Blue Label: a mark of quality in whisky, but perhaps not in dealmaking

I am not completely sure whether the company was named after Johnny Walker’s finest, but I’ve seen the executive boardroom myself and there are many empty bottles adorning the walls. Each one has writing on it, which suggests that it was opened to celebrate a milestone.

Blue Label Telecoms is a business that really needs to stick to its knitting. Founded in 2001 and listed in 2007 (terrific timing for a capital raise at the top of a cycle), Blue Label is excellent at selling prepaid services like airtime, electricity and even tickets for events.

The company is less skilled at having a punt with shareholder capital. Joint-CEOs Brett and Mark Levy (yes, they are brothers) hold around 16% of the shares in issue, so they do at least ride in the burning car along with the other shareholders.

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Growth: calling all pockets

Blue Label isn’t a high margin business, that’s for sure. Selling prepaid services is firmly a volume play, evidenced by gross margin that has hovered between 7% and 10% over the past decade. The recent trend is at least positive.

Revenue growth is also tricky to come by, with sales ticking along just higher than inflation.

It’s a solid business at its core, but not a very exciting one. Clearly bored by the thought of consistent returns into perpetuity, management went on a spree of high-risk dealmaking in pursuit of growth, most of which has ended in tears.

The 71 WiConnect retail stores are also being shut in the wake of Covid-19, although they weren’t doing well even before lockdown hit.

The share price is down around 85% since it peaked in October 2016. It’s around 65% down since its market debut in 2007. The whisky on the wall might be Blue Label, but the share price is flavoured turpentine.

Breathing Oxigen on the Cell C fire

An excellent example of a deal that went wrong is the investment in Oxigen India, which has been written off entirely according to the somewhat cryptic comment in Blue Label’s trading statement. Sold to the world as India’s equivalent to WeChat, even Sachin Tendulkar’s endorsement couldn’t help the company achieve its ambitions.

Blue Label can only dream of the success that Tencent brought to Naspers with WeChat, although many believe that Naspers was simply very lucky.

I can live with Oxigen. It was a punt into an emerging market and was probably a reasonable decision at the time to take a risk and chase growth.

There’s a far bigger problem here: Cell C.

Cell C: The Edcon of telecoms

Blue Label acquired a 45% stake in Cell C in August 2017. Blue Label’s share price was around the R16.50 mark. It now trades at R3.12 which gives you insight into how well this deal has gone.

Cell C lost -R8bn in FY2019, of which Blue Label shareholders enjoyed a whopping share of -R3.6bn. That’s like finding a surprise shot of tequila at the bottom of your finest malt.

Seeking a positive in the situation, management noted that at least the investment had been written down to zero. It’s only upside from there!

I guess that’s one way to see the glass half full.

Cell C has had an eventful 12 months. A year ago, Telkom tried to buy Cell C to create a mobile operator capable of taking on Vodacom and MTN. That makes sense on paper, but Telkom doesn’t have the balance sheet to support Cell C’s bad profit habits.

In any event, the Cell C board of directors rejected the offer. One wonders what Blue Label would’ve done had they been given the chance to sell.

The Cell C headlines sound a lot like Edcon, as the telecoms company has now defaulted on payments on R3bn in loans. Cell C is in a tricky position because it isn’t too big to fail.

Putting the C in Capitalisation

Cell C needs capital. The company has a R9bn debt burden and isn’t meeting its finance obligations. Major shareholders Blue Label and Net1 (another colourful company) aren’t going to put more money in.

The rumour mill suggests that billionaire Jonathan Beare will recapitalize the company, which will dilute Blue Label down from 45% to an expected 30%. In simple terms, this means that a consortium led by Beare will subscribe for new shares so that cash flows into Cell C to pay off debt. As a result of more shares being in issue, Blue Label’s percentage stake would diminish.

On the rocks

Blue Label is on the rocks. The market has little love for the capital allocation track record of the management team. The core business is still ok, but the company seems unable or unwilling to just focus on what it is actually good at.

Perhaps Cell C will become a success, despite Telkom Mobile eating its lunch. Perhaps Oxigen really will become India’s WeChat. Perhaps the ANC will fully erase corruption from party structures.

I would place an equal probability of each of those events.

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