We look at which businesses are most geared to a stronger local economy, thus benefiting the most - though that upside may be long dated, requiring more patience, says the author. Image: AI Lab
By Tinashe Hove
With the market having rallied strongly coming out of the South African elections, a lot of good news has now been discounted in share prices and valuations. Fresh in investors’ minds would be the experience from Ramaphoria where optimism faded as earnings and cash flows disappointed, with the market realising that an expected improvement in fundamentals did not materialise.
With a focus on the industrial sector, we outline our thinking on which stocks are likely to start realising the benefits of the new dispensation earliest - as opposed to those whose upside is more long dated. We also look at which businesses are most geared to a stronger local economy, thus benefiting the most - though that upside may be long dated, requiring more patience.
The early birds:
Much like discretionary/clothing retailers, automotive dealers can be expected to capture the improvement in consumer confidence well head ahead of an observable improvement in underlying fundamentals. Coupled with the interest rate cuts that commenced in quarter three and are set to continue with a tame inflation outlook, there is a visible pathway to converting these tailwinds into firmer consumer confidence, in turn automotive sales.
Within the auto sector, we favour Motus who may have over-earned during the peak Covid-19 years but allocated those surplus cash flows sensibly – they put the cash to work by diversifying into new markets and segments. Having sold more than their fair share of cars during the pandemic, Motus’ market share has since normalised if not over-corrected. Their suite of brands and their price point sits right above entry level, hence, is well positioned to benefit as fundamentals improve.
Within the leisure sector, we have a constructive view on Southern Sun. In-bound tourist arrivals are recovering towards pre-Covid levels. However, this strong recovery has been observed on the high spending, affluent end of the market, with the middle and value segments still lagging – a recovery in these two segments will drive the next leg up in occupancies.
On a regional basis, the Western Cape has been strongest, with high occupancies already allowing for higher day rates. The inland market has been the laggard, with low occupancies, and consequently low daily rates – again, this is where the opportunity lies. With South Africa set to host a slate of major international events, most important of which is the G20 summit next year, the recovery for the inland market is already on the horizon.
Waiting for big things:
High on the list of priorities for the Government of National Unity (GNU) is the restoration of key national infrastructure like water and transportation. Further, private capital which has been sitting nervously on the sidelines is set to be deployed, with local industrialists resuming investment in manufacturing and primary production capacity.
Invicta is in the box seats for this, supplying capital equipment, components, replacement parts and servicing to earthmovers and heavy industry. Similarly, Hudaco, whose primary business is the importation and distribution of automotive, electronic, and industrial consumables, is favourably placed for a pickup in demand at both large industrial and individual consumer levels.
For Grindrod, the actual inflexion in cash flows may follow only from the actual implementation of the reforms. Within its “Freight Services” division, the ports and terminals operations are geographically unique to each location, acting as a natural monopoly. Upstream from the ports are the diversified logistics operations that span from cross-border transportation, rail, container handling, to clearing and handling. Together, these assets act as “toll”, levying a “fee” on the increase in economic activity that is expected to follow.
Looking across the valley:
For the above-mentioned, near-term earnings are unlikely to show the green shoots from the reform narrative and risks abound, hence it is much too soon for the improvements to be evident in the numbers. However, investors can take courage in their convictions that these are sound businesses, whose cash generating capability today underpins the valuations we see today, with upside optionality should the GNU’s performance meet or exceed expectations. It is certainly worth the wait.
Tinashe Hove is an Industrials sector analyst at Laurium Capital. Laurium Capital managers the PPS Stable Growth Fund.
BUSINESS REPORT