In financial circles there is often debate on whether or not investment in conglomerates yields better value for investors.
By Kumbirai Makwembere
Those in favour assert that a diversified entity has lower investment risk as poor performance in one unit is compensated by good numbers from other operations.
However, those against conglomerates argue that capital is not allocated effectively and efficiently, which often results in a group not unleashing its full potential.
Their belief is that if a business continues to acquire more companies it ends up in areas where it does not have competencies. They further argue that investors can do a better job of diversification themselves as they have the opportunity to buy stocks of the best performing firms in the sectors they want.
Counters listed on the Zimbabwe Stock Exchange (ZSE) whose operations are classified as conglomerates include Aico, CFI, TA Holdings, TSL, Radar, Zimplow, Meikles and Innscor. One of these companies, Meikles Limited, published its results for the year ended March 31 2013.
This counter was once a market darling in the Zimbabwe dollar days until its messy demerger with Kingdom Financial Holdings Limited, which saw company operations and some officials being specified at various stages. The counter was at one point suspended from trading on the ZSE.
Its appeal to the investment community has also declined following revelations it sold the Cape Grace Hotel to Mentor Africa. Market players felt the disposal was not done in a transparent manner and that it was a way of stripping the company of a prized asset.
For now, let’s drop the company’s chequered history and focus only on its performance.
Results for the 12 months to March 31 2013 were below expectations as the company made a profit of US$5,4 million from continuing operations buoyed by a fair value gain of US$7,8 million. If we eliminate the fair value gains, the company would have made a loss of US$2,5 million. Meikles has operations in hotels; supermarkets; departmental stores; and agriculture.
Recently, they formed two new units: Meikles Resources, that will venture into extraction of gold, tantalite, chrome and iron ore, and Meikles Guard Services. Group performance was anchored by the supermarkets division that brought in 86% of the company’s turnover of US$391,3 million.
The EBITDA for the period stood at US$8,9 million. Again, supermarkets accounted for US$11,5 million, hotels brought in US$0,6 million and agriculture contributed US$1,2 million. Negative contributions of US$1,3 million and US$3,0 million came from the departmental stores and head office expenses, respectively.
Management attributed the poor numbers to high finance costs of US$7 million. They indicated that they were still trying to access their funds locked at the Reserve Bank of Zimbabwe (RBZ) which now stand at US$40,5 million. Furthermore, they disclosed that should they fail to access these funds, their interest bill would increase to US$8 million.
A closer analysis of the group’s performance shows that the conglomerate model for Meikles is not yielding the desired results.
The supermarkets division appears to be the only unit performing well. Results from this unit could have been far better had more resources been provided to it. Departmental stores continue to record losses due to the increased competition in the sector, deteriorating liquidity in the economy and low disposable incomes which is causing a shift in consumers preferring basics ahead of luxuries.
If anything, the group has over the years turned into a poverty inducer. Meikles now has a market capitalisation of US$71 million compared to US$61 million in 2009 when the economy dollarised. In comparison, the market capitalisation for OK Zimbabwe has grown from US$7,3 million in 2009 to its current level of US$294 million.
One would expect Meikles to have a superior valuation to OK as TM alone is almost similar in size to OK.
TM supermarkets has retail space of 51 000 square metres excluding the newly acquired Msasa site while the retail space for OK currently stands at approximately 70 000 square metres. Meikles stands a better chance of producing improved results if it focuses on areas it is profitable in, namely agriculture and supermarkets.
The ongoing rolling out of Pick n Pay will benefit the company. This might however prove to be a little too late considering the strides that OK has already made.
As for the new venture, mining is capital intensive, more so now when Meikles is struggling to capitalise its present operations. Meikles Guard Services is venturing into an already highly competitive field.
Meikles is not the only listed conglomerate that is failing to unlock more value for its shareholders. Examples that readily come to mind include TA Holdings, AICO, Star Africa and CFI. TA has operations in hotels, insurance and agro chemicals.
The agro chemicals division that comprises Sable Chemicals and ZFC has been weighing down the overall performance of the group. AICO could have been in a better position now had management not invested in Olivine Industries which continues to record losses.
Star Africa’s fortunes could have been in a better position right now had management not bought Red Star and concentrated only on sugar refining.
It would appear that conglomerates whose subsidiaries’ lines of business are related are doing well presently as management can closely monitor the value chains.
Management of related conglomerates had the advantage of controlling and benefitting from synergies within the value chain. Success stories include TSL and Innscor. The leadership of the struggling companies should consider selling off the loss-making units and focus only on their areas of competence.
For Meikles to dispose of their departmental stores will be difficult because of legacy issues. Delta focused its operations purely on beverages through spinning off Zimbabwe Sun, now African Sun, OK Zimbabwe and Pelhams.
It is beyond doubt that if they do this correctly, conglomerates can command a premium in their valuations. Management, however, should take a cue from Warren Buffett who asserts that if a business is not first or second in its sector then don’t buy it!
Just looking at TA Holdings, Cresta plays second fiddle to African Sun and Rainbow Tourism Group (RTG). Whilst Meikles Hotel and Victoria Falls Hotel have good ratings, the overall hotels portfolio for Meikles does not have the critical mass of African Sun and RTG.
Moreover, traditionally the strength of Meikles is in retailing; hence, venturing into mining operations will almost certainly not be a stroll in the park.