5 South African Stocks With Growth Potential

by: Investment Underground

by Premo Sewnunan

In this analysis I take a look at stocks with operations in Africa's largest economy. In South Africa, the growth forecast remains rosy. The IMF recently forecasted that the South African economy could grow by 4% in 2011 and 4.2% in 2012. As with all government and institutional figures and forecasts, this should be read with a fair bit of caution.

The country’s growth from the recession has been uneven, with the primary growth driver being household consumption. Currently, South African households are highly indebted, which puts a damper on the veracity of the IMF forecast. Furthermore, South Africa has close economic ties with developed countries, particularly Europe, which finds itself in a liberal-spending induced quagmire at the moment.

South Africa released its second quarter GDP data which showed the economy limping along at a 1.3% growth rate, quarter over quarter, which is a far cry from the 4.5% growth rate achieved in the first quarter. Here are the noteworthy companies:

Sasol Limited (NYSE:SSL): Sasol is a diversified energy and chemicals company that mines coal, produces gas and oil in neighboring African countries, and refines crude oil on its home turf. The company’s chemical operations span the globe.

Sasol is currently valued at $27.7 billion with a price/earnings multiple of 11.57 (for the trailing twelve months). Shares trade at only 2.3 times their book value. The company pays a 2.1% dividend. In general, the stock price mimics the broader market averages and has slightly underperformed both the S&P 500 (NYSEARCA:SPY) and Dow (NYSEARCA:DIA) over the past 3 months.

The fortunes of this company are heavily tied to commodity prices and currency exchange rates. Most South Africans prefer low oil prices and seeing the South African currency, the Rand, perform strongly against other currencies. This is not the case for Sasol, though, as those combined factors can eat into profits significantly. A further risk to the company is its workforce, which is controlled by militant trade unions. The recent strike for higher wages resulted in the company’s main plant being shut down.

Management recently said it expects full year earnings to jump between 22% and 32% on strong commodity prices.

AngloGold Ashanti (NYSE:AU): AngloGold is Africa’s biggest gold miner. As of 2010, the company had proven ore reserves of 71.2 million ounces.

AngloGold is currently valued at $18 billion, and the price/earnings multiple stands at 22. As investors would expect, the share price has outperformed the Dow and S&P 500 since August due to the company's association with precious metals. However, between May to July, the share price lagged the market.

June period results beat analyst expectations on a higher gold price and cost containment. Amid current sovereign debt concerns in U.S. and Europe, which are unlikely to be solved anytime soon, the price of gold continues to climb. This is a boon to gold miners like AngloGold.

Looking at the operations side, gold mining in South Africa is expensive, with rising labor costs. As with Sasol, most of the industry workforce is unionized, with annual strikes being violent and prolonged. This eats into profits.

It is noteworthy for investors with a long time horizon that gold reserves in South Africa are estimated to be depleted within the next 12-15 years. However, we think Sasol remains in a top position to extract it.

Gold Fields Ltd (NYSE:GFI): Gold Fields is the world’s fourth largest producer of gold.

At the current valuation, Gold Fields is expensive. The company is valued at $12 billion, with a price/earnings ratio of 37 (trailing twelve months). The stock price is fairly stable, with a 52 week low of $13.62 and high of 18.7. This is a notable achievement considering the behavior of the gold price. The stock has outperformed the market averages since July.

June period results, although solid, were below analyst expectations. Profit for the quarter advanced 15%, and analysts expected a better showing given the rise in the price of gold by 9% during the reported period. Gold Fields maintained its full year production guidance, but analysts are skeptical given the recent strikes and stoppages due to safety reasons.

The company is conservatively financed with a healthy cash flow. Indeed, Moody’s (NYSE:MCO) upgraded its credit rating outlook to positive, citing the company’s progress in diversifying its operations geographically and being less reliant on its South African operations for its financial condition.

Harmony Gold (NYSE:HMY): Harmony is the world’s fifth largest gold producer with operations in South Africa and Papua New Guinea.

As with its rival, Gold Fields, Harmony Gold is expensive. The company is valued at close to $6 billion with a trailing twelve months price/earnings ratio of 68.56. The stock price has outperformed the market averages since late March. Further, the stock has been the best performer among its peers this year.

Fourth quarter results were disappointing as profits dove 67% due to higher operating costs. We expect output to rise in the back half of the year when new shafts start to operate. We anticipate that Harmony will fix its operational problems in Papua New Guinea. This should result in a better earnings report in the coming quarters.

UEPS Technologies (NASDAQ:UEPS): The company provides an alternative payment system to South Africa’s under-banked population which mostly resides in rural areas.

Despite the recent sharp drop in the stock price, the current price is a few cents above its 52 week low, and the the company is still overpriced with a price/earnings ratio of 98 (trailing twelve months) because GAAP earnings per share dove 93% for fiscal 2011. The stock has lagged the market significantly for 2011, dropping over 40% since January.

Management’s outlook for 2012 is hazy with its pension and welfare business segment expected to record flat growth while recording modest growth in its EasyPay and KSNET business segments. The company's EasyPay system has the potential for incredible growth if it can penetrate its target rural markets more effectively, however.

Some investors may consider the current stock price a viable entry point but should consider the underlying business fundamentals, especially over the last year, before committing funds.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

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