Chipo Mlambo, a former finance academic and now director at the Africa Institute for Forecasting & Financial Analysis Training Institute sees the IAFEI World Congress (www.iafeiworldcongress.com) as a networking opportunity and a platform for sharing ideas.
In the global financial world, South Africa is the biggest economy in Africa with Johannesburg the continent’s financial hub of and its currency, the rand, is the most liquid among all African currencies, says Mlambo.
“Should African countries decide to have a single currency, then it will no doubt be the rand. The Johannesburg Stock Exchange is well regulated and the most liquid and sophisticated among all African stock exchanges. It is also the deepest capital market in Africa as measured by market capitalization to GDP ratio.
“Therefore, foreign investors who want to have a stake in African companies would likely first look to buy South African companies or shares on the JSE rather than to any other African country or stock exchange.”
She says South Africa has good auditing and reporting standards and effective corporate boards, comparable to western countries. Thus South Africa is often termed the gateway to Africa in that investors from developed countries would start by investing here before expanding to the rest of the continent.
“Therefore, South Africa plays an important role in spearheading development on the continent.”
According to Mlambo South Africa can also be an influential role model to other African economies in terms of good governance and what it means to be a democratic society, given its economic and political power.
“The legal system in South Africa is comparable to that in the first world, providing protection for investors and boosting investor confidence. It is also rich in natural resources, such as gold and platinum, meaning it can continue to have strong foreign exchange reserves through exports and thus remain relevant on the international stage. As opposed to its African peers, South Africa has a strong financial services and banking sector. It also has a good track record of enforcing legal rights and protecting minority shareholders’ interests.”
However, she says the reliance of South Africa on commodity exports and having China as its biggest trading partner poses a risk in that any slowdown in China and crash in commodity prices will have negative repercussions for South Africa, such as the outflow of foreign capital as investors flee to relatively safer havens and thus weakening of the rand. “Foreign capital flows are volatile in nature and unfortunately South Africa tends to depend on them. South Africa suffers from contagion given its extent of integration in the global economy such that any shock waves elsewhere in the world would be felt in South Africa one way or the other.”
South Africa’s credit rating, which is now close to junk status, also makes investors nervous as evidenced by the fall in foreign direct investment, which is estimated to have fallen by close to 74% in 2015. Such decline may have been caused by the global financial distress and the subsequent austerity measures put in place by developed countries. Another cause of nervousness among investors is political uncertainties and the threat of nationalization of the mines. Replacing the Bilateral Investment Treaties (BITs) with the Protection of Investment Act makes investors cautious when it comes to the stability of the legislative environment.
Power supply problems, slumping commodity prices and labour unrests on the mines have hit the mining sector severely. Given the importance of this sector in the South African economy, any disinvestment from this sector will result in serious problems in South Africa. The labour and social unrests and crime tends to scare away investors and are often a result of poverty and high levels of inequality, which are rife in the country. There is also a shortage of skilled labour despite the high levels of unemployment, which may have been caused by the brain drain of the skilled labour force in search of greener pastures. This makes the business environment a difficult one to operate in.
On growth prospects for investors:
Mlambo says the growth prospect for the country as a whole does not look very good, and companies are not spared unfortunately. Given South Africa’s current account deficit, it is highly dependent on foreign direct investment to fund its growth, which is dwindling at the moment. This affects its ability to continue developing its infrastructure, for example in energy (where electricity supply is already a problem) and in the transport system. This will impact negatively on businesses and households. Corporate earnings and share prices may subsequently head south, household incomes and employment will decline, and the already precarious labour market would worsen. Households would be pushed into higher levels of debt in an effort to survive.
Sectors that have been counted on in unlocking South Africa’s employment opportunities are facing other challenges. Agriculture, for example, is suffering from drought. Mining is suffering from low productivity and slumping commodity prices. Manufacturing is suffering from the high cost of raw materials, and tourism from the changes in immigration laws. Measures are being put in place to change the status quo such as creating a more equitable marketplace by ramping up the competition policy, creating and implementing an effective rural development policy, promoting small businesses and entrepreneurship, revamping the black economic empowerment, incentivising businesses to create more jobs, and developing more focused trade policies. The recent local government elections created new hope and demonstrated the maturity of the South African electorate and its ability to bring change when the political economy gets unbecoming.
Not all doom and gloom:
Mlambo says there are high investment returns in the education sector, with primary education coming first, followed by secondary education, technical and vocational training and higher education. “The challenge with tertiary education is that learners now have a lot more options available to them when it comes to getting a tertiary qualification.”
She says there are success stories in the education landscape in South Africa, namely Curro and AdvTech, which are both listed on the JSE. Curro’s earnings have grown by a whopping 1,715% (from R76m in 2010 to R1 384 million in 2015) since 2010 while AdvTech’s earnings increased by 31% (from R1 470m in 2010 to R1931 in 2014). With private education currently constituting less than 5% of the South African market and the demand very high, there is room for entry by new players and returns to be made are also still high. The loss of confidence in public schools and the government’s ability to offer quality education has caused the enrolments at private schools to increase.
“Private schools that are more established and well-run can increase fees at a rate that more than compensates for higher operating costs since parents and learners are reluctant to switch schools. Fees are also paid in advance, at the beginning of the month, term or year, creating liquidity for the schools. It is important to note that a private school is a capital intensive business and they make their money from economies of scale. It also takes time for a new school to break even which may require injection of additional capital to cover the shortfall in operating costs in the first few years. Profits will stabilize when enrolments reach capacity and the school matures, typically in plus or minus eight years.”
She says the skills shortage in the country also creates opportunities for international investors in the education and training sector. The demand for qualifications, continuing education and training continues to rise as labour market prospects weaken. There is a need for more engineers and artisans, thus creating a training gap that international companies can fill. These companies can offer their expertise and training in infrastructure development – rail, road, pipeline, nuclear energy, renewable energy, telecommunications and port facilities management.
“Last but not least, international investors would benefit by investing in South Africa in general because of the high investment returns and interests rates. In addition, the South African Rand seems to have stabilized, and if anything, it is likely to strengthen rather than weaken at least in the short term.”
On the role of South African companies in the economic growth potential on the African continent:
Mlambo says that since South Africa is the most developed country in Africa and has a buoyant financial services sector, South African companies have relatively better access to capital than their African peers. The political and macroeconomic environments are also relatively stable and the legal system developed, making it an attractive first destination for investors looking at investing in Africa. South African companies can thus be a catalyst in the economic growth potential of the continent by having expansion strategies that will require moving some of their operations to other African countries. Some South African companies already have operations in some parts of Africa, for example Shoprite, Pick n Pay, MTN, Standard Bank, and SAB Miller, among others. Some have even set up shop in unstable countries like South Sudan that has been destroyed by civil war.
“As South Africa is expected to shape the economic landscape of the continent, the country can only meet this expectation if companies rally behind it. However, the challenge or deterrent for them could be these countries’ restrictive investment policies and unfavourable political, economic and business environments. This may explain why such cross border expansions have been limited.”
She says the biggest risks to South African companies are that most African countries have unstable political and economic environments. “Governance is poor and corruption rife, which impacts on the viability of doing business in these countries. Accountability and transparency are in most cases absent when dealing with government officials. Such an environment is risky for companies that do not have proper internal controls and anti-corruption programs. Even when there is a change of government, these risks may still linger due to the ineffectiveness of the anti-corruption laws that may be in place. Laws and regulations can change overnight, which creates huge uncertainties for businesses. Because of this, business confidence is very low. However, it does not mean all is doom and gloom since there is now international pressure to see anti-corruption and anti-bribery laws being enforced.”
Added to this, she says African currencies are not easily convertible and depreciate much faster, such that remitting the profits back to South Africa may be a problem. “Some of these countries have limited foreign currency reserves and thus would restrict remittances, such as what is happening in Zimbabwe and Angola at the moment. This is often caused by limited exports and the dependence on primary goods sectors such as agriculture, mining and oil for which African countries are price takers rather than price setters. They are also at the mercy of natural phenomena and climate change, such as drought, and global demand of such commodities.”
On expanding into Africa
Mlambo says the biggest constraint to expanding into Africa is the issue of undemocratic governments and corruption. “South African companies should exercise due diligence whether they expand into Africa by building operations from scratch, acquiring existing entities or through joint ventures. Such due diligence may require going beyond the valuation of the project but an assessment of how all parties involved, such as brokers, advisors and consultants interact with government. They should also have their own effective internal control policies and procedures in place and should train their employees on issues of ethics, professionalism and corporate governance. Any measures put in place should be monitored and reviewed regularly to ensure compliance and minimize the risk.”
Mlambo says companies can also use a carrot and stick approach to enforce good governance in government. They should also engage with the host country governments regularly and in a transparent manner regarding the costs and benefits of their projects to avert any misunderstandings and rent-seeking by government officials. Companies can also take out political risk insurance as part of their investments.
“Information costs are high and companies can overcome this by making use of good local consultants and advisors to mediate in the deals and build trust and strong and sustainable relationships with the locals. They can also seek reputable strategic partners to provide the stamp of approval and support in times of need. It is also advisable to seek deals in countries where there are bilateral investment treaties for protection and to negotiate material adverse change and force majeure provisions in structuring the deals.”
Are the opportunities worth the risk and effort?
Mlambo says it is difficult to say whether the opportunities are worth the risk and effort, since there are companies that have done well in Africa and there are some that have got burnt.
“However, the truth is there is no reward without risk and the greater the reward, the greater the risk. Investing in Africa does not require companies to plunge in blindly. They need to first spend their time doing their homework, weighing the risks and coming up with right risk mitigation measures. There is need to document case studies of those that succeeded in Africa and what made them succeed and those that failed and what made them fail. Such case studies can provide valuable lessons to those that have not ventured into Africa but are planning to do so.”
On the impact of Brexit on South African companies and investment in Africa:
“The impact is uncertain but there are fears that the UK would focus more on its own problems and stabilizing its own economy and less on investments to emerging markets in general,” says Mlambo.
She says of all African countries, South Africa will be the most affected given its UK links from a financial and investment point of view and the fact that it is most globally integrated of all Sub-Saharan African countries. The UK and EU are among South Africa’s biggest trading partners, and the Brexit is likely to pose challenges to South Africa from a trade perspective.
“Any decline in growth in the UK may impact negatively on its trade with South Africa. In addition, whereas previously South Africa needed to only negotiate one agreement where the UK and EU are concerned, future negotiations may be with each of them separately, thus doubling the task. Any weakness in the UK currency is likely to affect South Africa’s tourism industry.”
She says Foreign Direct Investment to South Africa, which has been on the decline lately, may be further exacerbated by Brexit over the medium to long term given that much of this FDI has been from the UK. “Some South African banks have links to the UK mostly by having parent banks there. The parent banks may now focus more on their own problems at home and unlikely to continue providing liquidity to their African subsidiaries. Apart from banks, a number of South African companies have operations in the UK and they are now exposed to the uncertainty brought about by the Brexit. There is also fear that the UK may take a protectionist approach when it comes to its international affairs and if this happens, its investments to Africa may suffer a blow.”
On the changing role of the CFO
Mlambo believes the role of the CFOP in South Africa will definitely change in the future.
“The CFO is taking on more responsibilities in the management of a company than never before, ranging from leadership, operations and strategic planning, performance and stakeholder management, and crisis management. Given the diversity of the responsibilities, the role is now a lot harder, but better and more exciting, requiring communication skills and savviness in the boardroom and non-financial leadership skills.”
She says the CFO is now required to work in partnership with the CEO in identifying business opportunities, developing relationships with external stakeholders and in setting corporate goals. CFOs are also now accountable when it comes to regulatory adherence and are expected to reconfigure their finance functions to technological changes and globalization accordingly. “They may have to delegate some of their reporting and finance functions in order to take on more of these additional responsibilities.”