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pessimistic in the extreme that the structural reforms which I have suggested today and which are now pending before the Congress would be possible. We thought other relief was required. We now think the atmosphere is right for the kinds of changes we see being proposed in Congress. We are pleased to see that because we are free traders and we want to remain that y.

Mr. VANIK. I think the climate has never been better for getting the Congress to do something very wise in the area of increasing productivity. I think this is something that has gone far beyond any political restrictions. I think people on all sides and from all spectra feel that the strength of the country can only be developed if we pursue a much more cooperative vein. I want to say that has political overtones too. I am leaving the political arena. I can quote from my own experience. I saw incredible situations where I was getting 91 percent of the vote of my district and all the industrial leaders would make their contributions to the fellow who could get 9 percent. It was very difficult to understand why they were so foolish in getting a hostile congressman that was not going to change, it did not seem to me they were very much in a cooperative spirit.

I think it demands something from the industrial sector. I think we ought to depoliticize both ways the participation and result. If reindustrialization is so important to America and if it is an idea whose time has come, then people can come here from all sides of the political spectrum and still have a pretty firm appreciation of the fact that we need to pull together and break down the traditional divisions between people on how we can recover the country. I think you are getting a tremendous boost from labor. I might say with respect to the automobile problem, I think Douglas Frazer and others in the labor movement are way out in front. I think their positions are very courageous.

It will probably cause some of these people trouble within their own organizations. The relationship between American labor and Japanese labor is a very constructive thing. I think they can probably create more bridges than even the industrial competitors can. They are forcing a development of a system of understanding and compatible development which I think is encouraging. I want to point out that I think whatever happens, we are getting into a situation where Congressmen and legislators generally are recognizing the vital stake that they have, that their communities have, that the entire Nation has, in developing a strong modern competitive industrial base in this country.

There may be some differences in how we do it or how much we can take from other things to do it but I think that the sole issue now boils down to the matter of selecting priorities. I think the intense. desire of the Congress so far as I can see is very, very constructive. These groups of Congressmen that have developed are very important. I think the steel caucus has made a very important contribution, the textile group has made an important contribution. The economic groupings among Members are helping to filter out the ideas on which laws are made or policies are adopted in Congress and in the Government, to firm up our industrial base.

You know the deep interest that this committee has had in the semiconductor industry. We were very quick to see the problems and we have been very sensitive in responding rather responsibly to the urgencies that are at hand.

I have one question of Mr. Willett. Your report compares the cost of capital on June 4, 1980, to the rate of return from 1977 to 1979. On September 10 you wrote me that using a 3-year average for the cost of capital would not affect the result. Using figures in your report for the years 1977-79 our committee staff has found that, one, for small U.S. semiconductor companies, called typical in your report, their cost of capital is higher than their rate of return.

Two, for the large U.S. semiconductor companies their cost of capital is much lower than their rate of return. My question is, Does this indicate that the small companies are less profitable or attractive than the large ones and have the small companies been unable to borrow the capital they need and how have they expanded so quickly over these years?

Mr. WILLETT. I think the reasons for the difference between the large and small companies is first of all the larger companies, which were just two companies in the sample—Texas Instruments and Motorola-used debt-financing to a greater extent than did the smaller companies. These companies are larger and more diversified and are able to use debt to a greater extent.

That contributes to a lower cost of capital for the larger companies relative to the smaller companies which could contribute to a 3-year period of their profitability being in excess of their cost of capital whereas for the small companies in the industry the rate of return on investment was equal to the cost of capital.

As far as the second question, if I interpret it correctly, concerning the prospects for growth for the small companies relative to large companies, I think your conclusion is correct if the situation persists. I don't think that just 3 years of data is enough to draw a conclusion about larger companies being able to prosper at the expense of smaller companies in the industry. I think Tom could talk about the great importance of innovation and flexibility which I think is more characteristic of a small company than a large company. That is something that is given up if a small company, for instance, gets absorbed into a larger company.

Mr. SKORNIA. Let me respond briefly to that with our practical experience, and I start by paraphrasing a famous American and say we have been small and we have been large and large is better. We have had three infusions of equity capital. The first two were during a time when the cost of capital was less and the required rate of return was less, in the venture capital market of 1969 and the new issues market of 1972. Without those special conditions we would not be alive today. The third infusion illustrates the point. We were at a point in 1977 where we required another $20-odd million in equity capital at a time when our multiple on the overthe-counter market was so small we felt we could not take the dilution of existing capital that would be required to raise that money. We went overseas and we sold what is now 20 percent of our outstanding stock to Seimens A.G., in West Germany. They paid $45 a share at a time when our stock was trading at $22.50. That illustrates another trend that should not be encouraged, and that is foreign ownership.

In our case the 20 percent which is now foreign owned will be the maximum. There are other companies which have not been so fortunate.

Mr. VANIK. Thank you very much.
Mr. Gibbons.

Mr. GIBBONS. Mr. Willett, would you outline for me again the reason why capital is cheaper in Japan than it is in the United States?

Mr. WILLETT. I think that the reason stems from structural differences in the way the economies function and the very close relationship between the lending institutions and the industrial companies which allows the Japanese companies to use a level of debt financing which is just clearly beyond the reach of companies in the United States. I mentioned that the average debt-to-capital ratio for the companies in our Japanese semiconductor sample was something like 60 to 70 percent of total capital. In the United States the average debt-to-capital ratio for the semiconductor industry is something closer to 15 to 20 percent ratio debt to total capital.

The overall industry average in the United States is a little bit higher than that but it is still nothing close to the 60 or 70 percent that it is in Japan. Again, under our system we have today of a free, competitive capital market the U.S. semiconductor companies would just never have been accorded leverage ratios of anything close to the leverage ratios that are allowed in Japan.

Mr. GIBBONS. Is there just more capital per unit available in Japan than there is in the United States.?

Mr. WILLETT. I don't think it is more capital in total on a per unit basis. I think what is important here is the distribution of that capital between relatively cheap debt and relatively expensive equity. In the United States, again under a free capital market, risky businesses, businesses such as high technology businesses, small, rapidly growing firms typically have less access to debt financing than larger companies.

They rely more on the more expensive equity financing. That is the way our economy works.

Mr. GIBBONS. What would you do about our economy? Is it possible or desirable to change that?

Mr. WILLETT. I am not suggesting that there is anything wrong with the way our economy functions. I am simply pointing to a disparity between the way our economy functions and the way the Japanese treat a particular industry, in this case a semiconductor industry.

Mr. GIBBONS. Did the Japanese Government actively intervene in this semiconductor industry over there?

Mr. WILLETT. It is my understanding that the Japanese Government has identified winners and losers in the economy and attempted to direct resources through various means to the industries which they deem to be the winners. This kind of policy, which is not necessarily desirable from the standpoint of the overall economy, is the kind of policy that I think creates the disparity we are talking about here. It is a disparity for a particular industry.

Mr. SKORNIA. In further response to that question there are two very prominent and reasonably well-known measures which the Japanese Government has taken to target the semiconductor industry. One is the provision in the last 3 or 4 years of some $250 million in soft Government loans to a combined research lab, which itself is a variation from what would be possible in this country because of the antitrust laws, to develop advanced technology. I say soft loans because we understand the terms of repayment are such that only if the technology financed by the loans pays off are the loans repaid. They are in effect like revenue bonds. That is something we have not seen here and frankly which we are not seeking. Tax relief will do for us what direct subsidies have done there. We think it will help us be more on a parity basis. There are more subtle things by way of administrative guidance. It is a lot of hard cash and a combined research effort which we don't have here and which we frankly would not want but it gets results.

Mr. VANIK. You get some of that through the workings of my proposal.

Mr. SKORNIA. That is correct.

Mr. VANIK. You can control it and you can decide where you want to put it. You get the benefit of the situation without Government direction.

Mr. SKORNIA. And in addition to that hopefully the motivation for more bright students to go into engineering and fewer into law.

Mr. VANIK. I don't complain about the law because we are still a growth profession.

Mr. SKORNIA. If you look at the ratio between Japan and here, the Japanese have about twice as many electronic engineers and they have about 10 percent of the lawyers.

Nr. VANIK. I think basically the rights of the Japanese people are not as well protected and defended as the rights of Americans.

Mr. SKORNIA. No question.

Mr. GIBBONS. It is a shame though that we have to use the best brains in our country to just try to figure out the Internal Revenue Code.

Mr. SKORNIA. I could not agree more.
Mr. GIBBONS. That is where the money is. It is a shame.

Mr. JONES. I won't pursue any more questons with Mr. Willet and Mr. Skornia. I will just say that I am delighted by your testimony and by your comments. I think you have made a very positive contribution to our hearings today.

I want to ask a couple of questions of Mr. Campobasso. You made the statement that you want to develop reciprocity on a bilateral basis with the Japanese on telecommunications. That leads me to question whether that could present some problems with our European competitors, for example.

Oftentimes the Japanese will tell us that if we throw this telecommunications business wide open as your Government wants us to do, that that wouldn't solve the problem of the American telecommunications manufacturers because they would be in competition with the Europeans, et cetera, and perhaps they would not get their share of the market and all of that.

Are you concerned at all about multilateral competition?

Mr. CAMPOBASSO. Not really. As far as I am concerned, speaking as an individual here, I believe that an open and free market is probably the best market, one that would seek its own level as far as capability is concerned but it has to be open and free and it has to be fairly administered. That is the thing we have difficulty with today. Even if we do get an opening of the NTT market it must be at the earlier stages, it must be done in a way that the evaluations are consistent, the standards and specifications, et cetera, are mutually understood and be judged accordingly.

Mr. JONES. In that connection would you care to comment on my previous statement about the possibility of using the Trade Facilitation Committee as a vehicle for the industry at large as opposed to one specific company to insure that the telecommunications market be more open and fair from the beginning through the process?

Mr. CAMPOBASSO. I would like to explore it further, yes, by all means. I think what we need to do first and foremost is to expand on the dialog and understanding what the basic problems are such as this committee is striving to do. I think it needs to be on a continuous basis. I think the problems are many and diversified. I don't think the impact is fully understood from the standpoint that the national security of the country is based on technologies developed in the commercial marketplace.

If that marketplace becomes shared to a greater extent with international suppliers where we can't continue to maintain the base at least by sharing their market as well on a free and competitive system, then the burden of developing new technology falls more on the Government military or more on some other facet if we are going to maintain our strength at all.

I believe that is a very serious concern. That is only one part of it. On this technology tax relief I think it is a very vital thing. Those are the kind of things that may be our Trade Facilitation Council or Committee might be a good place for this forum to continue on in depth and segmented by the various problems that need to be addressed. Telecommunications is a very broad field.

Mr. JONES. Thank you Mr. Chairman.

Mr. VANIK. Mr. Morgan, you referred to the FCC proceedings which may require A.T. & T. to go outside of Western Electric for more and more of their equipment. Doesn't A.T. & T. already procure 20 percent or more of its equipment from outsiders whereas NTT procures only from its own little tight-knit family of suppliers?

Mr. MORGAN. I believe you are right, Mr. Chairman. The procurement in A.T. & T. outside of the Western Electric goes into other than telecommunications.

Mr. VANIK. It goes into other parts.

Mr. MORGAN. Poles, hardware, et cetera. This is a proceeding which is getting close to 10 years old right now.

Mr. VANIK. Also in the United States there are a number of independent phone and communication companies which frequently buy from anyone whereas in Japan the entire system is controled either by NTT or KDD, isn't that correct?

Mr. MORGAN. Yes, Mr. Chairman. It is essentially what is called the Family of Four, for shorthand, but there are some other associated firms, perhaps 50 or 60 which work along with the basic Family of Four, Nippon, Oki, Fujitsu, Hitachi being the four.

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