TECHNOLOGY AT WORK

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70 Citi GPS: Global Perspectives & Solutions February 2015 Towards the bottom of the profitability/employee ranking are the two Consumer sectors, although it is interesting to see that Consumer Discretionary (which includes Retail stocks) have seen a sharp rise in employee profitability (+71%) in the past 10 years. This may indicate a rising level of automation in a traditionally employee-heavy sector. Figure 53. US listed non-Financials: EBIT per employee (%) 250,000 2003 2013 78% 200,000 33% 2003-13 Change 150,000 113% 100,000 18% 128% 193% 47% 50,000 32% 71% - Energy Utilities Telecoms Health IT Materials Industrials Cons Stap Cons Disc Source: Citi Research, Factset, Worldscope Figure 54. US listed non-Financials : Employees vs. Capex Number of Employees as % of Total 40% 30% 20% Employee intensive Cons Stap Industrials IT 10% Health Capex intensive Materials Telecoms Energy 0% Utilities 0% 10% 20% 30% 40% Capex as % of Total Source: Citi Research, Factset, Worldscope Cons Disc While we can identify shifts in employee profitability, the very different nature of each industry will be reflected in very different levels of capital or employee intensity. Figure 54 shows that the Energy sector accounts for 32% of total capital spending by US non-Financials. But it only employs 12% of workers. Of course, the booming oil prices (until last year at least) will have boosted jobs in the US Energy sector, but it has boosted capex by much more. By contrast, Consumer Discretionary employs 31% of workers but spends only 14% of total capex. If the capex/employee relationship is some indicator of current levels of automation, we might expect the US Consumer Discretionary sector to offer more opportunities to replace workers with machines then Energy. Emerging Asia is Different So that’s the US story. Shareholders of listed companies have benefited more than their workers, as indicated by a sharp rise in profitability per employee. Some of this is attributable to higher levels of automation. But what about other parts of the world? Can we also see a shift towards shareholders and away from workers, partly driven by automation? To examine this, we look at similar data for listed companies in Asia as reflected by the MSCI EM Asia index. 107 The key listed non-Financial companies in emerging market (EM) Asia generate EBIT (i.e. profits before interest and tax) of $340 billion, up 260% from the $94 billion made 10 years ago. This is around 2 times the growth than their US counterparts, partly reflecting much stronger Asian economies over the period. However, unlike the US, EM Asia non-Financial have been hiring as fast as they’ve been growing profits. The total employee count of the MSCI EM Asia non-Financial companies is now 12 million (a remarkably low number in a continent of 4 billion 107 This index is dominated by China (32%), Korea (23%), Taiwan (19%) and India (11%). © 2015 Citigroup
February 2015 Citi GPS: Global Perspectives & Solutions 71 Figure 55. Growth per year 18% 16% Employees EBIT 14% CAPEX 12% 10% 8% 6% 4% 2% 0% US EM Asia Source: Citi Research, Factset, Worldscope Stock markets care about investor returns — whether these are maximised by robots or people is less of a concern people) compared to just 4 million in 2003. As a consequence, EM Asia net income per employee has been flat in the past 10 years (Figure 55). It is harder to argue that there has been an automation-driven shift that has helped shareholders relative to workers. Unlike the US, EM Asia profit margins have fallen over the period (Figure 52). To summarise all these differences, Figure 55 compares the growth in employees, EBIT, and capex for US and EM Asia non-Financial companies. In the US, employee growth has lagged well behind EBIT and capex growth, perhaps suggesting accelerating automation. But for EM Asia companies, the divergence between capex and employment growth has been less intense (Figure 55). Capex has been more of a complement than substitute for labour. The Market Cares about Returns Investors are becoming increasingly obsessed (again) with technology stocks. This has distorted the relationship between market valuations and company employees. For example, internet company WhatsApp, with just 55 employees, was recently bought by Facebook for $19 billion. This is a similar valuation to retailer Gap which has 137,000 employees. WhatsApp is priced at $345 million/employee compared to Gap at $124,000/employee. We suspect this reflects a potential bubble in selected IT stocks rather than an explicit investor desire to buy more automated companies. Indeed, across the broader market, there is little evidence to suggest that investors value capex-heavy/automated companies much more highly than their more employee-driven peers. For example, we have already seen that the US Energy sector was responsible for 32% of total market capex in 2013. But it currently accounts for only 12% of equity market valuation. New capex, and associated technological innovation, can be disruptive for incumbents and highly profitable for the innovators. But it can also end up being highly deflationary for the industry as a whole. Shale oil is an obvious current example of this theme. In the end, stock markets care most about investor returns. Whether these are maximised by using robots or people is less of a concern. For US-listed companies a sharp profit recovery in recent years has been associated with strong capex but sluggish employment growth. For EM Asia companies, strong profit growth has been associated with strong capex and strong employment growth. Even if the employment profiles look quite different, shareholders have benefited from higher profits in both the US and EM Asia, but those profits have been achieved in different ways. As labour costs start to catch up with those in the US, perhaps Asian companies will increasingly turn to automation in order to keep costs down and profits up. A USstyle gap between profit growth and job creation could start to open up. This may keep shareholders happy but could also be associated with stagnating labour markets and subsequent social and political tensions. It may also bring a slow-down in end demand growth. After all, machines may make model employees, but they do not make particularly enthusiastic customers. © 2015 Citigroup
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TECHNOLOGY AT WORK

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