SA Government – Undervalued Share?

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SA Government – Undervalued Share?

If you consider all the shares trading on a stock exchange (say the Johannesburg Stock Exchange), some will be highly valued. These are usually the shares of companies that are performing strongly and that investors are willing to pay a great deal for. Other shares though, will be undervalued because investors are unhappy with the company’s performance or its prospects. In this blog, I look at the SA Government as if it were a share. In my opinion, the SA Government is an undervalued share. Investors (voters, the press, the corporate sector, rating agencies and foreign investors) are giving the SA Government a lower rating than some other governments in the world and a lower rating than it achieved in the past. I explore the reasons for this and what the Government could do to improve its rating.

Is the SA Government poorly rated?

Firstly, I answer the question of whether the SA Government is in fact poorly rated. Voters gave the government a strong mandate in the 2014 elections with 62% of the vote. However, the trend has been negative (down almost 4% from 2009) and all indications are that it will continue with the rise of the EFF and sustained gains from the DA. The press has become increasingly critical of government over recent years with issues such as Nkandla, loadshedding, education, corruption and crime grabbing more and more headlines. The corporate sector is careful not to be too critical of government, but even here, there is more and more talk about the negative impact of strikes, education and loadshedding on the SA economy. Rating agencies have been downgrading SA’s sovereign credit rating consistently over the past 7 years, raising issues such as lower GDP growth, rising debt, current account deficits, strikes and delays in implementing the National Development Plan (NDP). Finally, the rand has depreciated by 50% over the past 10 years (37% over the past 5), which is a strong indication that foreign investors are rating the country and its government lower than it was in the past.

So, the SA Government is not highly rated at the moment compared to where it was in the past and also compared to governments of other countries (where credit ratings are higher and where currencies have not been as weak). Why is this? There are three main reasons why a share would be undervalued at a given point in time and the same reasons can be applied to the SA Government. Firstly, “investors” are dissatisfied with performance – they note problems with strategy, implementation and delivery. Secondly, “investors” are negative on prospects – they may be concerned about external pressures and the way that the “company” (Government) is positioning itself going forward. And thirdly, “investors” may either not understand the “company” well or may not believe “management” (Government leaders) and therefore may not give it credit for successes or potential going forward. I will address each issue in turn.

Performance of SA Government

There is no doubt that there are concerns amongst SA Government “investors” (voters, the press, the corporate sector, rating agencies and foreign investors) about the performance of the SA Government. The concerns are widespread and range from the high unemployment rate, education outcomes, electricity supply, strikes, crime and corruption. What often exacerbates this is that there is a perception that Government itself does not recognise the seriousness of issues and is not doing enough to address them.

As discussed in previous blogs, there are many areas of positive delivery, including on HIV & AIDS; access to housing, utilities, health services and education; reduction in absolute crime levels; poverty alleviation, etc. However, these successes tend to be overshadowed by the negatives.

A company that finds itself in a similar situation where poor performance overshadows successes would most certainly be underrated and would suffer from an undervalued share. Such a company would face mounting pressure from its investors to improve its performance. The company would be expected to address its strategy, improve efficiency, cut costs and/or strengthen its management. If such a company failed to deliver improved results, there would be pressure on it to change its management team and replace its CEO. If its fails to achieve this, it may be exposed to a take-over with investors supporting a rival company.

To a large extent, the SA Government faces similar pressure. It needs to address its strategy – there have been too many false starts and about turns with government programmes (RDP, OBE vs. CAPS in education, NSSS, NHI, NDP); it needs to improve efficiency – in so many areas, it should achieve much better outcomes with the money that it spends (including education, healthcare and the criminal justice system); it need to cut costs – there is too much leakage that currently occurs due to corruption, especially when it comes to tenders as well as a top-heavy executive (more ministerial portfolios than most other countries); and it needs to strengthen its management – there is too much cadre deployment in SA and we need more technocrats in government departments and parastatals that have the experience and skill to improve delivery.

If Government does not efficiently deal with these issues, there will be pressure to change management. We have seen reshuffles of the cabinet and changes of leadership at parastatals, but what concerns me is that often these changes appear to be more based on loyalty than on performance. This would have to change. Ultimately, there may be pressure on the President to resign, although this would have to come from within the ANC as opposed to from the SA Government’s other “investors”. Regardless, President Zuma has a term limit and will be replaced in 2019, unless something dramatic happens.

If the performance of the SA Government does not improve over the next number of years, it may be faced with a hostile take-over in the form of an electoral defeat. Although it is unlikely that the ANC will lose a general election anytime soon, it certainly risks losing outright control of the Johannesburg and Nelson Mandela Metropoles in the 2016 municipal elections and risks a reduced majority in the 2019 general elections. It is my opinion, that this risk of a “hostile take-over” is likely to galvanise the ruling party over coming years to improve its delivery.

Prospects for SA Government

The prospects for SA and the SA Government are a mixed bag at the moment. On the positive side, economic growth is forecast to be positive going forward, we have a growing population, we have food security, we have abundant natural resources and we have a thriving tourism industry.

The main negative from a prospects point of view is low commodity prices, which is an external factor outside the control of the SA Government. As a resource producer, we are very dependent on commodity prices for external revenues, which drive the currency, tax revenues and employment inside the country. Other negatives, which are within the control of Government are education, electricity supply, unemployment and crime. Arguably, the negative prospects for the country currently outweigh the positives, but there is much that can be done to change the situation.

A company that faces difficult prospects can do a number of things to improve the situation. When it comes to internal issues, it can address them in the same way as it would address its current performance (section above). When it comes to issues beyond its control, a company would have to reassess its business model and make the necessary changes. For example, if a company realises that it is making a product that is becoming obsolete (e.g. compact discs, print publications, film cameras) it may decide to abandon that product and/or move into a different product set – moving into music players or smart phones, building an online media presence, manufacturing digital instead of film cameras, etc.

A company that is seeing dwindling margins in a product, may decide to move downstream to capture more revenue – providing downloadable content to devices (e.g. Apple IStore), using existing technology to develop new products (e.g. Nokia moving over time from cables to cellphones), etc.

It is necessary for the SA Government to make similar difficult strategic decisions to reduce the country’s dependence on resources, whilst at the same time extracting more revenue from its resource value chain. The Government needs to identify certain global growth industries and encourage their growth and development within the country (e.g. renewable energy, biotech, software development, mobile telephony, etc.). Government should also do more to encourage the beneficiation of raw products that we produce in the country. Too much of our raw materials are simply being exported at low prices when more should be done to encourage industries that can turn these raw materials into more value-added products (e.g. steel, motor manufacturing, jewelry, electronics, etc.).

Perception of SA Government

There is no doubt in my mind that the SA Government suffers from a perception problem, a public relations (PR) problem. There is a much greater focus in the media on problems within the SA Government than there is on successes. Whilst I agree that we cannot hide from problems and failures and where these exist, they deserve to be publicised, I feel that in many cases the skewed nature of reporting in the SA press is due to a dysfunctional relationship between the SA Government and the press corps. Both sides are to blame for this relationship, but I believe the onus is on Government to repair this. In my opinion, there remain distinct racial overtones within the broader SA and this does shine through in some of the reporting that we see. However, this is made even worse by the fact that Governments appears to see the SA press as adversaries, as part of the opposition. I believe this is a mistake.

The media seeks to expose truth and even a biased media cannot publish blatant lies in the face of strong evidence to the contrary. At the same time, the media is more likely to react positively to honest and open interactions with Government (or with a company for that matter) than to spin. Even if the SA Government talks about problems or failures, the media is more likely to give it the benefit of the doubt and report on subsequent improvements if Government plays open cards at the outset. In addition, if Government starts to see the SA media as a partner going forward and encourages positive discourse, this could help to influence policy decisions and could help to improve delivery.

In my opinion, the SA Government should decide to reset its relationship with the press in SA. It should formulate a clear and concise message to the press. It should play open cards with the press on the problems and issues facing the country and should be honest about the mistakes that have been made and steps to be taken to remedy them. At the same time, it should also be open and honest on its successes and about positive prospects. I believe the SA Government would be surprised about how such an approach can benefit it.

When looking at listed shares, it is interesting to see how such an approach has worked for certain companies historically. A prime example is Sanlam, which was not a loved share in the early 2000s, but has become one of the most highly rated shares on the JSE today. During the early 2000s when Sanlam were struggling with a number of issues, it opted to play open cards with investors and to actively engage them. Over the course of a decade, Sanlam addressed many of the concerns that investors had with them, whilst continuing a very open relationship with its investors. As time passed, the company started to achieve more and more successes and were richly rewarded by a very loyal investor base. Many of the prejudices that existed towards them in the earlier days disappeared into thin air as delivery started to occur.

I believe, at least to some extent, the same is possible for the SA Government if it builds a more constructive relationship with its“investors” and improves delivery going forward.

Conclusion

The SA Government is an undervalued share and without positive steps, this is unlikely to change. The Government needs to improve delivery, enhance strategy and rethink its marketing approach. If this does not occur, it will remain undervalued to the detriment of us all and it may be faced with a hostile take-over at the ballot box (which could lead to uncertainty and turmoil for everyone).

However, there are so many low-hanging fruit that the Government can pick, which can improve all of our lives. With an improved strategy, including supporting world-leading industries and beneficiation, better planning, more efficiency (achieving better outcomes for the same money spent), less leakage (addressing corruption aggressively) and improved management (more technocrats), a meaningful improvement in delivery is not just possible, but very likely. At the same time resetting the relationship with the media and other “investors” can help us to walk this path together and allow us to give credit where credit is due. I remain optimistic.

 

What do you think of my view? Have you ever thought of the SA Government in terms of an undervalued share? Do you agree that there are low-hanging fruit that can be picked? Do you believe that the current government can achieve better delivery? Are you positive about the future?

In the mean time, keep your talking straight!

 

Marius Strydom is the owner of MLAX Consulting

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