Wednesday, 28 September 2011

Maybulk/POSH: KPMG's "independent" advice

The Net Assets of POSH as at September 30, 2008 were USD 188 million, which included a large amount of Goodwill (USD 295 million). The assets were bought during economic boom times. According to the offer POSH was worth USD 780 million, more than four times the Net Assets, and that during the fierce recession. Many listed companies with long track records were trading around Net Assets, some even below it, some even below the net cash, with single-digit PE’s (some as low as 5 or even lower) and with high dividend yields. It was up to KPMG to give an independent advice on this deal, during these global economic conditions.

The first method used by KPMG was the DCF (Discounted Cash Flow) approach. I have written about this in the past:

As usual, many pages were written about the approach, the key bases and assumptions, although the economic crisis is rather strangely left out of the picture. When KPMG revealed its results (POSH is worth between USD 613 million and USD 894 million), it left out the calculation itself. In other words, the readers couldn’t check anything and that while the whole circular contains 130 pages and the calculation could be presented in one single page. I assume that KPMG has used very high (unrealistic high) growth forecasts for POSH which resulted in the extreme valuation numbers. A hint of KPMG’s growth forecasts can be found here:

Did POSH indeed perform that well? In 2009 earnings did grow by 8% to USD 88 million, not bad given the economic conditions but disappointing given the huge cash injection from Maybulk. In 2010 profit declined substantially by 72% to USD 25 million, while in the first half of 2011 profit declined further to a paltry USD 3 million. It looks like KPMG had wildly overestimated Maybulk’s future profits.

The second method that KPMG used is the adjusted net assets in which assets were revalued as appraised by Clarkson.

  • USD -107 million, Tangible net assets (vessels minus borrowings)
  • USD 295 million, Add Goodwill
  • USD 250 million, Add Revaluation existing vessels
  • USD 440 million, Add Revaluation vessels under construction

For a grand total of about USD 880 million.

This calculation is, in my opinion, very flawed for the following reasons:

[1] The goodwill of USD 295 million is in respect of the acquisition by POSH of its subsidiaries. However, those subsidiaries were bought during the economic boom times, and it is debatable if this goodwill was still valid during the recession.

[2] KPMG adds the revaluation of existing vessels, however, there is a a huge overlap with the amount of goodwill since the vessels of POSH are the same vessels of its subsidiaries. In other words, one can either count goodwill on the subsidiaries or revaluation of the vessels in the subsidiaries, but you can’t have both.

[3] Revaluation of an asset is only allowed if the value can be measured reliably. During the worst global crisis of the last 50 years with all asset prices falling (including those of vessels) and the valuer of the vessels not supporting his own valuation anymore, we can safely assume that values can not be measured reliably. In other words, revaluation is simply not allowed.

 If fair value can be measured reliably, an entity may carry all items of property, plant and equipment of a class at a revalued amount, which is the fair value of the items at the date of the revaluation less any subsequent accumulated depreciation and accumulated impairment losses.”

[4] KPMG subsequently adds the revaluation surplus for the vessels under construction. First of all, the same problem applies as above; values can not be measured reliably, so this is not allowed. Secondly, a revaluation of assets under construction is not allowed under the Malaysian Accounting rules. And even if it was allowed, it would definitely not be General Accepted Accounting Practices (GAAP).

There are other ways to come up with valuations for POSH, ways that would have given a more rounded picture, but were (conspicuously) left out by KPMG:

One is to compare the valuation of POSH to listed companies in the same industry, companies that during Q4/2008 were trading at very low valuations: single-digit PE’s, high dividend yields, some trading at a discount to its Net Assets.

Another way is to compare the valuation of POSH to the value that other shareholders paid for its shares. Employees were allowed to buy 4.75 million shares of POSH at a price of USD 2 per share, at the same time when Maybulk was paying USD 6.50 for the same shares. The huge difference looks puzzling, to say the least.

And finally one could look at how much money PCL invested in POSH and how much money POSH had made, which would result in the Net Assets of about USD 188 million, or about USD 1.60 per share. Again, the difference with the USD 6.50 price that Maybulk would have to pay is very high.

Let’s assume for argument sake that both valuations done by KPMG were fair, both around USD 6.50 per share, the price Maybulk would pay. Would it then be a fair deal? Both valuations depended on all sorts of assumptions, but the price paid by Maybulk was supported (for 90%) by cold hard cash. Because of this unequal situation, Maybulk should have insisted on a huge margin of safety, probably at least 50%, given the amount of assumptions and the huge uncertainty in the global economy.

To put things further in perspective: Maybulk would bring in 53% of the assets of POSH (post deal), but only get 22% of the shares. That doesn’t seem right at all, Maybulk shareholders deserved a much better deal than this.

KPMG deemed the proposal to be “fair and reasonable” and recommended shareholders to vote in favor. Although they gave this very strong recommendation, yet they were scared of any consequences and therefore insisted that they hadn’t verified information provided to them:

And in another statement, they even denied any liability:

I think that is highly debatable, I think there is a very good case to be made that KPMG is liable. Anyhow, I strongly recommend the authorities to come down hard on independent advisers who issue these kinds of statements:

If advisers don’t want to take any responsibility while at the same time they make very clear judgment calls which have consequences for the voting behavior of shareholders then they should simply not be allowed to be independent adviser.

Another issue is the put option that Maybulk received: Maybulk has the option to sell the POSH shares back to PCL for 1.25 times the price it paid after 5 years (this option was balanced out by a Call option by PCL). KPMG compared the return (4.6%) to the 3.2% Maybulk received on its fixed deposit and calls it “acceptable”. But this is really comparing apples with oranges, during the crisis the fixed deposits were guaranteed by the Malaysian government (as announced on October 17, 2008), while PCL is a company. KPMG should therefore have compared the 4.6% return to the yield of AAA or AA corporate bonds, which were yielding between 10% and 15% per year. Also, there is the currency risk, Maybulks profit is calculated in RM while the investment is done in USD. This is a very real possibility, at this moment the USD has weakened against the RM, causing Maybulk to have booked paper losses. Another issue is that it is not sure if the Put option will be called, it is possible that the POSH investment will not work out at all, but that the Board of Directors of Maybulk decides not to call the option. This is not hypothetical, since in my opinion this whole POSH deal should never have been approved by the Board of Directors, but they still did.

And lastly, KPMG writes the following:

I find this dubious at best; just having a single director would give Maybulk influence? As we have seen before, the cash that Maybulk injected in POSH had left the company two weeks later, where was the influence of the Maybulk director? Maybulk would appoint Dato’ Capt. Ahmad Sufian @ Qurnain bin Abdul Rashid as Director for POSH. This director was appointed to the Board of Maybulk in 1996, more than 15 years ago, and therefore (according to the Guidelines of EPF) his independency could be impaired by the long term participation. EPF will vote against renewal of this director.

My conclusion: I find it is simply unbelievable that KPMG's advice letter in its current form was allowed to be included in the circular without any interference from the Board of Directors of Maybulk (which included several accountants) or from Bursa Malaysia (responsible for enforcement of circulars)The authorities should come down hard on KPMG and all other advisers who have disappointed so much the trust that was handed to them, the trust to deliver good quality, unbiased reports that give a well rounded overall picture of the deal involved.


  1. Well done. I've seen the circular to the shareholders too. Sadly enough, these contains reams of us*l*ss information to bury what little pearls of wisdom are left.

    It seems simple enough to come out with good reasons to firmly reject the POSH acquisition. Unfortunately, here you can see the so-called *Independent* Adviser doing the twist to support the acquisition. And there is plausible and believable reasons given. Might as well get rid of the need of independent advisers altogether.


  2. I agree, in the current form independent advisers hurt chances for the shareholders to fight for their chances to oppose these kind of corporate exercises.