Why Tiger Brands went from darling to dread for value investor Piet Viljoen and his take on SA’s Venezuela path

Piet Viljoen of RECM, known to many as one of the last purists out there in respect of value investing, engages in an interesting discussion with Biznews editor-in-chief Alec Hogg about Tiger Brands' decline and massive brand erosion over the last decade due to the poor acquisition strategy the company adopted when it was fashionable back in 2010. Viljoen argues that Tiger Brands is the poster child for the divorce of executive remuneration with company performance. The discussion evolves into the probability of SA going the Zimbabwe/Venezuela route, a look at the prospects of investment in South Africa after Covid-19 and Viljoen offering advice for the South African investor, should the predictions of a potential economic tailspin not materialise. – Nadya Swart.David Shapiro was singing your praises earlier; he said there isn't a better person to learn from about value investing than Piet Viljoen in South Africa. He says you're a purist. Are you still a purist in the value game?.___STEADY_PAYWALL___.I am. I'm one of the last purists out there – there aren't many of us left. I'm not sure there's many people who want to learn value investing at this point..It's been an incredible journey that you've had in the most recent years. And if value investors were to have found one stock that they would have gone for during all of this time (well, one of the stocks) – and I've asked you to have a look at Tiger Brands – I know you like it a lot. Maybe you could just explain to us why and what the heavens has gone on there?.I think I should just put a caveat to that; I used to like the stock a lot up until about 10 years ago. It used to be one of my favourite stocks. It's one of those businesses which are very fashionable today; the so-called quality businesses that have strong brands, operate at high margins, that have stable earnings. You know, these days most portfolios are filled with those sorts of things – globally – companies like Nestlé and that sort of thing. So, it used to be a company like that, but then it decided; instead of investing behind its brands, it would start making acquisitions mainly into Africa – so it's acquiring other businesses in Africa. That started in about 2011, 2012, and that's when I personally started getting very worried about the business and started divesting, because of the acquisition strategy. And that has turned out, now with a bit of hindsight – to have been a very poor strategy. So, if we look at earnings over the last 10 years since 2010 (so nine years worth of earnings) and earnings per share now, in September 2019 – at their last year-end – are lower than they were in September 2010. So, they've actually gone backwards over the past nine years..Just explain that again – their profits are lower now than they were 10 years ago? .On a per share basis, their earnings are lower now than they were 10 years ago, and so are their dividends. So you can see that there's been a massive erosion of the brand premium they used to be able to charge, because they didn't invest behind the brand and they rather chose to make acquisitions and buy companies in other jurisdictions. And sadly, that's been a death knell – well, not a death knell – but it's been the strategy of many South African companies and 99% of them have lost a lot of money with that strategy and Tiger Brands is no exception..So ten years ago (we've got it on the screen here), the share price was R157. Today, the share price is R155. So, if you put money into this company 10 years ago, you would be wishing today you'd put it into a bank account. .Yes, and it should have been the sort of company that compounded the earnings quite steadily over time, because it sells stuff that people want to buy and it can charge a premium for those things, because it's a branded business. And it should have been a fantastic outperformer over the past 10 years, but the corporate strategy (I think) failed them. There's one other point I'd like to make. If you read their latest annual report; the remuneration review runs for 25 pages (and you can't make out what's going on there), the CEO's review of the business runs for four pages, the section titled 'Addressing Material Stakeholder Interest' runs for three pages, and the company performance runs for eleven pages. So the things that are really material to shareholders; communication with the shareholders to tell them what's going on in the business – that runs for 18 pages, but the remuneration report runs for 25 pages and is so complicated – nobody can make out what's going on there. And despite the fact that EPS is lower now than it was 10 years ago, executive remuneration is up 60% over that period. So, it's a poster child for everything that's wrong..Everything that's wrong with capitalism? .No, with the way company executives are remunerated, which has nothing to do with performance of the business. Those things have been divorced. So, it's a poster child for the divorce of executive remuneration with company performance. .Just have a look on the screen now, Piet, if you would. This is from their latest set of results; the half year to the end of March. There we go; R557m has been written off with bad investments that have been done in the past. Now, why I mentioned capitalism a little bit earlier; surely capitalism is supposed to be all about managers working for shareholders, shareholders getting cross, and then bringing management to account. What happens in cases like this?.Well, I think there's a whole bunch of strands here, but I think the most important thing is that this poor performance is reflecting the share price. I mean, the share price has been underperforming the average company out there for 10 years now as well. So, capitalism works. Remember; the capital markets are there to allocate capital to those that deserve to take their capital and grow it over time and allocate it away from those who don't. And capital has been allocated away from Tiger Brands for 10 years now – the share price is a third of what it was five years ago. So, capitalism works, it just sometimes takes a long time to come to where it should be..Read also: A curious comparison of beleaguered corporates; Tiger Brands and Boeing.But I think coming back to the acquisition story; I think that's always a red flag when companies go out there and make big company-transforming acquisitions into different jurisdictions. The base rate of success in those sorts of acquisitions is negligible. So I think that's always a red flag and it's always a sign that one should probably walk away from the company. .But, remember also that at that time – in 2011, 2012, 2013 – it was very fashionable to invest into Africa. The investment banks were all running around selling African funds to investors, lots of companies were investing into Africa, and five years later – it was very fashionable to invest into the UK or Australia. Companies do these things when they are fashionable and the short-term shareholders approve them. The share price of Tigers went up when they bought Dangote originally, it was seen as an exciting development..The real question is, have they rock bottomed yet? And I've put that graph from the Tiger Brands presentation up on the screen; market shares under pressure across the board, in every single area of their business their market shares have fallen. Clearly, they haven't quite gotten to the worst spot yet..No, I don't think that you can say that that is the bottom, it looks like a continued decline. I think it's the same board or largely the same board in charge, largely the same management team in charge, and until you see a large scale peering out and refocusing of their business, investing behind the brand – going back to that strategy – I don't think you can say that it's reached bottom, by any stretch of imagination..Well Piet, what has reached bottom? Last time we spoke, we were quite excited about what looked good in South Africa. Well, we've had some big wipeouts. I hope you bought Sasol at R28..So what looks good; as I said a few months ago – before the whole Covid, I was excited about the prospects for investments in South Africa because I thought they had reached quite low levels. Obviously, through the market correction and crash in SA in March – they've become even cheaper. But all that means to me is that the prospect of returns are higher, but that comes with a big caveat and that is – if this economy actually recovers, and I think the jury's still out on that, that still needs to happen. So if the economy goes into a complete tailspin and we go down the Venezuela/Zimbabwe route – then you're not going to make any money at all from investing in SA. Even thouhg good banks, trading on PEs of 4 looks like investment bargains, but if we go down that route, then all bets are off. .How high would you put that risk?.I think that the risk is not negligible. I think there's at least a 20% chance of SA going down that road..That's very high – one in five. It's like a five to one shot at the races..It's a four to one – four to one. .That's even worse. What do you do then as a South African who's trying to protect your wealth if you have these big questions?.If you take a step back and look at the global landscape at this point in time, what is cheap? Emerging markets are cheap, both their assets and their currency are cheap, they are cheap in historical terms, long-term historical terms – super cheap. Small caps are super cheap; our currency is undervalued and our companies are undervalued – for very understandable reasons, but it's the same in Brazil, it's the same in Russia, it's the same in Mexico, and they've got other problems – different problems, not the same problems as us – but these assets are all cheap because they are emerging market assets and the world is turned off for those assets at this point in time. So, for the South African investor, I would allocate a portion of assets towards emerging market assets (of which South Africa is one), but I would probably have the bulk of my assets offshore, because when you build a portfolio – you don't put everything in the cheapest asset, because that asset has risks attached to it. I think you allocate some of your capital towards the cheaper side of the market, but you also – with a portfolio of assets – you try and diversify, you try and protect it as well. Therefore, I think a significant offshore exposure is sensible at this point..Len Giovanni wants to know; will the negative attitude worldwide and the US – in other words this new Cold War that is now coming to the surface between the US and China – going to affect Alibaba and Tencent and, by definition, Naspers? .It could. There are many ways in which it could affect it. I think if there is a massive trade war between the US and China; Chinese assets and companies could be constrained in how they operate in the world. That's a possibility. I think one also has to be cautious of the ownership structure of Chinese assets. When you buy a share in Tencent; you do not own equity in the business – you own a piece of paper which is a contract that the Chinese government has awarded to a Hong Kong listed entity, that it gives it some of the cash flow out of the Chinese business. That contract has not been tested under pressure in court – ever – and as trade pressures intensify, those contracts could become the subject of test cases in court which one might or might not win, I don't know. But I think that is a significant risk, which nobody talks about -but it is there. And I think that as an investor, you need to take cognisance of this risk. Make no mistake; Tencent is a wonderful business – a fantastic business. Alibaba – a fantastic business. And these businesses could be the next game changers. Well, they are already game changers, but they could be generational game changers. However, again; just like you wouldn't put all your money into South Africa because it is cheap, you probably wouldn't put all your money in those businesses because they are so good – because there are risks attached to them..Piet Viljoen – just before you go, Piet, how's the merger with Counterpoint going – is it settling down yet?.It's going very well, actually. It's a good team of people; we think broadly similar, although there are some different points of view, which is always very healthy. But we've been working very well together. As luck would have it, we started the merger on the 1st of March and then we had the whole Covid thing, so we've all been working remotely and communicating often and well and it's gone very well, and it's a good bunch of people. I'm enjoying working with them and I hope I can say the same for them..Piet Viljoen from RECM and the recent deal we were talking about – the merger with Counterpoint. Thanks Piet for joining us today.

Why Tiger Brands went from darling to dread for value investor Piet Viljoen and his take on SA’s Venezuela path

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