Willis Towers Watson Asset Manager Review

Is the term “monopoly capital” appropriate in the context of the private sector in South Africa, particularly firms listed on the JSE – is there excessive concentration in our economy? Who, broadly speaking, are the actual beneficial owners of these firms?

Patrice Rassou, head of equities at SANLAM INVESTMENT MANAGEMENT says formalisation of the economy and increased economies of scale by larger firms has been enabled by international expansion, especially into Africa, improvement in productivity through automation and improvement in labour productivity – particularly in service industries – and the emergence of new industries such as technology.

“Larger firms have also brought greater store footprints, innovative products and have been much more cost efficient.

“The lack of trade barriers has meant that dumping has crippled some century old sectors such as the cement and poultry sectors, showing that even concentrated sectors have not been shielded from new entrants and imports.

“Even in concentrated industries such as financial services, we have seen new entrants such as Capitec grabbing a large share of retail banking, or Outsurance leading the direct insurance industry.

“The return on investment using national accounts data shows that the trend has been downwards since 2007 showing that there is no pricing power in the economy.

“The downside of increased concentration, however, has led to cases of collusion and price fixing as witnessed in the bread and construction sectors.

“With pension funds being the ultimate investors into listed firms, asset owners are now demanding greater scrutiny to ensure better governance and more sustainable practices by listed companies,” says Rassou.

Khaya Gobodo, strategy leader, quality at INVESTEC ASSET MANAGEMENT says the intensity of the debate regarding the appropriate economic model for South Africa has hit fever pitch.

The fact that the majority of South Africans are excluded from meaningful participation in the economy is like fuel to the fire. A key question on many people’s minds is whether there is excessive concentration in our economy ultimately at the expense of economic growth and employment.

It is in that context that monopoly capital comes into the national discourse. The word “white” has since been added to give it strong political overtones, however, Thabo Mbeki warned against the use of “white monopoly capital” as “an abuse of a phrase, which was used in scientific economic literature”.

Monopoly capital deals with amongst other things the abuse of market power to maintain high prices, the propensity to underinvest and the creation of artificial high barriers to entry, thereby keeping innovation and new competitors out.

We have reviewed some of the consumer-facing sectors represented on the JSE using the Herfindahl-Hirschman Index, a commonly accepted measure of market concentration.

The US Department of Justice considers a score of less than 1500 to be a competitive market, 1500 – 2500 to be moderately concentrated and greater than 2500 to be highly concentrated.

Our choice of sectors was driven by the ease of availability of data and those industries that represent a meaningful proportion of consumer spending, namely: banking, life insurance, short-term insurance, private hospitals, mobile telephony and food retail. Collectively these industries make up more than 50% of personal consumption expenditure in South Africa.

It is clear from the market share data there is a high degree of concentration in many consumer-facing industries in South Africa.

The important question is whether this has been harmful to consumers. In other words, do the market players exercise excessive market influence/ power?

In general we would have to conclude no, as inferred from the HHI scores.

Outside of mobile telecoms there is no one or two competitors in any of the industries that are dominant, which means there is a fair amount of competition despite the relative concentration measured by market shares.

The more difficult questions relate to the impact of barriers to entry, propensity to innovate and rates of reinvestment and what this has meant for overall economic growth and employment.

There have been three new entrants to this subset of industries that have achieved outsized success in penetrating the industry and disrupting the incumbents – Outsurance, Discovery and Capitec. Together they have a market value of greater than R220-billion.

On the surface this would suggest market concentration is not an impediment to new competition. However all three had strong financial backers (FirstRand Group and PSG) to provide access to capital, networks and credibility.

As an aside, given the political overtones surrounding the debate, it would be remiss not to look at “who these monopoly capitalists are”.

A brief look at the JSE data reveals that about 20% to 25% of the JSE’s top 100 are still controlled by individual or family shareholders. Control in this instance is defined as a high level of influence including more than 25% of the voting rights.

Taken together, there appears to be enough evidence to suggest there is a level of concentration in the economy that is of at least moderate concern.

Shaun le Roux, fund manager at PSG ASSET MANAGEMENT

says the South African economy is relatively concentrated and many industries have a relatively small number of dominant players. It would, however, be unfair to classify these industries or companies as monopolies – they remain highly competitive.

“The concentration is largely as a result of the structural nature of our economy, which is starved of capital and subject to a high regulatory burden and significant policy uncertainty. The consequence of this is that few foreign multi-nationals have been investing in South Africa. The beneficial owners of these dominant companies are diverse and include foreign shareholders, wealthy individuals and public pension funds,” says Le Roux.

Tinyiki Ngwenya, economist at OLD MUTUAL INVESTMENT GROUP’s says it’s no secret that a number of listed companies enjoy a high level of concentration within their respective markets. It is what makes them attractive investments, a key factor that analysts assess when measuring a company’s moat. Curro and AdvTech Group, for example, are the only two meaningful stocks that one can purchase when looking for exposure to the private education sector in South Africa.

“When I worked in the unlisted space, we had a start-up approach for funding to build a school. As an equity investor,

“I had to think with my mind and not heart and understand that although it was a great initiative to improve the quality of education in our country, in order for me to unlock value from my investment, I needed to ensure that the business would grow to a stage that it could one day list and compete with Curro and AdvTech.

“Unfortunately when it did not meet that requirement, it once again highlighted Curro and AdvTech’s dominance.

“That is the nature of a capitalist system, only the strongest survive, making it difficult for small firms to compete. That is what is then referred to as monopoly capital.

“This is not unique to the South African listed market, think about Google and Yahoo, or about conglomerate KraftHeinz and Unilever.

“These large multi-national companies have essentially swallowed the ‘little guys’ creating concentration and centralisation of capital. However, by virtue of being listed, ownership of these businesses are accessible to the public who can buy their stocks and share in their profits. We become the beneficial owners of these firms.

Locally, the beneficial owner is largely the pension industry, as institutions, such as ourselves, are entrusted with investing pension fund money into the market.

When looking at individual shareholdings of more than 5% for both AdvTech and Curro one can see that it is institutions – pension funds – that are the beneficial owners of these two firms.

“Of course there are instances where the founders of these companies still hold a large percentage of the shares, as seen by the Le Roux family trust as well as Christo Weise who owns 22.8% of Steinhoff, making him the largest shareholder before the Public Investment Corporation at 9.7%. Instances like these, as well as excessive top executive remuneration, are what drive the monopoly capital narrative,” says Ngwenya.

Craig Sorour, head of SA research at LAURIUM CAPITAL says the concept of monopoly capital appeals to groups that follow a populist approach and are using this for their own narrow gains.

“Based on analysis done by the JSE, current ownership of our market is 39% foreign, 23% black and & 22% white held. The balance of 16% is yet to be determined.

“The latter suggests concentration is in foreign hands, which should be seen as an endorsement of confidence in South Africa.

“Clearly the ratio of black and white ownership does not mirror the population demographics and on this basis one could argue there is a mismatch. In reality South Africa needs to address this balance but ideally it should be achieved through growing the economy for the benefit of all.

“More specifically the beneficiaries should be black staff working in businesses rather than a few well connected individuals,” says Sorour.

Johan de Kock, portfolio manager at VUNANI FUND MANAGERS says historically the structure of capitalism in South Africa has actually been oligopolistic, so the term “monopoly” is off the mark.

However, there are industries that are marked by high levels of concentration such as banking, cement manufacturing, new motor retail, telephony, and baking and milling. Common to these are usually high barriers to entry such as licences, geographical capacity or the cost of construction.

“In the retail segment we estimate that Shoprite, Spar and Pick n Pay alone account for around a third of retail turnover.

“By comparison, Wal-Mart alone has more than a quarter of the market share of estimated grocery and general merchandise sales in the US.

Therefore, while there are large enterprises in South Africa, it is not clear their market shares are aberrant. Furthermore, several of these enterprises are locally listed and their shares can be bought by anyone.

“In many companies the major shareholders include local pension funds and international investment funds. Apart from the occasional large blocks held by founding families, there is not a regular pattern of any one shareholder exerting a ‘monopoly’ influence over the others.

“In our experience, such ownership dispersion has resulted in management exerting outsized influence in the companies.

“A key to transforming the conduct of business in South Africa is to transform how companies are managed in the interests of various stakeholders,” says De Kock.

Asief Mohamed chief investment officer at AEON INVESTMENT MANAGEMENT says the ownership of the JSE listed companies and wealth is seen as the most untransformed with highly concentrated market shares in South Africa. There is generally a high concentration of monopoly capital across sectors in South Africa including State monopoly capital such as utilities that have entrenched monopoly positions.

“A recent analysis of sectors in the financial sector indicates a high concentration of market shares held by four or five large companies in the financial sector. We need a more competitive environment all around.

“The structure of the economy needs to be changed to accommodate new entrants to create a more competitive economy which in the long run will lower prices to ensure that South Africa can foster a more normal and equal society,” says Mohamed.