Aspen: why profits and margins are only half the story – Ted Black

Ted Black is a specialist on dissecting company reports, with a focus on Return on Assets Managed (ROAM). In this piece, he applies his analytical skills to pharmaceutical giant Aspen Pharmacare. With Stephen Saad at the helm, Aspen has weathered the Covid-19 storm and delivered pleasing preliminary results at the end of September. However, in this part one of a two-article series, Black looks at Aspen’s managerial team and the lessons that can (and should) be learnt in asset productivity. – Claire Badenhorst

Aspen … time to light an ATO fire under its Managers’ ASSEtS!

By Ted Black* 

A recent interview on BizNews was with Stephen Saad, CEO of Aspen Pharmacare. Headlined “Aspen in best position in 10 years”, it was mainly about future growth opportunity and profit margins. It didn’t discuss past performance in any depth.

Ted Black

However, look at trends through a ROAM lens, and to me it poses some interesting questions and insights to debate, as well as pointers for managers in all firms. It seems most people live and don’t learn. We repeat the same mistakes time and again but under a different guise. We “know”, but don’t “do”.

One thing we know for sure is that most people aren’t good with “the numbers”. Innumeracy and financial ignorance are widespread. They cascade from top to bottom of society – politicians, academics, and business. It’s in boardrooms, C-suite level and amongst most operating managers. Link it to wrong purpose, wrong measures and incentives for top management – share price and stock options – and you mix a potion that can be lethal for a firm’s health.

The two prime concerns of managers are strategy and productivity. Taking productivity first, they tend to focus on the first three lines of the income statement. Starting there, as you can see, Aspen seems a good business in a most attractive market sector.

Although the sales line has plateaued around R40 billion, Saad’s stated aim of keeping manufacturing costs down, generates a rising, mouth-watering Gross Profit margin of 50%. This raises the first question: Wouldn’t it help to know how much it results from lowering “ready-for-sale cash cost” of products – the most important lever from a profit viewpoint – and not charging ever higher prices?

Homer Sarasohn, a young engineer in the team General Douglas MacArthur formed to get Japan on its feet after World War 2, in his first briefing session with the cream of Japanese telecommunications talent, said, “There are two ways to look at profit. One, make the product for a cost less than the price at which it is to be sold. Two, sell the product for a price higher than it costs to make.”

They look the same … but aren’t. The first suggests the firm cares a lot about cost. The second says it will sell at a higher price whatever the cost. As he pointed out, the second is rooted in greed and selfishness. It ignores interests of customers and society which are just as important as profit. It can also lead to collusion with rivals to form “orderly market arrangements” to keep selling prices high – as has just happened in the US poultry industry. Worse still, it may damage quality.

The next line is the operating margin before interest and tax. This is the ROS% – the most important margin for operating managers. It has declined steadily since 2013 when it was a juicy 25,9%. Six years later it hit 12,1%. Last year it ticked up to 18,3%. Clearly, rising expenses of one kind or another have taken a big bite. However, margins are less than half the story.


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The only valid measures of management’s competence are “Resource In: Result Out” productivity ratios. With the ROAM measure, return on assets managed, the ratios all link to sales. They are customer driven.

With Aspen’s margins, every Rand spent on “Cost-of-Goods Sold” in 2010 generated R1,84 in Sales. In 2020 it was R2 – a 9,2% improvement. On the other hand, with Operating Expenses, a Rand generated R4,68 in 2010 and R3 in 2020 – a 36% fall in sales productivity. Apart from external, economic factors, it may explain some of the operating margin (ROS%) decline from the 25% that it used to achieve.

The reality is that most managers, including accountants, blindly accept the “common sense” of cost control and profit planning. Myopically, they miss the point that the value of the firm they work for depends fundamentally on the productivity of the assets they manage.

The prime issue facing Aspen today is its asset productivity. Over the last three years, for every Rand of assets, the firm generated only 29 cents of sales. That’s an Asset Turn (ATO) of 0,29. Multiply it with the ROS% and you have a return on total assets (ROAM) of only 5,3%. The next chart shows ATO’s impact since 2002 (just by the way, it closely mirrors Nampak’s ATO performance trend over the same period!).

Despite good margins, ROAM has fallen by 89%. The correlation between the two measures is a perfect 1.0. Next, look at the management of inventory and debtor assets.

The Cash-to-Cash Cycle is probably the most fundamental financial productivity measure of all. Every successful entrepreneur lives by it – especially in a “start-up” phase. Corporate managers aren’t as disciplined. All you get is a slap on the wrist if you miss a cash flow forecast. An owner goes bust or has to sell the business when he runs out of cash. As we have seen these last few months, it doesn’t take long for that to happen.

The Cash Cycle measures the time it takes from paying to being paid. The calculation is inventory plus debtors minus payables and measured as a % of sales. It tells you how much cash you need to run the business.

The next slide shows trends since 2010 …

The sales productivity of inventory and debtors has fallen by 45% since 2010 and the need for cash has risen by 119% to 51,4% of sales – almost R20 billion. Next, look at the cumulative Free Cash Flow trend over the same period (Operating Cash after Tax less Cash flow for investments):

The reason for the sharp rise from minus R25 billion in 2018 to minus R5.6 billion in 2020 is through the sale of the Nutrition business in Europe and the Japanese operations – not operating productivity.

In the end, these charts give a clear picture as to why “profit” and “margins” are less than half the story. But to take things further, what could another prime cause of the steady plunge in asset productivity be?

The question takes us to strategy. We’ll look at that next time …

  • Ted Black is a mentor and coach, he uses the ROAM financial model and a 100-Day Action Project method to pinpoint and convert fuzzy problems and opportunities into high-precision, team-driven projects. Their aim is personal growth; to jack up learning fast, and to measure with tangible results. They are management on a small scale – the rule is less talk, more action. Black has written and co-authored several books that include “Who Moved My Share Price?” published by Jonathan Ball.
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