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Tongaat: digging beyond the numbers Tongaat’s hist

For investors with the necessary fortitude and skill, digging beyond the earnings numbers can unearth very rewarding long-term investment opportunities. Tongaat Hulett (Tongaat) is an excellent example of such an opportunity.
Tongaat has a very chequered history as a listed company. A former subsidiary of Anglo American (Anglos), Tongaat housed the KwaZulu-Natal-based assets of the Anglos group. These included Huletts Aluminium (subsequently unbundled and now separately listed as Hulett Aluminium), the group’s sugar and starch operations and extensive land holdings. Tongaat started trading in its current form on 1 July 2007 and is still trading at a lower value today than its listing value (see graph below).
Tongaat’s historic earnings generation appears quite volatile, with seasonal sugar earnings augmented by cyclical propertyrelated profits. Nevertheless, Tongaat’s current operations generated more earnings in the current financial year than in 2007, despite a severe drought in Southern Africa that impacted on sugar profits in 2011. Over the last four years, the company has invested substantial capital in the Mozambican and Zimbabwean sugar operations, mainly to rehabilitate damaged plantations and infrastructure but also to add to capacity, notably in Mozambique.
Benefitting from EU reforms in Mozambique
In our July newsletter, we discussed the world of sugar and the impact of the European Union (EU) sugar reforms on Least Developed Countries like Mozambique. Tongaat’s investment programme in Mozambique ended in the
2010 financial year and resulted in an expansion in capacity from 85 000 tons of sugar to around 310 000 tons of sugar, or 15% of the group’s capacity of two million tons. The increased tonnage can therefore easily be absorbed by the EU and regional markets.
Zimbabwe the prodigal daughter
Despite the ongoing political turmoil in Zimbabwe, the country’s economy is recovering after spiralling inflation was brought under control. Tongaat’s operations in Zimbabwe comprise the Triangle Sugar Corporation business and a 50% interest in Hippo Valley Estates. These operations have a combined sugar capacity of around 600 000 tons with very little investment required. The Zimbabwean businesses however are operating at less than half of their potential due to the limited supply of cane from indigenous farmers.
Going forward, Tongaat expects the cane supply to its Zimbabwean mills to grow from 414 000 tons delivered by 569 farmers to around 1.4 million tons delivered by 865 farmers by 2014.
The future
Tongaat’s future earnings growth is looking very healthy: the starch and glucose business is a stable, cash-generating business and sugar profits from South Africa, Mozambique and Zimbabwe are expected to grow significantly from current depressed levels. In addition, accelerated bulk land sales and conversions will further augment future earnings.
The crippling drought in KwaZulu-Natal in 2010 has contributed to the group’s sugar production declining to a multi-year low of around one million tons. The current level of production is significantly below what we would consider a normalised level of production.
Our normalised sugar production estimates are in fact below Tongaat’s existing installed capacity of around two million tons. Significantly higher sugar production and structurally higher regional and world sugar prices are expected to contribute to the substantial growth in sugar operating profits under our normalised scenario.
Tongaat’s land developments the hidden value
Tongaat’s extensive property portfolio provides a strong, yet stable, value underpin that supports the attractive valuation of the company. The group’s real estate portfolio comprises about 13 654 hectares of bulk land, including prime seafront property on KwaZulu-Natal’s North Coast.
A substantial portion of the land is not suitable for development but around 8 657 hectares have been identified as suitable for industrial, commercial or residential development use. The Zimbali development is testimony to Tongaat’s successful conversion of bulk land to profitable residential and commercial use.
Following a property boom and development frenzy between 2003 and 2007, the South African property market has cooled and the KwaZulu-Natal market is no exception. Tongaat’s strategy is to develop bulk land for sale to developers, with profit on sales of land included in operating profit of the group. Predictably, property related profits peaked in 2007 at R428 million before declining to current levels of R166 million.
Despite the property downturn, Tongaat is actively pursuing four key property developments that will unlock significant value for shareholders:
Inyaninga - consists of around 550 hectares and is adjacent to the new King Shaka International airport. This area is key to the expansion of the Dube Tradeport and government’s targets for low-cost housing. Cornubia South- comprises 345 hectares and is located between the airport and Umhlanga. Tinley Manor - consists of 880 hectares including prime coastal land. Sibaya - is located between the Sibaya casino and the coast and consists of 125 hectares.
The above four properties account for about 22% of Tongaat’s property portfolio suitable for development and around 60% of its current market value based on conservative estimates. Long-term shareholders of Tongaat have the real prospect of realising more than the current market value of Tongaat through land developments and realisations alone.
An investment in Tongaat provides shareholders with exposure to an earnings recovery with the stability of a substantial, real property portfolio that should withstand the vagaries of volatile equity markets and, ultimately, reward patient shareholders.

Abdul Davids - 15 Nov 2011