31 March 2018


by Anchor

Global market jitters around the possibility of a trade war as US President Donald Trump moved to impose tariffs on Chinese goods (and China retaliated by announcing tariffs on c. 130 US products), rattled global markets in March and the JSE was no exception. The FTSE JSE All Share Index ended the month 4.9% lower (down 6.8% in 1Q18). Market heavyweights such as Naspers, FirstRand, Glencore and BHP Billiton, which together account for c. 31% of the JSE’s total market cap, all posted MoM declines (down 11.6%, 9.5%, 7.4% and 3.8% MoM, respectively), on the back of lower international markets and weaker commodity prices. Lower resources prices pulled the Resi-10 2.9% down for the month (-4.4% for 1Q), while Industrials closed 6.0% in the red (-9.2% in 1Q) and financials, down 4.4% MoM (and 1.8% in the quarter), gave back most of February’s gains.

Locally, optimism around newly sworn-in President Cyril Ramaphosa continued to contribute to the SA economic recovery as investor and consumer confidence improved. Ramaphosa has been moving quickly, first reshuffling his cabinet in February and firing (or demoting) several Jacob Zuma allies while also reinstating Nhlanhla Nene as finance minister. National Treasury also took the politically fraught decision in its 2018 budget to raise value added tax (VAT) for the first time in 25 years – a move seen by investors and ratings firms as necessary. Finally, in late-March, Ramaphosa suspended another key Zuma ally – head of the SA Revenue Service (SARS), Tom Moyane.

Meanwhile, on the economic data front, 4Q17 GDP growth reached 3.1%, while the SA economy grew by 1.3% YoY in 2017 – better than National Treasury’s expected 1% growth. The strengthening economic activity over 2017 was partly driven by a bumper maize crop and a recovery in other agricultural commodities following one of the worst droughts in SA’s history. Headline consumer price inflation (CPI) slowed to 4.0% YoY in February from January’s 4.4% according to Stats SA data, while MoM CPI advanced to 0.8% from 0.3% in January. Core inflation, excluding the volatile food and energy categories, was unchanged at 4.1% YoY, while headline CPI quickened to 1.1% MoM from 0.2%.

More good news came as SA escaped a third junk rating when Moody’s affirmed its investment-grade credit rating and revised the country’s credit outlook to stable from negative. Moody’s said that a weakening of national institutions was gradually being reversed under the new ANC leadership, supporting an economic recovery.

In a move welcomed by debt-burdened consumers, the SA Reserve Bank (SARB) cut its benchmark interest rate by 25 bpts last week (the first since July 2017). SARB Governor Lesetja Kganyago said that since the previous Monetary Policy Committee (MPC) meeting, risks to the local inflation outlook have subsided somewhat as the currency “… reacted positively to domestic political developments in the past months and was given further support following the recent sovereign credit rating announcement,”. MoM, the rand retreated slightly against the greenback – down 0.4%. The rate cut also provided some respite to consumers under mounting pressure following the 1% VAT increase (effective 1 April) and the hike in the petrol price.


We built our Exxaro position in March after the share price declined by 16% over two days, following the release of the Group’s FY17 results. The 16% decline translates into a R7.2bn reduction in the company’s market cap (from R45.6bn to R38.4bn). This rapid share price decline was principally driven by the company’s announcement of a move into what it termed “Businesses of Tomorrow” – renewable energy, water and food. In our view, the market fears that Exxaro is straying from its core competence of coal by expanding into these new ventures. There also seems to be a concern that these ventures will prove to be a poor use of its capital.

However, we believe that the R7.2bn market cap decline is an overreaction by the market. Exxaro has previously stated that if it were to move forward with all the projects in its pipeline for these new ventures, total capital spending would total less than R1.0bn. Wiping R7.2bn off the company’s market cap over fears of less than R1.0bn of capital spending therefore does not seem rational to us. Exxaro is currently trading at a trailing 5.8x P/E and a similar forward P/E multiple. Nearly two-thirds (65%) of those earnings came from its coal business, which has historically shown a much more stable earnings profile than a typical commodity business, due to its long-term contracts with Eskom – its biggest customer.

Whilst the move into new ventures must be watched closely, it is also important to note that Exxaro has a decent capital-allocation record over its recent history. Over the past year, the Group has:

  • paid down R1.3bn of debt to move to a net cash positive position;
  • distributed 69% (R4.502bn out of R6.525bn) of the proceeds from the Tronox disposal via a special dividend (R12.55/share); and
  • continued to pay ordinary dividends based on a 2.5– 3.5x dividend cover.

Although poor capital allocation going forward is a legitimate risk, the numbers discussed are relatively small and the market’s reaction appears unjustified, in our view. Risks to owning Exxaro, that we believe are bigger causes for concern, are the possibility of the Tronox-Cristal deal being blocked (thus reducing the value of EXX’s Tronox stake) and iron ore prices coming off. Based on our valuation, the coal business alone constitutes 93% of the share price (R102 of R109). Exxaro’s coal business earned R12.83 in FY17. Everything else (Tronox, SIOC, etc.) only accounts for R7 of the market’s valuation. There is also the potential for additional special distributions to shareholders as Exxaro disposes of its Tronox stake (Exxaro’s 23.66% stake in Tronox is worth approximately R6.0bn or R20/share before applying any discounts).

We thus view the share as attractive.


During the month, the Anchor Capital investment team took the decision to fully exit our long-standing position in globally diversified drug distribution business, Aspen. As a house we have been shareholders in Aspen since the inception of the Anchor Capital investment process, with the early investment experience an extremely positive one. However, over the last few years as circumstances have evolved, the operational performances reported by Aspen have failed to meet our expectations. These poor performances, and our lack of conviction regarding Aspen’s future direction of return on capital, have resulted in us removing the position from our high-conviction domestic equity mandates.

We see it as a prudent move since the increased top-line complexity of the portfolio, coupled with debt levels reaching uncomfortable levels, has increased the risk of the investment to a point where we feel investors are not being sufficiently compensated. The decision was not taken lightly, and we will continue to keep a close eye on developments with full cognisance of the fact that management are hard at work to improve shareholder returns.



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