As one of South Africa-based PSG Asset Management’s equity analysts, my primary task is to identify companies that meet our criteria for investment. We are on the constant search for companies which have a strong moat, great management and which are trading at a margin of safety.[hidepost=9][/hidepost]
Key to building conviction in a potential investment’s margin of safety is a thorough understanding of the company’s business, the industry and environment it operates in. Even though the advent of modern technology has made the job of an analyst easier, and flattened the playing fields across the globe dramatically, in my view modern technology still does not fully replace some of the old fashioned ways of doing things, namely “seeing” and “feeling” the business and environment for yourself.
It is for that reason that we strongly feel, that a significant amount of value is to be had by meeting with a company’s management, its competitors, suppliers, and customers – both domestically and outside of our borders – as this allows us to better understand and contextualise investment opportunities at hand.
This “scuttlebutt” method of doing analysis is part of our process at PSG Asset Management, but is certainly no new invention and has been well explored in one of the great investment classics by Philipp A. Fisher, “Common Stocks and Uncommon Profits”.
Since many of South Africa’s listed corporates have either set up shop or have identified Africa, and especially Nigeria, as an area of future importance and growth, we decided that I should go off to Nigeria a fortnight ago in order to kick some tyres on the ground.
Nigeria, a country with a population of about 156 million people, currently ranks as the 7th most populous nation in the world and given its attractive demographics, a median age of 19.2 and high population growth rate of 1.94%, has caught the attention of many corporates looking to expand. This compares to South Africa’s population of 49 million, stagnant population growth and a median age of 25. Given Nigeria’s above average GDP growth (5.6% after inflation in 2010) it is poised to overtake Egypt and South Africa and become Africa’s largest economy in the not too distant future.
On this most recent trip, I met with various management teams of MTN’s West African operations, MTN’s main competitors such as Etisalat and Bharti Airtel as well as various CDMA operators, tower companies, distributors and other South African corporates such as Standard Bank, Shoprite, Nampak and Vodacom Business Africa. In what follows I will briefly discuss some of the key takeaways, both challenges and opportunities, from this buzzing country.
Those that have been to Lagos would well know what I am referring to, but once you step into the airport building at Murtala Muhammed International Airport, you know you have arrived in a different kind of Africa. The state of the airport buildings, the speed at which the immigration process flows and how quickly bags eventually end up on the carousels makes South African airports look remarkably efficient.
After having spent a few days in the country, I generally did not feel unsafe and therefore did not think that having been escorted from the airport to the hotel by a vehicle with blue lights and armed guards with AK47s was necessary. It does, however, highlight some of the possible and perceived dangers of doing business in the country.
Even though the place seems to be developing fast, as construction activity extends far beyond the horizon, the poor state of basic infrastructure was striking, be it water quality or the state of the roads (which led to traffic congestion which made that in Mumbai or Cairo pale into insignificance).
A common theme throughout the trip was the issue of power. The biggest obstacle the country faces is a constant and reliable electricity supply, as electricity from the grid is generally only available for 2-6 hours per day. This adds immense costs to doing business as the entire country is effectively being powered by diesel generators. Most people we spoke to stated that while the liberalisation of telecommunications and the arrival of mobile operators in Nigeria in 2001 changed the face of Africa over the past 10 years, they are hopeful that the supply of electricity can do the same over the next 10, just under a different guise. Just imagine what the supply of continuous, cheaper power could do for the country’s progress. To get some idea of some of the planned developments, take a look at www.nigeriapowerreform.org.
Other challenges to doing business in Nigeria include the lack of efficient supply chains one is used to in the West and even South Africa and the masses of red tape involved in doing business there. One retailer mentioned that whilst the importation of a container into South Africa from abroad involves around 7-8 processes, the same container would go through about 48 when being imported into Nigeria. At the risk of sounding ridiculous, another retailer mentioned that a truck delivering goods from Lagos to one of the cities situated around 500km east takes between 1 and 2 weeks to get there.
Wherever there are challenges, there are obviously also opportunities for the taking. As mentioned above, Nigeria’s favourable population demographics, rate of GDP growth and the country’s excellent access to oil and gas resources will stand select companies in good stead in years to come. As has been demonstrated in the mobile telephony business, which saw MTN’s revenues increase significantly between 2002-2010, pent up demand for certain products and services is immense, and this allows those companies able to entrench themselves at an early stage to make great returns for their shareholders.
Select companies, some of which we hold in our portfolios, that have been able to successfully entrench themselves to date and will further benefit from an uplift of the average Nigerian’s income include Heineken, the majority owner of Nigerian Breweries, Diageo, which owns Guinness and has been brewing beer in the country since 1962, MTN, British American Tobacco, DSTV and Nampak. Heineken and Guinness are set to benefit massively with the rise in average beer consumption, which at 8 litres per capita consumption per annum is one of the lowest in the world. We are aware that Nigeria has a large Muslim population of around 50%, nevertheless this compares to South Africa’s per capita beer consumption of 56 litres (JPMorgan, 2009). Even British American Tobacco, which is seeing a decline in sales volumes in developed markets, expects total cigarette volumes to rise in excess of 20% by 2014.
The South African retailers Shoprite and Massmart have not been in Nigeria as long as many of the other companies mentioned above, but their futures in the country appear promising too, as does that of Tiger Brands who recently entered the market through the purchase of UAC foods, a business with roots dating back to 1879. Driving around Lagos and exploring its local markets it is clear that UAC’s products are ubiquitous. As alluded to above, well-functioning supply chains barely exist which means that these companies have a major role to play in establishing these and using them to their own advantage.
While a mere week spent in Nigeria is by no means sufficient to become an expert on the country, it was a great experience to better understand how companies are dealing with challenges and opportunities on the ground. In addition, this visit will assist us a great deal in contextualising investment opportunities across a multitude of countries. Most executives, mainly expats, seemed excited to be doing business in this part of the world as it in a way puts them into unchartered territory and adds excitement to their personal, professional and their company’s development.
Nigeria is certainly not a country for weaklings as its complex and over bureaucratic system could cause the downfall of those not aware of what they are doing. However, the opportunities there are too big to ignore, and those companies which have been and will be brave enough to get in early and allocate capital efficiently are sure to reap rich rewards for their shareholders.
This article first appeared in PSG Angle is an electronic newsletter of PSG Asset Management (Pty) Ltd. To subscribe or read more, please go to www.psgam.co.za