Kagiso research boss on the PMI, and being perplexed at Remgro’s R2.3bn Caxton investment

It’s popular right now to paint a gloomy picture of the SA economy. But reality is different. Today’s release of the Kagiso PMI shows manufacturers are still positive – and as the long-term graph shows, their mood is miles better than it was five years ago. In this interview, Kagiso Asset Management’s head of research Abdul David puts current circumstances into perspective. Read through to the end of the interview where Davids admits to being perplexed by the announcement that Remgro will be paying R2.3bn for an effective 39% of Caxton. He says he cannot see the logic in the transaction. Remgro’s Jannie Durant declined our request for an interview saying he was tied up in board meetings today and the AGM tomorrow. Hopefully he’ll find time later in the week so that we can help Davids, and others, understand Remgro’s rationale. – AH       

To watch this CNBC Power Lunch video click hereAbdul Davids - Kagiso

ALEC HOGG:  The seasonally adjusted Kagiso PMI (that’s the Purchasing Managers Index here in South Africa) increased by 1.7 index points to reach 52.4 in November.  This brings the average for the first two months of this quarter to 51.6.  The improvement in the PMI was broad based and points to improving conditions in manufacturing.  Abdul Davids, Head of Research at Kagiso Asset Management joins us now.  Abdul, I guess the important thing is that if you’re above 50, it means people are optimistic.

ABDUL DAVIDS:   Yes that’s right, Alec.  What we have seen for the last couple of months, is that the PMI has hovered around the 50 level and with this move, slightly above 50 in November.

ALEC HOGG:   How do you guys feel?  You’re not the only Purchasing Managers Index that is available today.  It’s rather strange.  We didn’t have one for a long time and now we have two.

ABDUL DAVIDS:   That’s right.  I can’t comment on the other, which is the HSBC one.  I think there are some differences.  Clearly, we do a manufacturing only survey, with purchasing managers that are affiliated with CIPS. I think the HSBC one is slightly different in that they look at a total economy PMI, which incorporates other sectors as well.

ALEC HOGG:   So we should actually take both of them into account.

ABDUL DAVIDS:   I think so.  I think it’s been common practice in Europe and China for example, where you see two PMI numbers being released.  It will probably take some time in the domestic markets, but I think there will be general acceptance of the two.  What it does is probably give you a much better picture of the overall health of the South African economy, not just the manufacturing sector.

ALEC HOGG:   There were some reasons why we saw a slight uptick, not the least of which we’re doing in exporting into Africa.

ABDUL DAVIDS:  We think so.  What we have also seen is that the previous couple of months, maybe starting in July, we saw some influence of the strike season impacting in terms of the manufacturing sector.  In July in particular, we believe we saw some pre-buying and pre-activity, then obviously the significant slowdown that we’ve seen in the September/October periods as well.  With many of the strikes now having come to completion, we were due for a rebound and that is borne out by the GDP contribution as well, where we saw quite a significant drop-off in the third quarter contribution for manufacturing.  We do expect a rebound in terms of manufacturers’ contribution to GDP in the fourth quarter of this year.

ALEC HOGG:   So where do you think the GDP number could end.

ABDUL DAVIDS:   Well, it’s difficult to say, because there are a host of factors that enter it, but there’s a delayed impact in some of the resales that we’ve seen, but given the magnitude of the drop-off that we saw in the third quarter, I think we are due for quite a decent rebound in the fourth quarter as well.

ALEC HOGG:   That’s good news indeed and of course, we have Christmas around the corner.  Does that make much difference, do you think, to the way manufacturers are viewing the world?

ABDUL DAVIDS:  Not necessarily.  Bear in mind that the index is seasonally adjusted, so we have Christmas every year to an extent.  I think what has happened is that unfortunately, in the mining and platinum sectors, there is still significant strike activity and talks of strike activity.  I think some of the unions have delayed some of their strike action to next year.  However, bear in mind that last year was quite a weak base as well with the events at Marikana effectively dominating and carrying through until about January this year. I would think that with that weaker phase we should see a decent performance coming through in the next couple of months as well.

ALEC HOGG:   I suppose one does look at the seasonal adjustment in context and maybe you can give us some context from a historical perspective.  Where are we at the moment, relative to where we were: kind of in the depths of the last downturn – and the previous peaks?

The Kagiso/BER Purchasing Manager's Index - still in positive territory
The Kagiso/BER Purchasing Manager’s Index has recovered well from five years ago and remains above 50 so manufacturers  remain positive.

ABDUL DAVIDS:   That’s a really good question because one needs to look at the trend of our PMI and probably over a much longer period.  I think if you go back to the impact of the global financial crisis almost five years ago, we’ve actually recovered quite nicely (see graph right).  There was a period where we actually disconnected from many of our leading trading partners and we did particularly well for a period.  Clearly, domestic issues impacted our local performance.  Unfortunately, many of those domestic issues were strike related or labour related in terms of their nature.  To an extent, it has been softened by the weakness of the currency, so if one looks at the PMI’s released today across Europe for example, the China PMI: they’re almost in line with our local PMI in terms of the absolute number.  We have rebounded a bit from the lows that we saw very recently, but I do still think that we have some structural issues in our local economy that translates into us not realising our full potential in terms of the manufacturing sector as well.

ALEC HOGG:   How do we apply this knowledge that you’ve shared with us today, to our investment portfolios?  Do we buy more? Do we stay with the Johannesburg Stock Exchange with local shares?

ABDUL DAVIDS:   That’s a very difficult question to answer because there isn’t a direct relationship between our stock market and the manufacturing sector in particular.  If one looks at the listed manufacturing businesses there are actually very few, especially South African focused manufacturers.  Bear in mind that our stock market is hitting all-time highs and it has been quite a decent bull market, especially coming out of the global financial crisis.  Clearly, what it is telling you, is that a lot of our businesses and companies are doing very well – most notably companies that actually have a global flavour to them, so the big multinationals: SAB and BTI.  Even the likes of MTN and Naspers that doesn’t really…first of all, they’re not manufacturers and secondly, they have very little exposure to South Africa so there is a clear disparity – almost a dichotomy – between the local stock market, the local economy, and the manufacturing sector as well.

ALEC HOGG:   Abdul, you do look after research for the asset management company.  You’re also part of Kagiso.  Just a small point: you would have seen the de-listing of Kagiso in the media recently and you would no doubt have seen the deal on Element One where Rembrandt – who are influential shall we say, at Kagiso – are now going to be influential at Caxton as well.  Can we join the dots there?

ABDUL DAVIDS:  It’s very difficult for me to comment because I haven’t been privy to any information.  What I can say is I think the Caxton transaction in particular, has probably been prompted by the fact that Element One was due to unbundle the Caxton stake.  I think they announced that on the 4th of November, so in a way this transaction is a way to potentially prevent that from happening.  Having said that, I think it is surprising to see Remgro’s hand in all of this.  I don’t think that there’s currently a relationship – or not one that I know of – between Remgro and Caxton.  I think the Caxton business – bearing in mind that they do have a stake in Times Media group for example – is very different to Kagiso Media and even Sabido, which owns eTV that Remgro currently has a stake in.  I therefore find it a bit surprising that they would go from that into a print media business.  There are no clear and obvious synergies – potentially – between the two businesses.  Secondly, I think that if one looks at the impact of this transaction…clearly, Terry Moolman will entrench his control, so there isn’t a change of control for Remgro potentially after all the transactions have been implemented.  Again, I find it very difficult to see the rationale behind Remgro’s involvement.

ALEC HOGG:   That was Abdul Davids, Head of Research at Kagiso Asset Management.

Comment from Coenraad Bezuidenhout, executive director of the Manufacturer’s Circle:

The recovery in the Kagiso Purchasing Management Index’s overall rating from its fragile position at 50.7 for October to 52.4 for November shows that while the sector was on the rebound subsequent to the prolonged strikes in the automotive sector, it is now back on to a consolidation path. Aside from the relative absence of disruptive industrial action, two factors lifted manufacturing’ performance:

  • Demand from faster growing African export markets like such as Kenya, Angola and Nigeria
  • The festive season, which although making a muted contribution to manufacturing pick-up in light of the pressure experience by consumers, still provides reason enough for manufacturers to make extra provision.

The slight deterioration in the expected business conditions component of the index (from 62.2 to 59.8) may also be due to the seasonal phenomenon, as manufacturing demand typically drops off going into January, but may also be because of fears that industrial activity may again pick up in the new year.

Although the employment component has improved marginally (to 50.8 for November) placing it just inside expansion territory, more time is needed for new trends to announce themselves. From research undertaken by the Manufacturing Circle it appears evident that mechanisation may be a real threat, with 29% of companies surveyed indicating a likely reduction in their workforce over the next three months. That figure increases to 37% over the next 12 months, with 7% expecting reductions of 15% or more over the same period.

To reverse this picture, we do not only need to see improvements in productivity, but also reductions in administered costs, easing of supply-side constraints (rail capacity, water and electricity supply, high-grade coal etc) and improved market access. Further disruptive and protracted industrial action will result in further job losses.

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