Navigating equity risks amid loadshedding

By Ross Biggs, Head of Equity at M&G Investments

Ross Biggs, Head of Equity at M&G Investments

The high intensity of power supply disruptions has caused material damage to SA companies through lost manufacturing time, trading hours and sales, and it is not expected to end anytime soon. However, its impact differs across sectors and companies. 

For some, loadshedding results in operations grinding to a complete halt for hours, while others can continue to operate and benefit from their competitors’ inability to do so.

From an investment perspective, the question is: how does one navigate the risk that loadshedding presents, and what are the investment opportunities?

Considering valuations first, then impact on cash flows

Many JSE-listed companies have reported very different levels of revenue losses and erosion of profit margins resulting from the energy supply disruptions. Yet we must look beyond these basic measures. Companies are at different stages of mitigating these losses, some being well-advanced. At the same time, some have opted for cheaper, shorter-term solutions and others for more costly, longer-lasting alternatives; of course, some are more exposed to Eskom than others.

When deciding to invest in a company, we first assess the quality of the company and the robustness of its cash flows. Using our long-standing valuation-based process, we assess whether the company is over- or undervalued. It is then important to carefully consider how the company’s future cash flows might be affected over the next five to 10 years. For some companies, there might be a permanent loss of cash flows, while for others, it may be only temporary.

Companies with strong balance sheets could be well-placed to take advantage of the opportunity presented by loadshedding.

Strongly capitalised companies have the potential to leverage the opportunity brought about by loadshedding because they are able to invest in alternative energy sources to mitigate the risks and ultimately benefit from this competitive edge by taking market share from companies with weaker balance sheets.

Equally, they are more likely to be able to continue with any planned projects to expand or improve efficiencies, gaining more advantage. This period of loadshedding is likely to see the stronger companies only get stronger and the weaker companies weaker. A disproportionate burden may be placed on smaller businesses or those with fewer options than well-capitalised businesses.

One locally listed company that we believe is making the best of the situation is Omnia, which specialises in mining explosives, agricultural fertilisers and industrial chemicals. Omnia’s cash reserves, innovation in ‘green’ ammonia and extensive solar power investment sets it apart from competitors.

Another example is MTN, which has extensive experience in countries with very weak power grids, as well as the cash to continue investing to achieve 100% coverage during outages, and the ability to increase its tariffs. Another example is MTN, which holds the cash reserves to invest in alternative energy, as well as the experience and learnings from its footprint in other African countries that have similar energy issues.

There are other companies also set to get ahead from the current crisis, which we’ve included in our portfolios. As always, in difficult times, “cash is king”, so apart from valuation measures, investors should look to those businesses with the cash to invest to navigate the conditions best.

Visit the official COVID-19 government website to stay informed: sacoronavirus.co.za