Chief financial officer's report
Imperial produced a satisfactory result for its 2014 financial year. The group’s portfolio of businesses proved to be resilient amid challenging trading conditions. All divisions, except the Vehicle Import, Distribution and Dealerships division showed good growth compared to the prior year.
OVERVIEW AND TRADING ENVIRONMENT
Within the Logistics Africa division, trading conditions in the South African market were challenging. The manufacturing sectors of the South African economy struggled to gain momentum and many segments of the retail sector experienced little or no growth. As a result, volumes were subdued. Our positioning in the market and ability to win new contracts stood us in good stead.
The consumer market across many other African countries continued to grow with the emerging middle class, particularly in those sectors on which the African logistics businesses have chosen to focus, namely Fast Moving Consumer Goods (FMCG), pharmaceuticals and general merchandise products.
In Europe, we experienced challenging market conditions in a region where economic growth was subdued. Activity levels across our core markets, including shipping, steel and paper, were lackluster. Freight rates were also under pressure. However, we benefited from German exports into markets outside Europe and a weaker Rand exchange rate.
The new vehicle market faced difficult trading conditions during the year, with the market in South Africa down 2% for the 12 months to June 2014. Inflationary pressures as a result of a weakening currency, the high base and lack of economic and employment growth, all presented headwinds for the new vehicle market. Industrial action in South Africa during the first half of the financial year also impacted volumes. The pre-owned vehicle market improved during the year as a result of new vehicle price inflation. The medium and heavy commercial vehicle market performed well, showing growth of 9% year-on-year.
Competitive trading conditions persisted in the car rental market and the aftermarket parts industry was competitive but stable.
Insurance underwriting conditions in the short term industry improved in the second half due to more favourable weather conditions. The termination of certain loss-making books of business contributed positively, resulting in the underwriting margins improving when compared to the prior year. Equity markets were favourable and this resulted in higher investment returns.
The motor-related financial services and products division’s operating profit grew despite being negatively impacted by more conservative impairment provisions in the vehicle financing alliances and the maintenance funds which were impacted by higher parts costs as a result of the weaker Rand exchange rate.
The group made good progress during the year in enhancing its portfolio of businesses by exiting sub-scale operations and adding areas of strategic growth that will maximise returns for shareholders.
Operating profit from foreign operations grew 30% to R1,639 million, and now comprises 26% of group operating profit, whilst foreign revenue of R35 billion increased from 30% to 34% of group revenue, up 26%. Operating profit derived from African operations outside of South Africa increased 32% to R523 million.
Revenue was in excess of R100 billion, a milestone achieved by the group for the first time, reaching R103,6 billion, up 12% from the prior year.
Operating profit increased 2% to R6,2 billion and lagged revenue growth, resulting in the group’s operating margin reducing from 6,6% to 6,0%. This was mainly caused by the reduced margins achieved in the Vehicle Import, Distribution and Dealerships division, which achieved an operating margin of 5,6% against 8,7% in the prior year. The margin decline was caused by the weakening of the Rand and our inability to increase prices sufficiently to counter this. Volumes were also negatively impacted due to a softening of the new motor vehicle market that is more competitive. The margin improvement in Logistics Africa from 5,1% to 5,7% was attributable to an excellent operational performance and the effect of the transport workers’ strike in South Africa in the prior year. The Logistics International margin increased from 4,8% to 5,0% in Euros despite weak volumes and investment. The Vehicle Retail, Rental and Aftermarket Parts division improved its margin from 4,2% to 4,6% as a result of improved margins on the sale of pre-owned vehicles and cost management initiatives. Financial Services performed well and improved its margin from 22,3% to 26,1% due to a much-improved underwriting performance and higher investment returns.
Net finance costs increased 24% to R926 million on higher debt levels. Despite the higher net finance costs, interest covered by operating profit remains healthy at 6.7 times (2013: 8.2 times).
Income from associates contributed R76 million (2013: R86 million). The decline compared to the prior year is mainly due to the negative performance of Ukhamba, which was impacted by an impairment of certain of its investments. Mix Telematics, in which Imperial holds a 25,6% interest, contributed R40 million, in line with the prior year and MDS Logistics, a Nigerian logistics business in which the group acquired a 49% shareholding in 2013, performed well and contributed R27 million for the year.
The group tax rate reduced marginally from 28,1 % to 27,2%.
Earnings attributable to minorities reduced from R392 million to R355 million. This was mainly due to lower profits from the Vehicle Import, Distribution and Dealerships division where the most significant minorities participate in the group’s profits.
Diluted core EPS remained flat at 1 790 cps and diluted HEPS was down 7%. The decline of the diluted HEPS was mainly due to the R70 million once-off charge for amending the conversion profile of the deferred ordinary shares issued to Ukhamba, the increase in amortisation of intangible assets arising on business combinations and business acquisition costs of R89 million, as well as the provision for an onerous contract in our Logistics International division of R64 million.
In prior years, the deferred ordinary shares owned by Ukhamba Holdings were included in diluted earnings per share but excluded from the basic earnings per share computations. The conversion terms of the deferred ordinary shares are now unconditional and will convert equally over the next 11 years. These shares are therefore now included in the basic earnings per share computations, but not for the comparative period. As a result, diluted core earnings per share, and not basic core earnings per share, is comparable with the prior year.
RECONCILIATION FROM EARNINGS TO DILUTED CORE EARNINGS
FINANCIAL POSITION OVERVIEW
Total assets increased 14% to R59 billion (2013: R52 billion) due to acquisitions, translation effects of a weaker Rand, organic growth and expansion of existing businesses.
Property, plant and equipment increased by R1,2 billion to R10,5 billion mainly due to the increased investment in the property portfolio where we invested a further R776 million during the year. The investment was in the following businesses: Logistics International, the Australian dealership and the South African vehicle businesses. The translation effects of a weaker Rand also contributed R359 million to the increase.
Goodwill and intangible assets rose to R6,8 billion from R5,2 billion as a result of the EcoHealth and Renault SA acquisitions, and the translation effects of a weaker Rand.
The transport fleet increased mainly as a result of the R749 million expansion of the shipping fleet in Logistics International and a net R510 million spent in the African transport fleet.
Investments and loans largely relate to the Regent investment portfolios, where exposure to equities and longer dated deposits were reduced. This resulted in the 23% decrease to R2,5 billion and the improved cash position at year end.
Net working capital increased 41% from the prior year due to acquisitions, translation effects of a weaker Rand and an increase in inventory in the vehicle businesses compared to the prior year. As a result, our average net working capital turn reduced to 14 times from 17 times in the prior year.
Net debt to equity (excluding preference shares) at 63% was higher than the prior year of 50%. This was mainly due to acquisitions, expansion of the existing businesses, increase in working capital and share buy-backs amounting to R502 million during the year. Translation of the foreign debt, due to a weaker Rand, also increased the debt levels at year end. The net debt level is within the target gearing range of 60% to 80%.
Total equity increased due to higher retained income and the weakening of the Rand, which resulted in gains on the foreign currency translation reserve of R521 million. This was offset by paying out dividends to Imperial shareholders of R1 618 million and by shares repurchased in the open market from Imperial shareholders of R502 million, totalling R2 120 million in cash returned to shareholders. In addition, the group paid out R322 million to non-controlling shareholders, the hedging reserve was reduced by
The return on invested capital was 13%. This is 3,9% above the weighted average cost of capital (WACC) of 9,1%. The internal target is WACC +4%. As outlined earlier, the growth in the operating profit was impacted by the weakened Rand at the same time, our asset base has gone up as we invest for the future and on the back of increased working capital. In the short term, it is expected that the target margin will be under pressure.
The return on average equity of the group was 19% (2013: 21%).
CASH FLOW OVERVIEW
Cash generated by operations before capital expenditure on rental assets was 21% lower than the prior year at R5,7 billion. This was mainly due to higher absorption of cash by working capital compared to the prior year.
The main drivers of this were outflows relating to the increase in inventories of R1,186 million, trade and other receivables of R925 million and the reduction of accounts payable of R768 million. After interest, tax payments and capital expenditure on rental assets, net cash flow from operating activities decreased to R3,0 billion, down R1,2 billion when compared to the prior year.
The main contributors to the net R297 million invested in new business acquisitions during the year were Renault SA and EcoHealth. The cash paid
in respect of the net assets acquired for these two acquisitions amounted to R579 million, which was reduced by the cash resources acquired of
R357 million. Of the EcoHealth purchase price of
Net replacement and expansion capital expenditure excluding rental assets was 29% higher than the prior year, mainly due to the increase in the property portfolio, the investment in the transport fleet in South America and South Africa, and the weaker Rand exchange rate.
Inflows from equities, investments and loans resulted from our insurance business decreasing its exposure to equity markets and long term deposits in favour of short term deposits.
Gross debt (excluding R441 million of preference shares) increased by R4 billion from June 2013, whilst net debt increased by R2,7 billion. The increase in net debt of R2,7 billion funded an increase in working capital of R2,5 billion, capital expenditure of R3,3 billion, acquisitions net of cash of R297 million and a R502 million share buy-back. Dividends of R1,9 billion and tax of R1,3 billion were paid.
The increase in gross debt of R4 billion was funded by R1,5 billion in corporate bonds, R1,5 billion in a seven-year committed bank facility and R1 billion from general banking facilities.
Funding from three corporate bonds was raised during the year. In October 2013, IPL8 (floating) was issued for R1,5 billion, which matures in October 2020 and during May 2014, IPL9 (floating) and IPL 10 (fixed) were issued, totalling R1,5 billion. Both are maturing in May 2021. IPL4, amounting to R1,5 billion, matured in March 2014 and was repaid.
The increase in corporate bonds, together with other long term committed facilities from banks, improved the group’s liquidity profile by extending the period of funding. We have also improved the mix of fixed and floating interest rates so that the fixed rate funding is 56% of the total funding, providing better protection in a rising interest rate environment.
At 30 June 2014, unused direct borrowing bank facilities of R6,7 billion were available. There is also capacity under Imperial’s Domestic Medium Term Note (DMTN) programme to issue a further R3,9 billion in bonds and R3,2 billion is available under the commercial paper programme.
The net debt to equity ratio at 63% provides the group with significant capacity for expansion and acquisitions.
In May 2014, the group registered a Domestic Treasury Management Company (DTMC) with the South African Reserve Bank in terms of new exchange control regulations. This enables the group to fund up to R2,0 billion annually from South Africa to support the growth of the African and offshore operations. Within this annual limit, the group will also be able to raise offshore funding in this entity guaranteed by the South African operations. This is a major addition to our treasury capabilities.
A final ordinary dividend of 420 cents per share (2013: 440 cents per share) has been declared. This brings the full-year dividend to 820 cents per share in line with the prior year.
Imperial’s financial position remains strong despite significant organic and acquisitive growth, and share buy-backs in the recent past. As a result, the group is well positioned to take advantage of organic growth and acquisition opportunities as they arise.
OSMAN S ARBEE