As more homegrown companies gain confidence, they look to grow quickly by acquiring stakes regionally.

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But let us take a step back and ask: Why does a company acquire another? And, does it really make sense just by expanding its presence beyond national boundaries via acquisitions?

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The short answer is that, in general, a company makes an acquisition to grow their business fast, be it laterally, vertically or geographically.

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Many companies view the “acquisition strategy” as a quick and safe access into other markets as there is not a long learning curve.

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But the acquisition trail of this public listed company (PLC) tells a different story.

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A PLC we reviewed bought a 25% stake in a mining company in Indonesia, ostensibly to grow within the region and to “diversify” its earnings stream. Now, when a company tells you it wants to “diversify”, this should send up a red flag because you then have to ask: Is it truly diversifying its business? Or does it, perhaps, really mean to divert - not diversify - its earnings away from shareholders?

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When we reviewed this company, we focused on their acquisition strategy:

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●  To begin with, on June 25, 2008 the PLC announced that it was buying a 25% stake in a mining company for US$50mil.

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●  Then, on Oct 21, 2008 it announced that it had revised the cost of acquisition down to US$40mil.

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●  The transaction was then completed in the first quarter of 2009.

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On the face of it, everything it did seem harmless enough, although one could well ask why a logistics company would suddenly want to dabble in mining - and do so abroad. Might the PLC be about to benefit from the mining company's haul?

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The mining company owned three mines, each in a different location.

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But here's the thing: Since the second quarter of 2009, that is, almost right after the PLC invested in the mining company, the latter closed two of its three mines. So the PLC now had a 25% share of a company that had cut back its activities to just one-third of what it used to yield. Great!

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To make things even more interesting, we also found that, in the fourth quarter of 2008, a rival of the mining company had commenced legal proceedings against the two mines that it eventually closed down. Note that this is exactly when this PLC revised its cost of acquisition down by US$10mil.

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We also learnt that, as at December 2009, the mining company lost all operational rights on those two mines to the competitor who had been fighting in court for their rights to mine there.

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With all these troubles, we probed Mine No. 3, the only one that had kept going. Alas, even mining there had been halted in the fourth quarter of 2009.

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These 3 mines aside, we dug deeper into the new company that the mining company had bought over. This acquisition by the mining company took place on Oct 22, 2008 - or just a day after the PLC revised downwards its cost of the original acquisition.

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In so saying, it is interesting to note that the value of the PLC's lowered acquisition cost, that is, US$10mil, was equivalent to the exact price that it paid for a 40% stake in yet another mining company.

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Might this be because the PLC had known that the first three mines it was investing in were making losses and so its US$40mil investment in it was, in truth, a waste of money? Or was it a way of siphoning away the funds out of the company?

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We then widened our focus to include the mining company's three smelters. The mining company had declared them as being under “care and maintenance” since the third quarter of 2009 and that they were slated to be sold to prospective buyers. So, basically, these smelters no longer operated.

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In a nutshell, the PLC paid US$40mil for a 25% stake in a company that, within a few months, had no business of note.

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On top of that, there were legal questions as to whether the acquired company could actually carry out its mining activities, as well as whether it had operation rights, to say nothing of having three smelters in cold storage.

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What did the PLC actually buy? And why did the PLC spend big money to acquire big problems like these?

3 questions

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Now, learning all this, any astute investor would ask three questions:

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●  First, how did the PLC's board of directors agree to such a questionable investment in the first place?

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●  Second, what due diligence did they carry out on the mining company before acquiring it?

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●  Third, what progress reports were given to board members and what actions did they take on the reports?

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We come now to the heart of the matter. What were the board members doing in all this?

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Might this be a case where the PLC's chief executive (CEO) pushed the deal through without first presenting full details of it to the board?

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Where were the PLC's independent directors in all this?

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Does this sound familiar to other listed PLCs, doing acquisitions without exercising proper due diligence?

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As a result of what the PLC's board and CEO did or did not do, by the second quarter of 2009, it was forced to write off this acquisition to the tune of US$40mil.

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To add salt to the wound, when the CEO was asked the above questions at a recent annual general meeting, he had the cheek to flippantly remark that, “well, mistakes happen.”

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Fair enough. But what about mistakes which are repeated and you can detect a trend?

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After that unprofitable acquisition, that same PLC embarked on yet another questionable investment, using the same strategy, that is, diversifying in an irrelevant business abroad.

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This time around, they bought into a listed services business that was delisted immediately after the acquisition.

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So the moral is that, in theory, the acquiring of businesses can be justified by the number-crunching of financial projections or the pitching of synergistic strategies and the like.

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But, the proof is in the pudding; all shareholders should grill the board and demand the required details and rationale on these acquisitions, as we all know that many acquisitions end up as a complete waste of the company's money.