JOHANNESBURG – The government and politicians are at great pains to explain why the SA Reserve Bank (Sarb) should or must be nationalised. The real reason for them pushing so hard is because the Sarb is worth more than most of them think.
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I looked at the investment case for the Sarb as a company. It is evident that a major turnaround strategy started to pay off for the Sarb Group since 2014, and although the capital-to-total-assets ratio remained at around 1 percent until 2016, the group’s capital and reserves improved by 30 percent to R8 290 million in 2016, from 2014’s lows. The return to profitability gained such strong momentum that the group’s profit after tax in the 2019 financial year was just R566m short of the group’s total capital and reserves in 2014. The group’s capital and reserves accumulated to over R20 billion in 2019, while the group’s ratio of capital-to-total-assets increased to a healthy 2.3 percent.
The dramatic turnaround followed after the Sarb group’s fortunes took a turn for the worst after 2009, as this once profitable institution made losses for five consecutive years from 2010 until 2014. This saw shareholders’ wealth as measured by capital and reserves being destroyed by more than 46 percent or R5.6bn from 2009 to 2014. The deterioration was even worse in terms of capital adequacy, as the ratio of shareholders’ interest to total assets fell to 1 percent from 3.3 percent in 2010, a 70 percent fall.
The Sarb itself was responsible for the ill fate of the group. From 2009 to 2014 the Sarb’s total assets grew by 10.2 percent per year to R561bn. Gross profits fell by 10.5 percent per year over the same period, while operating costs grew by a staggering 13.5 percent per year over the same period. Since 2014 the bank’s total assets grew by 7.3 percent, and gross revenue grew by 45 percent per year.
Operating costs increased by 8.9 percent per year. Shareholders’ interest (capital and reserves) ballooned from R5.2bn in 2014 to R17.1bn in 2019. An increase of 27 percent compounded per year.
The group’s capital and reserves were further constrained as despite the Sarb’s losses in the first half of the decade, some R272m was transferred to the government. In terms of the SA Reserve Bank Act 90 of 1989, “Of the surplus (if any) remaining at the end of a financial year of the bank after provision has been made for (a) bad and doubtful debts; (b) depreciation in assets; (c) gratuities or other pension benefits for its officers and employees; (d) all such items as are usually provided for by bankers; and (e) the payment to the shareholders out of net profits of a dividend at the rate of 10 percent per annum on the paid-up share capital of the bank, one-tenth shall be allocated to the reserve fund of the bank and nine-tenths shall be paid to the government.”
In contrast, the performance of the other companies in the Sarb Group, which include the South African Mint that produces circulation, bullion and collectable coins, the South African Bank Note Company, which produces banknotes, and the Corporation for Public Deposits which receives and invests call deposits from the government and other entities, softened the blow when the bank took a turn for the worst in the first half of this decade. Total assets grew from R9bn in 2009 to R40bn or by 35 percent per year from 2009 to 2014.
Gross profits grew by more than 16 percent per year over the same period, while operating costs grew by 13.6 percent and profit before tax grew by 21 percent per year. Profit to the owners, after non-controlling interests, grew by 9.2 percent per year to R200m.
Since 2014 the group’s other interests continued their impressive growth and profitability. Total assets grew by 13 percent per year and gross profit grew by 33 percent per year, operating costs increased by 25 percent per year. Shareholders’ interest (capital and reserves) grew from R1.2bn in 2014 to R3bn in 2019, an increase of 19 percent compounded per year.
Profit to the owners after non-controlling interests grew by 43 percent per year to R1.2m.
A huge success story that followed an era that could have devastated the Sarb, and threatened the economy.
But what was behind the change in fortunes? Gill Marcus was the Sarb governor from November 2009 to November 2014. She inherited the after-effects of the 2008/9 global financial crisis, and her team needed to deal with it. Since 2014 under the leadership of Governor Lesetja Kganyago, it is evident that the group, and specifically the Sarb has returned to its former glory with costs under control, margins restored, and adequate capital and reserves available for future growth and potential external financial crises.
If the current price-to-earnings valuation metric of 10.27 based on trailing 12-month earnings for the FTSE/JSE Africa Banks Index is applied to the after-tax profit of R5.8m attributable to the parent of the Sarb Group for the 2019 financial year, the Sarb Group could attain a total market capitalisation of more than R59bn, if it was listed on the JSE.
The Sarb on its own could be worth over R46bn, after allowing for the transfer to the government. On a price to net-asset-value ratio basis, it works out that the Sarb Group could be valued at around three times, while the Sarb’s ratio would be 2.7 times.
The snag is, how do you unlock the value of the Sarb Group? The government and Sarb shareholders are unable to get their hands in the proverbial cookie jar. The Sarb Group’s auditors refers to the “parent” in the financial statements, but there is no apparent parent. Yes, the Sarb Group is an orphan.
The Sarb Group’s issued and paid-up shares amount to 2 million of R1 each, and are owned by individual shareholders whose maximum exposure is limited to 10000 shares each. The voting powers are vested in the individual shareholders and they are collectively entitled to a maximum dividend of a mere R200 000 per year. In contrast, the government is entitled to nine-tenths of net profits paid, while one-tenth is allocated to the reserve fund of the Sarb. So the government and the Sarb shareholders are effectively neutralised by the executive and non-executive directors of the bank, as they can decide to limit the pay out of net profits at their will and at their discretion.
There is a remedy in the act though. The bank can be placed in liquidation by an act of Parliament. “In the event of liquidation, the reserve fund and surplus assets (if any) of the bank shall, subject to the provisions, be divided between the government and shareholders in the proportion of 60 percent and 40 percent, respectively.” The bottom line of the provisions is that if the average price of your Sarb shares over the past 12 months was R100 per share, it will mean that in the case of liquidation the Sarb shareholders will be entitled to R200m if the reserve fund and surplus assets exceed R500m. If the total capital and reserves of the Sarb Group amount to the current R20.1bn and can be liquidated, it means that the government will be entitled to R19.9bn.
But it is unlikely that a liquidation call will be made, unless the Sarb shareholders and the government can come up with a scheme of arrangement whereby the Sarb is effectively liquidated, but continues with its normal operations afterwards, without tarnishing the bank and the country’s image. But there is one option that they (the shareholders and the government) can pursue.
The shareholders can agree to split the bank; the government foregoes its entitlements to the profits of the remaining assets, the remaining assets of the group are listed and the 40:60 split (as per the liquidation option) becomes effective whereby the Sarb shareholders obtain a 40 percent interest and the government a 60 percent holding in the listed company.
Yes, no nationalisation and the government gets the bank’s capital and reserves to the value of R17bn on its books, plus a 60 percent interest in the listed remnants of the Sarb Group. The value for the government goes far beyond the R17bn plus though. Where the government scored R2.5bn in tax and Sarb transfer in 2019, a 100 percent holding in the bank would have given it access to the bank’s 2019 profit before tax of more than R6bn. The government may therefore leverage the capital and reserves of the bank to such an extent that virtually no tax is paid.
Ryk de Klerk is an analyst-at-large. Contact [email protected]. His views expressed are his own. Consult your broker and/or investment adviser for advice. At the time of writing the author held no financial interest in the SARB Group.
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