On its knees? Manufacturing sector in limbo

By MACHARIA KAMAU and JEVANS NYABIAGE

One can loosely say that love is in the air on any given February 14. Indeed, many come out of the woodworks on the St Valentines with the word love on their lips, whether genuine or otherwise. But for beer giant East African Breweries, February 14 this year was a tough one, a Valentines Day devoid of love.

At an investor briefing, the firm announced that it would carry out a restructuring that would see 100 staff sent home at its main subsidiary — Kenya Breweries Limited. The firm is also cutting production days to five from seven at its Ruaraka-based plant to save costs.  The most affected is the Senator Keg production line, which targets the low-income market. EABL’s problem emanates from the move by the Government to introduce a 50 per cent tax on the low-cost Senator Keg on October 1, last year, which hit the brand’s sales and volumes.

With the imposition of this tax, the brewer increased the retail price of the Senator Keg by 67 per cent to Sh45, making it unaffordable for most of its target consumers. The brewer said the brand recorded a sharp 85 per cent drop in volumes in the six months through December 2013. This weighed down on the brewer’s net profit for the first half of the financial year, which grew by just four per cent to Sh4.1 billion.

At the February 14 briefing, EABL management said about 3,000 outlets that largely relied on Senator Keg for sales had closed and a similar number was in the danger of shutdown.

The upshot of this is that thousands of jobs have been lost. The brewer’s case gives a peek into what could be ailing the manufacturing sector, once a jewel that created millions of jobs directly and indirectly. Trouble is that industries have not been growing fast enough to provide many sustainable jobs.

The textile segment, which could easily create thousands of jobs, was brought to the knees due to mismanagement, corruption and influx of cheap second hand clothes. Cotton farming is on the brink of collapse.

The sector has been left to smallholder farmers that have cut production capacity. This jeopardises Kenya’s ability to utilise the platform offered by Africa Growths Opportunities Act (Agoa) that extends locally manufactured apparel preferential access to American markets.

Industrial collapse

About two decades ago, the sector comprised 52 textiles mills and employed over 42,000 people. Since then, however, domestic spinning and weaving capacities have drastically reduced to only 15 main textile mills, which are under capacity.

In 1985, Kenya produced 38,000 tonnes of seed cotton. Production declined to 14,000 tonnes a decade later. As at 2005, production stood at only 5,000 tonnes from 30,000 hectares, translating to one tonne for every six-hectare piece of land. Production appreciated by 4,800 tonnes a year later as the Cotton Amendment Act of 2006, which led to the establishment of the Cotton Development Authority, took effect. The near collapse of the industry is attributed to the structural Adjustment Programmes, trade liberalisation of the 1980s and 1990s, corruption and mismanagement at the defunct Cotton Board of Kenya.

Liberalisation ruined the vertically integrated system for input supply, extension services and seed cotton buying. This, combined with falling world prices, has resulted in thousands of cotton growers abandoning the cultivation of the crop.

With this, growth in the manufacturing sector has stagnated at about 10 per cent to the gross domestic product (GDP) over the past three decades. The biggest challenge in the sector is the high cost of energy.

Kenyan consumers pay between 18 and 21 US cents (about Sh18) per unit of electricity, compared to other countries like Egypt and South Africa, which pay 3.1 and 4 cents per kilowatt hour respectively. Blaming high production costs, firms such as Reckitt & Benkiser, Procter & Gamble, Bridgestone, Colgate Palmolive, Johnson & Johnson, Unilever and many others have relocated or restructured operations in the past.

Colgate Palmolive ceased manufacturing in Kenya in 2006 and tendered out its plant after a review of its marketing and distribution operations. Home and personal care giant Reckitt Benckiser closed its manufacturing in Kenya and contracted Orbit Chemical Industries Ltd to produce its household brands such as Jik, Dettol, and Harpic. Egypt – and now South Africa – is the biggest beneficiary of Kenya’s manufacturing exits, getting the bulk of the contract jobs from local companies frustrated by high cost of production and uneven business environment. The cost of power in Egypt is three times lower, helped by heavy government subsidies.

According to Kenya Association of Manufacturers (KAM), even other EAC countries are far much cheaper than Kenya, with consumers in Uganda and Tanzania paying 11.8 and 7.4 US cents per kilowatt of electricity respectively.

At the Nairobi Securities Exchange (NSE), the performance of nearly half of listed manufacturing firms is not impressive. In the financial period to December 31, 2013 a number of these companies such as Bamburi Cement, East African Cables, Mumias Sugar, Carbacid and Eveready reported a dip in profits, sunk into losses or witnessed some sort of disruption.

Take, for instance, Cement maker Bamburi, which is the leader in terms of market share and sale volumes. Its net profit plunged 26.3 per cent to Sh3.6 billion, attributed to reduced sales and stiff competition in the industry.

Mumias Sugar, which recently saw its CEO Peter Kebati and Commercial Director Paul Turgor suspended over allegations of irregularities, reported a Sh73.4 million loss in six months to December. This was a second straight year loss that the sugar miller made from the Sh1.1 billion loss recorded in the first half of 2012.  In February, Battery maker Eveready said its full-year pretax profit fell 12 per cent on the year to Sh60.4 million, hit by adverse foreign exchange movements.

The firm registered an 11 per cent growth in revenues compared to a year earlier, but a 35 per cent decline in export revenues resulted in 4 per cent overall revenue growth. It said exports were also hit by distribution challenges in Tanzania. 

East Africa Cables, which manufactures copper cables, aluminium conductors and fibre optic cables saw a 23.7 per cent dip in net profit to Sh398.2 million from Sh522 million the previous year.

Stiff competition

Industrial gas manufacturer Carbacid saw a 12.3 per cent dip in net profits to Sh235 million in the first half of its financial year. The gas maker blamed this on decreased demand from southern Africa customers.

However, analysts say the results from the listed manufacturing companies might not be a full representation of what is happening in the economy.

“It would be good to categorise the companies into sectors. Could it be a specific sector that is suffering such as sugar,” said Eric Musau, research analyst at Standard Investment Bank. “This way, one may be able to tell what is happening in specific manufacturing segments. The affected segments could be due to stiff competition, high power costs and unstable regulatory regime.”

Musau said in some cases it could also be one off events for the year such as in Carbacid, which said an increase in volume in Tanzania in the previous year that affected their profitability.

Prof Michael Chege, an economic advisor at the Ministry Devolution, says it might be too early to write the firms off. “Demand for products from some of the manufacturing companies (except Mumias which is agri-processing) tends to pick up in the second half of the year. So it is rather early to write them off,” said Prof Chege.

“Mumias and the sugar factories all suffer from high costs and illegal and lower-priced sugar — and that situation is getting worse.”

He said the contribution of manufacturing to the economy has stagnated for more than 30 years, mostly due to a mix of factors.

“It is true, as a share of GDP; manufacturing has remained at 10-13 per cent over three decades,” Chege told The Standard on Sunday.

“The problems have been identified by Vision 2030 – high energy costs, bureaucratic hassles that raise cost of doing business, poor infrastructure (think of our traffic jams) and insecurity. The government is addressing these but it will take time.”

With other sectors such as agriculture and tourism struggling, the Jubilee administration’s plan to create about 500,000 jobs a year could face headwinds.

Besides agriculture, industries are supposed to create millions of both white and blue-collar jobs. But the sector has not been growing enough to create these jobs. This weak growth poses a risk to long-term growth prospects and addressing youth unemployment, which now stands at about 45 per cent according to the World Bank.