It's a great time to be in the export business. The tumbling rand may have sent inflation shock-waves through the economy, pole-axed sentiment and given rise to a commission of inquiry, but it has been good news for anyone selling their wares in hard-currency markets.
Nearly all the rand hedge stocks were able to report sharply higher revenues in rand. Add to that stronger commodity prices during the period under review and there's little wonder these companies were able to report turnover figures 80%-plus higher than the previous year.
Consider the platinum producers. At the beginning of 2000, platinum was trading at US420/oz. A year later it was at $608/oz, a spectacular 48% rise. It managed to hold this level before a precipitous fall around the middle of 2001. (Bear in mind the most recent data available for the ranking is up to September 2001. In other instances the data is for the last available financial year, often the year ending December 2000.)
Now consider what the rand did during this period. It began 2000 trading at R6,12/ and ended the year at R7,58/ - a 24% drop. By the end of the third quarter of 2001 it was at R9,01/, a further 16% depreciation.
The result: Anglo Platinum's and Impala Platinum's turnover up 84% and 97% respectively. (Analysts say platinum's recent price weakness isn't all bad news as it will boost demand in important jewellery markets such as Japan and China.)
It was a similar story for fuel and chemicals company Sasol, which took advantage of rising oil prices in the second half of 2000 to get its turnover up 60% on the year before.
Even in instances of falling commodity prices, the depreciation of the rand put some gloss on results. Weathering a sharp fall in demand for paper products in key North American and European markets, Sappi's revenues in dollar terms shrank 11%. Rand-denominated turn-over was up 10%.
Last year's SA Giants table ranked SA's largest companies by asset size. This year the ranking is based on turnover, in line with similar rankings around the world. There is an argument for both, but ultimately it is sales (in the case of banks, interest income as well) that is the reason companies exist.
Overall, aggregate turnover for the companies ranked in this year's edition of Top Companies increased 9,87% compared with the year before. Aggregate net profit was better, increasing 15,7% over the year before, but total assets were up 18,7% to R610bn, implying a worsening return on and use of assets.
Among the Top 100 industrials, the compound annual growth rate of turnover over the past 12 years is 10,4%. Assets, on the other hand, grew at 12,5%/year over the same period.
At the top of the ranking is BHP Billiton, whose revenues are combined sales of BHP and Billiton, now merged. At R143bn, BHP Billiton is streets ahead of Anglo American with revenues of R123bn. Both dwarf the revenues of Sanlam in third place, but that's to be expected of SA's only two companies to make it into Fortune's Global 500 ranking.
The combined revenue figure for BHP Billiton and Anglo is equivalent to 17% of SA's gross domestic product (GDP). The merger of BHP and Billiton created the world's biggest mining company, usurping Anglo's top-dog status. Both enjoyed the effect of the falling rand on their rand-denominated turnover growth.
But terrific turnover numbers - particularly turnover growth numbers - create problems, not the least of which is that investors may expect similar performance in the following year. Investors aren't that daft, say companies. A 57% depreciation in the rand in a single calendar year is not a recurring event.
After the rand's sharp fall last year, the question of how to handle translation gains (when hard-currency earnings are stated in rand) is a hot topic. Some companies don't even bother to point out the fact. In their minds it's legitimate profit.
It's more complex than this. Generally Accepted Accounting Practice (Gaap) is vague on the matter and open to interpretation. Which exchange rate should be used to convert offshore revenues into rand? Companies can choose an average for the year or the value at the end of predefined periods. Exchange rate volatility will have a different bearing, depending on the approach taken.
Gaap also draws a distinction between integrated entities and nonintegrated entities. The former are closely linked to the SA operation; the latter are in effect stand-alone operations. This, too, is open to interpretation.
It makes comparison of results between companies difficult. And it can make operations look better than they are.
Lastly - important in the Enron era of companies trying to win back investors' trust - is it legitimate and reasonable, even if it is technically okay, to reflect figures without separately reflecting the translation gains?
The problem was in evidence recently when three of the big banking groups reported their earnings. Nedcor, FirstRand and Standard Bank Investment Corp (Stanbic) all at least made detailed disclosures of the impact of the sharp fall of the rand in 2001. But the translation gains, which ran into billions of rand, were handled differently in each case. It requires a sharp-eyed investor to work out exactly what's going on.
The accounting rule for banks is that if their offshore operations are integral parts of their SA-based business, foreign currency translation gains on the capital that is employed in these offshore must be included in the income statement as profit. This is not the case if the offshore operation is independent, under its own banking licence, in which case the translation gains do not feature in the group's income statement but go straight to its balance sheet as nondistributable reserves.
Nedcor's and FirstRand's offshore activities are integrated with the local operations, meaning currency gains were included in the earnings of both groups . Stanbic's offshore operations are independent, so its R4bn in translation gains did not feature in the group's income statement but were passed to the balance sheet, bolstering the net asset value of the group.
Fair enough. But then things begin to get murky. Nedcor stripped out R400m of its R1bn translation gain, increasing its provision for bad debt. Not only does this make it difficult to keep track of how the group accounts for translation gains, but there is the risk that in a few years, if the going gets tough, the group will simply decrease its provision for bad debt and give its earnings numbers an artificial boost. Who will remember that the bad debt provision was inflated because of the "luck" of the rand's fall in 2001?
Remember, too, that Nedcor decided the exchange rate at its financial year-end was abnormal and instead got its economists to come up with a more appropriate level - R10/, in their educated opinion. What are shareholders to make of this? And how can anything be comparable if there is no consistent application?
FirstRand didn't mess about. It passed the full R650m gain through its income statement but stated the profit as exceptional. That's the honourable thing to do, one would think, but since the JSE Securities Exchange no longer recognises exceptional items the gains are, to all intents and purposes, real earnings. A perusal of the financials may provide a clear picture but JSE data, such as FirstRand's price:earnings ratio, will be misleading.
Equally importantly, it shows how flawed any kind of comparison with Nedcor is now.
Stanbic took its entire gain into reserves. The point the group makes is that this is a real increase in shareholder capital and should be taken into account when valuing the Stanbic share. If nothing else, Stanbic should be rewarded for converting shareholders' funds into hard currency.
The mining companies did not fare much better. In its latest financials, Northam took its translation gains as sundry revenue; Impala Platinum disclosed other income and an exchange adjustment; and Anglo Platinum took an undisclosed amount through the income statement.
The debate is not that companies should not benefit from a fall in the rand. Shareholders should be looking to see whether their investments grow in hard-currency terms as this is the ultimate measure of wealth preservation. If companies have had the strategic foresight to diversify their earnings into currencies that perform better than the rand, then they have every right to reflect this fact in their financials.
But huge earnings growth arising from the fall in the rand, which follows through to improvements in the share price, should be viewed in comparison with the currency's decline. The numbers look good in isolation, but did an investment in such companies deliver a return that at least outperformed the rand's slide?
That aside, the real issue is that companies adopt a uniform and consistent approach to accounting for translation gains. Taking some of the benefit now and holding back some for later, as Nedcor has in effect done, is misleading to shareholders. Last year highlighted the problem dramatically.
Another highlight from the turnover ranking, specifically big changes in turnover figures, is the performance of a number of the technology companies. Yes, they too benefited from the fall in the rand, but big swings in turnover numbers indicate signs of life as well. Corporate activity - some of it market-pleasing, some of it still with a question mark - points to a sector that is reshaping itself after the global loss of confidence in technology stocks. Others are just getting on with the business of IT service delivery despite investor wariness.
IT service group AST is a good example; it has achieved its growth organically. Its turnover was up 47% to R1,5bn in the year to June 2001. In the six months to December it repeated the feat. Management's focus on securing outsourcing contracts has created a high level of recurring revenue which, at 53%, underpins a strong cash flow.
Even the beleaguered Internet players poked their heads out. E-commerce company Aqua Online's turnover was up 184% to R76m in the 12 months to June last year. Aqua's focus on serving the online gambling industry from its UK operational base paid off. Offshore income now represents 69% of turnover and 84% of gross operating profit. The cost benefits of SA-based development follow through to a respectable 26% operating margin. Make no mistake, this is a small cap in an exceptionally volatile sector, but at least something is emerging from the ashes of the dot-com bomb.
Moneyweb's turnover grew 170% to R10,8m for the financial year to March 2001 (latest figures). The provider of financial and business news claimed back then to be the fastest-growing Internet operation in SA.
Despite big gains in turnover, many in the tech sector still have a way to go to win investor confidence.
Interim results for MGX for the six months to December 2001 show another strong increase in turnover - up 131% compared with December 2000. Operating profit was up 91% for the same period. Of concern to shareholders, though, was that earnings per share did not move. In four years to June 1999, MGX's strategy of focusing on data storage delivered 52%/year EPS growth. Then came aggressive diversification, including the acquisition in 2001 of ailing CCH. EPS have not kept pace. Time will judge whether this is an example of the classic business error of losing focus or a visionary repositioning for turnaround in IT spending.
The numbers also look good for electronic transaction group Prism; turnover is up 139% in the 12 months to June 2001. They are not quite as impressive when one notes the R436m (238%) increase in total assets. Operating margins slumped to 18,6% compared with 31,4% in 2000.
Other stocks worthy of mention include Imperial, which lifted its turnover 51% to R22bn in the 12 months to June 2001. Revenues were again up in the six months to December 2001. Market concerns about sustaining historical performance persist, but CEO Bill Lynch is adamant he's around for a while and each of the divisions has strong management to ensure that "satisfactory" growth is maintained.
Building construction firm Murray & Roberts is conspicuous for the wrong reason - its turnover shrank in the period under review, but it would be uncharitable to draw any particularly dire conclusion from this. The local construction industry has had to endure a particularly harsh operating environment and Murray & Roberts has done well, all things considered, to curb costs. However, it benefits from its holding in Unitrans and has recently been able to buff up its results with currency translation gains. Strip out these elements and it is clear that a turnaround in construction activity cannot come too soon.
Just how bad is the sector? Basil Read's turnover slumped 35% in the six months to June 2001. It kept a lid on costs, but only to hold in even greater losses that it had endured in the six months before. Buildmax, a small-cap supplier of building materials, didn't escape either. Its turnover was down 15% in the six months to September 2001.
On the asset ranking, financials dominate, as one would expect. Old Mutual remains the biggest kid on the block, followed by Stanbic (which has subsequently slipped to fourth on the basis of the latest data, which is not included in the ranking) and FirstRand. Then it's BHP Billiton and Anglo, after which the next seven are all financial services companies.
Companies whose asset bases changed significantly include Anglo (+40%), Sasol (+76%) and Alexander Forbes (+1 200%). The last mentioned raised £100m by way of a bond issue in the past financial year to finance offshore acquisitions. The mining sector, and in particular platinum counters, saw corporate activity that increased total assets.
The table remains an accurate ranking of relative size in revenue terms, but it should be borne in mind that operating conditions varied over the companies' reporting periods. For instance, quarterly gross GDP growth rates on an annualised basis for SA were consistently above 3% during 2000. In 2001, economic performance was far more muted: 1,5% in the first quarter, 2% in the second and just 1% in the third.
It was as if this were a self-fulfilling prophecy. Consumer confidence, as measured by the Bureau of Economic Research, deteriorated throughout 2000, sinking to a seven-year low by the fourth quarter. Consumers' outlook remained bleak into 2001. Despite improving export prospects as the rand weakened, business confidence failed to buck consumer sentiment.
This was happening in the context of a worsening global outlook. Exporters with improved cost competitiveness found the international markets for goods and services thinning out. By the end of 2000 and through 2001, fears of a US slowdown became a reality. The US economy shrank 1,3% on an annualised basis in the third quarter of 2001. Inventory levels were wound down, US spending was curbed and the rest of the world followed suit.
That made for a tumultuous period for all companies. Performance should be seen in that context. Many of the top performers in these tables scored from exogenous factors such as the rand's collapse. In a more stable world, as may develop for the remainder of this year, it will be plain old hard work that will make the difference to future rankings. What a relief!