Africa's Current Business Environment Africa's Current Business Environment | A News and Media article brought to you by Lyra-Consulting

Africa's Current Business Environment
Introduction

All businesses have to operate within the prevailing business environment, which is influenced by a range of economic factors. These economic factors present both opportunities and challenges which businesses must manage.

The world financial crisis of 2008/9 and subsequent slow recovery has enabled one to test many economic and financial theories within an extreme environment. The resultant growth of investment in emerging markets in search of greater returns by way of foreign direct investment, trade and the rise of the BRICS is well documented.

To consider the main economic factors which are said to affect the prevailing business environment and how they have demonstrated themselves in practice, I am going to consider them in relation to Africa in particular.

The Economic environment in Export Markets

The general proposition is that a country’s economic performance drives both investment and trade possibilities in relation to that country. This is undoubtedly the case when one considers the recent growth and investment in Africa however, at the time of writing, it would seem the trend of investing in Africa (or more precisely Southern and Central Africa) may be reversing. (Business Day (2016))

Africa generally has a number of distinct advantages which would account for economic growth:

The attractiveness of involvement in trade or investment in Africa does depend largely on the particular country. While Sub-Saharan countries have a fair amount in common, this is a continent with vast disparities. The African nations are all in varying stages of development, South Africa (“SA”) being the most developed but being surpassed in growth by Nigeria “Africa’s New number One” (The Economist (2014)).

here are a multitude of African languages but many African countries operate business in either English, French or Arabic, depending largely on their colonial ties. The legal systems include Common Law, Civil Law, Islamic law or a combination (e.g. SA which is Roman Dutch and Common Law).

In the past few years the continent has seen significant investment in infrastructure by Sovereign Wealth Funds, Pension Funds, Development Banks, International Banks and much development has been led by countries such as China and India (e.g. the construction of airports in Kenya and Mozambique and various railways). The African Union, New Partnership for Africa’s Development (NEPAD) and the African Development Bank (ADB) launched a programme for the infrastructure development in Africa (PIDA) and the initiative has a budget of several billion dollars. (Nepad (2010))

The challenges of building and maintaining infrastructure has resulted in significant investment and success of the mobile telephone operators and the result has been new local technological innovations e.g. the Impesa in Kenya. (McKinsey (2013))

Growth in the middle class is a driver for the increased spend on consumer goods including luxury brands for example, the Nigerian elite and middle class which encompass purchasing German motor cars, Swiss watches etc. The upside is that there has been an increase in the living standards of the middle classes but there is a concern (shared by the writer) that this is not reaching the most desperate levels in society.

SA is currently the largest economy in Africa and the Johannesburg Stock Exchange is the largest stock exchange but, with declining growth rates, many foreign investors are looking for better returns in other countries eg Nigeria and Kenya. SA still has excellent infrastructure and a highly developed services industry (the sector contributed 70 % to the country’s GDP according to Statistics SA (2014) ) (WESGRO Research 2014), and a robust legal system.

Nigeria’s economy is in a boom phase, it has an abundance of natural resources , particularly oil, but it has structural problems which make it less attractive to do business including political instability, high corruption levels, communication issues and a challenging legal environment.

According to McKinsey, China, India and Brazil have found technology and, in particular the internet as a catalyst to economic growth, contributing in excess of 10 percent of total GDP over the past 5 years. Meanwhile, only 16 percent of Africa’s population are online but this is rapidly increasing due to the growth of the mobile operators and decrease in the cost of internet access. Rwanda, Morocco and Nigeria are planning to launch high speed internet access while Kenya and other countries have developed ICT hubs. The internet has resulted in greater ease of doing business, access to public information and services, provides digital education and even primary health services. (McKinsey Global Institute, (2013) pp 1- 6.)

Supply and Demand

Demand for goods is variable depending on economic conditions, technological advances, market trends and other factors. The demands of the individual consumer and the whole market affect demand. The higher the demand, the higher the price that the market will sustain (but this must be within reasonable limits, beyond which the items will either be substituted or possibly abandoned). Some goods are in demand as necessities like food, clothing and housing, others like for example mobile phones are luxury items in Africa. Harsher economic climates will negatively affect the demand for luxuries while necessities will remain constant and consumers will be far more price sensitive and try to scale down e.g. the move to more economical retail stores (the growth of more “economical” retail chains like Shoprite/Checkers throughout Africa is a good example). Tastes and preferences still play a large role for example in many African countries they prefer white maize meal to the more yellow America corn from the USA (even when being supplied in aid packages).

The decreases in tariffs and quotas will open markets to alternative suppliers. The entrance of Massmart into Africa is hoped to increase competition in local prices. The rise in the middle class in Africa positively contributes to the demand for all consumer goods including luxury items. Shortage of electricity supply have resulted in the local power utilities drastically increasing the prices of electricity but also, to many mines, smelterers and even private individuals investing in renewable energy alternatives and other new technologies.

Impact of Exchange rates

The general proposition is that a stronger exchange rate encourages imports while a weaker exchange rate encourages exports. To improve or control the balance of payments, governments may attempt to encourage exports by weakening the exchange rate. Lowering interest rates is a typical response designed to boost the economy and encourage exports and economic growth. Unfortunately, low interest rates have a negative effect on savings, investments and particularly pensioners.

The economic performance of the country and, in particular the Country’s Rating will also influence the exchange rate. This is highly evident in a country like SA where the currency has been rapidly falling of late. Long term economic trends are negatively effecting the Country’s ratings and exchange rate and also have incidents which have immediate reaction eg the removal of the Finance Minister caused a sharp plunge in the exchange rate. (Moneyweb (2015)

Some countries who still peg their currencies to the USD and other major currencies example the South American countries who endeavour to peg their currencies to the USD. Interestingly the “special relationship “between Zimbabwe and China has resulted in Zimbabwe decoupling from the USD in favour of the Chinese Yuan. (The Guardian (2015) Zimbabwe to make Chinese yuan legal currency)

Taxation

Indirect and direct taxation has a big impact on attractiveness for companies investing in or trading with certain countries. For example, China, Dubai etc have been very successful in developing various free trade zones to facilitate trade. High tax countries are definitely at a disadvantage, for example, SA was traditionally seen as the “gateway” to Africa but the tax advantages and general ease of business in Mauritius has made this Island a serious contender challenge.

The Balance of Payments

Certain countries like China have a trade surplus, but many like the USA are in deficit. (OECD.stat (2016). SA’s trade deficit expanded further in 2013 with imports growing by a 16% compared to the 12.4% growth in exports. The weaker Rand should contribute to growth in exports, the dollar indexed products such as crude oils (currently in the region of 21 % of the country’s imports) negatively influence the country’s trade balance. (WESGRO Research p 1).

Impact of commodity prices

Commodity prices are a key factor in international trade, for example, the oil price effects the costs of all transportation of goods and, inevitably, the price of all consumer goods. Even in a country like Nigeria, one of the world’s largest exporters of oil and a member of OPEC, the forward sale of oil to foreign buyers left their own country with a fuel shortage in 2015. The weaker commodity prices have resulted in an economic downtrend in resource exporting economies. For example, in the Congo, Zimbabwe and SA, many gold, copper and other mines have been forced to close due to weak commodity prices (as well as other factors such as political instability, ‘indigenisation” policies and high withholding taxes.)

Ease of Doing Business

The BRICS nations are an interesting case to consider the ease of doing business. Russia is highest ranking at 51, followed by SA has ranked 73rd overall in the World Bank’s Doing Business Index although. Meanwhile India is ranked only 130 worldwide. (Note SA now ranks behind Botswana at 72.) The rating is thus important but by no means decisive.

World Bank 2015 Ease of Doing Business [online] Free Trade

The General Agreement on Tariffs and Trade (GATT), replaced by the “World Trade Organisation in 1992 has reduced import tariffs around the world and provided impetus for entering into joint trade agreements. According to Aregbesola, the typical trade barriers are “arbitrary and discriminatory” and stem from political motives rather than economics. (Aregbescohola 2014 pp187 to 197)

The Index of Economic Trade by the Heritage Foundation and the Wall Street Journal is considered to be a “significant determinant of GDP”. According to the OECD “it is clear that trade contributes to economic growth. Open economies grow faster than closed ones, while trade restrictions stifle productivity and growth, and often tax the poor disproportionately”( OECD Week (2012) p2)

Hong Kong, Singapore and Doha are successful examples of free trade zones which are now major economic centres. (Heritage 2016)

Impact of Imposed Economic Measures

There are 4 stages of economic integration:

(Aregbeschola (2014) pp 57-58)

The European Union is a highly successful example of the economic integration of nations resulting in reduced and in some cases totally eliminated tariffs and tariff barriers and the movement of capital and labour. The success of trade agreements has lead to the increased number of notifications of Regional Trade Agreements between 1994 and 2009, notifications of African countries and the rest of the world amounted to 19 in 2010. In fact all African nations in the top 10 are part of the SADC and the SACU free trade agreement, showing the positive effects of regional integration. While China was the major market for SAn exports followed by the United States, the African export markets are seeing substantial growth with exports to Mozambique and Zambia showing growth in excess of 22%. (Aregbeshola (2014) pp 56- 58)

To compare the EU and the SADC, both constituent members are in same geographical area but the SADC is far underdeveloped air, road and sea links. Most African countries have significant natural resources but, with the exception of SA, are very reliant on commodity trade. The SADC member states generally are far behind the EU in labour and manufacturing capacity although there is significant impact of technology. All the countries have their own currency but a significant amount of trade is USD based.

The SADC has more defined developmental objectives extending beyond economic aims including the promotion of democracy, the combat of HIV/AIDS, ensure poverty eradication and even community building. SACU’s aim is to provide free internal exchange of goods and a common external tariff. SA is the custodian of this pool, the revenue shared according to an agreed formula. (Aregbeshola (2014) pp 81- 83)

The Common Market of Eastern and Southern Africa (COMESA) was developed as a trade block and a counterbalance to SA but the SADC has been generally more effective in its aims. NAFTA is a source of concern for some countries including SA due to the shift of trade to Canada and Mexico. The shifts to a trade block is thus at the expense of third party countries. (Aregbeshola (2014) p 70)

Sanctions

In the case of the USSR there are significant sanctions, even relating to the provision of financial services but are not imposed by many African countries and, as a result, there are significant Russian interests in many countries in Africa and, for example the leading Russian bank, Gazprom bank is a leading arranger etc in many infrastructure projects throughout Africa. (Reuters/ Urquhart (2014) p 6)

Impact of Economic Factors on our business when trading in international markets

We are in the business of cross border trade, procurement and business development and Africa is the new market for the Group.

Risk ratings used by sovereign wealth funds, pension funds and other investors are having a big impact on business generally. Recently SA was downgraded from stable to negative by Standard and Poor rating agency apparently due to a lower than expected GDP, persistent electricity shortages, weak business confidence and risk of further labour disputes. (Fin 24 (2015) )

We operate within serious Know-Your- Client and anti-money laundering regulations because our shareholders’ are a financial services group, accordingly, corruption and in particular, any concerns relating to bribery/facilitation payments is an aspect we consider before entering into any transactions within a particular country. A Scandinavian client entered into the African oil trading market over 10 years ago with a zero bribery policy and has also been surprisingly successful.

Of the BRICS nations SA scores the highest at 67/175 on the Transparency International Corruptions Perceptions Index, the lowest being Russia at 136/175 which it coincidentally shares with Nigeria. Not surprisingly Botswana is the highest ranked African country at 31/175. SA’s COFACE rating of A$ for Country Risk and Business Risk shows systemic weakness. (Transparency 2016, Coface 2016)

Connectivity is a always major issue and we have abandoned working with a South American firm in favour of a SA one largely because they managed the practical, logistical issues more successfully. Comparing the BRICS nations on the International Supply Chain Connectivity Index, China ranks highly at 4th while the others BRICS nations lag further behind and SA doesn’t fare too badly at 68th place.

Free trade zones play a large role in our trade for example, we would rather source coffee from Tanzania than Kenya for SADC countries because it is not a member (although it is a big player in COMESA). Presently many manufacturers are moving their businesses out of SA to Mauritius or Botswana to take advantage of the reduced tax rates, ease of doing business plus access to the SADC.

The costs of transportation are an issue so in one case we are doing a costs analysis between sending one ship versus several flexi containers of an oil product to China. Where commodity prices are lower e.g. the reduced prices of gold or the tighter margins in coffee (both roasted and green), the entire business may be abandoned by the smaller players because it is simply not sustainable unless one has the ability to trade in bulk and also warehouse goods to hopefully obtain better pricing in future. In addition, we have found the margins in finished products to be greater than commodities so, in our industry, there has been a trend away from commodities to higher value finished products.

Presently we don’t use futures contracts presently to guarantee prices but our client’s often do. We also have clients who actually hold the physical commodities to hedge against the commodity price risk eg jewellery manufacturers holding gold bullion.

Economic sanctions can have a vast impact on both a country and trading operations in relation thereto. For example, until recently there have been significant sanctions imposed by the USA on Iran on all aspects of trade. Generally these sanctions do not restrict the flow of basic goods like food, however, in the case of animal feed, my firm considered it prudent not to engage in the trade of animal feed with companies in Iran for risk and reputational reasons. Meanwhile several other companies made vast profits providing grain to the market until the sanctions were lifted.

Despite the high number of patent applications at the World Intellectual Property organisation from China, in practice the general concern is that China (and also India) do not sufficiently enforce patent protection so some key manufacturing processes are still undertaken locally rather than being outsourced to China/India.

Presently there is a lot of concern relating to the participation in the African Growth and Opportunity Act, in particular in relation to imports of poultry and meats from the USA. Presently the negotiations are ongoing but should AGOA exclude SA, we will seek new markets for agricultural products which would ironically be good for our business as we are seeking these products for China, India and the Middle East (although many of the suppliers are not yet accredited for some of these markets).

Conclusion

In conclusion, it has been demonstrated that a myriad of economic factors, some of which are interconnected, will influence the business environment. Some may carry more weight than others but generally a well-seasoned business will weigh all the considerations in determining the types of trading and/ or investment activity it will engage to maximise it’s returns and limit its risk. While Africa potentially offers great returns, the concern remains whether the risks justify the rewards and, in light of constantly changing world economics, are there other emerging markets to explore.