Upon reading BAT’s Chairman’s report for the 2015 financial
year, I could see how Porters 5 forces could impact a company in Zambia. In an
attempt to “smoke out” value for shareholders, the cigarette industry in Zambia
has been prone to price elasticity of demand of the product they sell. BAT’s
product can be described as elastic which implies that it is sensitive to price
movements. This is one of the forces of competition that that faced BAT which
saw illicit cigarettes enter the Zambia market in a quest to compete for revenues
with the extant player (long established). Micheal Mundashi – its Chairman reported
that the illicit (non-tax paying) traders supply an estimated 25% to 30% of the
national cigarette pie. This is a threat to value for legitimate businesses in
this game albeit raises health concerns as they are uncontrolled products.
The year under review saw the company only manage to grow
revenues by 1%. This is far from the performance of 2011-12 where it enjoyed an
increase of 42% in the same industry. A critical time line would show how the
culmination of macro forces and competition have impacted the company’s ability
to increase revenues. However, signs of dynamic strategy to combat the effects
of competition indicate the company chooses to compete in all segments (premium
and low end) in order to protect profits.
EBITDA and Operating profit fell by 19% and 23% respectively
on the back of a 32% increase in cost of doing business. Maintaining a great
distribution network comes at a cost. Inventory only marginally dropped by 2%.
Of note is the increase in non-current assets by 128% thanks to a deferred tax
asset being record. As a result, the company paid less current income tax
compared to the previous year. However, Property Plant and Equipment (PPE) saw
marginal investment.
From an operations perspective, operating profit fell by 9%
and a threefold reduction in its return on PPE. Reduction in sweating of its
assets is not the only thing that can raise shareholders eyebrows. Its return
on equity also fell by 13%. However, prudent management ensured a 59% increase
in the usage of capital employed and that is great news for a company that has
no debt on the books. In addition, efficiency improved as their working capital
cycle saw a 62% increase from the previous year. Zambians are paying on time
for those smokes making distributors and suppliers very happy.
With excise duty being increased by more than 100%, BAT
faces a tough 2016 balancing value creation and forces of competition. Macro
players such as Government could ease that pressure if tax evading players in
the market are curbed. Prudent strategy will be key in securing value for
shareholders as the competitive environment has clearly shown its muscle when
it comes to destroying BAT profits. Therefore, getting the cigarette maker back
to growing revenues will be on shareholders minds going forward in this
business that depends on economies of scale and diversity of product.
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