Can consumer goods companies benefit from the expected uptick? Consumer Products analysis February 2018
A sombre but improving economic outlook South Africa s 2017 growth recovered, but remains weak Weak and declining GDP growth Political leadership changes Weak credit growth and consumer confidence Low investment levels driven by weak business confidence The IMF has revised South Africa s GDP growth forecast downwards The IMF continues to lower its growth forecast for SA. It believes that growth will average 0.9% p.a. over the next two years. However, others are more optimistic, one forecast even sees growth at 2.3% in 2018. Drought and water crisis SSA will grow somewhat stronger than ly thought, at 3.8% in 2018. GDP 5.7 GDP 1.9 3.1 2.8 2 3.4 3.1 3.5 2.5 1.8 1.5 0.5 0.4 1.1 0.3 0.8 1.3 0.4-0.3-0.6 1Q15 2Q15 2Q15 4Q15 1Q16 2Q16 3Q16 4Q16 1Q17 2Q17 2007 3Q17 2008 2009 4Q17-1.5 2010 2011 2012 2013 2014 2015 2016 2017 2018-1.8-1.5 Source: StatsSA, Oxford Economics Source: StatsSA, Oxford Economics Page 2
EY tracks 12 listed consumer goods companies with collective annual revenue of R170bn Astral Industry Revenue AVI Clover Sugar Crookes Brothers Distell 8.9 Oceana Pioneer Foods Premier Agri-business 25.8 12.5 Quantum Foods Beverages RCL Foods Rhodes Foods Tiger Brands Tongaat Hulett 13.6 23.0 Food Diversified Page 3
Volumes and revenue growth remains pressured This was influenced by drought impact, and weak local and international slowdowns Revenue slowed once again, pressuring EBITDA and driving Headline Earnings growth down. 15 Volume change 10 5 Overall volumes rose 1%, and although up on the cycle, remain nevertheless weak. Revenue change 0-12 -6 0 6 12-5 -10-15 Food Diversified Beverages Page 4
Revenue declined again, down 3.4% (-4.6%) The variances between companies narrowed Revenue % change lowest highest -10-3.4 13.1 latest period 10.2 11.1-13 -4.6 27 In the latest reporting cycle, five companies reported single digit revenue growth, one a double digit rise, and five companies reported shrinking revenue. Revenue ZARbn 88.5 85.5 = industry average latest Page 5
EBITDA also saw sharp swings at a company level This was driven by drought and other pressures EBITDA/Operating Profit % change lowest highest -60-6.3 172 latest period -13 10.2 11.1-13 -7.1 27 In the latest reporting cycle, EBITDA was the metric that varied most visibly. Three companies reported a triple digit shift, four double digit changes, and four milder swings. EBITDA ZARbn 8.81 8.26 = industry average latest Page 6
Headline earnings contracted again in the latest six months although variances were wider, the pace of decline slowed Headline Earnings % change lowest highest -84-9.4 +707 latest period 10.2-86 -15.7 +300-13 In the latest reporting cycle, five companies reported lower headline earnings (including one loss), so on a simple count basis, more companies reported earnings rises. Headline earnings ZARbn 5 4.5 = industry average latest Page 7
Margins were squeezed, particularly for food producers Only one consumer goods producer reported a margin rise Margin change: Percentage points 1.5 Average margin % 0.0 12 10.4-0.1-1.8-1.6-1.0 latest -3.1-2.7-5.4 Average margin move Food Diversified Beverages In the reporting cycle, eight companies reported rising margins, in this cycle only one company reported a higher margin. 100-160 latest Page 8
Falling revenues and profits similarly pressured ROE ROE percentage point change lowest highest -7.4-4.2 0.7 = industry average Only one company reported a (marginal) rise in ROE. All others reported lower ROE s. 18.4 Industry ROE 14.2 latest Page 9
Capital expenditure fell 8.8% in the latest reporting cycle Average capex held steady at 3.4% of revenue, that is down from a long term 4.2% average. Capex % change lowest highest -40-8.8 +21 latest Six companies reported lower capex spend (four in double digit territory). Only two companies reported increases. Companies decreasing capex outnumber those increasing by a ratio of three to one. = industry average 3 2.2 2 1 0 Capex ZARbn 2 latest Page 10
Inventory and trade receivables are flat, reflecting stronger cash preservation focus % change lowest highest -31 +1.3 +9.4 trade receivables latest -14-2.0 +12-28 -0.4 +156 Inventory latest -8 +2.1 +31 = industry average Inventory ZARbn 31.0 30.9 Trade Receivables ZARbn 33.6 34.1 latest latest Page 11
Consumer goods companies remain squeezed by slow growth but the outlook appears more upbeat % change lowest -86-15.4 300 highest Headline Earnings -50-7.1 75 EBITDA -13-4.6 27 10.2 Revenue -17 11.1 22 Capex -8 2.1 31 Inventory Bottom line Revenue, EBITDA and Headline Earnings continued falling in the latest reporting cycle, illustrating weak economic conditions We expect the next reporting cycle to be stronger anecdotal evidence suggests both November and December saw strong sales growth Capex is slowing, in line with suppressed investor confidence (at least prior to November) Inventory levels and trade receivables were close to flat = industry average Page 12
Producers are focused on containing costs and managing through the weak economic cycle distribution efficiencies scale Africa Page 13
Consumer Products risk radar Lower risk Higher risk Page 14
Consumer Products risk radar: Macroeconomic uncertainties are numerous Macroeconomics Consolidation: Risk of competitors building scale makes competing more intense. Weak growth outlook: South Africa s growth is well below the required 5% level. The rest of Africa recovered late in 2017, driven by higher oil prices. Political instability: Change in political leadership through southern Africa has lifted business sentiment. Kenya will likely recover after a drawn out election cycle Consolidation Investment risk Political instability Foreign exchange volatility Investment risk: Includes under and over investment, country policy change risks. Foreign exchange: Two elements; (i) volatility and/or rapid depreciation in currency s trading value (ii) foreign exchange availability. Countries pegging their currency have insufficient reserves and restrict forex access (Angola, Nigeria, Sudan). Interest rates Weak growth outlook Interest rates: Rising interest rates make financing new investment more expensive and simultaneously makes end consumer product less affordable thus shrinking demand. Page 15
Consumer Products companies face more operational risks than any other Operational and Talent Labour unrest: Strikes and militancy push up business costs and places employee safety at risk. Utilities has three elements: (i) availability, (ii) price and (iii) risk of municipal cut-offs. Cost and pricing: Input costs are rising sharply due to currency depreciation while price rises stifle demand or make products uncompetitive. IT & security: Systems dependency and reliability are two largest IT risks. Cyber is becoming more critical. Supply chain has multiple elements: Cost, supplier dependency, capacity, reliability, lack of alternatives. Utilities Labour unrest Cost and pricing Omni-channel Acquisitions and integration IT & security Skills availability & retention Supply chain Cyber & IOT Skills availability & retention: Good talent increasingly expensive, strong reliance on executives and key employees. Acquisitions and integration: Ability to identify suitable acquisitions and incorporate acquired companies, which involves culture fit, leveraging best practice, managing retrenchments and systems integration. Page 16
Consumer Products risk radar: Sugar taxes and land redistribution are most critical Regulatory Regulatory encompasses Land Claims (food & beverage producers), BEE and transformation; compliance cost and complexity; rising cost and pace of regulatory change. Sugar Tax Labelling Legislation Land claims Litigation Compliance Pace of regulatory change Cost of regulation BEE and transformation Compliance Pace of regulatory change Labelling Sugar tax legislation Land redistribution Litigation BEE & transformation Cost of regulation Page 17
Consumer Products risk radar: The consumer is under increasing financial pressure Consumer Affordability: Low growth and high unemployment puts many products out of reach for lower income consumers. More middle class consumers disposable income is squeezed by rising interest rates and rising inflation. Competitor landscape: Companies face a more intense competitor landscape than ever before. This is particularly true for retailers, where the entry of global players has radically altered the local landscape. New entrants bring new products, operating models and often do so more cost effectively than incumbents. Reputational risks arise from all aspects of the company s interface with clients and other stakeholders. Product malfunction, product quality, poor service, lack of response and/or follow up to clients, perceived high pricing can all lead to reputational damage. Affordability Competitor landscape Product safety is critical as products that are potentially hazardous could result in injury or death. This is particularly critical for food & beverage producers. It has an immediate knock-on impact on reputation. Counterfeit goods such as illicit cigarettes. Reputational Product safety Page 18
With you today Derek Engelbrecht Consumer Products & Retail Sector Leader Tel +27 11 772 3567 Mobile +27 82 603 9014 E-mail derek.engelbrecht@za.ey.com Twitter derek_ey Graham Thompson Africa Analyst at EY Tel +27 11 772 3202 Mobile: +27 84 242 4454 E-mail graham.thompson@za.ey.com
Read our latest thought leadership To read our latest insights visit our building a better working world site. Local retailers benefit from strong real sales rise aided by consumer sentiment EY analysis shows that some of South Africa s largest retailers reported a strong uptick in real sales growth in the lead up to Christmas, with specialty retailers faring strongly, while Health & Beauty as well as Furniture & Appliances both growing sales at double digit rates Balance for profitable growth The balance of the consumer products (CP) industry continues to be disrupted. Companies know they need to change, and they are trying to change. But it s a struggle to keep pace with everything from fastchanging consumer needs to evolving digital technology, and many companies are over-relying on cost-cutting to try to bolster margins.. Page 20
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