1999 LuSE
YEAR-END MARKET REPORT
THE ECONOMY
Sadly,
1999 was largely a repetition of 1998 for the Zambian economy. The Ministry of Finance claims that the
economy grew by 2%. We believe that may be on the high side and much of it came
in the final quarter. While the market
embraced the first announced Anglo American / ZCCM deal in January 1999, most
investors and businesses entered the year very cautiously. In retrospect, it was a wise decision.
Initially,
it appeared that 1999 would be another 1997, a year in which both the economy
and the market experienced attractive gains. Unfortunately, this was not to be the case. Early in the year, the possible deal with Anglo generated some
business confidence; most macro-economic indicators remained stable, donor
funding was restored and, more importantly, many businesses started dusting
their long-shelved investments plans.
As the year progressed,
however, and one delay followed another in concluding the transaction, the
economy continued in limbo and the early cautious optimism faded into a
memory. The process came to a crashing
halt when CODELCO (the Chilean mining group) withdrew from its intended joint
venture with Anglo American and a depression settled over the economy which,
with the exception of a small upturn in the final quarter, continued through
yearend.
Zambia’s
hopes were revitalised in November when Anglo American announced its intentions
to proceed alone with its Zambian mining plans, though on a more modest
scale. In mid-December, the government,
ZCCM and Anglo signed a Heads of Agreement, which, if all goes according to
plan, should result in the transfer of assets early this year—likely to be in
the first quarter. In addition, the
government has accepted offers from other mining investors for the major
remaining assets. So, 2000 could, at
long last, witness the end of government ownership of the country’s mining
industry.
While
the mine saga continued throughout 1999 (a situation that most Zambians simply
learned to live with), the government did manage to chalk up several
accomplishments. One of the most
important was the sale of the Livingstone Intercontinental Hotel and the
Rainbow Lodge to Sun International, a major South African hotel group. The transaction was finalized in November,
at which time Sun International began work on this US $60 million project that involves the construction of a five
star hotel and a world class lodge.
Inflation
and interest rates fluctuated somewhat throughout the year, but remained at
high levels. While the Kwacha remained
quite stable throughout most of the year, this was mainly a function of very
limited demand given the weak economy and severely depressed level of business activity. Much of the devaluation occurred in November
and December, the result of the normal yearend buying combined with limited US
Dollar liquidity in the market.
Inflation
Inflation closed the year
at 20.6%, down from 30.6% at the end of 1998, but well above the targeted 15%
rate. In an import oriented economy
such as that of Zambia, the relatively stable Kwacha through the first nine
months of the year contributed to the gradual decline in the inflation
rate. Also, the tight liquidity and
generally depressed economic conditions assisted in keeping spending patterns
in check throughout 1999.
Interest
Rates
Exchange Rate
The
exchange rate dropped by 14.7% in 1999, going from Kw 2388.50 to the US Dollar
at the beginning of 1999 to Kw 2740.00 to the US Dollar by the end of the year,
with much of this coming during the final two months of the year. One of the main reasons the Kwacha did not
fall further was due to the very limited demand as a result of the severely
depressed economic conditions that prevailed throughout the year. Had it not been for the poor economic
performance and severely depressed level of business activity, the Kwacha would
surely have weakened even further.
ECONOMIC FORECAST
The
government projects economic growth for 2000 in the 4% range. Coming after two very poor years in which
the economy actually contracted by over 2% in 1998 and remained somewhat
stagnant in 1999, such an achievement would be highly welcomed. We do believe it is possible, but, as we reported
last year at this time, it remains
highly dependent on several critical factors. First, there must be a turnaround in the mining industry driven by the
conclusion of the transaction with Anglo American and the sale of the remaining
mining assets. Obviously, improvements in the international prices of
copper and cobalt would provide greatly needed assistance in this regard. Second, the manufacturing and construction
industries, which have been in the doldrums for the past two years, must be revived,
largely on the back of the mining industry. And, finally, tourism and agriculture, which have shown so much promise
for several years, could begin to make an important contribution to the economy
in 2000 supported by investments from major regional and international groups.
For
the first time in the last several years, all of this
appears quite achievable. The Anglo deal is marching toward conclusion, probably in the
first quarter, and other bids from reputable mining houses have been accepted
for the major remaining assets. On the
tourism front, Sun International began work on its Livingstone project,
scheduled for completion in mid-2001, and both the Protea and Holiday Inn
groups from South Africa have expanded their presence in the market. Non-traditional agriculture continues to
grow, albeit from a low base, but is now contributing well over US $ 300
million in foreign exchange earnings, continuing its annual 15-20%+ growth
rate. Finally, construction and
manufacturing are just beginning to wake up after several years of inactivity.
One
potential problem looming on the horizon though is the COMESA-led drive to free
up all the region’s markets by eliminating tariff and non-tariff barriers. This could put certain of Zambia’s
industries in danger as much larger, lower cost manufacturers could seize the
opportunity to penetrate Zambia with low priced imports, undercutting local
producers (as has been the case historically in such manufactured products as
tires, batteries, cooking oil, etc.). This could worsen before Zambian producers learn to adjust to the
increasing competition.
Once
again, 2000 looks like the year during which the Zambian economy will recover
and return to a path of longer term economic growth. That said, we thought 1999 would be the year of recovery and we
missed the mark. Notwithstanding the
positive developments outlined above, there are, nevertheless, clouds on the
horizon that could derail economic recovery. For example, while copper prices crept up to US$0.74/lb by the end of
1999 and the World Bank has projected a 13% increase for 2000, should this not
be the case and the prices decline, the effect on Zambia would be dramatic and
immediate. Similarly, the increasing
oil prices have already had an early impact on inflation. Higher oil prices, combined with the absence
of a refinery due to the continuing problems with the rehabilitation of the
Indeni facility, will mean the need to import finished products at higher
prices which will only exacerbate the inflationary impact. Finally, it is impossible to predict the
potential impact on Zambia of the continuing uncertainties in surrounding
countries, including the civil wars in the DRC and Angola, and the economic
meltdown in Zimbabwe. Obviously, any of
these could have an adverse impact on the performance targets for the year.
LuSE MARKET REVIEW
Much
like 1998, The Lusaka Stock Exchange’s performance matched the performance of
the overall economy in 1999. The LuSE
Free Float Index, which started the year at 161.48, reached a high of 203 in
July. The Index ended the year at
181.43, up 12.35% in nominal terms. The
devaluation of the Kwacha towards year-end significantly eroded the dollar
gains, however, bringing real growth down to a marginal 2% over 1998.
The number of trades
decreased dramatically in 1999. There
were a total of 1,922 trades over the course of the year, down by 49% from
1998. This was primarily due to limited
buyers in the market throughout the year. The volume of shares traded declined by 15.8%, from 157.9 million in
1998 to 133.1 million in 1999; once again a result of the limited liquidity in
the market and the generally depressed economy that dampened share prices. While total turnover increased to Kw 33
billion, up by a staggering 296% over 1998, Kw 29.5 billion or 89% of the
increase came from a single trade. In
May 1999, South African Breweries (SAB) purchased Anglo American’s 45%
shareholding in Zambian Breweries Plc. Apart from this trade, turnover declined as trading activity slowed.
While there were no new listings on the LuSE in 1999, it
was, in some senses, a relatively active year for the market. In mid-year, the LuSE hosted its first ever
‘Rights Issue’, in which Zambian Breweries Plc raised Kw 23.4 billion (US$ 9.22 million). The Issue was highly successful and has set
a good precedent for future capital raising exercises over the Exchange. The Exchange also underwent its first ever
public Share-Swap, in which Trans Zambezi Industries
(TZI) shareholders were
offered shares in Zambezi Ranching and Cropping (ZRC). This transaction was successfully completed
in late November.
HOLD on Rothmans, pending the gradual improvement in the overall
economy and some clarification on the way forward given the new majority
shareholder.
CHILANGA CEMENT
Despite
having reported a first half loss of Kw 3.5 billion, Chilanga Cement saw its
share price increase by over 39% closing the year at Kw 198. The stock had reached an all time high in
July of Kw 300 and then fell in
response to investor reactions over the poor interim results.
For
the first time since the company was privatized in 1995, it posted a loss for
the first half of the year. While we
had anticipated this a result, we did not expect the magnitude of the actual
loss. Management attributes the loss to
depressed demand and stiff competition from neighbouring Zimbabwe and to a
lesser extent South Africa. The company
also suffered from reduced exports as some markets, like Burundi and Rwanda,
which were previously being supplied by
Chilanga are now being catered by Mbeya Cement in Tanzania (in which Chilanga
has a 14% shareholding interest).
Historically,
the company’s performance has always been strong in the second half and management does anticipate such a result,
although it would be nothing less than miraculous if the second half
performance were to offset the first half loss. Realistically, we forecast a Kw 1.5 billion loss for the
year.
In
spite of this disappointing performance, the company is poised to do well going
forward. The final sale of the
remaining mining assets should trigger demand, both from the new mines and from
the construction industry. The company
in fact was just recently awarded two large contracts to supply cement for the
new Sun International project in Livingstone and for the new project at Chambishi
Mines in the Copperbelt. The company
has enough capacity to cater for the increased demand, which is expected to
kick in towards the end of the year. Also, because margins on local sales are healthier, management will, if
necessary, reduce exports to cater for local demand.
At
the current price of Kw 193 and an historic price/earnings multiple of 3.75, we recommend Chilanga as a BUY. It appears that the sale of the mines will finally take place. This development will prompt a recovery of
the Zambian economy and, in turn, improve Chilanga’s prospects dramatically.
ZAMBIA SUGAR
Zambia
Sugar was one of the two disappointments of the year. Once again, the company’s share price fell over the course of the year from Kw 14 to Kw
11 by year-end. At Kw 11, the stock is
trading on a historic PE of 4.82.
Although
turnover for the year ended 30 September 1999 went up by 22.2%, PAT dropped
from Kw 18.84 billion to Kw 18.60 billion. This 1.2% nominal drop was a result of several factors. Export sales to the DRC were reduced
dramatically due to the continued unrest in that region. The reduced exports also deprived the
company of hard currency revenues. With
a foreign currency loan from its majority shareholder, therefore, the company
had significant currency exposure and a dramatic increase in its interest
burden. Total interest expense went up
by 130% from the previous year.
Zambia
Sugar’s share price has long been a victim of the company’s ‘Employee Share
Ownership Scheme’ (ESOP). Given the
difficult economic conditions, many employees continue to sell shares at
ridiculously low prices to meet desperate cash requirements. Also, the declining Kwacha continues to push
up production costs. It is difficult
for the company continually to adjust prices to counter the effects of devaluation.
The
Company is once again changing its year-end to March, in line with that of Tate
& Lyle. This will prove beneficial
as the company usually pays off its working capital debts at that time during
the year.
At the
current market price of Kw 10, the company’s shares are trading at a multiple
of 3 times trailing earnings. We have
always believed that the company has strong fundamentals. Should certain factors change, such as the
company retiring its external loan, the economy improving (as a result of the
mines sale) and revenues increasing as a result of improved world sugar prices
and export sales, increased revenues will very quickly contribute significantly
to the company’s bottom line earnings. That said, it is likely that Zambia Sugar could fall victim to the
COMESA-led free trade exercise. The
company has always experienced difficulties in combating cheaper imports. If the free trade agreement is adopted by
yearend, we may find imported sugar on Zambian shelves. We have downgraded our recommendation on
Zambia Sugar to a SPECULATIVE BUY.
ZAMBIAN
BREWERIES
The
star performer for the LuSE, Zambian Breweries started the year at Kw 200 per
share, reached a high of Kw 505 in May and closed the year at Kw 398. This translates into a nominal gain of
almost 100% and a real gain of 74.2%. In addition to the attractive share price performance, Zambian Breweries
successfully completed the LuSE’s first-ever capital raising exercise through a
Rights Issue conducted in the July/August time period. It must be noted, however, that investors
who participated in the Rights Issue are still waiting to enjoy the overall
share price gains in view of the fact that the Rights Issue offer price was Kw
450 per share.
The company started off the year as the sole clear beer
brewer in Zambia. In February 1999,
Zambian Breweries completed its acquisition of Northern Breweries (the only
other clear beer brewer in Zambia). The
acquisition was financed by a loan from South African Breweries International
Finance at the time. The loan was later
retired from the proceeds of the Rights Issue which raised Kw 23.4 billion (US$
9.22 million).
Also
during the year, South African Breweries bought Anglo American Corporation’s
45% shareholding in the company at a price of Kw 505 per share. SAB now owns 90% of the company and has made
a commitment to sell down an additional 15% of its shareholding to the public
in the near future.
In spite of these accomplishments, the company declared
poor first half results, which were primarily driven by the poor economic
conditions prevailing in the market during the course of the year. Gross turnover for the period was up by
24.5% while PAT fell by 39%. It is
clear that the burden of the acquisition and the costs associated with its
turnaround were felt rather heavily in 1999. Management has indicated that
the company may end the year at a marginal loss.
That said, much like Chilanga and Zambia Sugar, Zambian
Breweries has sound fundamentals and will surely return to profitability once
the economy turns around. Like most
major manufacturers in Zambia, Zambian Breweries has over the past year
concentrated on streamlining its operations by improving productivity and
cutting costs. An improvement in disposable
income will improve the Breweries’ earnings dramatically in a relatively short
period of time. Also, as and when SAB
releases more shares into the hands of the public, the stock’s liquidity will
improve.
At a price of Kw 398, Zambian Breweries ended the year at
a PE multiple of 10.25 which, compared to other SAB operations regionally, is
on the low side. We recommend Zambian
Breweries as a BUY.
STANDARD
CHARTERED BANK
Standard
Chartered continued its superb 1998 performance into 1999. The stock gained K8 during the course of the
year to close at Kw 27. This represents
an increase of over 42% in its share price. Unlike some of the other share price ups and downs, this increase is one
that is easily justified.
The
Bank has outdone itself in 1999, in which PAT increased to Kw 29.2 billion,
representing an increase of over 130% from the Kw 12.7 billion achieved in
1998. At the current market price and
assuming the Bank continues its policy of paying out 80% of its profits,
investors will enjoy a dividend yield of over 22% for the year (notwithstanding
that most investors came in at a much cheaper price). The bank has also reorganized its loan portfolio over the past
two years and now has a bad loan portfolio under 3% of total loans. In the depressed Zambian economy of the past
two years, that is nothing less than miraculous. In October 1999, the bank launched its first VISA ATM acceptance
programme. All Standard Charterd ATMs
now permit VISA cardholders to withdraw cash on their credit cards. The Bank is also reopening its branch in
Livingstone, an area that is projected to recover over the coming year.
Over
the past two years and, in particular, since the completion of the Bank’s
re-structuring which resulted in the closure or sale of seven branches
throughout the country and the re-focussing on its core businesses of corporate
banking, trade finance and treasury operations, the Bank’s performance has
consistently improved and we expect this to continue into the future. By year-end, the Bank’s shares were trading at a price of Kw 27 which
equates to a historic PE multiple of 8.72. Based on the recently announced 1999 results for its yearend, which is
an over-doubling of the 1998 performance, the PE has dropped to 3.78. At that multiple, Standard Chartered is one
of the cheapest banks in the region. We
rate Standard Chartered a STRONG BUY.
FARMERS HOUSE
This
year we have decided to add Farmers House to the list of companies on which we
regularly report. Largely dormant since
its listing in 1996, we believe the future could be very interesting for this
very thinly traded stock.
Farmers House is Zambia’s only publicly owned
property investment, management and development company listed on the Lusaka
Stock Exchange. While trading in the
company’s shares has been extremely limited over the past several years, this
could change dramatically given the corporate re-structuring the company has
recently completed and the exciting plans it has for the future. Farmers House has formed strategic
partnerships with some of the key players in Southern Africa’s property
development industry and has ambitious plans to transform itself into Zambia’s
leading property development and investment company. Pegasus Property Development Company, in which it has a 30%
shareholding interest, is 70% owned by Coronation African Harvest Properties
Limited, a subsidiary of Coronation Holdings Limited, one of the leading
financial services groups in South Africa. Coronation has taken a view that now is the time to invest in the
property market in Zambia and will be doing all its investments through this
joint venture. In addition to the
re-development of the Farmers House existing property which is currently
underway, the company has plans for other developments in Lusaka, and proposals
for developments on the Copperbelt and in Livingstone.
Farmers House has also formed a separate property
management company, “Minerva Property Management Company Limited”, which, in
addition to managing the Farmers House properties, has already secured other
contracts to manage properties owned by third parties. The establishment of a professionally
operated, property management company in Zambia is long overdue, and a welcome
addition to the property industry.
A
third company has also been formed, this one to develop and invest in
properties in the health care and tourism industries. Shareholders in “Dionysus Property Development Company Limited”
include leading architects and quantity surveyors in the region with experience
not only in Southern Africa, but worldwide, and with a client list that
includes some of the leading developers in this industry, such as Sun
International, Abercrombie & Kent, and Orient Express.
Farmers
House shares are currently trading—if you can find shares to buy—at Kw
300. Excluding one time exceptional
items, at this price the shares are on a PE multiple of 6.3 times historic earnings and at a 65%+
DISCOUNT to the company’s net asset value. While earnings may be depressed over the short to medium term as the
company uses its resources to develop new properties and rental returns will be
lower because of these developments (especially at its Cairo Road property),
long term, we believe Farmers House has the right formula. Further, the company has no debt and,
therefore, is in a position to leverage its balance sheet to develop existing
and prospective future projects and, in so doing, boost returns to
shareholders. We all know that historically properties have done well in
Zambia. The market is depressed at
present, but it will rebound, and, when it does, Farmers House and its
shareholders will be well positioned to benefit. While liquidity remains a major obstacle in trading this stock,
from our perspective, for investors interested in properties and prepared to
take a longer term view, this stock is a BUY.
MARKET OUTLOOK
Clearly, doing business in Zambia is an on-going learning
experience. We anticipated the sale of
the remaining mining assets in 1999, but were unpleasantly surprised by the turn
of events. This year, it once again
appears that the long-running ZCCM privatization saga will finally come to a
merciful close. Though the initial 31
January target has not been met on the Anglo deal, we understand first-hand
that all parties involved are working flat out to conclude the transaction as
soon as possible. And, the remaining
mining assets should be sold shortly thereafter. Undoubtedly the government is certainly doing its part in
concluding the ZCCM sale as the transaction is a pre-requisite (among other
factors such as governance and policies) to qualifying for much needed balance
of payment support. Donor funding is
crucial for Zambia as it accounts for 35% of the 2000 budget.
Zambia is also constantly haunted by the unrest in the neighbouring
countries. President Chiluba’s efforts
to play a vital role in the resolution of these conflicts will if anything,
place a feather in Zambia’s hat should the efforts materialize into success. Stability in the region has much to offer,
especially given the demand potential of the neighbouring markets, particularly
the DRC. At first glance, it however
appears that Zambia will not enjoy these markets in the near future given the
dim prospects for near-term peace.
The sale of the mines should spark off Zambia’s road to
economic recovery. The burden of
financing ZCCM’s massive losses will no longer be passed on to the taxpayers,
presumably allowing government funding to be allocated to other thirsty sectors
of the economy. We expect disposable incomes
and employment to rise as a result of growing economic and business
activity. The World Bank has also
forecasted a 13% rise in the price of world copper in 2000, mostly due to the
revival of Far East economies. That
would be favorable for Zambia, given that copper constitutes a significant
percentage of Zambia’s export earnings.
While Livingstone is still said to have a better natural
environment than the other side of the border, ailing infrastructure and
limited facilities have always made Livingstone the second choice for
tourists. The Sun International project
is a major boost to the Livingstone region, which over the past 10 years has
experienced a flight of capital as tourism and industry continued to
diminish. It is expected that the Sun
project will, directly and indirectly, create some 4,000 local jobs.
The revival of the economy will contribute dramatically
to improvements in the performance of listed companies. Since most companies have spent the past
year or so streamlining their cost structures, increases in revenue should have
a greater than proportional impact on earnings.
The LuSE closed the year at an average market PE ratio of
5.79, one of the lowest in the region. If, as we believe, the economy has bottomed and now begins to recover,
it will have a direct impact on company performance and we should begin to see
rising PEs during the course of the year. Now may be the time to invest in the market when prices are so depressed
and, by so doing, participate in the anticipated gains throughout the course of
the year.
This circular is strictly confidential and is intended for the sole use
of the addressee. It may not be reproduced, circulated or disclosed without the prior
written consent of Pangaea Partners Zambia. The information herein is based on information
from sources deemed reliable, but Pangaea accepts no liability for any loss resulting from
the use of the information contained herein or from any omissions. Neither the information
nor any opinion expressed constitutes an offer to buy or sell any securities or options or
futures. Pangaea Partners (Zambia) Limited, Pangaea Securities Limited, their affiliates,
directors, officers and employees may have a long or short position in Zambian securities
including any described herein.
Go
to Pangaea Partners' Main Menu
Go
to the Zambia Menu