Money with a dash of Funny: May 2014

Wednesday 28 May 2014

Nampak-ing north

"OK, so we know where they are going to push and where they are going to look to optimise, the rest of the continent is going to be the growth element, the South African assets are going to be made to work smarter for shareholders. Earnings estimates suggest that the company is going to roughly double their first half earnings (122.4 cents), whilst the dividend was actually hiked in this half to 46 cents, expectations for the full year are around 155 cents. That is a *nice* dividend underpin of close to 4.3 percent for the full year, pre tax of course. Just a little less than 4 percent after tax. A forward price to earnings multiple of around 15 times is hardly cheap, but not wildly expensive."

To market, to market to buy a fat pig. Record setting in the US last night, very good economic data meant that the bears were shooed into the woods for the day and the S&P 500 was able to extend the record setting rally. Locally we had a rubbish GDP read, Michael will deal with that later. The headlines around the world in Barron's, S. Africa's GDP Contraction Worst Since '09, the Financial Times, Platinum miners' strike takes toll on South Africa growth.

And so on locally too, the headlines all worried about the general state of the economy. The BusinessDay says that we (the South African economy) have been knocked to their knees. I have not seen a Government response, have you? SA Inc. stocks did take a little tap over here. Banks fell over one and a half percent, the gold stocks unfortunately was where most of the pain was, the whole idea that improving US fundamentals are bad for the outlook of the metal. The price I mean, I am pretty sure that the consumption story remains intact, richer people buying more gold jewellery, but you know our view on that, buy Richemont instead.

Nampak. Bidvest once tried to have a go for this business, remember? But said in October of 2008 that this was no good, the financial crisis had derailed Nampak's earnings. The offer however was one Bidvest share for each 7.5 Nampak shares. That was to try and buy one quarter of the company. The Bidvest bid then disappeared when information available to everyone (a trading update from Nampak) meant that financial conditions had deteriorated, and suddenly this did not look like a good idea. The full year 2008 results came in showing a 41 percent drop off in profits, this also coincided with the appointment of Andrew Marshall as CEO of the business, perhaps a turning point. Marshall had been at Oceana for a decade or so, but Nampak before that. John Bortolan left the CEO job at the end of March 2009, when the markets globally bottomed out. The Nampak share price was somewhere in the region of 13 ZAR a share then, about the same when Bidvest were trying hard. Ironically, this was good news for Bidvest, they have outperformed Nampak from a price point of view, but perhaps in the case of Nampak, Marshall would not have taken the job as CEO if Bidvest had bought it.

But that is like saying, what would have happened in that opening match in 2010 if Katlego Mphela had not hit the post, and the ball had snuck in? Or what would have happened if Allan Donald had not dropped his bat and had run straight away in that semi final at Edgbaston in 1999? It does not matter, the point is that it did not happen. It was very sad, but unlike sport, in the market you have choices with regards to which companies you want to own. The emotional attachment to a football team is too much to break, the national team, well you can never break that!

Anyhows, that was a while back, Marshall has already done his time at Nampak and is moving on, and the new CEO is none other than Andre de Ruyter, who took over at the beginning of April. If you were paying attention you would recognise that name. He (de Ruyter) looks like an older version of the boxer in Rocky 4, the Dolph Lundgren character named Drago. Of course he comes from Sasol where he was highly regarded, partly responsible for the turnaround of the Olefins and Surfactants businesses back to profitability. So that box is checked! Talking of checked boxes, the Chairman of this business is none other than Tito Mboweni. If you were wondering about what his role would or could have been in government, read the Mail and Guardian story: Mboweni clarifies MP list withdrawal on Facebook.

We digress a little. Nampak have released numbers this morning for the six months to end March. Revenue for their local business increased 9 percent, their UK business in Rand terms increased turnover 22 percent and their rest of Africa business revenue (also in Rand) up 24 percent. What is interesting is that whilst this may be a South African company from a revenue point of view (73 percent), the profits from this geography (56.5 percent) are lower relatively speaking. This is in part the margins in their UK business being lower, 6.3 percent trading margins in the UK versus 8.5 percent in South Africa. And the rest of the continent? Trading margins are a whopping 17.3 percent, more than double the local margins. The company has, lest you forget, businesses in 12 African countries, including our own of course. I have heard many people talk about South African companies and African businesses, we forget that South Africa is in Africa. The second half of the name gives it away.

The recent acquisition of the Nigerian manufacturer, Alucan announced on the 25th of February this year signals the intentions of the company, the growth is going to be on our own continent. It makes sense that a business with a proven track record and knowledge operating here looks for the higher margin business whilst the continent is still experiencing rapid urbanisation. Nampak is essentially both a urbanisation and demographics story. More goods that need to be moved around in containers that are not traditional. Game for instance sells most of their merchandise across the continent in non perishables. Also, those goods need to be packaged to move around more freely. I certainly think this holds true, the greater the GDP growth on our continent, the better businesses like Shoprite, Massmart, Tiger and Nampak will do. You need a place to store that peanut butter, that juice, that long life milk and those biscuits. Even a carton, that business in Kenya, Malawi, Nigeria and Zambia has margins of over twenty percent.

OK, so we know where they are going to push and where they are going to look to optimise, the rest of the continent is going to be the growth element, the South African assets are going to be made to work smarter for shareholders. Earnings estimates suggest that the company is going to roughly double their first half earnings (122.4 cents), whilst the dividend was actually hiked in this half to 46 cents, expectations for the full year are around 155 cents. That is a *nice* dividend underpin of close to 4.3 percent for the full year, pre tax of course. Just a little less than 4 percent after tax. A forward price to earnings multiple of around 15 times is hardly cheap, but not wildly expensive. It comes down to one thing, in our investment portfolios is there space for Nampak? Possibly not, because we own Tiger Brands and Bidvest, both quality businesses in their own right. If the stock was screamingly cheap (it said, "buy me" a la Alice in Wonderland) and somewhere in the region of 22-25 ZAR the decision would be easy. But at 35 ZAR, the relative attraction of Bidvest and Tiger Brands is much higher. Great business, good prospects, super management team, at the "boring end" of manufacturing (in terms of what you can and can't own)

Holy smokes. This is probably the most amazing video you will watch all day. And if you do watch something more amazing, please share with us. It is titled A First Drive and contains the prototype vehicle. The first thing people notice when they get in the little bug, that looks not too dissimilar to the Smart Car. And then the big one, no steering wheel, and no brakes. The brakes could be a bit of a problem, don't you think? Or not. The having more time with one another is important, but whether or not that time is well spent or not, that is important too. What is the point of everyone fiddling on their smart device when sitting with their backs to one another? These are still for urban and suburban spots, no speed here.

What I found really funny from this NY Times article on the vehicle: Google's Next Phase in Driverless Cars: No Brakes or Steering Wheel, was that the vehicle is required to have rear view mirrors (law in California). So nobody driving, but a set of rear view mirrors. Ha-ha!! Sometimes the law is silly, right? But at the core of invention is a great cost saving for consumers in the future. And that is why we like Google as a business so much, whilst they continue to make almost all of their money from advertising, there are many more irons in the fire. This is just one of them in which they might not necessarily be a wholesale manufacturer of motor vehicles, but they could then sell their technology onwards. I am also reminded that quality companies attract above average quality employees!

Byron beat the streets

Yesterday we received full year results from high flying retailer Mr Price. Wow, these guys deserve all the money they make. They have done fabulously well through good times and bad. Revenues increased 15.2% to R15.8bn. Headline earnings per share were up 22.4% to 715c while the dividend was increased by 21% to 482. The company has now achieved a 28 year compound annual growth in headline earnings per share of 23.4%. The share price has grown 27.1% on an annual basis since listing.

The share trades at R165, 23 times earnings at this price. Expensive yes, but do you blame the market for affording such a premium? In fact growing earnings at 22.4% puts the stock on a PEG ratio of 1. One of the main reasons for their growth this year was interestingly price increases of 9.7%. Due to the quality of their goods they are able to charge a premium and people are willing to pay it. I guess for me the below image is the kicker. Mr Price have managed to get the mix between price and quality perfectly and have therefore stolen market share. As you can see they have comfortably grown above the market.

Divisions.

The report summarises it all very well.

"The Apparel chains increased sales and other income by 17.0% to R11.4 billion and comparable sales by 11.9%. Operating profit grew by 21.7% to R2.1 billion and the operating margin increased from 18.3% to 19.1% of retail sales. Mr Price Apparel opened 24 new stores and recorded sales growth of 18.9% (comparable 13.0%) to R8.6 billion (56.4% of Group sales). Mr Price Sport recorded sales growth of 14.2% (comparable 6.5%) to R962.4 million and Miladys 7.0% (comparable 7.2%) to R1.4 billion. The Home chains increased sales and other income by 10.2% to R4.2 billion with comparable sales up by 7.3%. Operating profit rose by 20.2% to R590.6 million and the operating margin increased from 12.9% to 14.0% of retail sales. Mr Price Home increased sales by 10.5% (comparable 8.2%) to R2.9 billion and Sheet Street by 8.9% (comparable 5.4%) to R1.3 billion."

As you can see all the divisions are doing well. I find it amazing that the home division has managed to grow so nicely in a sector where the likes of JD Group, Ellerines and Lewis are really struggling. Even when you dig into the retails sales released by Stats SA you can see the sector is struggling.

Prospects are also exciting as the company plans to grow its online retail platform as well as expand stores both here and north of our borders. All in all a great set of numbers. We do however prefer Woolies in the sector, we feel the management are on a par but Woolies have further diversification with the food stuff. Their global reach is also a *nice* to have.

Michael's musings: South Africa GDP

"Real gross domestic product at market prices decreased by 0,6 per cent quarter-on-quarter, seasonally adjusted and annualised." A figure that is probably more relevant than a seasonally adjusted, annualised figure is the year on year comparison. The year on year change is 1.6%, which is hardly anything but at least it is positive.

Some of the biggest movers in the last quarter were, construction up 4.9% (a good strong number), mining down 2.5% (the strikes would have a big impact on this number), manufacturing up 2.4% and Wholesale and Retail up 2.2%. These numbers are all much lower than they need to be in order to create the jobs needed to uplift people out of the poverty trap.

Giving you a quick breakdown of our economy. The biggest sector by a significant margin is Finance, Real estate and Business services, with 22.29% of GDP. Next is General government services with 17.4% (our taxes hard at work) and then in third place we have wholesale, retail and motor trade; catering and accommodation with 16.4%. Mining comes in with 8.7% and manufacturing with 11.8%. From a jobs point of view, these are the two main sectors where large numbers of jobs are created, so not ideal numbers. The biggest sector being the finance and services sector employs fewer people, but the people they employ are skilled which doesn't help the large number of unskilled people in the country.

What does this mean for investing and share prices? The first thing to note is that the economy is not the stock market, companies share prices factor in what investors think will happen in the future not only focusing on what is happening today. The All Share then can be considered a leading indicator for what happens in the real economy. The impact on share prices happens when the actual economic performance is different from what was forecast.

Another thing to note is that all of the 10 largest companies (around two thirds of the index weight) on the JSE have significant operations all over the world, which dilutes the slow growth in the South African market. If South Africa has slow growth then these companies will allocate their capital in the countries that will have better long term growth; not good for SA but good for the shareholders.

As an investor, we need to be diversified across companies and across countries, thus lowering the risk of slow growth in one country. Once you have your diversified portfolio then back management to allocate capital where it will get the best returns.

Home again, home again, jiggety-jog. Markets have bounced off their lows. The Rand has certainly weakened in recent days, post the weekend and the cabinet announcement, but more important the weak growth has meant less excitement for local assets. And that juggling act that the Reserve Bank keep referring to. Perhaps we can say that the only respite for consumers is that interest rate hikes might stay away a little while longer.

Sasha Naryshkine, Byron Lotter and Michael Treherne

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Tuesday 27 May 2014

Adcock minus

"As you can see, even without the big distraction of the bid, operationally the company is under pressure. OTC (over the counter) sales were down 19% thanks to competition and a weak consumer. It is now 30% of overall sales. With those kind of brands that is unacceptable when you look at the rest of the retail sector, especially in a defensive sector like this. Prescriptions increased by 13.8% and is now 40% of sales. Hospital which represents 20% of sales grew at only 3.5%. The rest of sales comes from assets in Zimbabwe, India and Ghana."

To market, to market to buy a fat pig. Not us this time, but the holidays in the US and the UK obviously had a marked effect on volumes and price movements. We did however manage a close above 50 thousand points, I guess that is worth a song and a dance. The idiom however suggests however association with an untruth and usage in this context would then be incorrect, the closing level was 50021.72 points, of that I have absolutely no doubt whatsoever. I made a decision to not get irritated and incensed with politicians and their agendas, even if it completely is against everything I believe. There is no point in getting angry about X or Y appointments to cabinet, because you know, there is absolutely nothing that any of us can actually do to change it. Everyone has an opinion on who is the best person for the job, but the country has decided and we should respect the wishes of all. Companies will succeed in spite of governments, they always have.

Venezuela might well be the fifth largest oil producer on the planet, but since the nationalisation of the oil industry, production has been consistently lower. Oil production currently is at 1991 levels, about one million barrels, or 29 percent lower than at the height, when business did it. The worst part for Venezuela is that they could be stuck with all these fossil fuels if someone likes Elon Musk gets his way. I guess that you still need to generate electricity in order to manufacture batteries and solar panels, those need to come from renewables too. Byron nailed it the other day. If you are going to be an enemy of capital, if you are going to embrace socialism, then you must accept that you will have to queue for hours for toilet paper and other essentials. I wish, for the sake of the people that live there, I was making this up: Queues, shortages hit Venezuela's homeless and hungry. Wonky economic ideas normally have a much more marked impact on the most vulnerable in society. A free market is quite simple to understand, but works better in a society that is more equal.

An announcement yesterday afternoon from Nashua Mobile, a subsidiary of Reunert in which they were disposing of their Cell C customer base in the mobile business to Autopage Cellular, a subsidiary of Altech. This follows an earlier announcement in which both the MTN and Vodacom books were sold onwards by Reunert to both MTN and Vodacom respectively. Those books collectively were worth 2.26 billion plus VAT, the entire consideration here is 91.5 million Rand plus VAT. No more than 95.75 million Rand. So agin, whilst Cell C might be fighting for the rights of the consumer and never stopping until their customers had the lowest call rates in South Africa, in reality all the cream had disappeared when Cell C had come into the country and acquired their licence in November of 2001. At that stage MTN had 3.54 million South African subscribers (M-Cell results 6 months ended 30 Sep 01) and Vodacom had around 5.1 million subscribers by the end of March 2001 (Telkom SA Limited Analyst day). That Vodacom presentation looks like it is from around 2003. There and thereabouts.

So what does this tell you, if anything at all? Does it tell you that the first twenty odd percent of the South African mobile market was the best part by a long way? And because companies like Nashua Mobile and Autopage could use their platforms to sell contracts quickly. 3310's and 6310's rolled out like hotcakes. Cell C obviously struggled to capture market share and I would love to know all the ARPU's at this moment in time, after the mobile wars. Telkom Mobile, with blended ARPU's at the last reporting period of a little less than 60 ZAR for their 1.6 million subscribers, rolled out 8ta in October of 2010. The current Telkom CEO, Sipho Maseko said that in its current form, this business is not viable. Being the cheapest is not necessarily good for your customers, ironically. Back then the company said, the CEO in fact, Jeffrey Hedberg was quoted as saying: "We are able to mobilise the reliability of fixed-line and the agility of mobile to provide products that South African people really want."

So what happened? Late to the market? Chasing price and not quality? For first time, smartphone sales take lead in SA is a TechCentral article from a few days ago. What do people use smartphones for? To make calls? No. People use these devices to send messages, emails and check specific apps. Less so to make calls. Pfff... Data, coverage, that is where it is all at.

OK, is this acting in the best interest of shareholders, the AstraZeneca board ~~get to keep their jobs~~ have thwarted the Pfizer advances. Yesterday afternoon them fellows from Pfizer decided to walk away from a 117 odd billion Dollar offer for the British pharma company. Wow. That would have been huge. That is roughly the market capitalisation of Volkswagen, that is how big it is. Glaxo is 133 billion Dollars, that is how much Pfizer offered. The fellows from AstraZeneca have their work cut out for them now, trying to convince shareholders that this was the right thing to do. According to this FT article -> Pfizer admits defeat in AstraZeneca bid, AstraZeneca's revenue are expected to fall as blockbusters come off patent. But the management of the business are expecting revenue to grow 75 percent over the next ten years as they bring on newer therapies. By 2020 the British Pharma company is predicting that they would be introducing 10 new medicines.

According to this Reuters article -> How AstraZeneca escaped Pfizer's clutches this time, both companies could reengage with one another. Pfizer can come back and make another offer before the year is out and AstraZeneca could be told by the owners of the business, the shareholders, that they must reengage. Blackrock own 8 percent of AstraZeneca and are the biggest shareholder. How conflicted are boards when making decisions on behalf of shareholders? I guess it is only natural to be conflicted, your job is at risk if you accept the offer.

These businesses are incredible machines, 1 in five employees at AstraZeneca work in R&D and a similar amount in manufacturing and production. The rest? Sales and marketing. Of their 50 odd thousand workforce, nearly 60 percent work on selling the companies therapies. And of those, Crestor, where the patent for Rosuvastatin expires in 2016. Now AstraZeneca did not develop Crestor, that belongs to Japanese company Shionogi. But because of the reach of AstraZeneca, their annual sales of the cholesterol drug Crestor is nearly double that of Shionogi's total sales. Royalties. You must have heard of Claritin, that belongs to Shionogi too, but is marketed together with Schering-Plough.

This is big business in the business of saving lives and extending lives. According to the WHO, in a fairly old report on Average life expectancy at birth in 1955 was just 48 years; in 1995 it was 65 years; in 2025 it will reach 73 years. Over 110 years ago, at the turn of the last century, the average life expectancy was a mere 31 years. Believe it or not that had not changed much for thousands of years. The critical age was 21 years old, if you made it that far, you did well and could live a long a fruitful life. The Gates Foundation (let us celebrate humans and capital combined) in their 2014 Gates annual letter had a fascinating graph titled Converging on a massive breakthrough for humanity. I have taken a small part, just for those of you that won’t click on the link:

The Gates foundation predicts that by 2035 that infant mortality globally will be the same as the US was in the year 1980. But this begs the question, if in developing countries the infant mortality rate is much lower, education and healthcare are worlds apart, is this the era (currently) in which we are going to see the greatest population growth? The paragraph below that astonishing graph puts it into perspective:

Let's put this achievement in historical perspective. A baby born in 1960 had an 18 percent chance of dying before her fifth birthday. For a child born today, the odds are less than 5 percent. In 2035, they will be 1.6 percent. I can't think of any other 75-year improvement in human welfare that would even come close.

I think that Gates is right. This is truly amazing. Perhaps there will be day shuttles to the moon by then, but surely changing the odds to that low number will mean that childbirth will be a "normal" event where a human is welcomed into the world. And of course nothing more to attribute the advances in healthcare than these beast like Pfizer and AstraZeneca. You may have your own opinions, strong or otherwise, on the price of the therapies, the availability to many, the exclusive use, the patent length, the chemical makeup and ethical usage, but the stark truth is that many more lives have been "saved" in the modern era by science advancing. I for one am grateful that shareholders part with tens of billions of Dollars from companies they own (with profit motives) in order to push boundaries and look for the next blockbuster. The broader healthcare industry is on the cusp of something revolutionary. Whilst healthcare remains a very emotive issue, it is also one with great opportunities for investors.

From a consumption point of view there comes a conundrum, if The Gates Foundation is right (and the evidence supports that they are right) then we are going to get lower population growth rates.

When children are well-nourished, fully vaccinated, and treated for common illnesses like diarrhea, malaria, and pneumonia, the future gets a lot more predictable. Parents start making decisions based on the reasonable expectation that their children will live.

But for the time being, with the base being so low for global consumption (relatively speaking), the huge disparities amongst developed and developing countries mean that there are many opportunities for investors. More than ever before. The conclusion of the letter is that whilst there is a lot of work to do, the future is improving for many desperate people. You can ironically allocate your capital in the direction of businesses that have a profit motive that change the direction of society for the better. Makes you think, right?

Byron beats the streets

Today we received six month results for the period ending 31 March 2014 from Adcock Ingram. As you may know we have indirect exposure to this company via Bidvest. There was an extremely public tug of war between CFR a Chilean listed pharma company and Bidvest who already had a small 4% stake. Bidvest pushed for and convinced shareholders to accumulate a stake of 34.59% which is just below the 35% level where an offer to minorities is required. Along with the PIC's 25% they managed to block the CFR bid and subsequently install Brian Joffe as Chairman and former Bidvest exec, Kevin Wakeford as CEO.

From my Calculations the stake cost Bidvest R3.7bn at R70 a share. The stock trades at R57.60 today. As you will see from the results below there is a lot of hard work ahead. Bidvest have a market cap of R100bn so the transaction was not as significant as you may think but they have managed to get the control they were seeking and if they manage to turn the business around, which they are known for, we may see this one becoming more influential for the group.

According to the Adcock website.

"Adcock Ingram is a leading South African manufacturer, marketer and distributor of a wide range of healthcare products. The Group enjoys a sizeable share of the private pharmaceutical market with a strong presence in over the counter (OTC) brands. The Group is South Africa's largest supplier of hospital and critical care products and its footprint extends to other territories in sub-Saharan Africa and India. The Group's extensive product portfolio includes branded and generic prescription medicines, OTC/fast moving consumer goods (FMCG) brands, intravenous solutions, blood collection products and renal dialysis systems."

Brands of their OTC division include Panado, Corenza C, Bioplus, vita-thion and Citro-Soda. All very well know, very powerful brands.

Here are the financials. Sales increased by 3.4% to R2.4bn thanks to the inclusion of recent acquisitions in Zimbabwe and India. Gross profit for the period declined 13.9% to R846 million. After all costs however which included some big capital investments, heavy inflation and a R94 million advisory bill for the CFR bid, the company made a headline loss of R39 million. If it weren't for the advisory fees the company would have made a profit of 29 cents per share compared to earnings of R1.88 last year. Not Good.

As you can see, even without the big distraction of the bid, operationally the company is under pressure. OTC (over the counter) sales were down 19% thanks to competition and a weak consumer. It is now 30% of overall sales. With those kind of brands that is unacceptable when you look at the rest of the retail sector, especially in a defensive sector like this. Prescriptions increased by 13.8% and is now 40% of sales. Hospital which represents 20% of sales grew at only 3.5%. The rest of sales comes from assets in Zimbabwe, India and Ghana.

All in all the company operates in a great sector with some very strong brands. Operationally it needs to be turnaround and we back the Bidvest team to do just that. I would not buy directly into the company however. The turnaround will take a while and the share looks expensive. We are more than happy to hold Bidvest and continue to be heavily weighted in Aspen.

Home again, home again, jiggety-jog. Stocks are lower here. Our GDP for the first quarter was a washout, showing contraction of 0.6 percent quarter on quarter. Sis. As per the StatsSA release: Economic activity in the mining and quarrying industry reflected negative growth of 24,7 per cent, due to lower production in the mining of gold, the mining of other metal ores (including platinum) and 'other' mining and quarrying (including diamonds). Perhaps we can have a look at it tomorrow.

Sasha Naryshkine, Byron Lotter and Michael Treherne

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011 022 5440

Monday 26 May 2014

Sugar, spice, things not so nice

"Sugar prices are set to be more agreeable for the companies producing sugar, but hopefully not as volatile as it once was. I remember a month or two when sugar prices went to three decade highs in early 2010 and then repeated a year later in 2011, the price is now half or so of what it was in 2011, at the beginning. The price is double what it was ten years ago. Very volatile and it must be tough to build a business around a very volatile commodity price. There are other major concerns that the sugar price will be under pressure, in fact there was an article in Barron's around ten days ago titled: Sugar Stocks May Rot Your Portfolio, Too."

To market, to market to buy a fat pig. Record setting all around here last Friday, ahead of Africa Day. You know, yesterday, the sunset was phenomenal here on the highveld, it always is in winter. We had the presidential inauguration over the weekend and the naming of the new cabinet, the Deputy Finance minister was elevated to the full post, Nhlanhla Nene is well known and not a surprise choice. He has both public and private sector experience and apart from falling off a chair once (you cannot unfortunately live that down) and is the right person for the job. So yesterday was officially his first day on the job, Minister Gordhan moves to Cooperative Governance and Traditional Affairs. I think that these are good moves, the chattering classes always have their specific thoughts, and that is good, but it won't change anything, right? Keep calm (not clammy) and carry on.

Back to the Souq, or Bazaar, floating, standing, public or night. We failed to crack the 50 thousand point close here, even though an intraday high had been set earlier in the session. Perhaps it would have been better to leave us hanging for another day. But over the seas and far away it was a record close for the major indices there, the S&P 500 having a record week and closing over the 1900 point mark. So whilst the index had been higher in intraday trade earlier in the month, this was the first time that we saw that close above that mark. No mark is ever key IMO, it just has a nice ring to it. It is tough to believe that we are a week away from June, and a mere four weeks away from the Winter solstice. Downhill to the coldness from here I am afraid sports lovers.

OK, what is happening in and around the world that is of importance to equity markets? Petro Poroshenko, the so called Willy Wonka of Ukraine is leading in the exit polls in the Ukrainian elections. What is the reference to the chocolate man? Well, Poroshenko made himself rich in the confectionary industry, he controls a business called Roshen. They do not export here, so that might be why you have never heard of them. He has been active in government and said immediately that he would engage with the Russian president, Vladimir Putin. Being rich means he does not want to pilfer the national coffers. At least you would hope so. I hope that this difficult chapter is put behind us, I am sure that everyone wants peace and stability.

Meanwhile the FT reports that Eurosceptics storm Brussels. And also, in what may seem to be a turnout for the books, BP signs shale deal with Rosneft. So here you have what is considered a British company (the B in BP is British, the P is Petroleum) signing a deal with the Russian Government owned Rosneft. There are other shareholders, but the Russian government owns three quarters of this business. BP are actually the other shareholder, so in actual fact this is just an extension of business as usual. BP owns just short of 20 percent. On the Rosneft board is a former STASI member, but I guess that might be normal in that part of the world. All you need to know is that this deal, according to the FT article, made Putin smile. And of course earlier in the week the Russians signed a 30 year gas deal with the Chinese.

Today there are major markets closed for holidays, both the US and the UK, Memorial Day in the US and Spring Bank holiday in the UK. It looks like there are only 8 holidays a year in the UK, the Americans look like they have 11 Federal holidays. Although the market is closed for only 9 of these days, the list is available on the NYSE website if you are interested -> Holidays. Today is sadly one of those. Perhaps I should not care so much, seeing as it does not really matter, other than from a liquidity point of view, whether the market is open or not.

Two sugar producing businesses reported numbers this morning, both Tongaat Hulett and Illovo, two companies synonymous with the industry here in South Africa. Although the argument can be made that Tongaat has indicated that there is a lot more money to be made in the short term in unlocking value with regards to their property assets. For Tongaat, land conversion activities as it is known, generated operating profits of 1.080 billion Rand. From only 259 developable hectares. Still in the bank is a whopping 8200 developable hectares. But operating profits from the sugar operations fell to 908 million Rand, from 1.4 billion Rand in the prior financial year. The sugar price has been weak. I guess the weaker developing market currencies have in some part had something to do with that. Brazilian production has been weak lately.

Sugar prices are set to be more agreeable for the companies producing sugar, but hopefully not as volatile as it once was. I remember a month or two when sugar prices went to three decade highs in early 2010 and then repeated a year later in 2011, the price is now half or so of what it was in 2011, at the beginning. The price is double what it was ten years ago. Very volatile and it must be tough to build a business around a very volatile commodity price. There are other major concerns that the sugar price will be under pressure, in fact there was an article in Barron's around ten days ago titled: Sugar Stocks May Rot Your Portfolio, Too. The subscription only article cites a Credit Suisse report from last September -> Sugar Consumption at a crossroads. I guess this table is pretty significant.

In large part this led to us selling Coke and buying Starbucks. Although you put sugar in coffee, you do not have to, I take my espresso with a little bit of froth, just to take the bitter edge off a touch. But, no sugar whatsoever. There is huge pushback from general society and with government funded health programs being able to implement future consumption taxes, the risks are certainly worth noting. The whole idea is that if I pay for your health, I can regulate what you consume, fair is fair. Ironically the same report refers to caffeine withdrawal symptoms. It really does! So perhaps in the long term the switch to caffeine is not necessarily the right one, but for the time being it seems that moderate consumption (with almost everything really) is not a bad thing.

The conclusion of the Credit Suisse report, in which they use cigarette excise duties (higher) versus consumption (lower as a result of taxes), is that the threat of stepped up regulatory response is real. For instance, did you know that a Red Bull (according to a public health study by the California Center for Public Health) has 8 teaspoons of sugar per serving. Fanta Orange is the highest at 12 teaspoons. Artificial sweeteners? Well, that is bigger than before, I am not to sure what the longer term repercussions are of artificial sweetener usage.

Anyhow, the companies deserve merit on their invest-ability right now. Whether or not you, or I, would buy them today, at these current levels. Both Tongaat and Illovo. I think that both these companies, from an internal consumption point of view in their key operating geographies, Mozambique, South Africa and Zimbabwe in the case of Tongaat and Zambia, South Africa, Malawi, Swaziland, Tanzania and Mozambique in the case of Illovo. Tongaat by a stroke of luck kept their land assets in KZN, Illovo, not so much. Illovo also have three meaty shareholders who make up nearly three quarters of their entire shares in issue, Associated British Foods (51.40 percent), Allan Gray (17.5 percent) and the PIC (6.6 percent). Allan Gray also own 14.71 percent of Tongaat. They obviously like these investments. The GEPF (Government Employees pension fund) owns 14.47 percent of Illovo.

So, the crunchy part. Do you own these businesses as a proxy for the emerging South African area, consumers putting their best foot forward? In the agricultural space we do prefer Omnia. Weather patterns, volatile sugar prices and pending regulations (we think) would perhaps see these companies evolve in time towards something different. Too volatile and too cyclical, agricultural businesses that is. Peter Staude is well regarded, perhaps he would be snapped up somewhere else. He owns (as per the 2013 annual report), 236 thousand odd shares and makes around 12.5 million Rand, all in. And he gets to live in Durban, which this year has the best Super 15 Rugby team. Although those fans will tell you that they are consistently the best team, the folks from Pretoria and Cape Town will tell you otherwise. The folks from Joburg. Sigh. Perpetually disappointed.

Home again, home again, jiggety-jog. Stocks are marginally off. It is quiet out here, because of the holidays. Oh well, we had all of ours, time for theirs!

Sasha Naryshkine, Byron Lotter and Michael Treherne

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Friday 23 May 2014

BCXy for Telkom only

"I do not think that BCX offers them, Telkom, anything new at that price. I do think that it offers the institutional shareholders of BCX and the management team a chance to exit. A 20 percent premium? That is the best part of the deal for BCX and possibly (for me) the only point in amongst the seven that makes sense. Telkom proposes to fund the transaction from their side, all cash, which means that they will have to raise the money on top of their existing cash. And no doubt add to their existing debt. Am I the only person who feels this way?"

To market, to market to buy a fat pig. Well, yesterday we crossed that mark, the 50 thousand mark on the all share index. So at least we have breached it now and can stop talking about it, a level as if it is some amazing and dizzy height. Perhaps we should rebase the index back to 5000 points and then everyone can stop feeling so dizzy. Sadly I cannot find too many graphs of the long term performance of the JSE, but I did find this one from tradingeconomics.com, nearly 20 years old now, from the beginning of 1995 to present day.

As you can see, less than 20 years, and the index (without the benefit of dividends) is up ten fold. There is of course that massive blip in the middle there, see that? That felt terrible at the time. It really did. But it turns out that it would have been more terrible to sell. So where does that leave you, as the investor? I mean, check it out, Bespoke have recent data that suggests to them that on a long term S&P 500 Historical P/E Ratio the market could be cheap or expensive. What is interesting there is that 10, 25 and the long term averages (from 1929) all differ. The conclusion leaves it all up in the air: "equity valuations are not on the cheap side of the spectrum. They're also not that expensive either, though." Err...... Thanks.

But surely, and I am thinking a little out loud here, the long term averages do not reflect the impact of the Cold War? I mean, the Moscow Exchange only really started in 1992. So the long term average does not include countries which were involved with communist activities. We forget, but the Iron Curtain was still "up" one quarter of a century ago. Those pictures of "the wall" being smashed down by people from both sides are still engrained in my memory. That fellow with the peroxided big hair and weird jeans and giant hammer. Mind you, there were lots of those. But think about the longer term issues, access not only for companies to new territories, but also companies having access to capital internally. The Chinese economic miracle, currently we are seeing huge interest in African countries, there are MANY more people in the world, I keep making this point over and over.

In 1929 there were a little over 2 billion people on the planet (passed in 1927 for the first time). We crossed 4 billion in 1974. 5 billion in 1987. OK. 8 billion is expected in 2027. In large part this is as a result of improved nutrition and better medication for all, although we still live in a very unbalanced and unequal world. For example, I saw a little piece in an analysis on thermal coal that went something along these lines: The electricity demand from New York (8 million strong) is the same as the entire populations of Bangladesh and Nigeria combined. Collectively those populations are nearly 320 million. I mean, that is completely astonishing. No. Mind blowing. For each and every one persons usage of electricity in the Big Apple is equal to 40 people in Nigeria or Bangladesh's usage.

Granted that New York is quite possibly the most built up and advanced place anywhere on the planet, and I am sure that in rural America somewhere electricity usage is similar to that of an emerging market. In terms of total electricity consumption by country, the USA is second globally. China is first. Between the two, they account for around HALF of the global usage, at least according to the Wiki data supplied. South Africa actually sits in 17th place, so we are pretty intensive users. But in terms of consumption per capita, we fall into company with Libya, the Ukraine, and even China, believe it or not. On a per capita basis countries like Austria and Singapore are double what we are. Understandably countries like Norway, Iceland and Canada have the highest electricity usage on the planet.

But how does 50 thousand points on the local index and increased electricity (and indeed unbalanced electricity usage) demand globally tie up? Well, the point is simple. I can imagine that everyone wants an easier and more advanced life that has better services. Better medical care, better schooling, better municipal services. But we all need to be richer in order for that to happen. And companies nowadays are more global than ever before. But to answer that valuations concerns question, companies have possibly built in more efficiencies in the last five years globally than at any time in the last quarter of a decade. That is probably why labour has not been the winner in the recovery, mechanisation is real and happening. Unfortunately for labour, and that possibly counts for all of us and our occupations, we are wanting to price ourselves out of existence. Existence in the labour form of course. Keep calm and stay invested, even if equity markets sell off (which they always do) remember what you own. Paul said it well in a tweet yesterday:

The South African stockmarket (JSE Alsi) is almost at 50,000 points. That has a nice ring to it. We are fully invested as usual. #winning
— Paul Theron (@paul_vestact) May 20, 2014

Pff... I am not too sure what to make of the Telkom and BCX hook up and revisiting the past here in a sense. Last time the competitions authorities blocked this. Last time around both companies were in a stronger position, financially speaking. BCX's star has faded in recent years, revenue growth barely matches inflation and margins are not too dissimilar to what we are seeing in the construction sector right now. Really low, somewhere around two percent. And Telkom are wanting to pay around 20 times earnings for a business that has barely grown earnings. Telkom themselves are not expected (from the analyst community) to grow earnings at all, in fact they are expected to go backwards, earnings wise. So whilst Telkom might look cheap, at the same price they are expected to be more expensive, because the analyst community expects earnings to decrease by double digits next year and then high single digits the year after that.

I do not think that BCX offers them, Telkom, anything new at that price. I do think that it offers the institutional shareholders of BCX and the management team a chance to exit. A 20 percent premium? That is the best part of the deal for BCX and possibly (for me) the only point in amongst the seven that makes sense. Telkom proposes to fund the transaction from their side, all cash, which means that they will have to raise the money on top of their existing cash. And no doubt add to their existing debt. Am I the only person who feels this way? It feels like a desperate attempt to diversify away from a shrinking business towards one that is very competitive and low margin and cutthroat. Not skills that the Telkom machine has always possessed, being able to upend their competition. Anyhows, all shareholders have been canvassed no doubt, for the time being Telkom are facing other problems as they continue to slimline their workforce, the CWU is fighting the pending retrenchments at Telkom. Not businesses that we are invested in anywhere.

Home again, home again, jiggety-jog. US futures are marginally higher, German IFO business confidence numbers were lower than anticipated. It is a holiday in the US on Monday, I have no idea what that means for markets at all. We have crested the 50 thousand points mark again, it would be *nice* if the equities market could stay there for the weekend, we will see!

Sasha Naryshkine, Byron Lotter and Michael Treherne

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Wednesday 21 May 2014

Tiger treks taking time

"Turnover which amounted to R14.9bn was up 11%. R11.2bn of that was domestic which increased 8%. The export business grew turnover by 20% to R3.7bn. You have seen the profit details in the table above which all equated to headline earnings per share of 856c, up 7% from the same period last year. This is impressive considering the conditions. I think their strategy to crimp margins and maintain volumes has worked well for them. Internal cost cuts have allowed them to remain very profitable. The dividend has been increased by 6% to a healthy 329c per share."

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To market, to market to buy a fat pig. The Grand old duke of York marched his troops to the bottom of the hill yesterday. So we were down from our mid afternoon highs, the US market sold off last evening to the tune of two-thirds of a percent for the S&P 500 and over four-fifths for the Dow Jones Industrial Average. Nerds? The NASDAQ from their intraday highs was off in-between those two indices, down 0.7 percent. What gives? Why? Well, searching for a reason why the markets are always down must be a tiring job, the several folks that I have spoken to over the years that were tasked with such jobs don't call us back, because we do not really have an opinion on whether Mr. Market goes up or down, or sideways.

It matters most (Mr. Stuck Record) what companies you own. And in this case, the brick and mortar stores at strip malls are being travelled to less by ordinary Americans. Staples. Urban Outfitters. Target, which had the sellers exercising much practice, down nearly three percent. But I am just guessing out loud here that this is very good news for Amazon.com, who are essentially a technology business with a large retail element to them. More people buying online means that there will be less room for brick and mortar stores, more affordable work space, or converted into residential space? One wonders.

Also falling into that category of sold heavily was Dick's Sporting Goods, well, their golfing and hunting divisions sales disappointed the market. The stock sank nearly 18 percent. Interesting business of how the second generation, three brothers, bought the store (one and only) from their dad (Dick Stack) and then transformed the business into 566 stores offering all sorts of sporting equipment. I remember the famous sports stores, Kings Sports in Durban, I remember getting a cricket bat from there. An SS Jumbo if I was not mistaken, my pride and joy. Or was it a GM Maestro? Darn it, my memory.... Back to Dick's Sporting Goods. The company is on many buy lists for many good reasons, they sell everything that you could possibly want from a sporting point of view. At least in the US, I doubt that there are too many cricket bats in their stores. But then I checked their online site and low and behold, there is a <a href="http://www.dickssportinggoods.com/family/index.jsp?categoryId=4414029">cricket</a> offering. 8 items, all Slazenger. No boots, but hey, enough to get you started I guess.

The sell off in light of weaker than anticipated quarterly numbers and a downgrade to their forecast has meant that the market no longer affords a 20 multiple to this business, but rather a 16. The problem was that two months ago the company guided towards 51 to 53 cents for the quarter, a delivery of 50 was well, not enough training, you are going to be found out. For the full year earnings were guided lower to 2.70-2.85 Dollars, down from a mid March guidance of 3.03-3.08 Dollars. Phew, that guidance lower was enough to send folks packing and only marginally higher than the last full year, in terms of earnings. 8 percent higher at the top end of the range. Whilst this is disappointing, a good sell off in a sector that one likes is always a great opportunity. Whilst golf and hunting may be struggling, youth and woman apparel, footwear and team sports equipment sales are strong. I think that not so silently there is a revolution towards health and fitness, it is taking place as we speak. The company plans to open another 50 odd stores, online sales only represent 7 odd percent of total sales, that is an opportunity itself. Looks cheap (relative) and is trading at levels not seen since the beginning of 2012.

Locally we saw equity markets end higher, but sag off the best levels. Up just shy of a quarter of a percent on the day. Michael said something about the local market not cracking 50 thousand points, perhaps the head shoulders knees and toes chart is not aligned with the stars. No, I am kidding of course, technical analysis and levels, those are not really for me, because the price of a company and the share graph tells me nothing about that business at all. Absolutely nothing really. But having said all of that, it would be really *nice* if the market were to breach that mark.

For the time being we are stuck with 49617 points at the close, and judging by the movement overnight in the US equities market, we will probably start lower. And in case you needed another reason why the US markets sold off, the taper of the bond buying program, as a result of an improved economy, might be quicker than anticipated, those comments were attributed to Charles Plosser from the Philly Fed. I remember late last year when this was the number one concern, tapering of the bond buying programs and how that would lead to an aggressive sell off because there would be no support, et cetera. Three weeks ago the Fed cut their bond buying program to 45 billion Dollars, down by 10 billion Dollars. Which means that come the next meeting on the 17-18 June and the Fed will wind in another 10 billion Dollars, lowering the amount to 35 billion Dollars a month. You know what, that is less than half of what they were six months ago. Actually in August last year. Emerging markets, commodity prices, the S&P sold off over 100 points. Since then? Up 300 points. All that anxiety for nothing. Keep calm, be aware of the risks but do not be reactionary in any way.
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In light of the recent AT&T intention to acquire DirecTV for 49 billion Dollars (the share price of DirecTV is telling you it may not happen), I was suddenly struck by how many people discount the DSTv business inside of Naspers. When people talk about Naspers, you are always saying, oh well, this is a proxy for TenCent, and then South Africans in their infinite wisdom apply a discount to the TenCent valuation in their valuation of Naspers. All rather complicated if you make it "like that", but that is part of trying to determine the value of any business that is in the public domain when investing real money. When you buy shares in a business, you part with your hard earned money (someone banks it on the other side) at a particular price. You, as the shareholder are then entitled to a share of the profits, you know that of course!

But let me deal with one thing at a time, firstly, the value in Rand of the TenCent stake relative to the Naspers share price. Our trusty calculator is as follows: Take the TenCent market cap in Hong Kong, which right now is 1040 billion Hong Kong Dollars, or 1.04 trillion HKD. Naspers owns 33.85 percent of TenCent, that translates to 358 billion Hong Kong Dollars. Now one Hong Kong Dollar is equal to 1.34 Rand. So, quite simply, multiply 352 billion HKD by 1.34 and that equals 471 billion Rand. That number in Rand terms has not changed much, even though the HKD to the ZAR has not been in Naspers' favour i.e. The Rand has strengthened to the Hong Kong Dollar. At last close, Naspers had a market capitalisation of 498 billion Rand. So, in simple terms the "rest" of the business is worth 27 billion Rand. What is the "rest" of Naspers actually worth? -> <a href="http://www.vestact.com/single.php?p_id=6893">Naspers results, big e-commerce ramp up coming</a> One of the old Naspers links is broken in there, sorry.

I want to focus on the TV segment for a second. Six month revenues were 17.1 billion Rand, as at the last set of numbers. 7.3 million subscribers. What would you pay for that business? 5.375 billion Rand EBITDA last half. Currently DirecTV (at the lower price) has an enterprise value to EBITDA of 7.7 times. Of course we are not comparing this fruit and that fruit, DirecTV is in the US and DStv is across the African continent mostly, but they are both satellite TV businesses, so that is fair enough, I guess for the purposes of this exercise. Working backwards to determine the enterprise value, and annualising the six month EBITDA to 10.75 billion Rand, you get an enterprise value for DStv (or the TV part of Naspers) of 82.775 billion Rand, or roughly one sixth of the total Naspers market capitalisation. But this I think is a conservative valuation.

But yet the fellows here, in South Africa, in their infinite wisdom, discount the price of Naspers, because from an earnings perspective it is not quite at historical levels. When of course they, Naspers, used to only sell magazines and newspapers. And not satellite TV subscriptions and more importantly, the future being ecommerce businesses, which are currently LOSS making. We can all add. Even the print business makes profits and must be worth more. Even the loss making ecommerce business will be worth something in due course. As luck would have it, I received (for what it is worth) an analyst report which suggested that Naspers is trading at a 25 percent discount to their NAV. And that there could essentially be 50 percent upside in the share price over the next 12 months. Yowsers. But then again, take those brilliant and well researched reports from where it comes, that could change in the next six months. But the argument can equally be made that a cheaper entry point into TenCent is via Naspers, because surely the rest cannot be for free? We continue to hold the stock and accumulate on weakness.
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Byron beats the streets

This morning we received interim results from Tiger Brands for the 6 month period ending 31 March 2014. As Sasha mentioned a few days back they are taking a write down from the 63.35% Dangote Flour Mills (DFM) stake which will have an effect on Earnings. Lets first look at current operations then we can look at the Dangote Mills issue.

As with many of these brands businesses the actual strength of the brands is crucial. Take a look at how Tiger dominates the brand positions in its relevant categories. That is very impressive I must say.
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Now to get a better idea of where the business makes its money here is a breakdown of their operating income as well as their margins for the period. Grains is still the dominant contributor but the business is very nicely diversified. Exports and international, excluding Nigeria, is becoming more and more significant, especially after growing 26% in the period. That is crucial for the growth of this business. It was of course helped by the weaker Rand but lets be honest, that is a welcome hedge for a company this negatively affected by a weaker consumer thanks to a weaker rand.
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Financials (excluding DFM).

As you can see from the table above, margins were purposely squeezed to maintain volume growth. Turnover which amounted to R14.9bn was up 11%. R11.2bn of that was domestic which increased 8%. The export business grew turnover by 20% to R3.7bn. You have seen the profit details in the table above which all equated to headline earnings per share of 856c, up 7% from the same period last year. This is impressive considering the conditions. I think their strategy to crimp margins and maintain volumes has worked well for them. Internal cost cuts have allowed them to remain very profitable. The dividend has been increased by 6% to a healthy 329c per share.

Lets assume they can double operating earnings in the second half. That would assume earrings of R17.12. Trading at R293 (it reached R238 at the end of Feb this year) we get a forward multiple of 17. As the biggest food producer in the fastest growing continent I'd call that fair.

Dangote Flour Mills

Ok that was the good part, but there is an ugly part as well. Sasha did cover it last week Thursday. Basically they are impairing R849 million, the entire value of the goodwill and intangible assets which were calculated when the acquisition was done. In simpler terms goodwill and intangible assets is the premium Tiger paid over and above the book value (assets you can feel and touch). In other words they paid too much and are writing off that entire premium. But lets go back a few steps.

In September of 2012 Sasha wrote this piece titled <a href="http://www.vestact.com/pls/pub/pub_misc.preview?p_id=5238">More insight on the Dangote Flour Mills deal.</a> It is nicely simplified. Tiger paid R1.5bn for the stake but it had a clause which stated that on top of that they would pay 14 times the current years adjusted profits. That current year was 2012. In the first half of 2012 they made a loss of 815 million Naira (R52m in todays currency) according to the Dangote website. In their results last year they confirmed that they paid no more than the R1.5bn but they also assumed R1.5bn in debt from the business. It was certainly a business in decline when they bought it but they knew that already. Continuous over capacity in the Nigerian milling industry has furthered hampered the turn around.

Yes they may have overpaid in the short run but remember when MTN "overpaid" for their entry into the Nigerian market. I am not saying that this will turn out as well but the numbers are certainly there. I still back management to turn this around in due course, these things take time, especially in Africa.

Conclusion.

All in all I think this is a good set of results and the share price has certainly been rejuvenated. As Shoprite and Co expand into Africa they will naturally take the best Brands with them. We maintain this as a core holding in our portfolio and continue to add.
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Michael's musings: Taste, looking Tasty?

Fast food has been in the news this week, with Famous Brands releasing their results on Monday, yesterday Taste saying that there has been a local objection to their agreement with Domino's and then this morning their full year results are out.

Let's start with the numbers, revenue is up 15% to R582 million, EPS is up 23% to 15.1c and the dividend per share is up 22% to 6.2c. The group is split between their food services business and their jewellery business, from when they bought NWJ in 2008. The revenue split is about 60/40 in favour of food, but the profit share is closer to 50/50 because of the better margins on jewellery.

Taste only has an operating margin of 8.5%, which compared to Famous Brands' 20% seems very low. Taste do say that their operating margins are not directly comparable to other franchise companies because of the way they treat marketing income and expenditure.

Their jewellery division is in the right sector and is able to cater for people moving into the middle class, so they should continue to see growth. From my experience there are multiple lower end jewellery stores in malls, which to me says there are low barriers to entry. For high end jewellery brands (which I wouldn't classify NWJ as) this is not a problem because they have decades/ centuries of history, making it very difficult for new comers to take market share. If I had the choice I would rather have a brand name, high margin business in my portfolio.

The reason that you would buy Taste Holdings is for their fast food division, and more particularly for the impact that Domino's is going to have on the group. I was watching the CEO on CNBC this morning, Carlo Gonzaga, where he was talking about how much he has learned from Domino's over the last two months. I think that this is the key, the skills that they will gain from Domino's they can use in their other brands. Having the Domino's brand also brings customers that they have not had in the past; when last did you eat from Scooters, for me it has been at least 6 years. In the center up the road from me the Scooters was replaced by a Debonairs, still early days for Debonairs but I think I have made my point.

Taste say that they expect Domino's to have a material impact on their results in two years' time. The reason for the delay is due to the cost of converting the existing stores. Some headwinds that might come up in the future would be if Yum brings back Pizza Hut, which they indicated they might do.

My money would still be in Famous Brands over Taste but the company (Taste) is growing off a vastly smaller base and as such looks attractive to have a punt on them doubling earnings in a short period of time. The Domino's deal is a catalyst for the company and their results will have to show it in years to come, if it comes off, I think there is good money to be made.
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Home again, home again, jiggety-jog. Markets are marginally lower by midday. Not too much to talk about by way of data around.... keep calm. Carry on.

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Sasha Naryshkine, Byron Lotter and Michael Treherne

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Tuesday 20 May 2014

Swallow some cement

"Earnings for the full year are expected to come in at around R2.20 which is just above flat from 2013. The stock currently trades at R32 (down 3% today) putting it at 14.5 times earnings. They have managed to keep the dividend the same as last year at 38c but as expected, they have put their dividend cover under review because of big capex requirements in the future. This is why I expect the share price is taking a hit. PPC has historically been a very strong dividend payer and many dividend orientated funds and indices may be wary of this news."

To market, to market to buy a fat pig. Financials and Industrials led the charge yesterday, results from well known businesses. Some of them like AngloGold Ashanti in recovery mode, getting used to a stabilising gold price. At the same time the World Gold Council reported that gold demand last year was essentially unchanged from the year prior. Seeing as the gold companies are not really core to our portfolios at all, all you need to know is that the metal is still in demand and will for historic reasons remain like that. The positives for AngloGold Ashanti are lower costs and higher production, we have definitely shifted to an era of more profitable ounces rather than chasing production. That is good news for shareholders. This is the strongest quarter operationally in four years.

Another business in recovery mode and reporting results yesterday was Astral, resuming paying an interim dividend after having skipped one last year. Surely that tells you something. The volatility of soft commodity prices and the volatility of the Rand as well as the cheaper imports saw tough times perhaps past. Or the worst of it. Almost anything can however happen when owning a business of this nature, an agricultural business is a tough old neck of the woods, farming itself is for the very brave. Ironically deep inside of all of us there is a farmer, someone who thinks that they could be good at that! Too cyclical for our liking, entire chicken populations can be wiped out. Hey, how do you feel as a consumer paying higher chicken prices as a result of import tariffs being slapped on chicken from Brazil? Whilst the department of so and so stands up and says that x or y number of jobs have been saved, the unintended consequences of higher protein prices, for the protein of choice in South Africa for 52 million people, could be much worse. Short sighted, just like the chickens themselves which have to turn their heads sideways to spot the piece of grain.

Another set of results from Barloworld yesterday, the industrial business far different from the conglomerate that it once was, even 30 years ago. Major Billy Barlow (a WW1 veteran) founded this business over 110 years ago in Durbs, obviously before the Great War (you know your history), his son Punch Barlow became a legend in South African business circles. Heavy machinery has also been at the heart of the business, the Caterpillar licence belonged to Thomas Barlow & Sons as it was known back then. That was in the 1920's. The Hyster licence was also acquired by the family in the roaring 20's. Forklifts and heavy machinery, a great proxy for the economy, not so?

The stock of the business was first traded in 1941, according to the Barloworld website it opened at seven shillings and sixpence per share. Twelve pence in a shilling and twenty shillings (240 pence) in a pound. Yes, that makes sense. Not really. So the share price was 12x7 plus 6 pence. 90 pence, got it. Believe it or not, decimalisation took place in Ye Olde Worlde (the United Kingdom) a day after Valentines Day in 1971. Barlows is not the same business as it used to be. Punch built a massive empire over a 60 year plus career. By the late eighties (Punch had been dead for a decade), whilst tie dyed tees and bleached jeans were all the rage, Barlows had become a top 100 company in the Fortune 500, 79th place in fact on the 1989 list. Wow.

Just over a decade ago however the divesture of noncore businesses started, out went various paints and steel distributions businesses. PPC and Freeworld were unbundled in 2007. Now what is left in Barlows (sorry, Barloworld) is the equipment business which is a CAT licence in 11 Southern African countries, Iberia (which is Spain and Portugal) and selected Russian territories. Post the Caterpillar purchase of Bucyrus (mining equipment), Barloworld hold that licence too. The handling business is a product sales business (agricultural products, you will know Massey Ferguson) in Southern Africa as well as Russia. When Russia keeps coming up, does that ring any alarm bells? Maybe. Lastly their automotive and logistics division is far and wide, rentals logistics (duh) and motor vehicle retailing. You can get the full numbers from the presentation document from yesterday -> Interim results for the six months ended 31 March 2014.

Whilst there is definitely a recovery in Iberia, the Russian sanctions and stand off around The Ukraine remains a problem, from the commentary: "The deteriorating situation in Ukraine continues to take its toll on the Russian economy with the rouble weakening in the period and the outlook for economic growth continuing to decline." Sigh. But the outlook is fairly upbeat, if not mostly cautious. Equipment Southern Africa is stand alone their biggest division, both from a revenue and profits point of view. You could argue that because of their location that Barloworld are well positioned to take advantage of a sustained mining, industrial and agricultural upswing across the region. Twenty Rand cheaper and I would say for a business with limited earnings growth over the next three odd years, then you are talking. But then again, who am I kidding? I am starting to sound like those fellows that suggest the market has got it wrong. Very cyclical, dependent on construction and industrial capex, as well as agricultural spend. It would be great to want to hold such a champion of industrial Southern Africa, but probably best to avoid for the aforementioned reasons. Another important rule of investing is that you cannot own everything.

I wanted to make some sort of point following on from yesterday about comparing two moments in time. Pattern recognition is engrained in all of us. It helps us evolve as a species, the next time we come across a Sabre Tooth Tiger we know that it is not friendly, but rather a foe, because uhhummm, we lost cousin Bob to the big beast. I am not a fan of technical analysis because it is about pattern recognition and saying, oh, X happened and this is forming a Z pattern and now I expect A to happen. A chart of a share price tells you nothing about the business that you are buying. We are in the interest of buying companies, not random prices that are supposed to do X or Y or Z based on what they did last week, or last month. I am not suggesting that it doesn't have a place, it just doesn't have a place in investing in companies. When someone mentions a head and shoulders on a graph, I snarkily ask, where is that knees and toes pattern forming? I should not be so rude, but I cannot help it, for me technical analysis is like Candy Crush, recognising patterns.

Back to that two moments in time comparison. A lot has been made of the valuations of internet stocks now and the dot-com era of 1998-2000. Anything with a dot-com domain, or something to do with technology was immediately snapped up by Mr. Market and retail investors that crazily bought every single tech stock. Substitute tech with internet and do we have the same? It is always very dangerous to say that this time it is different, but where it is different is that at least there is an E in PE. E being earnings. Facebook trades on a historical multiple of 75 times (expensive), current year that is 41 times and next year that shrinks to 32 times. Still expensive for many, but growing at a breakneck speed. From an advertisers perspective, Facebook knows more about their users than any other platform, and because monetisation of this powerful database is in its infancy, the prospects of an ARPU ramp up are real. For many that have stricter guidelines with regards to investment and investability metrics for their mandates. You have heard the argument, great business, wrong price. The same almost always applies, no matter what moment in time we are at. Sometimes a specific company's stock is either cheap for a reason (no growth) or conversely expensive for a reason (faster growth).

Last point. The platforms that investors and money managers have access to, ourselves included, is a powerful platform to put forward your own argument about specific companies. Making noises about absolute market levels is lazy forecasting or simple observing from a distance. "The market is high" tells me nothing about the companies inside of the index. Zero. Beware the market forecaster, that is all that I am trying to say. Own companies, read their prospects and outlook and performance. And of course the list goes on.

Byron beats the streets

This morning we received interim results from PPC for the half year ended 31 March 2014. If you remember we divested from this one about 3 years ago on the premise that slowing demand and increasing competition in South Africa will put big pressure on their already heavy balance sheet considering their big plans to expand in Africa. Lets see how that is panning out.

Cement sales for the period increased by 2% while group revenues increased by 9% to R4.1bn thanks to better exports as well as the inclusion of sales from Safika, a South African cement manufacturer they bought last year. Revenue was also boosted by good growth in the lime and aggregate division. This division is responsible for 7% of profits so not exactly significant. EBITDA for the period was up 5% to R1.18bn which equated to headline earnings coming in at 96c which is up 50% from last year which included once off in Zimbabwe associated with indigenisation costs.

Earnings for the full year are expected to come in at around R2.20 which is just above flat from 2013. The stock currently trades at R32 (down 3% today) putting it at 14.5 times earnings. They have managed to keep the dividend the same as last year at 38c but as expected, they have put their dividend cover under review because of big capex requirements in the future. This is why I expect the share price is taking a hit. PPC has historically been a very strong dividend payer and many dividend orientated funds and indices may be wary of this news.

The South African market is still slow. Demand for cement was down 2% while price increases of 4% matched cost of sales increases. With current electricity and transport costs escalating this is certainly commendable. As you can imagine Zimbabwe has really struggled, the country is a shambles. Botswana has also seen slowing sales as a result of a more competitive landscape.

The company has big plans however, this is what they have to say in their prospects.

"We are pleased to note the accelerated progress in the execution of our rest of Africa expansion strategy. Construction is underway in four countries; Rwanda, the Democratic Republic of the Congo, Zimbabwe and Ethiopia. We are particularly pleased with the fact that at the end of calendar 2014, we will begin commissioning our 600 000 ton per annum plant in Rwanda. A positive outcome of a detailed feasibility study into establishing cement operations in Algeria would result in the construction of yet another cement factory in a different African country."

Conclusion. Net debt went from R3.9bn last year to R5.2bn this year. That is more than a quarter of the market cap and getting tighter. How are they planning to fund all the expansion mentioned above while sales in their main market South Africa remain subdued because of muted demand and increased competition? Don't get me wrong, I still think this is a good company and probably your best entrance into the construction sector. Africa will certainly have big infrastructure demands in the future. But there are too many question marks and still too many risks, there are better opportunities elsewhere.

Michael's musings: Waka waka, eh eh

Yesterday Famous Brands released their full year results, and had a results presentation that I got to attend. I was hoping to have a King Steer Burger as part of the snacks followed by a Tashas/Wakaberry desert, but that was not the case. The company had strong results with some mile stones over the year. The first and most important as an investor is that they achieved an operating margin of over 20% for the first time (from 18.5%), they also have passed the R10 billion market cap number and their debt to equity ratio is negative, meaning that they are debt free.

As an investor you would like to see a bit of debt in a growth business like Famous Brands because you would be backing management to put the borrowed money to work giving returns that are higher than the interest on them. The management hinted at an expansion into what they called the "related leisure" sector, which would include hospitality, beverages, food retail and fast moving consumer goods. The move would make sense because they can leverage off their logistics and manufacturing networks, which currently supply's their franchisers. The move would also add some debt to the books that could be paid down relatively quickly due to the strong cash flow of the company.

At the moment they have 2378 stores of which 1935 are in South Africa, 347 in the Rest of Africa, 94 in the UK and 2 in India. An interesting stat is the operating margins for the different regions, South Africa is just shy of 20%, but the "Rest of Africa" category has a margins of 46.1% and the UK has only 14%. As markets become more developed there is more competition and margins drop, it is interesting to see where South Africa's fast food market fits in compared to others. As far as growth is concerned the rest of Africa still has vast amount of opportunity and as you can see, if they get into the right regions there is high margin business up for grabs.

Onto the numbers revenue was up 12% to R2.83 billion, headline earnings up 20% to 406c and the dividend is up 20% to 300c, the numbers are all moving in the right direction. Like on like sales were up 6.7%, with South Africa only up 5.8% which is in line with inflation. The company said that they found that the number of consumers purchasing were up, but the frequency of purchases were down. Which points to a growing middle class but people who have less disposable income to spend. The "recession proof" brand Tashas had like-on-like growth of 20%, as the company says "Those who have money continue to spend it"

This is still one of my favourite companies not only because of our growing middle class but also due to societies shift towards easy and fast on the go food. The prospects for the company look good and with them looking to expand into the leisure sector, we should see further strong growth from them.

Home again, home again, jiggety-jog. Much the same stocks from yesterday are the leaders today. Not quite at all time highs but pretty close. Iron ore prices continue to fall (below 100 Dollars), futures markets across the sea and far away are flat essentially.

Sasha Naryshkine, Byron Lotter and Michael Treherne

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Monday 19 May 2014

Vodacom voice to vex, data to dominate

"Quite simply what we are seeing in the mobile industry across the continent is a shift to more data spend and lower call spend as a result of lower call rates. The richer people get, the more data they will be able to consume through their smarter smartphones, which themselves are sucking more and more data. Let us face it, the younger (and not so younger) generation want a mobile phone that can perform infinitely better applications than before. Data traffic increased by 80.4 percent in South Africa. Data usage outside of South Africa on the Vodacom networks more than doubled."

To market, to market to buy a fat pig. We saw selling going into the weekend here at the foot of Africa, we often forget how far away we are from the rest of the world. Hong Kong to London is nearly twelve hours and I am sure that those fellows see that as the other side of the world. Here locally, a trip to Europe is seen as a par for the course overnight flight, ten and a half hours to Frankfurt from here. Frankfurt to New York is seven and a half hours. OK, the world is a big place and supersonic flight was for the rich and famous, the Concorde "retired" over ten years ago now. Three and a half hours across the Atlantic, with limited headroom and legroom, but hey, who cares when the speeds you were reaching were 2000 km per hour plus and altitudes of 18 km high. Wow. The good news for consumers is that there are many moves afoot to reintroduce ordinary commercial passenger supersonic flight, cost is obviously the biggest issue, and those mostly being weighted towards fuel. The A380 boasts a fuel rate consumption per passenger of 3 litres per 100km. Concorde? 16.6 litres per passenger per 100km. Cost wins.

OK, back to Mr. Market. Locally we shed around 0.6 percent on the day, down to 49160 points, another slog back up to the 50 thousand mark! Over the seas and far away (three quarters of a day to get there in fact) in New York, stocks ramped up towards the end of the session. There is plenty of deal related activity around, AT&T looking to buy DirecTV for 49 billion Dollars. That is huge, but far bigger is a Pfizer sweetener for AstraZeneca. This time it stands at 119 billion Dollars. But, as far as I understand it from the information that I take in, the board of AstraZeneca are going to reject this one. In fact the stock is down around 14 odd percent as we speak. I would now want to know what the shareholders are going to ask the board, how they are going to truly unlock value. DirecTV, that deal hardly looks expensive, amazing to think that DirecTV is not even 20 years old, but has managed to create nearly 50 billion Dollars of wealth. You see, that is the thing about private enterprise, the jobs of the regulators and law makers is to make sure that the same rules apply for everybody.

My only interest in this is the number of subscribers that DirecTV has (nearly 20 million) and the size of the deal. Not all consumers are the same, but this certainly should put a premium on the DSTv business, don't you think? And if the calculator is that you get that for free, well then time to change that, right? I am not sure, but the whole argument that this time is the same as last time does not apply for me, in 2000 there was no processing power to speak of on the hardware side (let alone a computer in your pocket), the software does not compare and lastly user adoption nowadays is huge. Be careful when comparing X with Y from a bygone era.

A company evolving right now is Vodacom, with only one more hurdle left. And quite possibly a huge one, in an announcement this morning Vodacom have agreed with Neotel to buy all of it for 7 billion Rand. But the deal remains "subject to regulatory approvals". But how would you, the consumer benefit? Well, it seems that the more lucrative business market would benefit: "Vodacom's customer base will benefit from Neotel's extensive fibre assets and enterprise capabilities which will allow Vodacom to accelerate its fixed enterprise strategy and stimulate greater competition in the South African fixed telecommunications sector."

We here at Vestact are current Neotel subscribers, so the move for us would be welcomed and hopefully in the end the consumer can benefit from higher broadband speeds that compare favourably to international standards. But remember, we are far away from the rest of the world. The one thing that struck me about this transaction is that government would then directly be invested in the two fixed line companies, should the deal happen. How? Well, the Government of South Africa owns 13.9 percent of Vodacom and 39.76 of Telkom. Those are worth 26.6 and 8 billion Rand respectively. That is right, Government's (and by extension all of us) stake in Vodacom is three times plus the size of the fixed line operator. The one has a dividend yield of zero, the other has a very progressive dividend payout policy, see below.

That is one announcement from the company, the other more exciting news of course is that Vodacom have released results for the full year to end March. You may well know that MTN is our preferred mobile company, but we do hold Vodacom for many clients who are looking for a superior yield. The total customer base is now 57.5 million strong, up 7 million on the year, that is worth talking about. Most of those customers were added in Vodacom's international business (Tanzania, Mozambique, Lesotho and the DRC). We have often pointed out that the amount of customers that they can potentially cover is 200 million folks, with the only overlap in South Africa (from an investment point of view) being MTN of course. You can include Telkom, but from an investment point of view, we think that they are a no-no. Legacy business with a shareholder with a strange agenda, if you are looking for a reason why the big mobile companies are so profitable, it is because the government and the regulator are fumbling. The consumer would be so much better off if the market were free and open.

That aside, we should not credit the business with the failure of the fixed line operator, although once joined at the hip, Vodacom have now been independent of Telkom for some time now, the company has been listed since 2009, just around five years exactly. Fabulous. There is a payout ratio of around 90 percent and that was introduced in recent years. That was the point I was trying to make earlier about government placing importance on their stake in Vodacom. It is a huge income generator for National Treasury (I presume it flows in that direction), 207,038,100 shares netting 1.7 billion Rand in dividends. Pre-tax of course, how would that work? Government's last annual dividend from Vodacom is roughly 21 percent of their stake in Telkom. Again, this is only to illustrate how important an asset Vodacom is. But the general view in the office is that Government should not interfere in business in any shape or form. Ironically through the Neotel acquisition, they are more involved.

Quite simply what we are seeing in the mobile industry across the continent is a shift to more data spend and lower call spend as a result of lower call rates. The richer people get, the more data they will be able to consume through their smarter smartphones, which themselves are sucking more and more data. Let us face it, the younger (and not so younger) generation want a mobile phone that can perform infinitely better applications than before. Data traffic increased by 80.4 percent in South Africa. Data usage outside of South Africa on the Vodacom networks more than doubled. I am not sure where the point is that data will become a more important part of their group revenue, but the slowdown in voice and the frenetic pace of user adoption of their data offerings (and it is still relatively low, the data consumption average), but inside of the next half a decade one would think that will change.

In conclusion we can have a look at the earnings, the prospects and the fabulous dividend underpin as reasons why if you own it, it is still one to hang onto. Their (Vodafone) African businesses might well be integrated (Barclays Africa style) into one tradable entity down here in Joburg. Maybe, maybe not. EPS clocked 896 cps (excluding a once off empowerment charge it would have been 917 cps), the dividend as discussed was 825 cps for the full year. After dividend tax that equates to 701 cps. The share price currently at 12672 cps (down 2.1 percent on the day), which means that historically the company trades on 14.1 times earnings. With an after tax dividend yield of 5.5 percent. That dividend yield underpin is very important, because let us presume that earnings increase somewhere in the region 6-8 percent per annum would mean that your dividend yield should keep pace with inflation. Expect somewhere in the region of 18.50 ZAR worth of dividends in the next two years, roughly 12.5 percent returned to you in the next two years.

I think that we are in a transitional phase with these businesses, mobile businesses. There are an enormous amount of users on the network that have a hunger for more data. The infinite number of related applications from payment and banking to simple life changing "other" category means that the business will evolve with the hardware and associated hardware (better handsets, better internet speeds). I would say that they are in another changing phase of their business, and will continue to progress.

Home again, home again, jiggety-jog. Markets are higher here, commodity prices are better, but the Rand is weaker. Futures are lower, erasing all the late gains Friday. I guess that is why we are higher. The good news is that deals are being turned down. Don't get me wrong, I like the fact that businesses are being targeted, but often if the companies are thinking they are worth more. That is possibly good or bad, boards having a preconceived idea of what businesses are worth. Anyhows, I like it!

Sasha Naryshkine, Byron Lotter and Michael Treherne

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