Two Foolish opportunities in Africa.
It's one of my resolutions this year to look more closely at frontier markets, a loose term for emerging economies that are not in the first rank alongside the familiar BRICs. And their positive fundamentals are a healthy antidote to the negative thinking in the Western world. Here, the bull case is to bet that the eurozone doesn't fail and no European nation defaults on its debts.
Frontier markets are driven by the same fundamental factors that have powered the BRICs: variously, a mixture of some or all of an abundance of natural resources, rising populations, burgeoning middle classes, industrialisation, urbanisation and eager new consumers. On paper, they should be a sure-fire bet.
Worst enemies
Of course, it doesn't work like that. First, developing markets have often been their own worst enemies. Political instability, economic mismanagement, corruption and other ills have held back economic development in Africa, Latin America and elsewhere.
And emerging markets are far from immune to the Western world's problems. Only yesterday, in its newly released Global Economic Prospects, the World Bank warned emerging markets to prepare for a global economic crisis on the scale of 2008/9 should the euro sovereign debt crisis escalate. It significantly trimmed its projections of global growth in any case.
An escalating euro crisis would hit emerging economies in several ways. Oil and commodity prices would fall, remittances sent home from workers in rich countries would decline, banking systems would be hit by liquidity shortages and confidence would fall across the board. Add to that the volatility of international capital flows that get pulled out of marginal destinations at any sign of crisis, and it hardly seems the best time to invest in frontier markets.
But this is not a plan to dive in head first with an across-the-board allocation. I'll steer clear of exchange-traded funds, as the last thing I want is general market risk. I'll consider funds, but am reluctant to pay someone to put my money into a black box.
Africa
What I really want to do is to own an (admittedly miniscule) part of a business that is strategically but prudently exploiting the growth prospects of frontier markets. My model for this, in Africa, is a long-held -- and more recently topped up -- holding in Lonrho (LSE: LONR).
Lonrho operates across 19 countries in sub-Saharan Africa in five business sectors it sees as vital to the continent's development. It's a convincing strategy that ticks a lot of boxes, and the diversification of countries and standalone sectors reduces risk.
The biggest division is agribusiness, where the potential is enormous. Africa contains 60% of the world's arable land but only 10% of it is productive. Lonrho operates as a vertically integrated supplier, getting Africa's produce into shops in Europe, the US and the Middle East.
The company's infrastructure assets include an oil services terminal in Equatorial Guinea, and it is undertaking a feasibility study with the Government of Ghana for a similar facility for that country's developing oil industry.
Its transportation sector comprises a budget pan-African airline positioned to act as a regional carrier to international airlines, while its hotel business has recently signed a franchise agreement with easyGroup to create an easyHotel.com brand across the continent.
Lonrho, like Africa itself, is still developing, but to my mind is laying down a business with massive growth potential.
PZ Cussons
A company with a more established business in Africa is consumer-products company PZ Cussons (LSE: PZC), manufacturer of such well-known brands as Imperial Leather, Cussons and Carex. Over 40% of its revenues are in Africa, where Nigeria is a core market.
A further 20% of its business comes from Asia where its principal market is Indonesia, a frontier market itself honoured as the "I" in HSBC's CIVETS group of second-tier emerging economies. For a company that can boast 38 years of dividend increases, it is well placed to exploit future market growth. Unfortunately, those fundamentals don't come cheap, with the company trading on a P/E of 19.
Though Lonrho and PZ Cussons are very different companies, they both share attractive characteristics when it comes to exploiting the potential of frontier markets. They are well managed and prudent, with businesses that will naturally benefit from the development of the economies they operate in.
That's what I'm looking for. Of course, Africa is stuffed full of mining companies, but their fortunes will follow the global market for commodities (and their exploration success). What I'd like to find are companies in strategic sectors such as infrastructure, telecommunications, agriculture and consumer products.
If you have any suggestions, why not share them in the box below.
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More from Tony Reading:
> Tony has shares in Lonrho.
