Should Colcom not have been unbundled before Niloticus?

THE year-end financial results for Innscor Africa make very interesting reading.  On one hand are profitable businesses such as the fast foods outlets, the bakeries, listed subsidiary, Colcom, and the associate, Irvines.

On the other are struggling ventures including the snacks makers, SPAR Corporate retail stores and the crocodile skin producers, Niloticus.  Such a complex structure, though it worked almost perfectly in a hyperinflationary environment, is now evidently weighing heavily on group performance.
During hyperinflation, cash rich companies like Innscor bought assets and acquired other businesses as a way of hedging against inflation and retaining value. Many found themselves owning several investments which, in many cases, were not related to the core operations at all. That strategy boosted the balance sheets of scores of companies and in a way helped them preserve capital in hard currency terms.
Dollarisation eliminated the necessity for value retention. Now, each business has to be evaluated on its ability to generate earnings. 
This is probably what persuaded the management at Innscor to review the portfolio mix with a view to shedding ineffective units. From what they have said, the first move will be the unbundling of Niloticus, into a separately listed entity. Good idea, it seems, but the rationale for choosing this particular entity first is not persuasive. This year that business turned over US$11,8 million and lost US$1,68 million before tax. Its stock is unlikely to excite the market when listed.
Rather than doing it piecemeal, Innscor could have taken a leaf from Delta’s book which in 2001 demerged three companies at once.  These were Zimsun (now African Sun), Pelhams and OK. There are so many unrelated businesses within the Innscor group, some profitable while others are loss-making, which could better be untangled from the conglomerate web. Significant shareholder value can be unlocked through separating three or four units into stand alone businesses. As things stand now the strong financial performance from profitable subsidiaries is being watered down by losses from struggling units.
Take the June 2010 year-end financial results as an example.  Revenue for the period was remarkable at US$403 million, representing a growth of 58,3% on prior year. The major drivers of turnover were retail stores, fast foods, the bakeries and Colcom. It is at the profit before tax (PBT) level that things look quite dismal for Innscor.  The overall PBT margin was 6,5% but it was not evenly distributed among the different units.
It ranged from minus 14% to plus 11%. The most profitable cluster was the milling and manufacturing operations where PBT margins stood at 11%. Colcom, which is probably the biggest business in that grouping, achieved strong margins of 14% on US$41,8  million turnover. The earnings per share of  US2,79c was almost similar to Innscor’s of US2,92c while the share prices are US25c and US45c for the two companies respectively. What an anomaly!
This time around the earnings quality is unquestionable, unlike in the half year period to December 2009 (then, this column raised questions on the cash flows of Colcom) as the profits have a strong cash backing. Operations netted cash of US$3 million after spending US$2,6 million on working capital. The company made a significant investment of US$1,6 million in property, plant and equipment which should improve operational efficiencies going forward.
Other businesses within the milling & manufacturing category include Innscor Bread, Capri and WRS, Innscor Snacks Foods as well as associates National Foods and Irvines. Whereas National Foods continued on a disappointing path, earning full year pretax profits of just above US$0,5 million, the chicken business, Irvines, impressed. The latter contributed almost 80% of the equity accounted earnings of US$4,2 million shown on Innscor’s statement of comprehensive income.
Assuming that Irvines can consistently achieve such a good performance it will be a good business to list. Surely it offers investors what they so much desire but is lacking in the only listed poultry business, CFI?
The retail division, comprising the fast foods, SPAR corporate stores and TV Sales & Home contributed 36% to group turnover. The pre-tax margin for this category was 6% thanks to strong earnings performance from the fast foods and furniture/appliance retailer, TV Sales & Home. SPAR Corporate stores was the black sheep after ending the fiscal year in a loss position.
Incidentally, the stores were among the top performers during the transition period from Zimbabwe dollars to US dollars. They benefited from being able to fully stock-up ahead of other shops and for a time enjoyed higher margins.
There is now cut throat competition in the retail area with net margins averaging 2%. Factoring in the high shrinkage (theft of merchandise) rate which is reported to be on the rise, this sector is no longer as lucrative as it was in early 2009. Word has it that the problem of shrinkage is not unique to the SPAR corporate stores but is also prevalent at other retailers such as OK and TM. Management at Innscor attributes the losses in the corporate stores to “financial and management controls”. But in plain English the store staff (and to a lesser extent) customers are helping themselves to merchandise to supplement their income and the syndicates possibly include store management.  This writer’s boss remarked that at any time there were more workers than shoppers in most of these corporate stores. Good observation though somewhat exaggerated.
For Innscor, it seems that there is more value in the parts than in their sum. Colcom, for instance, is surely a good business and the same can be said about the bakeries and Irvines. Niloticus is said to be a well run company but nonetheless currently unprofitable and the downbeat outlook can be extended to SPAR Corporate stores and Innscor Zambia, to name but just two.
As things stand, there is better value for investors in Colcom but unfortunately the register is tight (Innscor owns 80%). It should have been the best first candidate for unbundling, not Niloticus.


Ranga Makwata