IN THIS ISSUE:

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• Not what the doctor ordered
• Government muscles in on the medicines trough
• The worst argument for entering business ever!
• Could this be the next sector laid waste by political claptrap?
  

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From Gareth Stokes, Editor, The Investor's Digest

Dear reader,

The wicked web of irresponsible relationships between business and politicians is expanding
by the day. So many high-ranking government and municipal managers are involved in private
businesses it's surprising a day's work gets done!

But instead of untangling the mess of companies and connected persons, government is
pressing ahead with plans to build more "bridges" between it and private sector "islands". What
do I mean?

Instead of creating an environment conducive to business, government has plans to become
business! It is a plan years in the making.

A while back, the nation became aware of companies such as Chancellor House, established as
an investment arm (and probably fund-raiser) for the African National Congress (ANC). In the
years since, this company has benefited from lucrative contracts in a number of industries.

But government wants more. Not satisfied with the ruling party's business empire they've decided
to intensify their private sector activities. And they have a number of tools at hand to achieve
this goal.

The first is the unpopular threat of nationalisation. Thus far, ANC Youth League president, Julius
Malema, stands alone in his call for government to "take back" mining and financial sector assets.
But there haven't been many dissenting voices from his political minders, suggesting the idea
enjoys support from the highest party structures...

Government's second empire building tool is to expand the realm of state-owned entities. Forgetting
for a moment their poor record in running the likes of Denel, Eskom, Transnet, the SABC and a
variety of other so-called parastatals, government now wants to enter other sectors of the economy...

No beating this argument: we consume it so we should manufacture it!

Step one was to establish a state-owned mining company, which took place with little fanfare when
the African Exploration Mining and Finance Company (AEMFC) was established in 2007, under the
auspices of the Central Energy Fund. This company returned to the media spotlight in February this
year when it announced plans for its first coal mine.

In recent months, the AEMFC has received around 27 prospecting licences from the Department of
Mineral Resources, mostly for coal and uranium ore, but also covering chrome, cobalt, gold, iron,
copper, lead, manganese, nickel, lithium and diamonds. And there have been reports of numerous
licences awarded to Chancellor House too...

The private sector is up in arms over the obvious conflicts.

Government “ with dual interests in mining activities through both its own and the ANC-controlled
Chancellor House “ also sets the terms and conditions for mining exploration and subsequent
activity. It decides who explores for mineral wealth and where, and what environmental constraints
apply!

But it doesn't end there. According to reports doing the rounds this week, government is keen to
establish a state-owned pharmaceutical company too.

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ANC secretary general, Gwede Mantashe, said on Tuesday that the national executive committee
(NEC) had discussed starting a state pharmaceutical company" at their four-day meeting recently.
Brazil's state company is opening a branch in Mozambique. Why should we be a market for Brazil
instead of being a market for ourselves?" he asked. Well what are we waiting for then?

The NEC came to their conclusion after being briefed on government's extensive HIV / Aids testing
campaign and its ongoing anti-retroviral (ARV) roll-out. South Africa consumes approximately 25%
of the worldwide production of these drugs, due to the high infection rate in the country. Ironically,
a government that for many years denied the link between HIV and Aids now wants to enter the
market to manufacture drugs to treat the disease. And they're keen to make a buck doing it!

It sounds like a great business idea. But one has to wonder whether the project is viable given the
number of local drug manufacturers with established operations. Surely the likes of Adcock Ingram,
Aspen Pharmacare or Cipla Medpro could hit the ground running and manufacture these drugs
cheaper than if the state had to begin from scratch?

How to avoid the wrong kind of competition

Investors in the pharmaceutical sector have some serious thinking to do. If government gets
serious about manufacturing medicines, the local pharmaceutical companies will watch their South
African revenues go up in smoke. And the annual feeding frenzy, by way of government medicine
tenders, will be a thing of the past...

Government won't enter the ARV market overnight (unless they've already structured a deal with
the Brazilian state-owned company mentioned earlier). But when they do, their actions will forever
change the profit dynamic in the sector.

How should investors react? The best defence against state meddling in a local industry is to diversify
as much risk as possible offshore. So you're going to want to buy shares in local pharmaceutical
firms that generate a fair slice of revenue and profit outside our shores.

My pick from the three aforementioned pharmaceutical shares is Aspen Pharmacare (JSE: APN),
which is worth accumulating up to R85 per share. The group has shown an impressive 33%
improvement in revenue from continuing operations in the latest half year to R6.388bn. Aspen
also improved headline earnings per share from continuing operations by 15%!

But the best news of all is the geographic mix of this revenue, with R3.3bn generated locally,
R666m from the rest of Africa, and R2.422bn internationally!

If government yanks local medicine quotas from this firm it will certainly take a major hit.
But it has plenty of offshore business to fall back on!

I'll be back with another instalment of MoneyMorning on 28 July 2011.

Until then, let the profits roll,

Gareth Stokes
Editor, The Investor's Digest

PS. On Tuesday 12 July, the Euro hit a 4-month low against the US dollar at $1.3838. My colleague,
Gavin Fourie, who heads Forex Trader, recommended we buy the EUR/USD at $1.3990. Just two
days later, on Thursday, he alerted subscribers to the opportunity to close their positions at
1.4200 - for a 33.33% gain in 2 days! Find out how you can benefit from Gavin's Forex guidance here!