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Tilting at the windmills

01 July 2013 - Peter Townshend

It has been almost five years since we launched our Africa funds. During that time we have learnt many lessons, one of the most important being the relevance of good corporate governance. It is not that we didn’t appreciate this aspect before, but in South Africa and most other developed markets, the bar is set fairly high and we tend to take it for granted that companies will adhere to a certain minimum standard. We are occasionally disappointed but, for the most part, all the good stuff related to corporate governance happens as a matter of course.

This is not necessarily the case in many of the less developed markets we invest in across Africa, where corporate governance standards can vary wildly. It has been our experience that having the highest governance standards can be the key ingredient for the most successful companies and this is something we have written about often. A measure of how much emphasis we place on this lies in the fact that almost 45% of our portfolio is invested in the subsidiaries of global multinationals such as Heineken, Unilever, Lafarge Cement, British American Tobacco, etc. There are many reasons we favour businesses like these: they produce everyday consumable products with enviable brand names; they service underpenetrated markets that can grow at above average rates for decades; they produce exceptional returns on each dollar invested; they produce very strong cash flows that are largely paid out as dividends; and they generally have the highest standards of corporate governance. But even here, we are occasionally disappointed.

We are busy fighting one such disappointment in Nigeria. On behalf of our clients, we hold a small position ($7 million) in GlaxoSmithKline Nigeria (GSK Nigeria). The UK parent company, GSK Plc, which owns 46% of GSK Nigeria, has put forward a proposal whereby it is offering to pay 48 naira per share to other shareholders in order to raise its stake in GSK Nigeria to 75%. To get approval, the scheme needs 75% of shareholders to vote in favour. The big issue here is that, currently under Nigerian regulations, GSK Plc is allowed to vote its shares on the deal.

In most developed markets, regulation expressly prohibits related parties from voting their shares in a transaction such as this. In its home market in the UK, GSK Plc, as the related party, would not be allowed to vote and the scheme would need 75% approval from shareholders, other than GSK Plc, for it to pass. This best practice ensures that minority shareholders’ interests are protected and do not get steamrollered by the majority shareholder. GSK Plc controls the board of GSK Nigeria (who, disappointingly, have seen fit to recommend this scheme to shareholders). It manages the operations, determines capital allocation and has complete insight into every aspect of the business and its prospects, a very privileged and powerful position. And, because GSK Nigeria has a fragmented shareholder base with no other large holders, it will in all likelihood be able to get this proposal through. If this is the case it will be a bitter pill for minority shareholders to swallow.

GSK Nigeria produces household name products such as Ribena, Horlicks, Lucozade and Panadol. In spite of the many upheavals and challenges in Nigeria, the company has grown both turnover and profits by over 20% per year for the last five years. These are growth rates that match the best we have seen anywhere in the world and demonstrate both the phenomenal opportunity for consumer goods companies in Nigeria as well as the quality of GSK Nigeria brands. The firm has also invested substantial amounts back into the business, spending some $50 million on capital projects over the period and we believe that the benefits of this spend are only now going to be realised. Just as the shareholders should expect to see an acceleration of returns, the parent company is trying to increase its stake, at a bargain price.

The share price has risen substantially since GSK Plc first made its offer, but even at the current share price of 61 naira per share, GSK Nigeria trades at a substantial discount to other consumer goods companies in Nigeria such as Nestlé, Unilever and Nigerian Breweries. And at the 48 naira per share being offered by GSK Plc, it is a steal. If the proposal is approved, minority shareholders will be forced to give up just over half their current shareholding in GSK Nigeria at a 20% discount to the current share price and a very steep discount to what we think this business should conservatively be valued at.

Nigeria has a vibrant stock exchange – though with a limited number of investment opportunities comparable in quality to GSK Nigeria. Many of the highest-quality listed firms are subsidiaries of global multinationals, all of which appreciate the opportunity in Nigeria and understand that it is one of the largest undeveloped consumer markets in the world. We believe there may be other multinationals that would also like to own a larger chunk of their Nigerian subsidiaries. By exploiting a shortcoming in Nigerian regulations, it is possible for the majority shareholder to propose, and probably succeed in, pushing through a scheme such as this. We have seen it happen with Nigerian Bottling Company (taken out by Coke), we may well see it happen here, and we are concerned that we will see it happen again in the future. If so, it will be to the detriment of all investors – individual Nigerians, local pension funds as well as foreign fund managers such as ourselves, as we are presented with a dwindling number of world-class investment opportunities.

We absolutely respect GSK Plc’s right to make an offer to minority shareholders, but it should do so while abiding by the standards of corporate governance that would be expected of it in its home market. We would have no grounds for complaint had it made a full and fair offer and then stood back to allow only minority shareholders to vote. As it currently stands, both GSK Plc and the board of GSK Nigeria are doing themselves a great disservice.

Faced with the likelihood of this proposal being approved, perhaps the most sensible course of action would be for us to sell our shareholding at today’s price and not risk giving up half our holding at a discount. But we think this would be a mistake. We have a responsibility to develop and grow the markets in which we invest. We should always be promoting responsible behaviour and taking a stand against that which is questionable. In the long term, this approach will be to the benefit of everyone in the neighbourhood; our clients, our business, the exchanges on which we invest and the firms that use capital markets to access funds they otherwise could not.

To this end, we expressed our concerns to the boards of both GSK Nigeria and GSK Plc. We managed to get articles published in the leading Nigerian newspapers, as well as in the Financial Times in London, casting a light on the issues surrounding this high-profile deal. We lobbied the regulators in Nigeria to have the law changed and we gathered other investors internationally and in Nigeria to oppose the deal. Our efforts appear to be paying off. Ahead of the shareholders meeting, we are hearing reports out of Nigeria that the Nigerian regulators may both block GSK Plc from voting its shares and demand a higher offer. We wait for confirmation of this but even if GSK Plc does succeed, we will continue to work towards getting regulations in Nigeria changed to further protect minorities. Investors with a shorter term view than ours might regard a campaign where we pit our $7 million investment against a $126 billion company as quixotic and doomed to failure. We see it as necessary to protect the long-term interests of our investors.

PETER TOWNSHEND joined the Africa team in July 2008. He currently co-manages the Coronation All Africa and Africa Frontiers Funds. Prior to joining Coronation, he worked as an analyst with an African hedge fund.

If you require any further information, please contact:
Louise Pelser

T: +27 21 680 2216
M: +27 76 282 3995
E: lpelser@coronation.co.za

Notes to the editor:

Coronation Fund Managers Limited is one of southern Africa’s most successful third-party fund management companies. As a pure fund management business it provides individual and institutional investors with expertise across Developed Markets, Emerging Markets and Africa. Clients include some of the largest retirement funds, medical schemes and multi-manager companies in South Africa, many of the major banking and insurance groups, selected investment advisory businesses, prominent independent financial advisors, high-net worth individuals and direct unit trust accounts. We are 25% staff-owned, have offices in Cape Town, Johannesburg, Pretoria, Durban, Gaborone, Windhoek, London and Dublin and are listed on the Johannesburg Stock Exchange. As at the June 2013 quarter-end, assets under management total R434 billion.