Thursday, 5 March 2015

1MDB's "attacks" politically motivated, who cares?

I wrote before about 1MDB and its new CEO Arul Kanda. A few snippets:

"Another thing that will serve the fund and its communication team well is to rid itself of the notion that all its critics have a political agenda.

That's undeservedly self righteous for a fund that has ratcheted up over RM40 Billion in debt, rolled over a RM2 billion debt three times over a year, switched auditors and bosses twice and is in the red to the tune of RM665 million in 2014."

I fully agree with this.

Definitely not a good start by the new CEO of 1MDB, the remark about political motives.

Sarawak Report has reported recently many new articles about 1MDB and related matters. At this moment of time we don't know if the allegations are true and if the huge amount of emails, documents etc. are indeed genuine (Sarawak Report claims to have thousands of supporting documents).

A reaction from 1MDB was very much needed and according to an article in The Star Arul Kanda stated:

"It is clear that the attacks being directed at 1MDB are politically motivated. These are deliberately coordinated attempts to undermine the company by spreading unsubstantiated allegations and speculation, which in turn could potentially harm the economy."

Again Arul Kanda seems to stress a possible political motive about the allegations. But honestly, who cares? 

There are two matters at hand:
  • Are the documents/emails etc. as specifically shown on Sarawak Reports website genuine?
  • Are the conclusions drawn from these documents correct? 

Arul Kanda should start by making a clear statement regarding the first matter, then at least we (interested observers) know were we stand. If they are not genuine, we don't have to bother with the conclusions. If they are genuine, then we can proceed with the second matter at hand.

This blog focusses more on corporate governance issues regarding listed companies, and one company in particular is mentioned in the articles, UBG Bank, here and here. There are several allegations in these articles regarding the deals in which UBG Bank was involved and its subsequent privatisation.

The authorities (SC and/or BM) should investigate these matters and check if all warranties and representations (made by all parties involved during that time) were indeed correct.

"1MDB welcomes the Prime Minister's request for the Auditor General to verify 1MDB's accounts, which have been audited by Deloitte, one of the world’s leading firms."

The verification by the Auditor General is of course welcomed, I hope that all findings will be published in a transparent way, for all to see, if possible backed by evidence.

The last part in the above sentence ("one of the world’s leading firms") is unfortunately not adding much value to the statement. Too many fraudulent companies all over the world (Malaysia is no exception) were audited by the "big four" (besides of course many being audited by other auditors, the "lesser" ones). Anyone still remembers Arthur Andersen? Much more information regarding this subject can be found here.

Wednesday, 4 March 2015

DCF: Hall of Shame (1)

Interesting article from Professor Aswath Damodaran:

"DCF Myth 1: If you have a D(discount rate) and a CF (cash flow), you have a DCF!"

He defines "the consistency test" for DCF:
  • Unit consistency
  • Input consistency
  • Narrative consistency
And continues:

"Many of the DCFs that I see passed around in acquisition valuations, appraisal and accounting  don’t pass these consistency tests. In fact, at the risk of being labelled a DCF snob, I have taken to classifying these  defective DCFs into seven groups:"

Followed by the seven DCF groups and their description. The following picture gives some insights:

From the above we can see that there are many pitfalls in making a correct DCF. That is a serious problem with DCF.

But I think there is an even larger problem: dishonesty from the side of the DCF modeller. In the Malaysian context (and may be even in the global context), that is in my opinion a huge problem.

I will detail my reasons for this in a subsequent posting.

Tuesday, 3 March 2015

Timing of Earnings Announcements

Interesting article, although the outcome of the research is not exactly shocking:

This study examines the value relevance of the timing of earnings announcement dates relative to prior expectations. It shows that when firms advance their earnings announcements at least four days prior to expectations, the earnings surprises in those quarters tend to be positive and the abnormal returns from two days after the earnings release date was announced through one day after earnings are actually announced are positive and significant. The converse is true for firms that delay their earnings announcement at least four days relative to prior expectations. The study also shows that firms which delay their earnings release date at least four days after previously setting the date earlier are characterized by both negative earnings surprises and abnormal returns from the delay announcements through one day after the actual earnings announcement date. These results can be used by investors to earn abnormal returns, by security analysts in revising their forecasts, and by option traders when earnings announcement dates cross option expiration dates.

My guess is that the same holds in the Malaysian environment, companies with good results want the news quickly out, while companies with bad results will wait until the last day of the month.

Companies that further delay their results beyond what is allowed: a big red flag, often horrific news is waiting.

And the title of "champion in delaying" will go to Golden Plus:

Four audited financial statements, four annual reports and fifteen quarterly financial reports, all delayed. Not a bad score!

Monday, 2 March 2015

Delistings: trust issues

Good article in The Financial Times: "Management Buyouts: Trust issues".

Management Buyouts are sometimes called delisting exercises in the Malaysian context.

In a typical company, investors wonder if the chief executive is competent. A tougher question emerges when the chief owns a big chunk of the shares: is the boss trustworthy? This week the founder of electronic music festival company SFX Entertainment, Robert Sillerman, offered to buy out the 60 per cent of the company he does not own, for $4.75 per share. The shares traded at $12 at the end of 2013. Still, the offer may well succeed - the bosses of Dole Food and Dell both won approval for their recent buyouts.

The dilemma with management buyouts is this: the boss has the inside perspective on the value of the company. Knowing where the bodies are buried puts them in a position to exploit the ignorance of Joe Public. Aggrieved shareholders of Dole Food claimed that its chief executive, who owned a 40 per cent stake, took advantage of a lull in the share price. In the case of Dell, the recent strong rally in the shares of HP - a very similar business - suggests Mr Dell timed his purchase well.

Shareholders have some protection against exploitation. Independent directors can negotiate on the behalf of public shareholders. Deals can require a majority of unaffiliated shareholders to vote in favour. Management buyouts often face a higher standard of review in deals in case of a legal challenge. Increasingly, shareholders demand "appraisal rights", where a judge decides if the deal price was fair.

Still, companies with big insider shareholders do not necessarily underperform in aggregate. A 2012 study by ISS found single-class "controlled" companies (where control is defined as ownership of 30 per cent of the shares) outperformed non-controlled companies as well as dual class controlled companies. The theory behind investing in companies where the chief executive has a big stake is that management and shareholders have the same interests. That is not always how it works in practice.

The above mentioned protection against exploitation in the Malaysian context:
  • Independent directors are not known for standing up against the boss: they are chosen by the boss and their fees are paid by him. Also, independent directors could simply be the golf buddies or former classmates of the boss. There are some exceptions, but they are rare, and (often) not published. Enforcement against independent directors for failing their fiduciary duty in this matter is almost non-existent, I can't recall a single case.
  • Legal challenges are very rare, they can be costly, taking a long time to conclude, not a good prospect for minority shareholders who will anyhow have a problem to band together like in a class action suit.
  • Appraisal rights: they depend on an independent valuation. Unfortunately, I have seen too many "independent" valuations that were extremely favourable for the boss. Enforcement agencies (SC and BM) often do not like to question these valuations, is my experience, even when they appear to be highly unfair. Some independent valuers have been punished, but very rarely so.
In other words, unless there are some vocal fund managers who own at decent stake of the company, it is usually a very unequal fight. Bosses are of course very aware of this.