There have been some nail-biting moments on Tongaat Hulett’s road to recovery, and more still to come, as its struggle to slash debt is by no means over.
The share price reflects its journey out of the quagmire since years of inflated sales and asset valuations and escalating debt came to light in early 2019.
While the share, at R10.14, has gained more than 341% in the last year as the once-rated group recorded incremental successes in its turnaround, it is still 90.5% lower than it was five years ago, when it traded at more than R130, and investors continue to keep their distance.
It is difficult to find an analyst who follows it or a portfolio manager that invests in it. As one pointed out, “it hasn’t been worth looking at since it fell off nearly every index”.
There have been some touch-and-go moments since the extent of irregularities was flagged, followed by the replacement of the CEO and executive team, board overhaul, suspension of the share, forensic investigation by PwC and restatement of results, and executives must have held their breath in 2020 when Barloworld threatened to derail the crucial R5.26bn sale of the starch and glucose business, which finally went through in October after a third-party decision was sought.
CEO Gavin Hudson will count up the proceeds of this sale and other debt-reduction and cash-generation initiatives to determine whether a rights issue is necessary or whether enough has been done to keep debtors at bay.
At the time of Tongaat’s end-September interims, net borrowings were R10.898bn, down from R11.936bn at September 30 2019. The group pointed out that debt repayments exceeded debt drawdowns for the first time since the start of the debt reduction programme. But the debt burden continues to loom large.
Throwing doubt
Since September, Tongaat applied R4.64bn of the R5.26bn from the sale of the starch and glucose business towards debt reduction, and R389m from the first proceeds of the disposal of the Tambankulu sugar estate in Eswatini.
These helped bring its cumulative debt reduction transactions to R6.4bn, with debt reduction proceeds of R5.76bn towards its September 30 2021 target of R8.1bn. But the sale of other assets, and expected cash flow from its FarmCo, PropCo, MillCo and Project Kilimanjaro initiatives has slowed, throwing some doubt over it meeting this target.
FarmCo, launched in September 2019, leases company-owned farmland to Uzinzo Sugar Farming and other third-party growers, and appears on track. But the others seem less certain.
MillCo — aimed at establishing a sugar milling, refining and marketing business on the KwaZulu-Natal north coast with farmers as shareholders — is on hold. Tongaat said the lockdown slowed due diligence processes, and engagement with potential participants has been “paused”, with differences of opinion on the valuation of the proposed assets, indicating it won’t conclude a sale agreement before its debt reduction milestone date.
PropCo was to be a separate entity for the property portfolio in partnership with co-investors. Tongaat has said this could involve the sale of an equity stake to one or more parties or the outright sale of a large portion of land. It is unclear if any progress has been made, but analysts say it is doubtful given current economic conditions.
The Kilimanjaro project in Zimbabwe involves the development of 4,000ha of land for sugar-cane farming. More than 2,657ha had been cleared by end-September 2020 and 562ha of sugar cane planted. The project costs $50m, and funding is an issue.
Gross revenue
The management has its work cut out reducing debt with an increasingly limited number of opportunities to sell businesses, cut costs and sweat assets, after which Tongaat Hulett has to stand on its own and generate growth.
It has made significant progress in this regard. At last count, its September 2020 interims, gross revenue from continuing operations increased 38% to R8.248bn from R5.984bn. Operating profit increased 96% to R1.910bn from R973m, largely reflecting the performance of sugar operations, hyperinflation in Zimbabwe and R183m profit on the disposal of the Namibian packaging operation.
Results included an excellent performance of the sugar operation, offset somewhat by property’s earnings before interest, taxation, depreciation and amortisation (ebitda) loss of R46m from a profit of R243m, with delays in transfers and halted or abandoned deals under negotiation due to the pandemic and lack of economic activity. Three property transactions valued at R197m were concluded in October, after the half-year.
The group’s headline loss from continuing operations reduced to R6m from a loss of R517m, with finance costs rising 23% to R1.053bn from R855m.
The results reflect a turnaround off a low base, but there is also evidence that some of the operational improvements are sustainable, according to Richard Cheesman, an analyst at Protea Capital Management.
“This is a commodity business, and the variables under its control, which are volumes and costs, have been good. Those not under its control, including the low sugar price, have now also started to provide some benefit,” Cheesman said.
This trend, and the government’s master plan for the industry to diversify into a wider range of sugar cane-based products such as ethanol, may provide some impetus.
The bottom line is still a loss, and the group’s debt holders remain firmly in control, Cheesman said.
Zimbabwe operations
While the starch sale went far to reduce debt, the group still sits with about R6bn in net debt post disposals, he said. Though Tongaat had pencilled in R1.5bn debt reduction in PropCo and R1.5bn in MillCo, these are paused, and the group thus “wouldn’t be able to promise no rights issue”.
It is also difficult to get a clear picture of the group’s performance due to the distortion from Zimbabwe operations. Of adjusted ebitda of R2.5bn, R1.9bn is associated with Zimbabwe, reflecting hyperinflation accounting, with little ability to get money out of Zimbabwe and only R288m actually upstreamed.
Cheesman added that Tongaat has decent assets in Zimbabwe and the previous management seemed to have a good working relationship with its government. There are risks with this relationship. Zimbabwe poses a risk, not only in terms of forex and extracting cash. With many SA companies impairing assets in Zimbabwe, it is unclear what Tongaat’s plan is.
Casparus Treurnicht, portfolio manager at Gryphon Asset Management, agrees there is some sustainability in the results given good rainfall and good crops and an increased focus on efficient operations. This may be enough for Tongaat not to need to raise more equity.
“Small loss-making operations remain but the big swing factor will still be in the property business,” he said. “There was a period where absolutely nothing was happening in the property business last year. This business was supposed to provide much-needed cash flow.”
While much of the focus has been on the balance sheet, there has been little progress in terms of the uncovered fraud and irregularities. The JSE established that financials from 2011 to 2018 did not comply with reporting standards and were incorrect, false and misleading, and imposed a R7.5m fine, of which R2.5m was suspended for five years.
The Financial Services Conduct Authority also determined that Tongaat misrepresented its financial performance in prior years and imposed an administrative penalty of R118.34m, reduced to R20m, payable by October 2025.
Unsurprisingly, as the wheels of justice on corporate malfeasance grind slowly, there has been no news of the promised criminal and civil charges against former executives and senior managers.
Tongaat executives refused to comment on progress in this regard, or answer any other questions, citing a closed period and saying they will comment only in June.
They have said previously that strong growth in the sugar business would continue for the rest of the financial year, while “new property sales will be balanced against legacy obligations”.
The group is focused on improving cash flow and working capital and reducing debt, but investors may be circumspect until it shows evidence of growth.
Cheesman said growth opportunities will depend a lot on what the sugar price does, but there are future opportunities in electricity cogeneration, “which it is in no state to invest in right now” and interesting developments in ethanol. For the moment, though, there are many bridges to get over first.
Treurnicht didn’t see many growth opportunities for Tongaat, which is in stabilising mode. Growth in the industry may be limited by the focus on sugar and its effect on health globally, while there is still much dumping, which does not bode well for growth, he said.
“Nonetheless, Tongaat remains a value-unlock opportunity for investors willing to play with fire.”
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