Wednesday, August 27, 2014


NSSF and UMEME are back in the news, for both the bad and good news depending on which side of the fence you sit on all matter pensions and public utilities! NSSF continues to be clocked in institutional inertia, while UMEME has hit profitability turbulence at the time when all macro-economic parameters are said to be a positive trajectory. NSSF faces a parliamentary probe on among other things, its investment in UMEME, while UMEME continues to have the parliamentary recommendations on terminating its concession agreement hanging over its head. The two corporate giants are undoubtedly joined to the hip by the rumblings at Parliament Avenue. But amidst all this “trouble”, NSSF should be encouraged and supported by all and sundry to actually take up majority ownership of UMEME. 
According to their unaudited financial statements for the six months ended 30th June 2014, UMEME’s net profits are down by 19% to Ugx 38 billion compared to Ugx 47billion last year! That is a $4m drop in profits within six months. After making Ugx 84 billion in profits last year, the projections were that UMEME would hit the Ugx 100bn mark this year. That means they should have been in the range of Ugx 45 billion – Ugx 55 billion at half year! They have only managed to make Ugx 38 billion compared to Ugx 47 billion in the same period last year. This is due to increased repair costs and foreign exchange losses. Cash generated from operations also fell by 40% from Ugx 52 billion in June 2013 to Ugx 31 billion in June 2014. UMEME says this is due to increase in capital projects inventory, and Government of Uganda staggering arrears of Ugx 34.5 billion! In the six months period to 30th June 2014, UMEME also borrowed Ugx 87 billion ($35m) from the IFC – Stanbic – StanChart Credit Facility which attracts interest to the tune of 19% per annum! They also paid final dividends for the year ended December 2013 to the tune of Ugx 27m in July 2014. How does NSSF fit in this mix? NSSF with its 231,722, 771 shares, an equivalent of 14.27% of total shareholding is the 3rd largest institutional investor in UMEME Limited. We need to encourage NSSF to pick up the remaining shares owned by ACTIS (through its UMEME Holding Limited) so as to have the pension fund as the largest shareholder of the utility company. NSSF is a custodian of workers savings and investments, it is only logical that Ugandan workers’ money is also at the heart of spurring economic growth by financing the expansion and capital expenditure on energy infrastructure. UMEME, because of its shareholding structure (including World Bank’s IFC and Private Equity Funds) continues to finance its Capital expenditure/ investment projects using expensive foreign currency denominated loans. For example, UMEME borrowed $35m in the first 6 months of 2014 from the IFC – Stanbic – StanChart credit facility, and intends to borrow another $25m within the second half of 2014. 
This debt attracts interest rates premised on either the LIBOR Rate or Treasury bill rate and margins set by these banks! This works favorably for the banks NOT UMEME and its shareholders. The borrowing and financing costs of UMEME’s investment projects hurts profitability both in the short and long term. NSSF collects in excess of Ugx 600 billion ($240m) a year. Why can’t NSSF extend shareholder loans to UMEME at lower rates in the range of 12 -15%? In an economy of 5% inflation, surely 15% rate of return is still good business. The bulk of UMEME profits continue to be siphoned off by private equity funds and banks (through loan interest rates and bank overdraft charges). With NSSF as majority shareholder, these earnings and profits would accrue to Ugandan workers and savers. UMEME’s CAPEX programme requires affordable long term capital which NSSF has in plenty. This paradigm works in the interest of both firms. NSSF continues to lock the bulk of its cash in fixed deposits accounting for over 80% of total investments! UMEME offers NSSF an opportunity for long term equity investment that offers healthy benefits in dividends. NSSF has already earned over Ugx 5billion in dividends in the last two years. This is equivalent to 25% of the net book value of the Social Security House. Furthermore, with majority shareholding, NSSF would be in position to influence the board structure and local content policy at UMEME for example the human resource, local contractors and repair/maintenance service contracts, procurement etc. All this offers better benefits to both the NSSF members and the wider economy at large. But what are the risks? For starters, Minister Maria Kiwanuka’s reservations on UMEME’s dividend policy are worth noting. UMEME has already declared an interim dividend to be paid by end of December 2014 for anyone who will be on their shareholders register by that time. This poses a risk of people rushing to buy UMEME shares because of the dividends announcement not its sound fundamentals! 
This is risky in the long term. The last thing we want is NSSF end up with a bulk of shares whose price is inflated by dividend announcements not the robust operational performance of the utility firm. UMEME is also equally cash strapped. As indicated earlier, their net cash from operating activities has fallen by 40%. By end of June 2014, UMEME had Ugx 36.6 billion as a bank balance, but Ugx 4.4billion of that was customer security deposits, Ugx 14.2 billion was the net cash from their Statement of cash flows, and Ugx 18 billion was a bank overdraft! In July 2014, UMEME paid Ugx 27 billion to its shareholders as final dividends for the year ended December 2013. It is clear; the dividends were paid using part of the cash from the bank overdraft! In essence UMEME is borrowing to pay dividends and also borrowing to do Capital expenditure. Ideally, they should be using the profits not expensive loans to finance the capital expenditure projects. NSSF’s long term funds could come in handy in this regard, but the only way to ensure NSSF doesn’t get its hands burnt by “UMEME fire” is to first attain majority shareholding at the utility firm.


Muhumuza Mark Keith said...

I am coming to this comments party late, but let but down my thoughts. On the issue of borrowings, the interest paid on the IFC Loan is ideally lower than the market rates for lending. The facility is discounted compared to the commercial rates of borrowing. I do not think there are options for Umeme, not to borrow. Unless you're Dangote, borrowing is unavoidable.

NSSF cant lend to UMEME. The rules from the Pensions Regulator indicate that for you to lend, it has to be through an instrument that is listed. So it is either a corporate bond, issued by Umeme or an Asset Backed Security. Umeme could have issued a corporate bond of like Ugx200bn and do it in half year tranches. [From the grapevine though is that issuing a corporate bond of this size is rather more expensive than borrowing - I am currently "investigating" this for my next blog post. So NSSF cant issue a shareholder loan at this stage.
Notably the retained earnings of 180bn are part of what is reinvested. If you noticed, the 118bn invested in Jan-June 2014 was a mix of a loan and retained earnings. So yes, Umeme borrows but then it also uses its own money. [Apparently, there is a 20% return on CAPEX investments. This explains the demand from the offshore chaps]

On the matter of the dividend, Umeme generates revenues monthly. In just one month, it can just dedicate collections to the payments of dividends. I am not sure of any business that does have such huge cash reserves unless you're Apple. More so, the Ugx27bn was paid in July. The next dividend will be paid at the end of 2014, so they can always generate the cash to pay it off.

On the long term sustainability, I look at Umeme and think a dividend policy of 50% as the only worry. I there anything in keeping investors happy? I doubt that. BATU does almost the same amount. The question for me is whether UMEME can sustain payment of this dividend percentage.
The concern on whether NSSF will be holding onto "junk" shares in the future I feel is one that any other investor would face. Surely the same can be said about real estate where NSSF could be stuck with houses unsold and expensive. Prices plummet and then it either is stuck with them or not. Of course Umeme supplies power, and it will at least until the concession expires. What happens after that could be a de-listing or NSSF could end-up taking up a significant chunk of shares and running the power company.

My 50cents.

Rugaba Agaba said...

Good stuff bro. Insightful I must say. I guess considering government may be unable to compensate UMEME CAPEX (un-depreciated) by end of the concession, NSSF may take up the utility firm.