The Macro Environment Explained

For a while now, we have brought you blogs about the fundamentals that make premier companies in Zambia special. We have talked about how the macro environment has influenced some of the success and failure of these companies. But whilst drinking a glass of wine at an exclusive pub in Lusaka, a native asked the question “this macro you keep blabbering about on your ka blog, it’s just politics affecting business!!” as he scoffed at the thought that it was only in one dimension. Putting down my glass of 2010 Merlot from the vineyards of the south of France, I endeavored to empower this entrepreneur on the macro environment. Or simply put, the marketing environment.

Know the 3 Cs

Premier companies know that it’s all about customers, company and competition. Any company that forgets any one of these Cs has no right to be in business. Yes TFHZPC said it. Understanding the external forces allows a management team to understand the various elements that affect the 3 Cs and how the course of the company can ultimately change overtime (when fortunes turn). The 3 Cs allow companies to bring visibility to what they are doing: marketing. In order to achieve this however, they must conduct market research.

Although, market research is an arduous task, it is a necessary ‘evil’. Some companies have convinced themselves that they have the ultimate product and hence do not need to do any market research (marketing myopia). Other companies have enjoyed so much power that they have extended their stranglehold to their suppliers (“Boss, will only pay you for this supply if customers buy, if they don’t sorry your goods will be a waste”). Others find themselves at odds as to whether adoption of technology is the right way to do it (think of those banks that have taken so long to bring ATMs to their customers). And finely, our favorite is the lies that customers tell. It’s often hard to tell whether a customer is telling the truth as to whether they will buy your latest offering or not. Think of the paradox of pub goers. A new place opens up and the owner of the establishment decides to put a surcharge at the door after building up the hype and “BOOM”, customers don’t show up even when they promised!  

Survival Toolkit

The marketing external environment is influenced by a number of factors but for simplicity they can be categorized as Social, Technological, Economic and Political and Legal forces (STEPL or PESTL). Social demographics looks at what trends are in the environment. What is moving and shaking your customers in the moment? Technology changes are key to understanding how consumer experiences are evolving (the rise of social media through the use of smart gadgets). Economic issues evolve around your GDP, Taxes, Interest rates etc. Political and Legal are interlinked as depending on who is in charge the legal system does get a nudge. However, understanding the political landscape is vital as it can allow a company to position itself accordingly depending on how and what policies are implemented (one policy statement can bring a rise in the number of your competitors in a heartbeat).

The market research process can feel like an academic exercise, however we believe with the way the marketing environment has evolved premier companies and others will need to consider investing in it in order to remain relevant. The times are changing, companies must stay in tune or else they risk ignoring one or all of the 3 Cs. 

When Dominoes Fall – Of Demergers and Divestures

History always provides us with lessons for the future. We at TFHZPC draw our strength from our ability to use numbers to decode historical trends that can provide an indication that supports our ‘gut feel’ on how the strategic tendencies of premier companies will be shaped.

We take you back with our insight into the financials of CEC in our review of their 2015 performance. We walked you through “destruction of value on Nigerian soil due to explosive Naira”. The 11 November 2016 SENS Announcement from LUSE on them disclosed a strategic move by the group to demerge from the investment vehicle they had created in 2013 whose purpose was allow the group to explore the power sector across Sub-Saharan Africa (backed by $100m in their piggy bank). Enter Naira land and Diamonds of Sierra Leone.

We followed the macro developments on these investments and of note was the paradox of tumbling naira which possessed a credible threat to creation of value in President Buhuri’s “backyard”.

Enter SENS announcement from LUSE on 29 November 2016, CEC Plc decides to divest from diamond land. Although they argue that the country remains an attractive investment destination, we decode that the move is purely to protect shareholder value. Rightly so we might add. The rule of every finance manager is to accept all projects with a positive net present value. However, circumstances in the macro environment may lead to the NPV moving target hence an astute management team will take the decision to change course to protect value.

However, strategic decisions are not without consequences. In the case of nairaland, verbatim from the SENS report read:

“The Board has, therefore, determined an impairment of USD99,999,999 which implies that the carrying value of CEC Africa in CEC Plc books reduces from USD100 million to USD1;”

The aforementioned will certainly appear in next years published financials which we will be digesting at publication. We are still firm believers of accepting all positive NPV projects however, we also know that when the project is not a success, the numbers in the financials will show.

No Systemic Risk for Zambia’s Financial System

We have seen some of the headlines coming from popular publications and we are dismayed by the some of the social media sentiments on the stability of the financial system that supports premier companies in Zambia. For the record, we are not experts on the Zambian banking system, however, we do know what systemic risk looks like when we see it. In short, recent happenings at a known bank are not indicative of systemic risk. Far from it.

What is Systemic Risk?

Before you rush to your bank and start withdrawing your hard earned “dividends”, its important to know what systemic risk is. But wait! Why are we calling it systemic..risk? Well, the formal definition is mandatory in this situation because of the alarm that social media has raised. It’s so hostile that even the central bank had to issue a cautionary note over this matter of the banks it supervises (read it here).

We are not faced with the collapse of our financial system. Far from it. According to investopedia.com, systemic risk is the possibility that an event at the company level could trigger severe instability or collapse an entire industry or economy. In this case we are talking about our financial system.

We have been monitoring the health of premier financial companies and we glad to note that all of them have taken (and are taking) the steps to protect shareholder value. We know this from the ratios on performance, liquidity, risk and efficiency on their recent financial statements. Our expert assessment shows that their numbers are not indicative of rocking our financial system hence BOZ is within its faculty to ‘school’ the social media novices.

So before social pundits mislead the masses, think of 2002’s Sarbanes-Oxley Act and 2008 financial crisis that was caused by systemic risk (which ultimately led to Dodd-Frank). Recall there were many exotically package financial instruments that went belly up and had the US government bailing out several big name banks. Furthermore, listen to the “macro story” as told by the Finance Minister in his latest budget speech. We envisage “quantitative easing” by way of additional liquidity being availed onto the Zambian market with fiscal policies to support them being the crucible of financial hope. In short, the outlook of many of our bank’s balance sheets over the coming months will have quite a few positive surprises. We are bullish on banking in Zambia. 

Many Faces of Premier Companies – How To Not Be Myopic

In his famous Harvard Business Review article, Theodore Levitt told stories of how the US railway industry forgot what business they were in and were fast overtaken but road and air transportation. We have been reviewing some of the behaviors of certain premier companies and it’s clear to us that some of them chose to not be myopic.

With a macro environment that has become hostile to many companies, few Zambian companies are stepping up and making the kind of strategic adjustment that will render their businesses to run ad continuum. These are companies that have answered the quintessential question “What business are we in?” The sort of companies that have realized that growth industries are few and far between. Management teams that know that their responsibility is ensuring their companies do not suffer fateful purposes ergo realizing that if caught in a self-deceiving cycle they would render their businesses obsolete. Decision makers that realize that regulation, when in effect, must be given the seriousness that it deserves or else their business could face foreclosure. Adapt or die.  

CEC is one premier company that lives up to the bill of non-myopic. If the management team were asked, “what business are you in?”, we envisage a response that could possibly be partly shrouded in camouflage albeit protecting company strategy. However, they are an energy company with interests in telecommunication. They have been steadily working at increasing the scope of their vertical chain but at the same time, have looked at their resources and capabilities and discovered means of creating competitive advantage through resources that would traditionally condemn them to the status of a non-energy company. However, just because one is a farmer, it does not stop him from selling water if it’s in excess. The paradox of reserve capacity demands that if you are a player in a game and your resources allow you to compete in a nontraditional market, it would be folly to ignore that value creation potential that capacity gives you. This is essentially what CEC has done…is doing. On the back of its resources, it has been able to spawn off new businesses such as CEC Liquid and Hai Telecom.

As we continue to adapt to the current macro environment, entrepreneurs will need to dig deeper and assess the various resources and capabilities that they have. Bounded rationality will become a liability for anyone in business who chooses not to adapt. When the environmental pressures increase, strategy will demand self-reflection and an answer to the proverbial question: “What Business Are We In?” Ultimately, every Zambian desires to create value.      

Love Marks – The Future of Brands

Kevin Roberts, CEO of advertising company Saatchi & Saatchi, describes “Love Marks”, as a  growing phenomenon of advertising, which are destined to take over from the concept of brands. Evidently, love marks, as a brand, create loyalty beyond reason by allowing consumers to build an emotional connection that uses mystery, sensuality and intimacy. In Zambia, we have witnessed an emerging trend that points to the evolution of local brands becoming love marks. Here is some of the evidence we have observed from some of the premier companies listed on LUSE.

Zambeef has built a brand that is a house hold name. You will note that this firm deals with both sides of the consumer spectrum: cheap and premium. Through their micro outlets, such as the ones in some of the densely populated townships, they have brought food closer to the consumers. When the company faced the wrath of consumers over their importation of products that had questionable preservatives, they were quick to stop the practice and re-established the customer loyalty they had. This was evident from their performance in the following financial periods which was indicative of a bond that was strong and intimate: Love mark.

Zamefa has had customers swearing by their cables as being the most reliable. Although we had reported in an earlier blog of the 2015 financial performance that exports were the main value creator, we noted from the mid-year review that local purchases were on the increase as more and more customers trusted their quality products. What was interesting was that their brand was not ubiquitously visible, however, through an emotional connection that customers made by trusting the product over others, a strong bond was created: Love mark.

Zambia Breweries has been producing its flagship product Mosi for generations. Although the company has undergone takers and changed its face over the years, you cannot deny that consumers have remained loyal to their product Mosi. Some may recall when echoes of castle beer over taking Mosi were high, many consumers begged to continue enjoying their premier beer. There is no pub in Zambia that does not stock this beer. This is a beer that many consider as the identity of our country Zambia. A national icon perhaps but the sensual relationship that exits between Mosi and its consumers can only lead us to believe that a love mark exits.

All the companies mentioned have spent a considerable amount of money to grow their brands. In order to stay competitive, marketing campaigns for their products may be seen to become more personal. It is at this point that the firms realize that in order to sustain the sales of their products, their consumers must be faced with a loyalty dilemma before they consider buying a competitor’s product.

Evidence from financial statements suggests that goodwill is important in achieving the development of love marks. Although it is an amount that can be easily impaired when issues of reputation are raised, this is one component that must be protected by the company in order to ensure it remains relevant with its customers. Furthermore, we at TFHZPC believe that love marks are the driving force behind production drives demand. The economics of our argument is that if your product is so loved, it will have price inelasticity and sales will be driven by your production levels.     

MPC – How the 5th Force Continues to Reign

On 16^th November 2016, the central bank governor Denny Kalyalya announced the decisions of the monetary policy committee (MPC). This quarterly announcement sets the tone of how the money in the country will “behave” over the coming months. With the budget recently announced by the finance minister, financial institutions listened with intent on how they will navigate the macro forces that would be presented. On this occasion, we can only imagine the relief that came when the announcement was made that the policy rate would be maintained at 15.5%. One of the reasons for this was an improved inflation rate of 12.5% (down from the early 20s).

With inflation heading south for Christmas (towards single digit), it’s understandable why the governor is bullish on the economic outlook. This is seen through the signal of reducing restrictions on money flow by removing restrictions on banks’ access to the Overnight Lending Facility (OLF). Furthermore, the central bank will allow the banks’ automatic conversion of intra-day credit to overnight loans on the OLF and extend the banks’ compliance to statutory reserve requirements from daily to the weekly average (according to the policy statement).

This move echoes the finance minister’s statement in the budget speech where he indicated support for the financial system to get more cash into circulation. This is good news for premier banks such as Standard Chartered, Invest Trust and Cavmont (all listed on LUSE) as this will certainly influence their competitive strategies for the coming year. With the consumer in mind, these banks will certainly be looking for ways to bring products to market at a good price. We will not speculate that interest rates will fall as the reserve rate and OLF (both influence loan interest rates) have been maintained at 15.5% and 25% respectively. However, with more liquidity available, this may get the banks thinking of how to extract more value from the surplus cash available.

Although the recent increase in fuel may impact the inflation rate in the medium term, there is confidence from the central bank that single digit inflation is attainable by year end. Premier companies will be keen to see how this plays out as they look to closing out the year with less inventory on their balance sheets. With the year almost at a close, surges in pricing may have a negative effect on revenue growth as more consumer products become elastic.  

Whatever the case, we see a change in tide for monetary policy going forward. The New Year should be meet with capital budgeting strategies that can take advantage of this change. We all need cheaper money to survive in the game. 

Industrial Development Corporation – The Road to IPO

Tucked away in Lusaka South Multi-Facility Economic Zone is an entity that is poised to set the Lusaka Stock Exchange alight. When President E. Lungu made the statement to parliament on the significance of the IDC and its mandate to take companies to Initial Public Offering (IPO) or listing, TFHZPC got really excited about the prospects of analyzing future premier companies on LUSE.

But the question is, “How do we get these State Owned Enterprises (SOEs)” to IPO. We will not speculate on the timeline of such an endeavor but we will provide some pointers on some of the signals future investors need to look out for if they intend to further diversify their portfolios. 

The Turn Around

Before any company can consider going to IPO it must look at the health status of its books. The numbers on the present and previous years have to be assessed whether or not the company has had good earnings. If the earnings have been negative, a turnaround will have to be put in place. This can come in many forms (some unpopular) but the most common include a review of the management team, staff levels, leverage, customer relations, supply chain management, working capital management and cost management.  Strengths and weakness in the aforementioned give the turnaround team an idea what it will take to make the company profitable again. More often than not, it’s always expected that a time frame to profitability will be put in place and the aim is to get an income statement that has positive earnings three years in row.

Valuation

With steady cash flows, an unquoted SOE can easily be valued using net present value or discounted cash flow. What these methods basically do is they look at the revenue potential of the prospective company over a specified period of time and allow for the determination (calculation) of the company’s theoretical value. Comes in handy for stock brokers to determine what share price the company will list at.

Underwriting

The process of taking an SOE to IPO is an expensive and meticulous one. The banks with investment divisions will be keen to land the contracts to help with the process of taking these companies to IPO. The banks will be responsible to handling the intricacies of the process with regulatory departments such as the Securities and Exchange Commission (SEC) and also engaging with possible investors. Eventually, a document known as the final prospectus is produced which is the go to document for all that want to know about the company and why it’s listing. In addition, details of the share price would have also be determined by the underwriter.

What Value is there in Listing?

Once the SOEs are listed on the stock exchange, this will offer government an opportunity to either exit or retain a minimal stake whilst at the same time allowing Zambians to now participate in the ownership of these newly promoted premier companies through their ownership of shares. Although the share certificates may not be enough for the owner to have a seat on the board, there is eligibility to dividends as well as value growth as these companies become more profitable. We envisage pension funds and high net worth individuals will take this opportunity to invest in the newly promoted premier companies. These will certainly open up new avenues of value creation that many investors will be longing for.