note when a story makes you angry, and then note how many of those stories involve calumnies in the name of one or more nation states.

 

I am not advocating big brother here. Much can be devolved to cities and other smaller units. The nation state stops that too. The nation state is the toxic level, the level that is broken and destructive. If somebody visited from another planet, the nation state would be the aspect of human governance that they would first be confused by, then deride, and then eliminate.

 

By wonderful happenstance, we have an example to build upon, called the European Union. It is not perfect, but it sure gets many things right. And it would be even better if nation states didn’t constrain it so much.

 

My second out of the box idea is to eliminate most paid work. I’ll start with an example from today’s news. The MTA is the body running the NYC subway, and, not surprisingly, it has current financial difficulties. It is bleating for taxpayer help and threatening self-destruction by massively curtailing service levels. But it has a simple fix available. Trains run with a driver and a conductor. With no technological investment, the conductor could vanish today. Within a year and for a minimal investment the driver could go too.

 

Does this thought make me an evil capitalist bastard? Of course the reason it does not happen is that the MTA is answerable to the city and the state and various trade unions, all with political agendas in which protecting jobs is central.

 

Now think of it this way. Tens of thousands of New Yorkers get up early every morning to sir in a lonely carriage and do something they hate and that has no human value, since it can be easily mechanised. Those people could be freed to do something productive, or simply enjoy some leisure, or care for old or young or infirm family members. If the last option was paid for then nobody need go poor and lots of societal good would be achieved.

 

So let us envisage a world where maximising jobs is no longer the goal. How did we get into a situation where we all strive to slog our guts out doing unpleasant stuff, and call that progress? Reimbursement for Care could change that attitude in an instant, as well as building communities, kindness, culture and gender equality. A generation would need to learn how to feel fulfilled without their MTA uniform and pointless pressing of buttons, but I don’t think that would take too long, if our education were overhauled.

 

I am not advocating a hippie society where everybody is always high and nothing gets done. Paid non-caring work is still an option, and most people will choose to take it up, for several years at least, in order to give life balance and earn a few luxuries and develop something for humanity. There would be plenty of progress; my guess is more than today. All such work would be gig work, much more flexible and adaptable and fitted to needs.

 

Now I have to concede that both of these ideas suffer from a dose of leftist utopianism. Implementation paths would be tricky. Global outlooks are hardly fashionable among voters just now, and those MTA drivers and conductors could garner plenty of sympathy too. But surely the purpose of these exercises is a radical reframing of what might be possible? For without that first step, nothing can ever happen.

 

I predict that in one hundred years time, our successors will consider our use of nationality and passports rather like we now consider slave owners. It is not so different when you think about it. They will also look at how we structured our economic model around everybody doing forty years of usually unproductive and unfulfilling slog, and laugh at how backward we used to be.    

What Happens Next

 I am not even a citizen, and will probably not be living in the USA by the next time a presidential election comes along, but I lost a considerable amount of sleep over the last two weeks. I can only imagine how much anxiety has been afflicting people with more at stake.

 

After all the bluster and recounts and lawsuits and runoffs, it seems fairly certain that we will have a Biden presidency, a Republican senate, a marginally Democratic house and a staunchly conservative judiciary for the next two years. How is this likely to pan out?

 

First, we can all breathe a massive sigh of relief, because the Biden presidency is the key element for humanity as a whole. In global affairs four more years of Trump would certainly have put a brake on climate action, made nuclear escalation with Russia and China more likely, made countless world conflicts more dangerous, and entrenched a bi-polar economic world to stymie development for a generation. NATO might not have survived either, though I not sure how many tears I would have shed over that outcome.

 

With Biden at the helm, he will join all significant world leaders in stepping up efforts to mitigate climate change. The courts in the US will try to slow him down, but symbolism matters in these things and I predict a decisive shift over the next four years. Within the last six months, the EU and China have taken significant actions and Japan and South Korea have made aggressive pledges. With a positive USA, the momentum will be unstoppable, and not before time.

 

The China relationship is interesting. I believe a grand bargain between the USA and China is available, but I fear the window may already be closing and Biden’s flimsy political capital will not allow him to take the opportunity. A brave USA would put trade, global institutions, military balance, human rights festering disputes on the table together, and China would have the ability and foresight to come to a deal. Domestic US politics will get in the way, and, while at least things will not get worse under Biden, the opportunity for a unified world will slip away. The irony is that the world that will emerge will cement the decline of the USA for the rest of the century. Recent Economistarticles about universities, technology and finance confirm to me that the key battles are already lost.

 

So we can all celebrate a return to common sense in world affairs. There is also cause to celebrate that Trump’s ouster will halt the erosion of US institutions like the Justice Department. But when it comes to the domestic outlook, I am not optimistic. The most influential person in the USA over the next four years will be the same as the last four: Donald Trump.

 

Perhaps the most remarkable feature of the US election is how close it was. Trump made it into a referendum on himself, and then proceeded to take action after action to alienate everyone but his base. Four years in office have laid bare the manifest flaws in what pass for his policy platforms. The Democrats managed to unite behind a senile but otherwise unobjectionable candidate and to run a disciplined campaign. The Republicans are demonstrability a nasty, greedy and cynical crowd without any coherent platform. And Coronavirus was a curveball provided by fate at the perfect moment to undermine Trump’s electability. It is hard to imagine a more propitious set of circumstances for the Democrats, yet all they could achieve was a winning tie.

 

Democrats can justifiably moan about the unbalanced system, the gerrymandering and voter suppression of the other side and Trump’s abuse of the levers of incumbency, but a tie is still pretty shocking. How did this happen?

 

The answer is the Trump brand. Trump has been building his brand for ten years or so. At one point on the journey Trump took over the Republican brand. Trump’s brand is not driven by ideology or outcomes or even power. It craves respect, loyalty and adulation, and requires humiliation for those showing disrespect.

 

Like all good brands, this one is all about values. Values drive perceptions, which drive behaviour and build loyalty among target groups. Among the values of this brand are liberty and defending the American way of life. It is easier to list what it is against, including tax, the swamp, elites, wokeness and rules. Somehow the brand has managed to become associated with jobs and economic growth. During the takeover, the brand accepted some additional values such as extreme Judeo-Christianity and pro-lifeness.

 

The brand has been built via a relentless stream of communication, often flying in the face of objective truth. Twitter and Facebook newsfeeds have been the perfect vehicles, building upon what was already present, namely Fox News, conservative talk radio and certain churches.

 

The result of all this has been a division of the USA into bubbles that nowadays barely intersect. While those of us who follow mainstream media can barely understand how anybody could vote for Trump, just as many others, fed the unrelenting diet of the brand, have just as much trouble understanding us. They are captured; it is self-reinforcing and likely to grow further. QAnon and Pizzagate and the Proud Boys are sort of associated franchises.

 

We should be careful to accept that building brands is not illegal or even unethical and has been the core of politics forever. It is also not the first time that a political brand has come to be focused on an individual.

 

For me one of the most enduring images of Trump came almost exactly four years ago, the night of the 2016 election, when he suddenly realised he might win. I don’t think he wanted to win. Building the brand did not require winning – it would have been easier to build after losing. I have to admire how the brand has survived the scrutiny of four years in government.

 

Once he gets over his petulance, I think Trump will be rather happy he has lost this time. He has been preparing the ground four the next four years already. Now loyal supporters have a new sense of grievance, and spinning out the legal challenges will only grow it. This is dangerous territory: the USA is a land of many guns.

 

What does this mean? I think it is rather frightening. The Trump twitter feed will be the national agenda for the next four years. Republicans cannot escape and must continue to toe the line or be jettisoned into oblivion. Without the handicap of actually having to do anything or be judged by any outcomes, the twitter feed can become more extreme.

 

Biden has a wafer thin mandate. He faces a pandemic about to explode. 2021-2022 will be years of economic hardship. McConnell will block anything worthwhile, so Biden will be limited to pandemic stimulus and more short-term fixes to healthcare and not much else. Few will see any benefits. The twitter feed will blame him for everything. Going after Trump legally will only feed a narrative of Trump as martyr. The house may well flip in 2022, and, wait for it, Trump could easily win again in 2024. The circumstances will certainly be propitious and I fear the brand supporters will only become more loyal. All he has to do is expand his base incrementally – a few conservative Spanish-speaking memes in Miami have already showed the way. Biden will be eighty-two in 2024 and the Democratic ticket will be highly vulnerable with him or without him.

 

I hope I am wrong. I usually am. Plenty can change. Trump himself will be seventy-eight and I don’t think his movement will not survive him. In the longer term the next generation will be less gullible and more educated and more aware of wider issues, and we will all learn to turn social media into a force for good. But most of this will take longer than four years to have a measurable impact.

 

Humanity can celebrate dodging a bullet this week. I am sleeping better already. But the scenarios for 2024 feel very frightening to me.