At The Market with Tetrad – Pros and cons of diversification


Brian K Mugabe

MANY companies have sought to hedge against the negative economic developments in the country by re-engineering their business models in line with the status quo.


For example, Murray & Roberts are no longer heavily dependent on construction but have entered the lucrative agro-export sector. However, others have diversified their business interests through cross border expansion.


The latter approach, a favourite for companies facing a shrinking domestic market due to saturation, or as in our case, low growth opportunities and non-facilitative economic policies, can theoretically yield many benefits.

Among these would be lower manufacturing costs due to economies of scale provided by a larger market for goods and services, leading to a competitive advantage, and a diversified customer base. The addition of foreign revenue would not only enhance corporate growth over the long term, but would also bestow upon companies, the benefits of global diversification on a corporate level. Having operations in different parts of the world would remove the concentration risk and provide a hedge through the diverse economic conditions of the various markets.


There are of course risks and challenges attached to such a course of action. These include the economic stability of the chosen markets as regards issues such as exchange rate fluctuations and freedom of the markets, language and cultural barriers, getting the right pricing structure, designing an efficient supply chain and perhaps most importantly, understanding the politics. The experience of most Zimbabwean companies that have expanded into the region, has so far highlighted more the challenges than benefits, with initiatives taking time to bed down, the seemingly natural instability associated with the continent making the learning curve that much steeper.


Innscor, whose year end results to June are among those we shall look at today, is one of the local entities that has pursued the pan-African dream in a big way, supported by the company’s association with ExxonMobile, itself a global player


Turnover for the group was up 328% to $78,7 billion, led by the Zimbabwean operation, which recorded growth of 333%. Operating profits, with margins almost doubled from 17% to 31%, grew by a far more impressive 669% to $24,2 billion. The three Zimbabwean divisions – foods, non-foods and distribution all performed well, despite the negative impact of price controls in particular on the foods business.


The regional operations, which were split into stand-alone franchising and operations units, while seeing improved trading conditions in many of its markets, particularly in Ghana, were still in a net loss position as “establishing an adequate skills base and sufficient presence in each of the markets entered into proved a slower process than anticipated”.


Further highlighting the challenges of cross border expansion were the resumption of hostilities in Cote d’Ivoire and problems with minority shareholders in Mozambique that led to the operation there making a loss.

The 26% stake acquired in Natfoods during the month of June realised earnings contribution of $518 million as total equity accounted earnings went from a loss of $131 million to $551 million.


Together with a reduction in the effective tax rate, attributable earnings growth of 749% to $14,6 billion was achieved for the year, up from $1,7 billion in 2002.


While Innscor has sought to establish it’s operations in some of the regional markets, the likes of Wankie and Zimplow have simply established export channels via which to generate foreign currency earnings. Starting with the latter, turnover for the year to June 2003 was up 293% to $3,2 billion on 2002, driven by an 18% increase in export volumes and the movement in the exchange rate which translated to a 549% export sales increase in value terms. This offset the 47% fall in domestic turnover, a fall attributed to the falling purchasing power of the local target market and the erratic rains during the period.


The strong export performance led to higher operating margins of a notable 71%, up 30 percentage points on last year.


The sub-inflation top line performance translated into a more than acceptable operating profit increase of 579% to $2,3 billion. After accounting for an $80 million interest charge and the tax charge, attributable earnings for the year of $1,5 billion were attained, an increase of 527%. Wankie, hampered by the shortage of forex to acquire new and maintain current machinery, found itself operating at less than 50% capacity during the first half of the year. As a result of this and the existence of price controls for part of the period, sales were up just 131% to $8,9 billion, with total coal sales declining by 31%. Some 4% of coal sales were destined for the export markets.


Operating profit on the other hand was up 465% to $921 million as margins improved from 4% to 10% following the removal of price controls. Having earned interest of $152 million in the first half of last year, significantly higher debt levels against a background of higher interest rates meant that this time, an interest charge of $192 million was incurred. This diluted the gains made at the operational level and attributable earnings growth of 137% to $620 million was achieved.


Lastly, this week we look at the striking interim results to June produced by tobacco giant BAT.


Net turnover was up 443% to $10,1 billion for the half year as exports of finished goods and semi-processed tobacco shipments increased. Courtesy of a change in the sales mix, improved supply chain efficiencies and cost management and, undoubtedly, the movement in the exchange rate, margins just about doubled from 44% to 87% and operating profits of $8,7 billion were earned.


Strong additional cash generation as well as existing reserves saw the interest income increasing 35 times to $1,3 billion. A fair value adjustment relating to the carrying amount of the Luxembourg subsidiary Valtobac Socíete Anonyme of $1,1 billion was taken to the income statement in anticipation of its proposed demerger by way of a dividend in specie.


This boosted the bottom line to $8,6 billion, a 1 150% uplift on the comparative interim period.

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