Welcome to a new year of opportunities in the market – and, of course, risks. You can’t have one without the other, sadly. The underpin of finance as we know it is that more risk should equal more reward. If that balance is out, then something is wrong. Either there’s a lovely opportunity, or a terrible one, depending on the direction in which things have moved out of balance.
In theory, developed markets should be less risky than emerging markets. This doesn’t mean that every sector in a developed market is a safer bet than every sector in emerging markets.
For example, the automotive sector in Germany looks riskier right now than a bunch of investment alternatives right here in South Africa.
It gets really painful when developed markets move up the risk curve, as they don’t tend to offer additional reward to make up for it. The only outcome there is that asset prices must fall, hurting people along the way.
From risky to riskier
Further along the risk spectrum, we get to frontier markets. This is where things get particularly wild.
These are underdeveloped economies where even basic human rights are a luxury for far too many.
Much of the investment flowing into these countries has a social angle to it, which means tapping into typically European and American funds that include social metrics in their investment decision rather than purely financial metrics.
This is an area of finance known as impact investing and it’s very interesting indeed, as it funds many important projects in areas like food security and healthcare. The sectors that have attracted investment with a purely for-profit motive typically include telecoms, mining and consumer products.
In my advisory career some years ago, I had the great opportunity to travel to Kenya as part of a capital-raising mandate for an FMCG platform business.
It was fascinating to go to the villages and see what was required to try and successfully get products to people who have GPS coordinates rather than a street address.
I was sad to note that in early 2024, the company in question failed to raise funding and went into administration …
Because, here’s the thing: Africa is hard. In fact, it’s ridiculously hard. The politics are extremely complicated to navigate, as borders are often a random colonial hangover rather than a reflection of the cultures of the people within those borders.
We’ve seen everything from genocidal catastrophes through to general election violence – and that’s when elections actually happen, which isn’t a guarantee.
Economically, there are too many countries that are dependent on single commodities, which leaves them horribly exposed to macroeconomic volatility and huge moves in their currencies.
Then, on top of all of this, there are governments that seem to thrive on kicking corporates when they are down …
Either through large tax assessments that have more fictional quality than half of your local bookstore, or through mechanisms like what we’ve just seen in Zambia where an export tax has been reintroduced on emeralds at the worst possible time. Good luck, shareholders in Gemfields.
Venture capitalists: Kicking the can down the road
A lot of what you see as ‘success’ in Africa is often just a can being kicked down the road through various rounds of capital-raising activities with venture capitalists. Very, very few of the large platform businesses are profitable. Instead, they rely on finding professional investors who have raised money off the back of an emerging markets mandate and some very pretty charts about Africa, along with the obligatory assortment of pictures of lions.
They then need to deploy that capital to justify their ongoing existence to their developed market investors, so even sub-optimal projects can often get a slice of the pie and some allocation at least, so that venture capitalists can tell a great story about participating in the raise and getting onto the register.
Goodness knows there are some decent stories to have come out of venture capital backgrounds, but much of it also belongs in the same WhatsApp group as most Ponzi schemes.
Scaling something for the sake of scale isn’t the same as building something to be profitable.
Far too many venture capital-backed firms are little more than an attempt to grow just enough to raise more funding, rather than become profitable. That’s not a sustainable way to do business.
What about commodities?
Commodities? Sure. That can work, provided local government is adequately incentivised, often formally and let’s just say ‘informally’ – I like to think that listed companies don’t get too involved in that …
But unfortunately corruption is a major feature of frontier markets.
It’s even a feature of emerging markets, ours included, with occasional shockers coming out of developed markets as well.
Humans everywhere in the world are self-interested creatures and not all of them have great morals. I think the difference in frontier markets is that there are fewer safeguards and those in power often rule with an iron fist – you don’t necessarily see a great legal system or freedom of press, so they can get away with more things more of the time.
If anyone has cracked the African conundrum, it’s probably China. They figured out that if you swap infrastructure for commodities, you can strike a deal.
There are no sheep in that equation – only wolves, dancing a delicate game. It seems to work quite well for all involved, although there will be lots of different views about how ethical this really is.
The point I make is that the risks in Africa are immense.
But what about the rewards?
There are too many corporate casualties
Go on, try think of a single great story to come out of Africa in the past decade for a South African corporate listed on the JSE.
Name one that has really made it work on the continent on a consistent, through-the-cycle basis, not just in a single good year.
There are some sectors that have managed it, mainly I think in financial services and banking sector. There also has been some big whoopsies along the way in those sectors.
As for telecoms, it’s been a complete disaster. MTN’s share price has performed so poorly that they had to restructure their B-BBEE deal just to avoid it maturing at close to worthless levels.
Vodacom seems to have been inspired by this performance, taking on the Egypt risk and now experiencing the same forex pains.
Have you noticed how the recent trend is to run away from the rest of Africa, rather than towards it? Shoprite realised that things weren’t going to go well, so they got out of that exposure to focus on their home market – and just look at the benefits from that.
The African adventures nearly killed Nampak, with much of that survival plan being based on an exit from Africa.
Property funds have also been pulling back.
Fifteen years ago, rest of Africa was a key feature of practically every corporate business plan, every results presentation and every strategy day. Investors demanded a strategy around Africa.
Today, you hardly see it get a mention unless you’re looking at an African powerhouse like Standard Bank – and even there, some years are better than others. It is not consistent.
There are at least some strong niche players with clever models like CA Sales Holdings tapping into the FMCG space, or ADvTech with high-margins schools in Africa targeting expats and wealthier locals – but these are the exception.
The majority of sectors and countries in the rest of Africa have become uninvestable I’m afraid. The rewards aren’t worth the risks.
It’s a sad situation, especially for people on the ground who desperately need economic upliftment, but it’s a reality. And unless China can find a way to grow at high rates again despite a Make America Great Again government on the other side of the world, I can’t see the situation improving.
Africa is going to stay reliant on impact investing, while those with a purely for-profit motive are going to struggle to justify exposure and investment.
Time to Samba?
The beauty of capital is that it can flow to the most appealing places fairly easily. It doesn’t have to get stuck somewhere. Just because the rest of Africa has proven to be a bleak story for most corporates doesn’t mean that there aren’t options elsewhere.
Within the Brics grouping, Russia is a global pariah, so there’s nothing to discuss there.
China is a completely different economy and market to [that of] India, and that’s worth spending a moment on. The former is based mainly on manufacturing, whereas India is far more of a services economy.
We have immense look-through exposure to China due to our commodity sector, as well of course as Naspers/Prosus with Tencent, and the disaster at ArcelorMittal has once again illustrated just how important China is for the local commodities market and what it can mean for us when China isn’t doing well.
As for India, there are a few companies that have invested there, like Sanlam. It’s not surprising to see a financial services slant in the Indian exposure on the JSE, as that reflects the underlying nature of the Indian economy and what the opportunities look like there.
But what about Brazil? We find pretty decent economic growth there in 2024 that was better than people anticipated at the start of the year.
Unemployment in Brazil was just 6% at the end of 2024, which is a record low.
Of course, Brazil has its own risks, but why do we see so few local corporates making the move into South America?
Pepkor did it with Avenida, a brave and interesting transaction, and I’m interested to see how it plays out in the coming years. Naspers and Prosus are now doing it with Despegar, leaning on the expertise of CEO Fabricio Bloisi and his Brazilian background.
What other opportunities might be found on that continent (South America), and are our corporates going to look there anytime soon with the benefit of the lessons learnt in the rest of Africa?
It’s not that hard to find stuff – this is why the investment banking industry exists. Advisors connect capital with opportunities. If boardrooms become serious about looking in South America, they will find stuff.
I just can’t help but think that more executives on that SAA direct flight to São Paulo might be a good thing.
I would love to get your thoughts on whether South America represents an opportunity that South African corporates should be seriously considering. Or would you prefer to see them trying to figure it out in rest of Africa? Do you believe that the rest of Africa is investable? – moneyweb.co.za
