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Analysts with Nairobi-based Sterling Investment bank wrote to clients this month that “the opening up of the East African region” per last year’s EAC Common Market Protocol “[should] provide dilution to the monopolistic position of East African Breweries Ltd. (EABL:KN) in Kenya”, majority owned by industry heavyweight Diaego Plc, which along with SABMiller and Heineken has been aggressively building up [its] presence in emerging and frontier markets to drive future growth. SABMiller, for instance, recently beat its forecast by reporting a 3% rise in beer volumes in the first 3 month of 2011, a performance predominantly led by Africa and Asia, and is set to re-enter the Kenyan market after Diaego bought out its 20 percent stake in Kenya Breweries Ltd., EABL’s primary subsidiary, as part of an agreement to end cross-shareholdings in each other’s operations. Yet those sounding EABL’s death knell may wish to hold off: the firm’s EBITDA margin and ROE (33.1 and 36.89%) compare favorably to SABMiller (16.25 and 10.35%, respectively) and given its 90% Kenyan market share, an 8% growth in volumes last year and the fact that the country is still in the early stages of convergence vis a vis its per capita consumption (12 liters compared to South Africa, Nigeria and Botswana with 59, 53 and 40 respectively), the long run looks, shall we say, rather tasty.
Moreover in addition to increased competition EABL looks set to counter oft-cited near-term headwinds (i.e. an inflation-fueled consumer shift into low-end brands such as now legal, “traditional” brews, as well as the rising global cost of barley) comparatively favorably: Sterling notes, for instance, that the firm is “implementing a raw material substitution strategy that aims to reduce the barley reliance to 60% and increases sorghum (which is more cost effective) input to 40%”, a strategy which in turn will help augment production of its lower-end brand, Senator Keg, and also help cushion overall operating profits. To this end the firm has been contracting more sorghum famers to boost production since it estimates its demand for sorghum (currently 12 tons this year) to rise 4x by 2014″, while the Kenya Agricultural Research Institute has concurrently come up with “a variety of sorghum which is drought resistant and fast maturing which EABL has confirmed to have ideal carbohydrates for brewing.” Finally, while market share will be eroded somewhat in Kenya, EABL continues to look outward to fuel growth: its majority stake in Tanzania’s Serengeti Breweries, increased capacity in Uganda and planned capex in Sudan and acquisition in Ethiopia (where the government now seems set on further state-owned brewery privatization) is part of an overall vision to “increase its regional footprint from 7 to 13 countries” and underpinned by hitherto cash flow growth, which stood at Ksh7.99bn in cash and cash equivalents end-FY2010 with zero debt. On the downside, Sterling writes (its SELL recommendation in late May stated a Ksh154 price target versus 189 currently), remains soaring inflation, higher excise taxes and the Alcohol Control Act which “continue to undoubtedly pose a downside risk to volumes in its main market.” Duly noted, but keep this one in mind once the dust settles.
The following currently appears September’s Business Diary Botswana. Given the magazine’s opening of a second office in Harare, I thought a focus on Zimbabwe, and also a specfic player (Delta Corp.) in its beverages (manufacturing and distribution) and agro industrial sectors might be apropos:
Reiterating its earlier assessment that Zimbabwe’s [formal] economy is worth somewhere between $8-$10bn (nominal GDP), Imara Asset Management, a unit of Gaborone, Botswana-based Imara Holdings Ltd., opined in August that the country’s stock market value looked “cheap.” The Zimbabwe Stock Exchange re-opened in February 2009 after closing in November 2008 at the height of the country’s hyperinflation-fueled devestation. However, the exchange only opened to 79 listed companies with a market capitalization of roughly $3bn, down from roughly $11bn in 1998. Imara CEO John Legat’s proclamation flies in the face of valuations by both the International Monetary Fund (IMF) and Tendai Biti, Zimbabwe’s Finance Minister, each of which pegged the country’s economy at roughly $5bn in size within the past year. “We find it hard to understand why both the IMF and government are being as cautious as they are,” Legat told Bloomberg. “Their views give a sobering view of the country, rather than an upbeat and exciting outlook for a country barely in its second year of reform.”
Zimbabwe’s economy, which the government estimates contracted by nearly 50 percent from 2000-2008, grew by 5.7 percent in 2009, the first annual expansion in a decade, after President Robert Mugabe’s ZANU-PF formed a unity government with long-time rival Morgan Tsvangirai, now prime minister, and his MDC party. The coalition subsequently abandoned the local currency in favor of the U.S. dollar and South African rand in order to help assuage an absurdly high inflation rate once estimated at 89.7 sextillion percent in late 2008 by the Cato Institute, but now expected by Biti to hover between 4-5 percent annualized by this year’s end. Citing a “fragile economic recovery” and its effects on the country’s four main pillars of output—agriculture, mining, manufacturing and tourism—Biti lowered GDP projections for the year to 5.4 (from 7.7) percent. The tempered revision came despite the somewhat contentious announcement last month by the Kimberley Process Certification Scheme, the diamond trade’s international watchdog, to allow limited exports of gems from the controversial Marange fields where human rights groups allege that illegal panners have been systemically slaughtered by state troops. Per the Financial Times in July, for example, “government officials estimated that the diamond stockpile in question could be worth as much as $1.7bn per annum, a figure which would effectively double [the size] of the country’s 2010 exports. However, private sector experts are more skeptical, putting a value of about $250m annually on the gems–equivalent to a 15 percent increase in exports.”
Regardless of who’s [more] right, from a sheer fiscal standpoint (and thus moral and theoretically legal concerns aside) the diamond development can be viewed as positive for a country that has outstanding arrears of roughly $1.3bn to the IMF, African Development Bank and World Bank, and is struggling to attract foreign capital in the meantime as political partnerships wobble precariously. Foreign investors remain [rightfully] edgy, for instance, about the government’s continued division relating to a proposed Indigenization and Economic Empowerment Act that would force foreign-owned businesses to transfer 51 percent stakes to black Zimbabweans (though speculation is that number may ultimately be whittled down to 15 percent in the event it’s not wholly scuttled). “Last year our market was being driven by foreigners—upwards of 40 percent were foreigners and net buyers. But from the end of January with the gazetting of the indigenization regulations, there has been a lot of uncertainty and foreigners have put on hold their transactions,” Biti noted this past spring. Meanwhile, future loans from the IMF remain on indefinite hold; while the organization reinstated Zimbabwe’s voting rights after a seven-year suspension back in February, it made access to loans conditioned upon settlement of arrears. “Improving the timeliness and quality of data reporting and making further progress in economic policies would help to move toward a staff monitored program, which is the stepping stone to an IMF financial arrangement and debt relief,” Vitaliy Kramarenko, the institution’s mission chief to the country, stated in June. The ease with which said relief will be granted may lie at the crux of the aforementioned valuation gap that Legat views with such hearty disdain. In essence, given the IMF’s clout among international investors and lenders alike, its estimation of Zimbabwe’s future production potential may largely be self-fulfilling if its own conditions for Zimbabwe are unmet and capital remains dear. An IMF staff paper published in early June concluded that Zimbabwe’s debt was “so heavy it cannot be resolved even if the government adopted the right economic policies and increased mineral extraction.” The not so subtle subtext was no doubt aimed straight at President Mugabe.
Against this muddled battlefield of diamond mining and wonkish policy barbs, Legat isn’t the only money manager to seek alpha while the risk averse wait out a less opaque macro horizon. Invesco Perpetual fund manager Neil Woodford raised some eyebrows in the international investment community, for instance, when he recently staked some $25m of his clients’ money to Masawara, an $80m, Jersey-incorporated and London-listed (AIM) fund focused almost exclusively on Zimbabwe that seeks long-term capital growth through the acquisition of interests in agriculture, mining, telecommunications and real estate companies. “Does Woodford know something we don’t,” the FT’s headline ran in August, though the piece failed to really answer its own question. London-based Jamie Allsopp of Insparo Asset Management, a frontier markets focused firm, also recently touted the country’s fundamentals, and in particular its brewery and telecom stocks. Legat honed in on these very sectors in making his pitch that the top-down view of Zimbabwe ought to be revised. Imara’s estimate of the Zimbabwean economy’s size is based on a comparison of spending power in neighboring Zambia (a $14b annual economy), he told Bloomberg, and while Zambia’s two biggest breweries reported sales of $230m last year, revenue at Delta Corp., Zimbabwe’s biggest beer maker with approximately 95 percent of the beer market and 85 percent of soft drinks, totaled $324m. Moreover, he noted, this year Econet Wireless Holdings Ltd., a Zimbabwean mobile-phone operator, expected revenue of $500m, while Zambians are expected to spend $280m with Zain Zambia, the country’s biggest mobile-phone company. “According to the IMF and the government, Zimbabwe’s gross national product per capita is $450, which compares with Zambia at $1,200 per head,” Legat said. “Spending patterns in both countries suggest the opposite.”
Delta made headlines of late when it reported in August that its net income climbed to $39.7m in the 12 months through March, from $5.4m in the same period a year earlier, during which time beer volumes increased 50 percent. From a money manager’s standpoint, looking forward the company is not only a relatively low-beta proxy on increasing income and consumption per head in Zimbabwe, but also a direct play on per capita beer sales in a historically savvy market. Last year, Delta announced that it plans to invest $150m to increase production capacity in order to produce 10 million hectolitres (including soft drinks) from its current level of 2.2 million hectolitres by 2014 in response to rising consumption trends. According to one Harare-based industry consultant, Zimbabwe’s numbers are increasing such that it is likely to soon join Africa’s top ten drinking nations. And per BMI, a consultancy, the firm’s largest single shareholder (36%), brewing giant SABMiller is set to increase its equity stake to combat falling sales in developed Europe and to further develop its African presence as Delta’s capacity augmentation is realized. “While SABMiller in particular has succeeded in growing sales volumes at a promising rate in a number of emerging regional markets on an upward curve such as Mozambique, Tanzania and Zambia, which has led to expansionary capacity investment, Zimbabwe is a recovering market. Before its decade-long slump, Zimbabwe housed one of the region’s most robust beer markets. Consumer tastes and preferences were more developed and their ability to fork out on non-essential beverages was far greater than the majority of their regional counterparts. Therefore, it is unsurprising that a large part of Delta’s investment kitty will be used to restore underutilized equipment to push up capacity rather than installing new technology.” While beer production in Zimbabwe is no doubt improving after years of under-utilization and limited maintenance, the litmus test for lasting social, economic and political stability in Zimbabwe as a whole is a bit frothier. One sip, and step at a time, it seems.
With cereal prices expected to remain high on the international market, East African Breweries Limited is now diversifying its cereals raw materials to include sorghum. Hitherto the brewer saw the cost of barley and malt rise by about 60% which lead to sluggish earnings.
FSDH Securities placed a “buy” recommendation on Guinness Nigeria plc for both capital appreciation and dividend payment based on current fundamentals. Said analysts noted that the company may pay another special dividend in the current year as a result of the huge surplus reserve in its books, as profit after tax grew by 102.87% and turnover rose by 23.86% in 2008 compared to in 2007. Nigeria is a strategic market for the company and can be expected to grow further. According to the firm’s Managing Director, Keith Taylor, the country is poised to become the biggest market for Guinness products by 2011. FSDH places a fair value of N109.09k on the firm, which as of Wednesday traded at 80.25.
JGW
Frontier Markets 