Financial Mail - Investors Monthly
Woeful state of SA manufacturing
Technical innovation and employment can complement each other, and SA needs both
Throughout history, manufacturing has been the pathway for the development of nations. From the Netherlands in the 17th century to the US in the 20th century and China today, it has been fundamental to prosperity.
But SA manufacturing is in a perilous state. There are various dynamics that have caused this de-industrialisation. Some go back almost a century, but isolation under apartheid made things worse. For example, by the end of the 1980s, SA had the widest range of tariffs among a group of developing countries.
Post-apartheid trade liberalisation exposed inadequacies, as manufacturers struggled to adjust to an open economy.
Today, new challenges have made it worse. These include:
Administered prices: between 1980 and 2007, electricity prices rose by 9% per year, or 1% less than inflation. But since 2007, they have increased by 17% per year, or 11% more than inflation.
Productivity: labour productivity fell by almost a third since 1967 — and manufacturing productivity has lagged even that, by 35%.
Labour: the average annual number of workdays lost between 2008 and 2014 (excluding 2010) was 5,1m, compared with an annual average of only 1,8m for the 13 years from 1994 to 2006.
Infrastructure bottlenecks: rail capacity limitations and port and road congestion are infamous. The maintenance backlog on roads in “poor” and “very poor” conditions amounts to R200bn. And rolling blackouts cost the economy upwards of R20bn (or 0,5% of GDP) per month.
Policy uncertainty: there is confusion about BEE codes, property rights, minimum wages, labour reform and the importation of rare skills. The same establishment that is guilty of creating the confusion is also responsible for protecting the sugar, chicken, cement, textile, clothing, plastic and automotive industries via tariffs or quotas.
Exogenous factors: the weak global recovery after the 2008 crisis simultaneously lowered the demand for local exports and increased import competition — and the rand made planning hard.
These travails are echoed on the JSE. Many listed businesses have disappeared: Dorbyl, Control Instruments, Racec, Alert Steel, Brikor, Protech Khuthele and Sanyati are just a few. The rest have mostly lagged the JSE’s Alsi.
Companies exposed to the metals and engineering sectors fared particularly badly, falling by 50%-100%, even as the market rose 2½-fold since 2008.
It is hard to imagine that Aveng, ArcelorMittal and Murray & Roberts were among the JSE’s top 40 large caps in 2008. Today, having fallen by over 90% from their highs, they are small caps.
Argent, Aveng, ArcelorMittal and Hulamin are now priced at discounts of between 45% and 75% to their net assets. Yet the average JSE company trades at a 130% premium to its net asset value.
There is no easy cure either.
Some issues will ebb; some are permanent. Real electricity price increases will remain higher than their historic averages for a long time. And it is difficult to imagine wages rising by less than inflation.
Manufacturers agree. One response has been to accelerate mechanisation — to do more with fewer workers. Food company AVI has more than doubled revenue in the past 10 years by doubling its plant and machinery while growing its workforce by only 15%.
The second major imperative is to grow offshore. From the smallest of manufacturing businesses, like Megatron, to giants like Sasol, AECI and Nampak, capital is being redirected overseas. This trend shows in SA’s capital account. Last year, SA companies grew investment abroad by 17%. Foreign investment into SA dropped 23%.
South Africans cannot spend their way to prosperity — the gap between what they consume and what they produce has to narrow.
The country needs to boost investment in fixed assets (like factories, infrastructure and agriculture) by 30%-50% to remain relevant. Today, we invest less than 20% of our GDP in fixed assets, compared with the 25% of lower-middle-income countries.
Manufacturer’s share prices suggest permanent change: profit margins are not going back to what they were. But money flows to where it is treated best, which today appears offshore or in anything that can cut employment.
Innovation that reduces cost and improves efficiency must be lauded. But technical innovation and employment can complement each other. SA needs both.
The performance of manufacturers has been cyclical and patchy