Thursday, July 31, 2008
One thing for sure, Asian currencies will not be moving in the same direction as they did for the past 2 years, i.e. appreciating against the USD. Rising food and oil prices and its impact on inflation, delayed monetary tightening by central banks, rising fiscal and external deficits, risk of slowing domestic demand and growth are weakening investor sentiment, leading to equity sell-off, volatile bond markets and FII outflows hence putting downward pressure on Asian currencies.
Let's look at the ones struggling with higher inflationary risks relative to growth issues: India, S.Korea, Thailand, Philippines and Indonesia intervening in currency markets to prevent large depreciation and the inflationary impact of oil imports.
The other group are those with oil and commodity exports, strong FDI prospects, fiscal and trade positions may be less vulnerable than their Asian peers. Mainly in Asia we are talking about Malaysia solely. That fact seems to off the radar of most economists. They tend to lump Asian countries with a big wide swath. The ones with strong surpluses include Singapore, Taiwan, China and Malaysia again.
Appreciation bias to control import prices but concerns of slowing exports, economic growth will be a challenge for China. China does not really have a growth problem, theirs is still one of controlling prices, hence the yuan has been allowed to rise rapidly over the last 2 months while other Asian central banks have maintained status quo. We saw a faster pace of appreciation against USD since Nov (CNY/USD rose 4.3% by early April).
The ringgit used to track yuan's movements closely but Zeti has left rates unchanged and the ringgit has been slightly weaker because of that. India, Vietnam and S.Korea have been trying to contain currency decline and import inflation but is hampered by slowing domestic economic growth and rising trade deficits. Coupled with firm intervention in the USD by U.S., their efforts have been stifled. There is now a low possibility of further Fed rate cut.
Hence any rate hike by Asian countries will provide upside for their currencies going forward. However, currency investors will be also looking at overall growth picture and balance sheet as well. I expect the currencies for Malaysia, Taiwan and Singapore to continue its rise in 2H 2008 as growth is still OK and fighting imported inflation via a stronger currency is a route they can take. Rapid renminbi revaluation adds to already significant inflationary pressure for importers of Chinese goods and might encourage dollar-linked countries to revalue their currencies.
Taiwan dollar, Malaysian ringgit, Thai baht and Sing dollar will perform better due to current a/c surplus, lower capital dependence. Indian rupee, Korean Won, Vietnamese Dong will continue to weaken as high imports impact current a/c deficit. The recipe for countries to be able to maintain stronger currencies will need to show strong long-term growth prospects, monetary tightening and interest rate differential that may attract capital inflows once domestic/global risks abate.
Conversing about currency outlook is a very important task as its the first determinant to capital flows, and hence also the vibrancy in the respective equity markets.
p/s photos: Aum Patacharapa Chaichua
Wednesday, July 30, 2008
A Remarkable Piece Of History In Corporate Malaysia
What a difference 10 years make to a person, its even more glaring for certain stocks. Perwaja is to be listed by end of August. yes, its roughly the same company as before.
Late 1993 - Dr. M asked Eric Chia to take charge of the ailing steel giant Perwaja. Said Chia: “I was shocked when Doc asked me to do it. I didn’t know anything about steel. But if the PM asks you to do something, how can you say no?”
1996 - Perwaja now seems to be insolvent. Finance Minister Anwar Ibrahim confirmed in parliament that the steelmaker had racked up debts of RM975 million under Chia’s stewardship. Unofficial numbers, based on figures reportedly derived from an earlier company audit, put the debt at closer to RM2.3 billion, while the opposition has claimed it may reach RM3.9 billion. Anwar told parliament, evidence of an apparently fraudulent transaction. During Chia’s tenure, RM76 million of Perwaja money was paid to a non-existent Hong Kong-based company named Frilsham Enterprises.
In June last year, the 74-year-old tycoon was acquitted in the Kuala Lumpur Sessions Court of committing criminal breach of trust 13 years ago. Judge Akhtar Tahir acquitted him of misappropriating RM76.4mil from Perwaja Rolling Mill and Development Sdn Bhd in his capacity as its managing director on Feb 19, 1994. The judge also acquitted Chia of an alternative charge of dishonestly disposing of Perwaja’s funds by entering into an agreement with NKK Corporation, Japan, and authorising the RM76.4mil to be paid into the account of Frilsham Enterprise Inc with the American Express Bank Ltd, Hong Kong.
Production was 21,000 tons per month when he took over; four years later it was 80,000. The local press reported in 1993 that Perwaja’s Trengganu operations were so healthy that “it will produce one million tons this year and it will have written off all its debts.” The company even expanded, with the opening of a second plant at Gurun in the Prime Minister’s home state of Kedah. But these good signs hid the fact that the company continued to suffer from operating problems, dubious contracts issued without any tendering, and lots of debt taken on to ride out earlier difficulties and finance expansion. Much of the leverage came from Japanese banks and trading companies, and was denominated in powerful yen.
Perwaja's alleged management irregularities
- Payment of US$27.1 million to a mysterious company in Hong Kong.
- Misuse of US$196 million loan.
- Purchase of parts not used by the company and of questionable quality.
- Contract to pay a local company almost RM200,000 a month for gardening, cleaning and vehicle maintenance.
- Awarding construction contracts worth RM529 million to Man Shoon Group of companies, controlled by a long time associate of Eric Chia without asking for competitive bids or referring the deals to Perwaja's tender committee.
- Contract to pay Tomen, a Japanese firm, commission at the rate of US$3 per metric ton of ore purchased when the typical commission internationally was about US$0.75 per ton.
- Engaging a Singaporean commodity trading firm to market Perwaja's direct-reduced products at a shipment price of US$112 per ton at a time when the quoted market price was US$150 per ton.
Yes, No, Maybe
Over the next couple of years, there were plenty of proposals by Maju to the government. British-based consultants, WS Atkins has suggested Perwaja be split into two parts - that is the Kemaman and Gurun plants - and that each plant be operated by different operators. Both plants are not short of suitors because of their good facilities. At one time, Malayawata Steel and Southern Steel were said to have indicated an interest in the Gurun plant.The Gurun plant is sought after because it is the only one in the region with facilities to manufacture structural steel used to erect buildings. It also has facilities to produce wire for the manufacturing sector. The Kemaman plant has also attracted buyers, even from Singapore, because of its strategic location. The plant is said to be ideal to produce billets for exports.
So, in actuality, it was not easy for Maju to finally get Perwaja. Apparently connections will only get you so far. Maju has a huge advantage over other bidders in that it has placed a RM120m deposit with Ministry of Finance and that it had been managing Perwaja since mid-1996. Unbelievably, there was even a proposal by some internal government whiz kid that they should package Perwaja together with Antara Steel in Johor and National Steel Corp (the steel company in the Philippines controlled by the Malaysian government) . A Swiss party had expressed interest in taking over all three steel mills. The proposal was basically to save Malaysian government from the sticky and thorny problem that is the NSC. The government wanted to solve a few problems in their steel portfolio in one fell swoop.
At its height, Perwaja was losing RM40 million a month. When Maju took over, its losses were trimmed to RM10 million a month. Now the losses are said to be less than RM3 million a month. Perwaja's predicament is shared by the steel industry as a whole. The economic crisis pulled the rug under the feet of the major players. Even established producers like the Lion Group is grappling with unresolved debts of RM10 billion. Perwaja, even back in December 1995, had accumulated losses and liabilities of RM2.9 billion and debts of several billion more. The government's involvement then, in the form of loans, capital and bank guarantees, was RM5 billion. Perwaja, which is grossly over-staffed, has 2,300 workers but only needs less than 1,000 (in the late 90s). It is only operating one shift due to the reduced demand. Maju is said to be proposing to reduce the workforce by 55 per cent but the government did not go for it.Maju has submitted a plan to the MoF to reduce Perwaja's operational losses. The plan includes exporting the billets from Kemaman to neighouring countries and sourcing billets from steel manufacturers in the northern region for the Gurun plant to reduce transportation costs. Maju's plan also entails an upgrading of Perwaja's facilities to produce high quality billets and wire rods. Perwaja's most successful product is structural steel. The Gurun plant is one of the few in the region with the facility to produce structural steel. However, it faces stiff competition from imported structural steel coming in from Thailand.
A sore point was that the government has paid RM5.68 billion in loans owed by Perwaja since 1998. The ACA has only managed to trace RM76.4 million.
Maju Worked Hard To Rejuvenate Perwaja
From 2001 to 2004, Maju Group basically dug in their heels to rejuvenate both plants under Perwaja. Thanks to a strong recovery in steel prices, Abu Sahid and his team basically knew it was time to cash out and reduce risk after slogging for over 9 years to get Perwaja this far. In November 2005 Kinsteel Bhd has forged a strategic alliance with Maju Holdings. both parties will manage Perwaja, according to a joint statement from the companies.
The deal involves Kinsteel acquiring 51% equity interest in Perwaja and 51% equity interest in Maju's Gurun assets, consisting of a bar and wire rod milling mill, beam and section mill, wire conditioning, nail processing and wire mesh factories with total annual capacity of 1.1Mt. Maju would retain 49% equity interests in Perwaja and the Gurun assets and acquire a substantial stake in Kinsteel.
The rest was a fairy tale as Kinsteel caught a brilliant wave alongside the meteoric rise in commodity and building materials' prices over the last 2 years. Now Kinsteel wants to list Perwaja Steel - yes, buy, merge, fix, then list ... in these kind of situation its best to be cautious, particularly when Kinsteel has been a brilliant performer over the last 2 years.Perwaja's IPO@2.90
Perwaja will be focusing on high-grade steel in the upstream segment while Kinsteel will move towards midstream product diversification. There will be significant planned capacity expansion in Perwaja's Direct-Reduced Iron production (from 1.5m t/y to 1.8m t/y) and Billet Production Capacity from 1.2m t/y to 2.5m t/y. Total capex will be around RM800m. Once complete, Perwaja will contribute around 50% of Kinsteel's group earning in 2009.
Kin Kee Holdings 34% Maju Holdings 20.8%
If you hold Kinsteel shares, you can subscribe to Perwaja at RM2.23 or a 23% discount, at the ratio of 1 Perwaja share for every 4 Kinsteel. At RM2.90, Perwaja is priced at just 4x 2009 earnings. Domestic long steel companies trade at 4.2x 09 earnings while Kinsteel's at 5x 09 earnings. Compared to regional peers which trade at around 9x. The main reason for the huge discount is the lack of size and the probable restriction on exporting steel products by the government.
Perwaja is very likely to hit at least RM4.00 when it comes on, with RM4.20 being the top side. Hence if you have been successful in getting the IPO, good on you. If you are thinking of buying Perwaja in the secondary market, well only if you can get it below RM3.80 (fat hopes).
The best way to play this is actually to buy up big on Kinsteel (current price RM1.22) with a limit of RM1.26. As it is Kinsteel's stake in Perwaja will be diluted from 51% to 37% but Kinsteel still holds a 156m ICULs in Perwaja which will bring its stake in Perwaja back to 51% upon full conversion. Kinsteel can take its sweet time to convert as it has a 10 year tenure. The ICULs is a critical feature in all this because the gradual conversion will dilute Perwaja's earnings in the future. Hence its a safer bet to stay with Kinsteel given the similarity in valuations.
In fact, Kinsteel should trade at a premium to Perwaja given that it controls Perwaja plus it has pure Kinsteel operations, while Perwaja only has Perwaja's operations.
Corporate success is never easy - Maju has shown that a lot of hard work, some connections, some foresighted management, some long term planning, a great understanding of steel's business cycle, a lot of persuasion and proposals to the government, and a nice dose of luck ... can make you a great business entity.
p/s photo: Elanne Kong
US GDP in 2007 was US$13.843 trillion (or US$13,843 billion). Malaysia's GDP was US$186.482 billion. There are plenty of long term bears over the US economy. The US economy has been running on empty, running on it being the reserve currency, for far too long. The events and developments over the last 5 years have shown that the world economy is realigning and the rest of the world is making the US more accountable for their excesses. The sub prime mess and Fannie & Freddie bailouts are just a portion of the financial and economic problems within the US. To get a grasp of each problem, lets use it as a percentage of US GDP. Its quite frightening. I certainly would not like to be going into retirement age and living in the US over the next 20 years.
Just consider the sub prime mess so far and we are just talking of US$1 trillion here. The social security and Medicare unfunded liability is supposed to borne by a growing base of tax payers. We know that is not going to happen as America has an aging population, unless the country admit a whole lot more people under 35 into their workforce now and for the next 10 years.
How to pay for all these, well, issue more bonds. We all know where that's going to lead to. Or the country can raise taxes a lot, which will be very bad for consumption and their livelihood. Or the country will have to keep its military leadership and fight some more wars for the democratic world - that will keep the USD as the reserve currency and ensure the current countries buying US bonds will continue to do so.
a) The IMF estimated asset write-downs resulting from the 2007-2008 credit crisis to be US$1.1 trillion. By most estimates, only half has been written down so far. In all likelihood, corresponding to defaults on 20% to 30% of home mortgages, we should be looking at another US$500 billion in writedowns. (8% of 2007 GDP)
b) U.S. national debt of US$4.4 Trillion. This figure is obtained from the “Long-term Financial Outlook”, U.S. Government Accountability Office, Jan. 2008. The risk is high that the national debt will continue to grow through deficit spending for many years to come. This gigure is likely to continue to grow in the coming years. (31% of 2007 GNP)
c) The unfunded liability of the Social Security System is estimated to be US$6.7 Trillion (Government Accountability Office, Jan. 2008). Thats the problem with having a lot of social safety nets that is not properly funded. (48% of 2007 GNP)
d) The unfunded liability of Medicare is estimated by the Government Accountability Office to be US$34.1 Trillion. This is the motherlode. One can argue that the liability will be funded over a very long time, but the amount will also grow as well. (347% of 2007 GNP)
e) The cost of imported oil. Despite all the hoo-hah, oil is one of US smallest problem. Yearly import cost is between US$825 billion to US$1 trillion. The danger is if the cost of oil were to go to US$180 in 3 years and the American consumption patterns does not change, then we are looking at maybe US$1.8 trillion. (6% of 2007 GNP)
Tuesday, July 29, 2008
Every central banker were busy raising rates but Bank Negara surprised everyone by leaving rates unchanged at 3.5%. That was the 18th consecutive time. The main argument Zeti made was that concerns were greater over growth issues rather than inflation. The other main point Zeti is making is that you need not necessarily use just the interest rate to fight inflation.
Higher rates would generally mean a stronger ringgit. Not raising rates when everyone is doing that should suggest weakness in the ringgit - but not in this case. If we were to look back to the period prior to the jump in petrol prices and electricity rate hike, Bank Negara was already doing an excellent job managing the balance sheet and growth issues for the past few years. Under Zeti, Malaysia has recorded one of the highest percentage improvement in reserves globally. If were to strip out those recent hikes, Malaysia was operating under a pretty flat interest rate environment next to Japan. The rapid ease off in oil prices and related commodities, and more importantly a weightier and prolonged bailout needed in the US, may have swayed Zeti to fear for a decelerating growth phase brought on by these issues.
I am sure Zeti monitors the Baltic Dry Index, which is a great measure of trade activity especially among emerging countries, which has broken the support line of two previous lows back in June. This points to a decelerating environment in emerging markets as well. Put that with the dire situation in the US and the outlook is not that bright. Naturally a lot of people would point to the fact our CPI does not fully capture things happening in the real economy. That being the case, Bank Negara should be aware of the real hike in cost of living already. In an environment of a global contraction (though not a major one), the real fight would be to ensure that jobs are secure. Sure inflation is a nasty thing but this would also point towards Zeti having confidence to allow the ringgit to appreciate further even without raising rates, thanks to the solid fundamentals. A strong ringgit would at least thwart some of the imported inflation. Raising rates aggressively now may fight inflation but may kill off the housing side and lending side as well.
Recent CPI has gone above 6% but that is largely a knee jerk reaction to the recent petrol and electricity hikes. Yes, these hikes would be working its way into the rest of goods and services but it shouldn't be unmanageable. Its not that Zeti would not be raising rates in the coming months, but rather I think Zeti wants to see how the very fluid factors will affect the domestic economy in the months ahead because many major developments have happened over the last 2 months alone:
a) oil zooming from US120-145, and then back towards US123
b) the commodity prices have all eased significantly, though still ahead on a ytd basis
c) locally the partial removal of subsidy for petrol, and a hike in electricity rates
d) the near collapse of Fannie & Freddie, and the 100 odd banks in the US in grave danger of bankruptcies as well
e) the BDI falling past the two previous lows which is pretty negative
Hence in that light, it would be understandable for Zeti to want to see how the domestic economy interacts and reacts to these multiple changes in parameters before moving the rates. Still, in my view, though oil price may have eased off and there is still some slowdown in emerging markets, we will still see firm commodity prices going forward because the amount of infra spending in many emerging markets are not easing at all. The iron ore new price is a great indication of genuine demand. If iron ore for the next 2 years is going to cost US97, well steel bars are not going to come down. Even if oil settles at US110, it is still at a very high level compared to last 2 years. These are the things that are working its way through global goods and services, and a rate hike is inevitable.
p/s photos: Kristy Yeung
Monday, July 28, 2008
I am glad that there are plenty of intelligent readers out there and their comments on many issues are quite enlightening. Here are a few on "oil strategy" which is worth reproducing here:
Jackie Lee said... Special bulletin - Last week various analysts said there was talk that Mexico, the world's fifth largest oil producer, was hedging its bets - the country was said to be signing contracts to deliver oil several years into the future at today's prices. Essentially, it was betting oil prices have peaked. One analyst, speaking on background only, said he had confirmed Mexico was locking in futures contracts. He said it was being done at the behest of the Mexican government, eager to balance a long-term budget, rather than a bet by state oil company PEMEX, that prices will fall. But could Mexico's move inspire similar steps from other oil producers, and cause oil prices to fall further? "Absolutely," said Neal Dingmann, senior energy analyst at Dahlman Rose & Co., a New York-based energy investment boutique. "It could create a top in [oil prices] in the near term." Dingmann said about 50% of the production from the firms he covers - mostly small firms - has been sold for future delivery at today's prices.
solomon said... p/s photos: Cholada Mekratree
Thanks to Skiddtrader, we have dissected the justifications for a windfall tax on IPPs further. The debate basically centers on the sanctity of a contract given by the government. Makes for interesting reading, and also a timely salute to a great man who tried to stop the lucrative and excessive terms for the first generation IPPs.
Comments: All the debate and disagreements over windfall tax on IPPs is a refreshing exercise. It points to maybe a government who might not give out "extremely lucrative contracts" going forward (still can hope, right). Khazanah is basically trying realign a very slanted agreement favouring IPPs in the past. Naturally a lot of people will find it hard to give up what is already a goldmine. This episode further highlights the unheralded good deeds, professionalism and impeccable integrity of Tan Sri Ani Arope (readers will note that I almost never address people by Datuks or Tan Sris, for obvious reasons - but for this case he deserves to be lauded and respected). I do hope we do not live in a country where good guys finish last. I salute you Tan Sri Ani Arope for standing up for the good of the nation. We need more people like you. How about reinstating Tan Sri Ani as the Executive chairman of TNB now, guys?
When Information Minister Ahmad Shabery Cheek and former deputy prime minister and de-facto opposition leader took the stage for the recent debate, the name of former Tenaga Nasional Berhad's (TNB) executive chairman was mentioned.
Anwar said that Tan Sri Ani Arope resigned because he was not in favour of the government' s stand on the independent power producers (IPPs). Tan Sri Ani was TNB's executive chairman from 1990 to 1996 and it was during his tenure that the first generation IPPs were created. Tan Sri Ani is known for his honest and no nonsense way of doing things and former high court judge, Dato Syed Ahmad Idid justly described the Penang-born scientist as follows:
"Tan Sri Ani was and remains an upright person and had to suffer because he did not agree with the IPPs getting away with too much ... and consumers have to pay."
"I am not anti-IPPs per se. It is good to have other players but it has to be done fairly. It has to be fair to the consumers, not just TNB, which is a conduit. TNB, because of the electricity hike, has been treated as the whipping boy. The focus should be on the consumers," Tan Sri Ani once told StarBiz in an exclusive interview.
When the generous terms were given to the IPPs, Tan Sri Ani said all of his other peers around the world asked what was happening. They said they would like to have a share in the IPPs. They said (the contracts to IPPs) were "too darn generous."
When Anwar touched on the IPPs, Shabery Cheek replied that it was implemented when Anwar was Finance Minister. It is interesting to note that in the StarBiz interview, Tan Sri Ani was asked "How was the Malaysian model of IPPs created?" and he answered "Ask our Prime Minister."
He was also asked "How was the process of negotiations with IPPs conducted?" and he replied: "There was no negotiation. Absolutely none. Instead of talking directly with the IPPs, TNB was sitting down with the EPU (Economic Planning Unit of the Prime Minister's Department). And we were harassed, humiliated and talked down every time we went there. After that, my team was disappointed. The EPU just gave us the terms and asked us to agree. I said no way I would."
Tan Sri Ani also said the pricing and terms of the contracts was all fixed up. "This is the price, this is the capacity charge and this is the number of years. They said you just take it and I refused to sign the contracts. And then, I was put out to pasture."
Tan Sri Ani also said that "nobody produces excess electricity like Malaysia and it goes to waste because there are no batteries to store that power. TNB only needs a reserve of 15 per cent to 20 per cent."
In the interview, Tan sri Ani told StarBiz that he felt sick of the process of awarding the IPP contracts. "It was morally wrong and not fair. If it is legal and not fair, I will not do it. If it is fair and illegal, I still won't do it. It has to be legal and fair. We work for the consumers, workers and shareholders. TNB is morally obliged to these three, but the consumers come first, otherwise we won't be around. It is then the workers and the shareholders."
Sunday, July 27, 2008
The Saga: The external auditor, BTMH, for Oilcorp Bhd has refused to amend the company's 2007 annual audited accounts despite an independent verification report. Horwarth, the firm hired for the independent report, has said that the value of a long-term contract, which was in dispute by the company and its external auditor, was RM110 million.
Oilcorp had argued that the contract was worth RM110 million. However, Baker Tilly Monteiro Heng said it was worth RM90 million due to a RM20 million variation order. Securities Commission (SC) has directed Baker Tilly Monteiro Heng (BTMH) to carry out additional work on the audited accounts of Oilcorp Bhd for financial year ended December 31 2006 and 2007.
The SC has exercised its powers under Section 320 of the Capital Market Services Act (CMSA) 2007 to call for an investigative audit on the accounts. "In accordance with the CMSA provisions, all public listed companies are obliged to assist auditors as directed by the SC," an SC spokesperson told Business Times.
The announcement comes after BTMH is believed to have given professional clearance to Horwath to take over its job as Oilcorp's auditors.BTMH has informed Horwath that apart from all the issues it had previously raised on July 11, there is no other professional reason for Horwath to not accept the job. It is believed that the reason why BTMH only suggested a probe into the contract in question in early May was because further reviews have raised more issues and more contradicting documents.
But Oilcorp said BTMH was prepared to give its audited accounts a clean bill of health on April 29 2008, a day before the submission deadline. This was provided Oilcorp could give it a letter from a client that the contract was indeed worth RM110 million.
However, BTMH refused to accept and recognise the letter the next day.Another accounting firm, Messrs Horwath, was later hired by Oilcorp to carry out a special audit on the disputed contract, the result of which was favourable to Oilcorp.
The report produced by Horwath, however, was just an "independent verification review", BTMH argued. Hence, it could not change its view on Oilcorp's account merely based on Horwath's report.
Comments: This has been dragging on for far too long. Oilcorp's management has basically threw their own baggage onto the ceiling fan and now its splattered all over the place. While its a relatively small amount of RM20m - the implications are far reaching.
a) BTMH is correct to maintain their stance even with the independent paper from Horwath.
b) MIA staying clear for now, should come out with some leadership on the matter instead of letting the parties resolve this themselves because it involves the integrity of the appointment of external auditors and the room to replace with a favourable firm.
c) Horwath should NOT take up the appointment as it would compromise the integrity of fellow professional accounting firms, especially when they have given a favourable independent report on the disputed contract.
d) MIA should step in with a directive as Oilcorp is basically saying they can change the external auditor if it does not like the one appointed. The external auditor was appointed to do a professional evaluation and give an independent opinion. To remove because you disagree would be like to change the judge in a court case AFTER the judge has ruled against you.
e) Even if Oilcorp wants to change external auditors, it should not be considering Horwath as Horwarth has been asked to do an independent report on the disputed contract and has made a favourable report on the contract. To allow Oilcorp to do so, is akin to allowing companies to shop for the auditors who would give the kind of opinion the company wanted.
f) Oilcorp should have just gone with the qualified opinion, who really cares when they read that its just a matter of RM20m, now it implies the possibility that maybe Oilcorp has something more sinister behind their moves. The management and board of Oilcorp have put themselves in a shady light - I would question their appreciation of proper corporate governance and respect for professionalism.
g) What if another accounting firm is appointed (not Horwarth) and they came to the same conclusion as BTMH? Will Oilcorp also seek to reappoint another firm?
h) It is said that BTMH has given the green light to Horwarth to take up the position if appointed by Oilcorp. While that is fair enough, both firms should consider the implications - companies may be more "open to the idea" of changing external auditors should things not go their way. More importantly, it could invariably affect the "willingness to impart truly independent and fair opinion on accounts" by external auditors now that they can be sacked so easily. Who knows, who is to say that the external auditors independence is not compromised somewhat by these developments - they must be given the room to operate without fear or favour, or risked having their reputation affected if they do not give favourable opinions.
The integrity of accounting firms is being called to question. Fellow accounting firms must stand together to show independence and must not be seen as being open to be shopped by companies. The SC is doing the right thing by warning Oilcorp severely. Oilcorp should just cave and take the BTMH ruling and their medicine, you have no foot to stand on. As usual, we have no leadership from the Bursa.
p/s photos: Fiona Xie
Windfall tax is a tax levied by governments on certain industries when they experience above-average profits or windfall profits as the term suggests, due to economic conditions. They are primarily levied on companies in the targeted industry that have benefited most from the economic windfall; most often they involve commodity-based businesses.
Through the proceeds from the windfall tax, governments are able to bolster funding for social programs.
The flip side – its opponents claim that such taxes reduce companies’ initiatives to seek out profits. They also believe that the profits should be reinvested to promote innovation that will in turn benefit society as a whole.
IPPs – contentious issue
Windfall taxes will always be a contentious issue debated between the shareholders of profitable companies and the rest of society. The recent 30% windfall tax that was imposed on Independent Power Producers (IPPs), according to some, should be reviewed due to its wider implications on capital markets.
IPPs, which finance the construction of their power plants through the issuance of bonds, might see a reduced cash flow due to the tax payment. CIMB Group chief executive Datuk Seri Nazir Razak had said that the tax would affect raising funds for future infrastructure projects. IPPs accounted for 21% of all ringgit-denominated bonds issued.
The windfall tax, effective July 1, will be 30% of earnings before interest and tax (Ebit) that is above the 9% threshold on return on assets (ROA).
Penjanabebas, an association of 15 independent power producers, warned the levy could affect their ability to meet loan obligations. It said the sector issued bonds and loan notes estimated at RM20bil in 2006 and the new tax could lead to a downgrade of their bonds.
Nazir added: “There are no winners in this IPP windfall tax because ... borrowing costs in Malaysia will go up and further increase incremental cost of borrowings to the government and corporates. The higher cost of borrowings will far exceed the money that they (government) hope to raise from the IPPs windfall tax”.
Palm oil gets hit
Under the Windfall Profit Levy Act 1998, a windfall levy would be imposed on crude palm oil (CPO) and crude palm kernel oil (CPKO) when the prices are in excess of the threshold of RM2,000 per tonne.
Under the proposed windfall tax framework, palm oil producers in peninsular Malaysia would be charged tax amounting to 15%, and 7.5% for Sabah and Sarawak.
At the same time, the Government is also abolishing the existing cooking oil cess from July 1. However, the price of cooking oil will remain the same as it will be subsidised by proceeds from the windfall taxes.
The Government said plantation companies in Sabah and Sarawak were charged a lower windfall tax as they were already paying sales tax to their respective state governments.
Strangely and in stark contrast to the reaction from power players, not many palm oil companies were up in arms when the government levied windfall tax on CPO.
Utilities and plantations – the difference
It is safe to say that the windfall tax may be unfair to IPPs as they had raised funding for their business, while on the other hand, CPO companies generally invest from retained earnings.
Hold that thought. Does that mean that if CPO companies were to switch their capital requirements strategy to bonds, would it make the windfall tax inequitable to them as well?
This is my humble opinion. On paper, singling out industry sectors and corporates to pay up arbitrary taxes makes little sense. However, I would agree to a windfall tax if certain developments cause certain sector/companies to make supernormal profits and due to these developments, it has a direct and negative effect on a wider strata of the nation.
However, slapping tax arbitrarily on any sector that makes supernormal profits is not the way to go. The government needs to clearly explain the windfall tax and the actual disbursement of the income generated from such taxes.
It ought to be used directly to alleviate the “suffering and dislocation” triggered by the very developments that these companies and sectors have benefited enormously from.
On that premise, it may be easy to justify the imposition of windfall tax on CPO companies and IPPs.
Crying crocodile tears
Tariffs in Peninsular Malaysia are not subsidised.
Yet both TNB and independent power producers (IPPs) are profitable and credit-worthy. IPPs began selling to the national grid in late 1994 and today five IPPs account for around 35% of installed generation capacity in Peninsular Malaysia.
As these IPPs are virtually risk free (courtesy of long-term power purchase agreements – PPA) and profitable, the IPPs based in Peninsular Malaysia have agreed to contribute 1% of their audited annual revenue to a special fund – the Malaysian Electricity Supply Industry Trust Account (MESITA) in the 1997 –2000 period.
As part of its trust deed, the MESITA funds could be used for 5 approved activities and among them are energy-efficiency program and energy R&D.
The windfall tax is supposed to kick in ONLY IF their rate of return exceeds 9%. As such, the hoopla over that hitting IPPs fund raising activity in the future and that of other infrastructure projects, in my opinion, is a bit over the top.
Genuine bond investors who understand fully that the windfall tax would kick in above the 9% rate are likely to shrug their shoulders.
The main interest of bondholders is to get their money back, plus interest. Even if these IPPs were to make a rate of return of 6%, bond investors would be happy as they do not participate on the upside profits of the company. However, the windfall tax formula should be based on after EBIT has been deducted for interest paid out - that would be more equitable.
But on one aspect, I would side with the IPPs – the tax should not be recurring.
If the tax was recurring, the taxable amount would increase over time as net fixed asset falls, especially for IPPs with big-capacity plants like the 2,400MW Tanjung Bin plant and the 1,400MW Jimah plant. That would make little economic sense.
In that case, and if it’s not going to be one off, the government should adjust their windfall tax accordingly. For example, in 2008, 30% above 9% ROA; 2009 only on ROA above 10% and 2010, on ROA exceeding 11%. Even so, the time frame should not be over a prolonged period, one to three years is about right.
With that, for future infrastructure projects, I doubt very much that yields would go up solely due to the windfall tax issue.
Firstly, it’s not something completely new and alien. We have done it before and many countries have done it before without dire consequences. It just ought to be well planned and justifiable.
Secondly, the windfall tax would only kick in at supernormal levels which should not concern bond investors. If anything, it should concern the shareholders of IPPs more, not the bond holders.
But again, this is important – the government needs to clearly articulate that the windfall tax (es) will be used to alleviate hardship caused directly by the developments which have brought about the windfall in the first place.
Some say that the windfall tax may create a perverse incentive for mis-declaring profits. Well, that is a whole different kettle of fish but I believe we have in place appropriate rules and regulations to deal with that.
Generally, there is only a very narrow window when windfall tax is justifiable.
Investor confidence could be derailed if these taxes are perceived to be arbitrary and irrational. If that happens, risk premium is likely to rise for the entire market place.
The group that most affected by windfall tax is shareholders of the companies affected.
Their loss is equal to the actual windfall tax collected. The loss will be reflected in lower share price. For example, investors may have bought the stocks on the assumption of rising CPO prices or iron-clad agreements with IPPs, which paint a rosy earnings outlook picture. To penalise these investors may be unfair.
Intriguingly, there has been very little “noise” on the adverse impact such windfall tax would have on shareholders but a lot of hue and cry on the implications for bondholders.
Why treat shareholders with such dismiss while at the same time, molly coddle bondholders?
Windfall tax on gaming?
There are rumours that windfall tax will also be imposed on gaming companies. Such a move would be clearly arbitrary as gaming companies had nothing to do with or benefited from the oil price or commodity price surge. To do that would wreak havoc on the valuation and integrity of a properly functioning stock market. Yes, the government could easily raise taxes on gaming, but please don’t refer to it as a windfall tax. If that’s true, then gaming companies are likely to be whacked in the coming budget.
But what is truly fair?
In a booming property market, the government may impose a 50% additional property gains tax on property sales, or impose a restriction that one must hold a property for at least 12 months before selling. Is that fair? At the same time, it could be deemed equitable for the long term interest of the sector and economy.
I do not believe there exists a truly free market economy anywhere in the world. That only exists in economics theory. This is why – for every single fiscal decision made by the government, there will always be winners and losers.
photos: Maggie Cheung Hor Yee
Saturday, July 26, 2008
The call to short the bugger at US139 now looks really good. As I am posting this Nymex Oil is at US123. Assuming I am holding the short position at US139, what do I do now? Take profit? Let it ride? For reasons why I called for the big shorting, please reread my posting a few weeks back (June 8, 2008). The reasons are still valid.
Suddenly now you don't hear about oil supply being unable to meet growth in demand. Why suddenly so quiet? This is an important lesson, the media and market pundits pander to try to explain the trend and take the current price as "god-given correct prices". Hence truth is exaggerated at any point in time, if there is truth at all. Now its demand destruction to the forefront.
If I shorted at US139, I'd be pretty happy to ride along as I am waiting for US120 to be broken, which to me, will be a very huge sell signal to most chartists. At US119.90 I would be doubling up my short position. Why don't I double up now at US123 you might ask. Well, things are still fluid, it could hang around the present levels for another few weeks, which to me would be base building - if it does that, and does not break US120 by mid-August, then I should take profit on my short position as I would interpret that as the bulls still having the upper hand.
Hence I am looking forward eagerly to US120 being broken because it will fall pretty quickly to US105-110, the level which I think there will be better long term support. Once it breaks US120, that is considered as pretty positive for equities in general and should move all markets up by 4%-5%.
p/s photos: Porntip Wongkijjanon
Friday, July 25, 2008
This place has been around a bit and is being discovered with utter joy. Its like you have managed to get Jessica Alba as your girlfriend, and now introducing her with glee to your friends. I am certainly not the first to discover this restaurant. Had the unbelievable set lunch at just RM22++ which was ridiculously priced (they could have charged me RM40++ and it would have still been worthwhile). It was so good, I had to go back twice to make sure I sample most of the things on the menu, they all sounded so good. So, went back for another lunch but ordered a la carte, and went back again at night this time for the degustation` menu (a sampling of almost everything on the menu).
Max is an ex-lawyer who found something more fulfilling to do. He has worked at a number of 5 star international hotels as chef and decided to do something on his own. For the food quality, its probably 30%-40% cheaper than at other similar outlets such as Cilantro (closed for renovation), Third Floor or Lafite. The items are generally good to sublime. As there are more than 20 items on the menu, I shall only name the sublime - get the lamb chops drizzling with heated mint sauce, the duck leg.. anyway he does it is fine, the unagi/duck liver and the yabbies. Though not a big fan of cooked fish, my friends said they were excellent as well. The desserts are pretty awesome too. Probably takes you 3-4 times to try everything, have the degustation` menu.
If you think the pictures I have stolen from other food bloggers look good, the food tastes even better. Wine list is more than decent, although the OZ list is pretty shabby, could have gotten better labels. They have an open kitchen concept, so you can view how they cook if your meal if you wish - adds to the charm. As its a pre-war shoplot, it has a lot of rustic charm. Great place to take your friends from overseas.
The place: Max, Kitchen & Wines
27 Jalan Tengkat Tong Shin, next to Sao Nam, 10 meters from the famous charsiew shop and 30 meters from Ngau Kee. Parking is a bitch, just pay the guys and park.
Thursday, July 24, 2008
The catalyst for higher equity prices appears to be that President Bush will sign Congress’s housing bill, which solidifies support for the mortgage guarantors Fannie & Freddie, both of which are rising sharply. Even troubled banks like Wachovia Corp was up 6.2% after a 29% gain on Tuesday on the back of a quarterly report which detailed major losses at the firm.US Treasury Secretary Paulson was confident that Congress would approve his housing rescue plan this week and so far they are moving forward as planned. The plan is to pass the Housing Bill before August recess that includes provisions to extend credit lines to Freddie and Fannie, Treasury purchase of equity stakes and a new regulator. Bill would extend FHA guarantees to refinance $300 bn fixed-rate mortgages for 400k homeowners w/ negative home equity as lenders take a 15% hair cut on principal; its cost would be recovered by profits of Fannie, Freddie and FHA fees on lenders/borrowers with some adjustments.
- White House: Bill should be financed by (higher) borrower's credit risk-weighted premium paid by lenders/borrowers with strong underwriting standards; Critics: This would reduce size of the program covering smaller no. of homeowners
- CBO: Treasury assistance to Freddie&Fannie and FHLB may cost $25 bn during 2009-10; Housing Bill may cost $2.7 bn during 2008-13 ($1.7 bn for FHA guarantees; $1 bn in administrative/counseling services); can be financed by loan premium of 2% but may result in higher future credit cost; the absence of such assistance may put severe pressure on financial markets and the economy
- Risks: Risk of default due to continued decline in home prices, rise in future interest rates; risk to FHA and taxpayers if riskier loans are refinanced; bleak financial health of Freddie/Fannie, impact on its shareholders
- Paulson: Declining home inventory, stabilizing home sales are leading to price correction and affordability but are constrained by cost and availability of credit; modifying mortgages for credit-worthy homeowners can prevent foreclosure and benefit both lenders and households; 'Covered Bonds' may help reduce cost of financing/refinancing homes
- Bernanke & Kroszner have also supported FHA refinancing w/ lenders writing down principal, large capitalization of GSEs
- Lex: Plan may slow new foreclosures but won't reduce excess home supply as tighter financial sector balance sheets will constrain mortgage financing for households; many mortgages are securitized and difficult to modify; Preference of lenders to modify only 'at-risk' loans may pose future default risk for FHA
- Roubini: Plan will prevent further decline in home prices and loss to lenders, banks, neighborhoods and fiscal cost to govt from foreclosure - cost of debt reduction via debt restructuring much lower than cost of liquidation
- Levitin: Plan not feasible since principal cut has to be taken not by a single lender but by a pool of securitized trusts; second mortgages (w/ large negative equity) also have to be bought out; lenders may offer only low-potential recovery mortgages for FHA refinancing (adverse selection), thus putting taxpayers at risk
- Economist: Plan will be ineffective in preventing foreclosures; Instead fasten foreclosures so that homes can be bought by people who can afford them, streamline state bankruptcy laws
- Ritholtz: Plan will keep home prices artificially high creating market distortions; instead need to speed up market correction and allow home prices to fall so that they become more affordable for others to buy
- Senai: Plan will reduce poorly collaterailized/unviable mortgages for refinanced/well-backed mortgages, but being limited to first homes and 2005-07 period, it will be insufficient to reduce overhang of houses, banks' balance sheet/liquidity problems
- Gross: Plan where burden is shared by all parties is a better alternative than free-fall market clearing, asset deflation, foreclosures
hei Dali You conclude that dollar will be weakening. But oil is dropping, resulting in dollar strengthening. How you justify your analysis?
Comments: My thesis on dollar weakening has nothing to do with oil. For too long oil has been rising on the back of a weaker USD as most commodities are priced in USD. This is the speculators mantra, that commodities deserve to go higher because dollar is weakening as they are priced in USD. That has only some truth in that statement, which has been overplayed for what its worth to the benfit of speculators in commodities. Naturally as the oil is starting to fall along with other commodities, the reverse correlation will hold for a while.
My reckoning on a weaker USD going forward has a lot to do with the bailouts necessary to be undertaken by the Treasury and The Fed (read below). Do not be blinkered by knee jerk reactions - such as this, and the recent sell down in CPO (which has quite different fundamentals to oil). The USD will resume its downtrend once the heat goes off commodities and people start to refocus on the credit bailouts and the strong likelihood of lower interest rates going forward by the Fed.
p/s photos: Aum Patcharapa Chaichua
Wednesday, July 23, 2008
WSJ: The stability of Fannie Mae and Freddie Mac is key to erasing underlying uncertainty in U.S. financial markets and making way for an economic recovery, Treasury Secretary Henry Paulson said Tuesday, while voicing confidence that Congress will approve a rescue plan for the mortgage giants this week. "Because of their size and scope, Fannie and Freddie's stability is critical to financial market stability," he said in a speech at the New York Public Library. "Their continued activity is central to the speed with which we emerge from this housing correction and remove the underlying uncertainty in our financial markets and financial institutions." Mr. Paulson's speech comes a little more than a week after the Treasury Department unveiled a plan that would increase the government's US$2.25 billion credit lines to Fannie and Freddie and allow the government to buy an equity stake in either company. Lawmakers on Capitol Hill are expected to wrap the proposals into broader housing legislation.
"We need to act in the short term because the [government-sponsored enterprises] are vital institutions in our capital markets today and are vital to emerging from the housing correction." Mr. Paulson said his "highest priority" is to stabilize the financial markets and financial institutions, which have been suffering this year in wake of the subprime mortgage crisis and related credit crunch. "Today our No. 1 priority is market stability as we work through the current market stress," he said.
As part of his efforts to stabilize the financial system, he said he had no choice but to ask Congress for new authorities to prop up battered mortgage finance giants Fannie Mae and Freddie Mac. "I would rather not be in the position of asking for extraordinary authorities to support the GSEs," he said. "But I am playing the hand that I have been dealt."
Meanwhile, Mr. Paulson said continued stresses in the financial markets should be expected until the housing market fully stabilizes. Still, he said the failure of IndyMac Bank shouldn't lead people to believe the U.S. banking system is at risk. "The American people have every reason to remain confident that the U.S. banking system is sound," he said, adding that 99% of the country's banks are well-capitalized. He added that periods of economic difficulty aren't new. "We will work through this period, as we always do," he said.
At the same time, he urged banks to continue to raise capital, noting that U.S. financial institutions have already raised more than US$150 billion. Mr. Paulson said it will take "additional time" to work through the current market turmoil as the markets and banks reassess risk and re-price securities across a number of asset classes and sectors. Meanwhile, "additional bumps in the road" can be expected," he added. Mr. Paulson highlighted the need for improved market infrastructure and increased transparency, especially in the over-the-counter derivatives market and the tri-party securities repurchase system. He also said "we need to get to the point where large, complex financial institutions are not perceived to be too big or too interconnected to fail."
The Treasury secretary also called for new powers to manage the impact of the failures of large non-depository financial institutions, such as large hedge funds. "Over the last few weeks, the need to move more quickly toward an optimal regulatory structure that establishes a prudential financial regulatory system, focused on promoting long-term market stability, has become all the more apparent," he said.Bill Gross, who manages the world's biggest bond fund (Pimco, a unit of Munich-based Allianz SE, has US$830 billion of assets under management.), said it's not possible for government sponsored mortgage-finance companies Fannie Mae and Freddie Mac to raise capital without the Treasury Department's support. `Let's be blunt: to the extent the Treasury suggests they'll never have to use their authority, that's a sham,'' said Gross of Pacific Investment Management Co. ``It's fallacious to suggest that the agencies could issue capital, preferred stock, without the co-participation of the Treasury. I don't think that's possible.''``To suggest that the Fed or a central bank should raise interest rates in the face of a significant asset deflation, a significant housing deflation, is certainly the wrong approach, to put it mildly,'' Gross said. An increase in the target rate for overnight lending between banks amid rising unemployment ``would be tantamount to raising interest rates in the mid- 1930s,'' he said. The U.S. dollar will continue to fall against currencies of emerging-market countries, Gross said. The dollar will also weaken as the U.S. federal budget deficit, which widened to US$163 billion last year, swells to as much as US$1 trillion and leads to larger sales of U.S. government debt, he said.
``Three years hence, we will see a trillion-dollar deficit to support the U.S. economy,'' Gross said. ``That's a lot of paper, and that's a lot of compression downward of the value of the U.S. dollar against most other currencies.'' U.S. Treasuries including Treasury Inflation Protected Securities, or TIPS, remain ``overvalued'' relative to assts like mortgages and corporate bonds, Gross said.
Comments: If you read Paulson's words carefully, you will come to the conclusion that the Treasury will be bailing out Fannie & Freddie. Not only that, his sentiments point directly to more bailouts, and that the end is not over by a mile. This lends credence to my belief that the USD will be on a steep decline over the next 12-18 months. That's because each major bailout will depress USD. Paulson has to choose his words carefully in that he does not want a stampede out of USD or GSE debts and US Treasuries, but he obviously has little choice. Gonna have to negotiate my pay to be unpegged to USD...
photos: Pancake Khemanit