Tuesday, 20 November 2012

Olam's shares suspended after Muddy Water allegations (2)

The Olam issue seems to be very "hot" in Singapore. Many investors have exposure either through their equity or bond holdings. Valuebuddies has the following thread on it. From other sources I received the following information.

The most well publicized Muddy Waters success is Sino Forest where the trees obviously weren't where they were supposed to be. However, he's tried it 3 other times and here's the track record:

Company    MW RPRT     Pre-report  Day-after    Curr. PX
SPRD US    28/6/11     $18         $13          $18
FMCN US    21/11/11    $25         $15          $25  
EDU US     18/7/12     $22         $9.5         $19

Outside of Sino Forest, the last 3 target stocks are higher or at similar levels within months of MW reports. Just stating a fact here.

The OLAM 4.07% Senior Bond maturing on 12-Feb-2013 is yielding 18.72% to maturity!  Current Offer price at 97...

OLAM 6% 2018 now offer at 90.  Yield to maturity is 8.22%.  

The million dollar question is, will OLAM default in the next 2.5 months?

The primary issue is their recognition of biological gains (Olam has booked SGD191m of these gains in the past 2-years; 24% of report PAT). Biological gains are the yearly changes in net present value of future income flows on the group’s upstream crop and livestock investments. These valuations use assumptions on commodities prices, productive life of assets, yields, inflation and discount rates. According to Muddy Waters, if Olam does not deliver on their investments, the profits recognized as biological gains will amount to nothing. Muddy Waters also claims the valuations assumptions are aggressive.

Biological gains are a requirement under IFRS for Singapore-listed companies and have been in place for the past 4-years. The aim of this standard is to make a fair-representation of a company’s biological investments as these typically have long gestation periods before revenue delivery while costs are incurred from the start.

All palm oil plantation companies listed on SGX follow this. In our view, whether the assumptions used are aggressive or whether biological gains are recognized as earnings is a moot point. These gains (and losses) are stripped out by a majority of the Street in arriving at core-earnings for Olam as well as all other SGX listed plantations. Further, in their annual report (p142 in 2012), Olam discloses all the assumptions that go in to coming up with their valuations – which are signed off by the auditors (Ernst & Young) and also in the case of livestock by independent valuers.

Biological gains come in two forms: (a) operational – changes in yields assumptions etc and (b) non-operational – changes in pricing assumptions, discount rates. Olam is the only company in our coverage that actually discloses these separately. We will comment further once we have a look at the Muddy Waters report which is scheduled to be released Tuesday morning US time.

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