What does Zambia’s debt crisis mean for investments?
A year ago, I wrote enthusiastically about the second ICA, Impact Capital Africa, conference that brought investors and SMEs together in a positive and uplifting atmosphere. I highlighted my admiration for smart, resourceful, innovative entrepreneurs and their shifting mindsets. Previously we saw many “patriarch knows-all” management styles, now many of the younger entrepreneurs are adopting a “can I take your knowledge on board” approach. Whenever people pitch, they are obviously highlighting the positives and sweeping the negatives under the carpet. This is not a problem as it is understood as part of the game to attract investors. The onus is on investors to follow-up in meetings or during the due diligence process to get to the bottom of what the SME and its principals really are about.
Such was the outcome of the ICA. A good number of companies found the investment they were looking for and a handful of investors were successful on the other side and found the right investment for their portfolio. It was, even with the benefit of hindsight, a successful conference.
In the same blog I put out some strong warning signs. “The facts are clearly written on the wall. The macroeconomic situation is dire. Emerging markets are far away from being flavour of the month in a period of declining global growth. In Zambia the interest rates are creeping back up with increasing indebtedness of the country. The reduced foreign currency reserves lead to a liquidity crunch, which has ripple effects into the finance sector and beyond. Inflation is creeping up and the Zambian Kwacha is under constant devaluation pressure. In addition, electricity is out for half of the day, taking off many productive hours of SMEs and the service industry leading to an increase in the price of power as the diesel to run the generators is expensive. In such economic climate surviving is becoming the number one priority for any company.”
Reading this a year later, I shudder to think that the scenario I painted then has unfolded into our current reality. The Kwacha has devalued by over 50% and, as a consequence, inflation has accelerated. Officially the annual inflation is at 15.7%, the feeling of everyone is that it should be quite a bit higher but then who remembers exactly what a can of Coca Cola cost a year ago. GDP in dollar terms is estimated to have diminished by 20% from the USD 27 billion in 2018. The real bull in the china store is the current sovereign debt situation. Standard and Poor’s downgraded Zambia to SD or Selective Default. This only happened a few days ago and the consequences are not all clear yet. How will it change the investment landscape in Zambia?
What is written on the wall is the shift of attention towards the macroeconomic consequences of a default – lack of trust, higher interest rates, further currency devaluation. It is expected that the fallout will be messy and will need to be sorted out over a prolonged period. What a default means is not as clear for the private sector though. Will investors still provide Zambian SMEs and other corporates with funding? My answer is yes, albeit more selectively, with much more caution and possibly longer timelines for deals to be done.
As a consequence of the macro hardship, consumers will end-up with less disposable income and this will continue to decrease as the economic contraction ensues. The majority of consumers, especially those at the bottom of the pyramid, are already struggling to make ends meet. An increase in the price of staple foods for example will further stretch their financial situation. This means that there is even less room for splurges. The middle working class will feel the pinch as well. This as a consequence would mean a decrease in the overall size of the domestic consumer market. But it also offers opportunities to local producers. Their costs of goods, even though some of the cost components may be in forex, should become more competitive compared to imported goods. And there is local substitution for some imports, especially in the FMCG space. This then leads to the next opportunity, which is the export markets. If a producer is able to take-over a larger share of the domestic market, there should be room to grow in some of the neighbouring countries also. We do see a few Zambian companies looking to expand abroad. Malawi, Botswana, Zimbabwe, Namibia, Tanzania as well as parts of the DRC and Mozambique are very accessible. For many goods the trade tariffs within SADC are free, which creates an incredible opportunity. Why shouldn’t we ship some biscuits to South Africa for a change?
There will be losers in the whole equation. Over-leveraged companies will suffer, USD debt burdened ones especially. This is a repetition of a pattern. In 2015 the currency had a similarly bad run. Many solid companies became distressed because of their USD exposure. Not everybody has learnt lessons from that event. A 25% interest rate in Kwacha may suddenly be quite a bit more attractive compared to a 10% USD loan when the currency is going against you. We do expect another series of bankruptcies emerging from this crisis. Therefore, it is paramount for any investor to delve deep into the financials and operations of a target company before making an investment decision.
Everyone appreciates that standing at the door of a selective sovereign default, nothing will become easier by any means, but it will not stop the whole country’s economy. Life will continue, smart entrepreneurs will start looking at other possibilities and the successful ones will even find ways to expand their businesses. We see opportunities, we see companies that will be able to attract investors and we see investors that are willing to take on these challenges. But a wise investor is not impatient, especially not in these times. Any company looking to align themselves with an investor should be aware of the processes and allow enough time to plan for them. Being investor-ready is a crucial part of that process and – as we have mentioned oftentimes in our blogs – should be high on the agenda for anyone who is looking for capital.
Keep safe and strong and never give up!
References: https://www.zamstats.gov.zm/phocadownload/Monthly/2020/Vol%20210%202020%20The%20Monthly%20September.pdf#page=3  https://tradingeconomics.com/zambia/gdp  https://en.wikipedia.org/wiki/Southern_African_Development_Community - SADC stands for Southern Africa Development Community. 16 countries that include all of Zambia’s neighbours and South Africa.