In her opening remarks at a recent event held by her company, Chief Financial officer Faith Misozi Mukutu was candid enough to advise shareholders that comparing the 2018 results with the 2017 results would be difficult because of the change in financial year that had been implemented by the sugar company. Her firm felt it prudent to host shareholders a week before the Annual General Meeting slated for 22nd November 2018.
As a recap, 2017 saw the company publish only 5 months’ worth of audited financial data in a move that saw the company change its financial calendar. When asked for a quick comment as to why they had to do this, Faith indicated that it was part of LuSE requirements. No doubt the CFO lost sleep trying to condense and amplify 5 months’ worth of financial data. This meant that circa 2018 would see a full 12 months’ worth of audited financials in their published annual report. The dilemma of this scenario was that it would be like comparing apples with lemons. A further challenge that Faith highlighted was that even though the temptation would be there to ignore the outlier (five months of 2017) and consider prior years in the comparison, this is an agricultural company which has seasons of harvest that dictate how the financial story of the firm is told for a period.
Our approach to analysing the company involved considering the financial ratios that were investor related but would be able to give a reflective picture of what truly was the company’s value creation preposition. However, we do caution that Faith’s concerns cannot be ignored.
Under profitably, Gross profit margin remained above 40%. However, a comparison of normalized years 2016 and 2015, it is probable that the change in financial year aligned to different seasons have seen the gross margin tapper down from the high 40 percentile to the lower 40 percentile. EBITDA margin returned to above 10% which was shy of 1.6% from the 2015 peak of 11.6%. Operating profit continues to range between 16% to 18%. Net profit margin is beginning to see an upward ascent following its tapering down in 2016 to around 6.6% in 2018. Overall earnings have increase by 30% over the last 2 years.
On efficiency, there are signals that indicate that there is a constraint in the company’s working capital cycle. Of note is the increase in holding stock (inventory) indicative of bottlenecks in the supply chain (increased inventory days). A side conversation with the head of supply chain revealed that the company was taking a technological approach in enhancing their supply chain and logistics. They envisage being able to project supply chain bottlenecks for up to 5 years ahead giving them the upper hand when it comes to smoothing out these challenges. Positively though, Faiths’ team improved their receivable days indicating that money is coming into the company at a quicker rate.
On risk, debt to equity (Gearing) ratio has almost doubled over the last 2 years. This has seen the ratio increase from 76% in 2016 to 145% in 2018. This was an 82% increase in non-current liabilities over a 2 year period. This is significant and the debt burden is solely attributed to the need to capitalize on their recently concluded projects. Conversely, their capital structure appears to have shunned short term debt as it has seen a 96% reduction over the last two years.
The composition of the debt includes: Syndicated bank loan and related party loans these facilities are expected to mature in 2021. The distribution of these loans is 17.3% for the Syndicated bank loan with an effective interest rate of 14.21% and 82.7% for the related party loans (composition of aggregate and dollar loans) with interest rates ranging from 13.5% to 15.6% on the Kwacha and 5.11% on the dollar facilities.
Syndicated Bank Loan
According to the notes to the financials of the 2018 AR, “the syndicated Zambian Kwacha denominated loan from four financial institutions was first drawn down in July 2015 in order to finance the Product Alignment and Refinery (PAAR) capital project. The final draw down was made in August 2016. The four participating banks are Barclays Bank, Stanbic Bank, Citibank and Zambia National Commercial Bank Plc. The loan is repayable in eight equal instalments commencing in January 2017 and attracts interest at the ruling 182 day Treasury Bill interest rate at the beginning of each interest year plus a 2.5% margin. The weighted average effective interest rate on the loan for the financial year is 14.21% (August 2017: 23.15%). The loan is secured by way of a first legal mortgage over all fixed property to which the company holds title, a first fixed charge over all property, plant and machinery, a first agricultural and floating charge over agriculture assets, crops and stocks and assignment of all present and future rights and claims to material contracts, insurances and all other receivables”.
Related Party Loans
The related parties that provided financing included: Illovo Group Financing Services (“IGFS”), Illovo Group Marketing Services Limited (“IGMS”), East African Supply Proprietary Limited (“EAS”), Illovo Sugar (South Africa) Proprietary Limited (“ISSA”) and Czarnikow Group Limited. The loans with related parties forms the bulk of the debt on hand. On the other, these are facilities that come with great flexibility in altering the payment terms should the company face challenges in meeting interest rate obligation. However, it does appear rather complex and any shareholder holding to understand this particular debt structure can easily find themselves being blown in the water.
On liquidity, in 2016, the company faced liquidity challenges that saw it with acid ratio of less than 1 which was indicative of pressure on cash position for purposes of meeting short term obligations. However, their current ratio as at 2018 is now at 1.38 which indicates that they have more current assets (more cash) to meet short term debt (current liabilities)
The company has maintained a steady return on sales that has ranged between 6% to 8%. Investor ratios such as return on capital employed has reduced from 19% in 2016 to 14% in 2018. This however can be attributed to the change in financial year which now aligns to different periods of the agricultural season.