The winds of change have started to ruffle investment portfolios. With new ANC leader and SA president Cyril Ramaphosa — a politician well-versed in the ways of business — having reshuffled his cabinet, investors will be anxiously looking to rearrange their portfolios. Until recently, these would have defaulted towards global stocks and heavyweight rand-hedge holdings.
A new regime, some would simplistically argue, means investors should now look to the many unloved stocks that have their fortunes rooted firmly in the SA economy.
The reality is that the recent political changes have not really ushered in any certainty for investors. The warm afterglow that followed the appointment of a more functional and less compromised cabinet was soon chilled by the cold reality of political manoeuvring as parliament came out in strong support for land expropriation without compensation.
The emotional "land issue" — despite empty reassurances around the expropriation process not harming economic prospects or food security — provides a stark counterbalance to the initial market reaction that a Ramaphosa-led ANC would be a boon for (long-suffering) commerce and industry.
A slight recent weakness in the rand does suggest investors remain sceptical given the land issues. This has trimmed back the gains of some shares over the past three months.
Some of the larger companies have moved up sharply in the past three months, and look to now be fully priced amid the Ramathusiasm. Examples include Bidvest (up 15%) and Imperial (up 10.4%), Nedbank (up 43%) and Standard Bank (up 36%), Barclays Africa (up 35%) and retailers including Mr Price (up 36%), Massmart (up 47%), Truworths (up 30.7%) and Spar (up 11%).
Such market enthusiasm suggests SA Inc is back in vogue with deep-pocketed international investors, who tend to be less fixated than local punters when it comes to political hot potatoes like land expropriation.
In terms of investment strategy it might not be too late to back some of the reputable blue-chip stocks that have already reaped the benefit of the "Cyril Spring".
But for the savvy investor looking for hidden pockets of value, there are a good number of stocks that could allow smart investors to cash in handsomely on a stronger political currency.
Shane Watkins, a director at All Weather Capital, believes investors must bear the global context in mind. He says for the first time since the financial crisis in 2008, SA is undergoing synchronised global growth with estimates for 2018 being as high as 4%.
"Historically, when global growth is above 3.5%, commodities consistently outperform. Robust commodity prices are very good for emerging markets and we are both a commodity exporting and emerging market. So flows into emerging markets are likely to persist in 2018, which is good for SA."
Watkins says 2017 was the trough for the economy, when growth was only 0.7%.
The latest forecasts from the recent budget are at least double this number, to around 1.5% economic growth in 2018.
The peaceful transition of power from Jacob Zuma to the Ramaphosa-led cadres should also not be underestimated.
Watkins says the political changes in SA are being seen by global investors as "regime change".
"There have been two recent instances of regime changes: in India where the market outperformed by 25% and in Brazil where their equity market outperformed by nearly 50%. So foreign investors have seen this movie before and it has worked well for them."
Agricultural and mining companies are among those that could do well
— What it means:
Watkins says another factor is that global emerging-market investors are, on average, underweight in the SA market (say 5% vs MSCI SA index weighting of 7%).
"So they are in a situation where they are positive on emerging markets, bullish on SA and positioned underweight. Because of the negative political events in SA over the past nine years, local fund managers are probably also overweight rand hedges and underweight domestic financials and industrials. This is a cocktail for an explosive upward move in our market."
Watkins says All Weather Capital’s picks are Massmart (because of its discretionary product basket), Dis-Chem (because of the 15%-plus growth vector) and Barclays (the share still offers nearly a 5% dividend yield).
Brendon Hubbard of ClucasGray argues that some of the larger-cap stocks on the JSE are already trading at valuations that are "pretty rich".
Outside the universe of large-cap stocks, he notes, there are many opportunities that would be regarded as cheap.
Hubbard favours consumer brands conglomerate RCL Foods (a domestically focused business that has been "fixed up"), Zeder Investments (a heavily discounted play on Pioneer Foods), City Lodge (with sales-people on the move again, occupancy will pick up in what is a largely fixed-cost business), Adapt IT (will benefit from pent-up corporate spending in technology services) and Clover (trading on a modest forward earnings multiple).
While Hubbard will avoid mining stocks that incur production costs in rand and sell in dollars, he believes junior miner Wescoal (which sells most of its production to Eskom) might be worth a look.
Vunani Securities small-to-mid-cap analyst Anthony Clark believes domestically focused stocks must surely be the main winners in the years ahead.
But he points out that domestic investment and consumer confidence remain weak, and there is no magic wand that can be waved by Ramaphosa to change this overnight.
Clark also frets about the strained consumer in the short term. He points out that tax is rising, Vat is going up 1% and there’s no sign yet of relief for embattled, debt-ridden consumers.
Clark says it seems February was a terrible month for many SA consumer- orientated stocks — though the budget might trigger some pre-buying of big-ticket items before the Vat rise bites from April 1.
"That is always the international trend, but sales always slump after its imposition to only normalise some months afterwards."
Clark’s roster of "Ramaphosa stocks" would include a combination of agri-services specialist Kaap Agri (which is growing its nationwide footprint into irrigated areas and rapidly expanding its retail footprint across a number of formats) as well as the deeply discounted Zeder (which has four strong pillars in Pioneer Foods, Capespan, Zaad Holdings and the aforementioned Kaap Agri).
Clark adds that an obvious candidate for a feel-good SA portfolio has to be well-run, conservative, cash-generative "widgets and industrial supplies" business Hudaco. "The stock produced — via tight management and strategic bolt-on deals – earnings growth in the 10%-12% range year in, year out.
"Now imagine what it could do if the mining charter were amended in favour of growth and if underlying economic activity picked up."
The Financial Mail’s "Ramaphoria portfolio" would be made up of the following:
AVI
This largely domestically focused consumer brands conglomerate is not only pitched at resilient niches (tea, coffee, biscuits, snacks, specialised seafood, niche footwear and personal care) – but the management team runs a tight and efficient ship. Results for the half-year to end-December showed the executive team, led by the highly capable Simon Crutchley, remain acutely aware of balancing market share, volumes and pricing in its brand portfolio. Despite some aggressive competition in certain product lines, AVI’s margins remain robust. There are, admittedly, challenges with shoe business Green Cross feeling the profit pinch, and a somewhat uncertain long-term future for the I&J fishing business. AVI also trades at a fairly demanding earnings multiple, and does not have the recovery appeal of a Pioneer Foods or RCL Foods.
But AVI’s specialist brands portfolio is strongly leveraged to any improvements in economic activity and commensurate increase in discretionary spending. Higher margins should crank up profits and cash flows ... which could yield a generous special dividend in 2019.
RMI Holdings
RMI’s best-known investments are JSE-listed financial services group Discovery and assurance giant MMI as well as an 88% stake in unlisted insurer Outsurance.
Then there are several promising investments that don’t always get reflected fully in the share price — like UK-based Hastings Group Holdings, RMI Investment Managers Group as well as cryptocurrency and next-generation products specialist AlphaCode.
These investments hang together well, offering investors reassuring diversity in the broader insurance sector through innovative and respected brands.
Plus there’s the growing geographic diversity (through Discovery and Hastings) and a tilt at the cutting-edge financial services offerings as an X-factor.
Though RMI offers only a slim discount (relatively speaking) on the inferred value of its portfolio, there is considerable value in the group holding the only entry point to the highly profitable Outsurance as well as the potential for further value-enhancing corporate action.
Coronation Fund Managers
If the equity market does rally convincingly in 2018 on the back of Ramaphosa ramping up business activity and firming up economic policies, asset management companies would not be a bad place to park funds. Investors are spoilt for choice with a surfeit of contenders listed on the JSE – including feisty market disrupter Sygnia, ambitious Anchor, the solid PSG Konsult as well as smaller counters like Efficient, N-Vest, Avior, Purple Group and Prescient (via Stellar Capital Partners).
The Financial Mail will, however, back sector royalty in the form of Coronation Fund Managers — even though the share price has run hard from last year’s weak levels of around R65. Any uptick in the JSE, and consequent boost to investment sentiment, will be reflected in Coronation’s assets under management and bottom line with certain flagship funds a default option for investors. The past two years, when assets under management dwindled somewhat, would also have sharpened Coronation’s operational structure to cut into competitors’ market shares. The group’s generous dividend policy is fairly compelling too.
Barloworld
The industrial board on the JSE could offer any number of opportunities for renewed growth in the Ramaphosa era. Counters like KAP Industrial, Invicta Holdings, Super Group and Hudaco, as well as recovery plays like Torre and enX Group, might appeal to punters. The Financial Mail investment writers’ consensus was for sector heavyweight Barloworld, which offers exposure to the mining, infrastructure, power, agriculture, automotive and logistics sectors through well-known brands including Caterpillar, Hyster, Avis and Massey Ferguson. A recovery in mining activity could be a huge boon for Barloworld. In the past financial year to end-September, Barloworld’s mining equipment division already accounted for 46% of its Southern Africa revenue. The group noted that the equipment division’s firm order book increased to R1.5bn from R1.3bn in 2016, with additional orders secured after year-end. If the local economy finds firmer footing in the months ahead, Barloworld’s sprawling automotive division — car rental, fleet management and dealerships — should get a profit rev. With gearing markedly eased, Barloworld can scout for (well-priced) high-growth opportunities this year.
Howden Africa
Assuming Eskom will be in a better space operationally and from a governance point of view, this supplier of industrial fans and heat exchangers should continue to plug into more profit growth. Howden has been reassuringly profitable for the past seven years, and has all the hallmarks of a well-managed industrial operation. The share price, reflecting a forward earnings multiple of nine times, offers considerable value, remembering that cash flow is strong, margins well reinforced and the balance sheet stout. The drawback at this juncture is that Howden is clinging to a pile of cash in excess of R1bn and has offered up half-baked reasons not to pay a dividend or, at least, buy back its own shares. Most recently, directors suggested an acquisition could be brought to the table. This might not be a bad thing as Howden has demonstrated an ability to venture smartly into new areas, like the recent shift into fabrication technology.
Zeder Investments
This PSG-controlled agribusiness investor offers a more than 15% discount on two quality assets: consumer brands giant Pioneer Foods and specialist retailer Kaap Agri. Both Pioneer and Kaap Agri could be huge beneficiaries of a more robust farming economy — though the recently announced Vat hike is a bit of a dampener. Pioneer’s focus on market-leading brands and Kaap Agri’s thrust into convenience retailing should be margin-enhancing, with a determined expansion into fuel sales providing extra impetus at the top line for the latter.
Zeder’s "kingmaker" stake in Pioneer could also prove valuable should there be further consolidation in the local food production sector. Zeder also holds practically all the shares in fruit exporter and logistics group Capespan, exerts control at seed specialist Zaad and holds an influential stake in poultry, egg and feeds producer Quantum.
All things considered, Zeder offers a well-priced basket of agri assets that should benefit from Ramaphosa ploughing ahead with economic reform — provided, of course, rumblings around land expropriation don’t seriously disrupt the local agricultural sector.
Hosken Consolidated Investments
In terms of a diversified play in the Ramaphosa era it was a toss-up between HCI, Remgro and PSG Group. What swayed us towards HCI was that there is arguably no better corporate chess player than CEO Johnny Copelyn, and that the company is hard-wired to an economic recovery via its controlling stake in new-look gaming giant Tsogo Sun (which now incorporates SA’s top casinos as well as a strong hand in alternative gaming operations). Tsogo has spent big on refurbishing key casino assets, and can now shuffle its decks by smartly rolling out electronic bingo terminals to disrupt its rivals’ casino operations. Besides scoring from its gaming interests, HCI could benefit from a recovery in eMedia (the owner of e.tv, eNCA and OpenView HD) as well as unlock value by unbundling and listing its promising coal-mining interests.
What should also not be underestimated is HCI’s low-key thrust into the property development sector, where the company appears to be assembling a very interesting portfolio that may in years to come justify a separate listing too.
Astral Foods
The JSE’s "big bird" has found its wings after feed costs dropped markedly, consumer demand picked up and pricing for poultry products stayed firmer after the peak Christmas trading period. But that’s half the story. Astral is a simple business that is superbly run, with CEO Chris Schutte always in a flap about cutting costs and improving efficiencies. Recent interim results showed that the stronger trend in the second half has carried through into the new financial year.
A generous dividend underlined executives’ confidence in Astral’s medium-term prospects. Astral obviously scored (big) from rival Rainbow’s decision to cut its commodity-type poultry production — but investors are advised to watch the gains the company makes in the higher-margin quick-service restaurant sector in the next few years. Admittedly, the company’s shares have run hard — but the ruling prices still give investors access to a hard-working management team and a no-frills poultry business that is capable of pecking away incessantly at competitors’ market shares. The forward earnings multiple is relatively undemanding for such a quality operation, and Astral deserves a top perch in a Ramaphosa-era portfolio.
Combined Motor Holdings
This is the only dedicated vehicle retailer remaining on the JSE, with most of its countermates either heading for the relative safety of more diverse mobility conglomerates or industrial hubs. CMH has proved, since listing in the late 1980s, that it is a resilient and perennially profitable contender that has cautiously broadened its operations without straining the balance sheet. Management seem to run the business on petrol fumes, and the margins attained in most years are impressive. Of course, the economic climate will need a big change to drive new car sales — but until that is felt CMH can cash in on a vibrant used-car market. The company’s financial services division also churns good (margin-enhancing) business, and its small car rental arm looks promising.
CMH probably won’t hit top gear in profit growth in the financial year to end-February, but likely earnings of around 265c-285c/ share mean the shares are trading at a modest rating with a generous dividend yield in tow. If new political will finds traction quickly, CMH could be a huge bargain at current levels.
Afrimat
Common sense would suggest it best to avoid construction-aligned stocks for now — but building materials supplier Afrimat is an exception worth considering, if SA’s brittle economy can be reinforced relatively quickly. CEO Andries van Heerden (much like Astral Foods CEO Chris Schutte) is a no-frills executive who knows the industry backwards. He is also a determined and smart deal maker, having avoided the acquisition excesses of the pre-World Cup euphoria in 2007/2008 and then picking out, from the ensuing rubble, worthwhile assets on the cheap.
Sentiment for Afrimat has been dampened considerably by a recent trading update warning that earnings could be down by as much as 20% with sales volume in the last quarter of 2017 markedly slower. On the other hand, Afrimat has accelerated the ramp-up of the recently acquired Demaneng mine (with a production capacity of 1Mt/year) to cash in on improved iron ore prices. Afrimat is a top-class operation that will ride out an earnings dip, and could be a longer-term bargain at prevailing prices.
Long4Life
Deal making doyen Brian Joffe’s new investment company initially enjoyed a warm reception when it listed last year. But then sentiment cooled — perhaps as the market watchers recognised that Long4Life was a work in progress and that it would need time to scale up. But a recent investor presentation shows that Joffe has made a promising start, and the company’s four investments — retailer Holdsport and beauty franchise Sorbet, as well as niche beverage ventures Inhle and Chill — would generate more than R400m in annualised earnings before interest, taxes, depreciation and amortisation.
There is still a heap of cash left over from the capital-raising on listing, and, with some scope for gearing, this means Long4Life can easily mobilise over R2bn to chase down sizeable acquisition targets. Investors will be able to gauge the confidence of executives and the company’s cashflow attributes by gauging the maiden dividend, expected to accompany the year to end-February results. Considering a serious chunk of the share price is underpinned by Long4Life’s remaining cash holdings and the deal-making endeavours spearheaded by arguably the JSE’s greatest "mover and shaker", the share is a perfect high-growth option for the Ramaphosa era.
York Timber
This well-established forestry company is the Financial Mail’s value play in the new political landscape, where a startling discount to tangible net asset value (NAV) suggests punters can’t see the wood for the trees.
At last count York boasted a tangible NAV of over R10/share compared with a share price of around 270c. York, admittedly, has endured its ups and downs over the past two decades — and, to be frank, the company’s lack of consistency has worn the market’s patience thin.
But there is a new dynamic at play at York, and recently released interim results to end-December confirm the business is capable of logging some serious profits. Core interim earnings (stripping out fair value adjustment to York’s biological assets) came in at around 11c/share after the company managed to cut back on external log purchases. Headline earnings touched 28c/share with biological assets (the trees) increasing in value to R2.3bn. A potential deal with Green Resources was recently called off — but the Financial Mail suspects corporate action remains on the cards, with York intent on bulking-up and diversity operations.
STOCKS TO AVOID
Generally speaking, market commentators seem quite understandably averse to backing stocks that incurred significant debt burdens to pay premium prices to build a large offshore presence. We would prefer to shy away from the following half dozen:
Famous Brands
The brains trust at Nando’s must be battling to control their belly laughs after this fast-food juggernaut paid a rich price for Gourmet Burger Kitchen in the UK.
Until then Famous Brands – the owner of Steers, Debonairs, Wimpy and the Mugg & Bean — had hardly put a foot wrong in its growth-by-acquisition strategy.
Famous Brands’ local core still looks appetising despite the current consumer squeeze – but it will be some time before the large UK investment (hopefully) justifies its price tag ... or is disposed of honourably.
Woolworths
Local retailers have not enjoyed much luck in Australia — though, at the time, many punters believed that this innovative retailer could be the one to crack that difficult market. Unfortunately, the David Jones acquisition is proving tricky, and strategic endeavours to revamp this old-style retail business could be a costly and prolonged exercise.
Sibanye Gold
The years have shown that Neal Froneman is a consummate deal maker. Unfortunately, the acquisitive push offshore has lumbered Sibanye with worrying debt levels when the rand price of gold is not doing the profit line any favours. With the share at depressed levels there seems little chance of a rights issue to ease the balance sheet burden. A testing time lies ahead, and already the first murmurings of asset sales are audible.
Brait
Though this investment company has been widely tipped for a recovery at prevailing prices, immediate upside impetus is difficult to pinpoint. The venture into the UK fashion retailing sector via First Look yielded an embarrassing write-down. Other major assets including health club Virgin Active, low-cost UK grocery chain Iceland and consumer brands group Premier are not going to shoot the lights out in the short to medium term. All indications are for a prolonged and perhaps painful recovery.
Sun International
This may seem counterintuitive after picking HCI — heavily loaded with Tsogo Sun — for the Ramaphosa portfolio. But Sun has its own particular set of challenges, the most acute being the heavy debt burden incurred after venturing into Latin America and the development of the new casino in Menlyn. Sun controls some prime casino properties (most notably the cash-spinning GrandWest in Cape Town). But the servicing of a hefty debt load will be a strain, especially now that the company has admitted the new Menlyn casino is not delivering to expectations. Dividends have already been skipped, and a decision on a potential capital raise of R1.5bn is being awaited with great interest.
Netcare
This private hospitals group has its work cut out in the UK, where it holds a controlling stake in BMI Healthcare, the largest private hospital provider in the UK. Things are not looking too rosy at BMI, operationally speaking, and this has meant the company’s financing facilities needed some tweaking. Initially this involved Netcare proposing a not-insubstantial additional investment of £20m into BMI and to provide credit support.
Fortunately BMI managed to set up a short-term arrangement that precluded Netcare chipping in further capital. Netcare — after proposing a buyout of minorities in BMI’s holding company — will take full operational and management control of the UK operation with a new CEO already installed. But it will be some time before a full recovery. Meanwhile, BMI will hang like a scalpel over Netcare’s share price.
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