Growth, improved job prospects and prosperity hinge on policy certainty
The mythology around investment is quite bizarre. There is no mystery, no conspiracy, no stubborn decision makers, no cash hoarding and no investment strike.
When investors are able to see the future and predict the returns an investment will earn them, and see that they are higher than the cost of capital, they will invest. If they can’t, they won’t. It is that simple.
If investment isn’t happening it is because there are no reasonable prospects for positive returns. It would be far worse for companies to invest recklessly and lose their capital, given that it is a scarce resource that can’t simply be replaced, than to keep it in the bank.
One stubborn myth is that SA’s large companies are hoarding cash. It is as persistent as it is false. If companies don’t need cash, they give it back to shareholders, they don’t sit on it. Companies actually hold only as much cash as they need to keep their operations and replacement capital expenditure going. Holding more simply damages returns to shareholders by unnecessarily reducing return on equity.
They do increase cash holdings marginally if they anticipate difficult economic conditions, but that’s only because they don’t want to be caught without cash.
My colleagues studied the cash-holding levels of the JSE’s top 100 companies and found they varied between 7% and 10% of assets over the past decade, tracking to the higher end of the band during recessions. But, even if it is in the bank, it is not doing nothing. Banks use their funding to finance their lending. So even when companies hold large amounts of cash, they are not stuffing it under a mattress.
Cash levels have little to do with investment levels. When an investment has a positive net present value, companies can get the cash from shareholders or lenders. Shareholders will be happy to provide it because the returns on offer beat the alternatives, particularly the interest paid by banks.
But in some sectors investment has been a very bad idea. In mining, for instance, investing new capital will earn you a return below the risk-free rate. You’d be crazy to do it. The median return on equity for SA miners is about 6%. You could instead earn 9% by putting your money in the bank.
If we are to increase investment in SA, there is only one serious way to do it: improve the returns outlook. That means two things: the quantum of the returns and the certainty of those returns.
The less clear the future is, the higher the risk premiums investors are going to need in order to justify the investment. Policy certainty is an area that really is in the control of the government and politicians. Give investors clarity about the future with a reliable and robust policy environment.
Don’t, for example, create unnecessary risk premiums by raising question marks around property rights, as has been done through the land reform debate. That uncertainty directly retards investment rates.
Then, work on the returns outlook. The profitability of companies can be affected by government policy in several ways. Investment in infrastructure is a clear win. If firms can reduce transport costs with better rail, road and port infrastructure, returns improve and therefore investment rates increase.
Energy prices are another major way to improve returns. You don’t even need to solve the Eskom mess to do it – allow companies to build and operate their own renewable energy plants. Then invest heavily in skills, so improving labour productivity as another way to boost returns to investment. Tax policy can also be yoked to the task of driving investment. Get all that right and investment levels will magically rocket.
This is no alchemy, yet we pussyfoot around the point. It is not politically palatable for the government to say it aspires to boost the returns of companies. That is because the public see this as some kind of zero sum game – that the more profitable companies are, the less money there is for everyone else.
But it is wrong. The better the returns outlook, the greater the investment, the higher economic growth is, the more people are employed, the more demand there is for labour, and the higher the negotiating power of labour. Economic growth benefits everyone.
President Cyril Ramaphosa’s investment summit was an opportunity for the government to demonstrate it knows this. It was an opportunity to start improving the confidence of investment decision makers and demonstrate that the government will reduce risks and invest in infrastructure and skills that will make it easier for businesses to earn returns.
Instead, though, the optics were focused on the companies themselves, which had to face the demand to announce big investments. But this is focusing on the wrong party. The prime mover, the cause of all future investment, is the governing party and its policies.