Major global crises,  from the Asian Financial Crisis (AFC) in 1998 to the current COVID-19 pandemic, cause significant  disruption to businesses and employment. Malaysia has not been spared from these consequences. During the AFC, unemployment levels in Malaysia were at 4%. During the 2007-2008 Global Financial Crisis, we saw unemployment of 3.5% , and now in 2020, we are witnessing  a new high of over 5.3% unemployment. 

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It should come as no surprise that the COVID-19 pandemic has forced companies to reconsider their strategies and sustainability, as only the strongest will survive. Some companies have taken very disciplined restructuring approaches; however, some of the other corporates  have refused to change, and are, in fact, resorting to  threatening to cut jobs if they are not given more bailout money. and refusing to cut the personal excesses of the senior executives.

 

The usual playbook employed by companies that require “help” or a “bailout” is to:

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• Set up a Special Purpose Vehicle (SPV)

• Give out favourable stock options or employee share option schemes (ESOS) based on generously-crafted KPIs for the same owners/founders/executive management team.

• Secure a government grant or soft loan 

• Engage with pension fund(s) to ensure that these large funds buy your rights issues or company stock, which will guarantee share price stability due to the controlled liquidity or free float

 

While the company gets a lifeline, the minority shareholders get a raw deal  as the irresponsible owners/senior executives continue with the same modus operandi, which includes allowing eroding margins due to poor cost controls, poor hedging strategies, overbuilding/excess capacity, or expensive land costs/acquisitions. 

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This is not to say that restructuring is a bad strategy.  In fact, under the current difficult operating circumstances, many of these companies should be allowed to undergo a full restructuring. However,  the question that needs to be asked is: What form of restructuring should take place? Should it only involve  financial restructuring or should it also involve changing the senior management of these organisations, regardless of whether they are the significant shareholders? 

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Recently, it was revealed that a particular company’s restructuring plan would involve restructuring the company’s large debt position with a debt-to-equity swap. 

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Under this proposal, a special purpose vehicle (SPV) was to be set up, with the owners given stakes in the SPV, as well as the option to increase their stake if the key performance indicators are met. On the surface, this sounds very fair: If you perform, you get more shares in the company. However, looking at the proposed restructuring plan, it is clear that the restructuring scheme does not give the existing minority shareholders a good deal. 

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The owners use pro forma target performance numbers in their books to meet their performance objectives for the year.  Thus, they are entitled to more shares in the SPV, as well as  higher payouts in terms of salaries and other beneficial payments.

 

Although the company is in financial distress (with more  debt on their balance sheet than they can service), the new merged entity can now go to potential investors to receive more funding. The fresh capital that is sought will be based on this proposed new reorganisation of their debt, which may or may not improve the profitability of the company. 

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Investors always focus on earnings and growth, but these owners/senior executives are not really interested in that.

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First and foremost, these types of owners are interested in ensuring that they maintain their equity in the company. 

 

Secondly, these owners are interested in the cash injection into the company in which they own shares. With this potential cash injection – be it via an equity investor or a government bail out – the same owners will be able to have access to this capital. The question is: will this capital be used to enrich themselves at the expense of other shareholders, or will the senior management of the company  finally change?

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When assessing the restructuring plans, existing shareholders must ensure that they have been given enough details about the potential restructuring, and/or whether the conditions of the due diligence carried out have been  sufficiently transparent? We have seen how similar companies like to reassure the market that they have strategic contracts in hand, in an attempt to boost investor confidence and convince these investors to put in new money or buy shares in the new SPV. Strategies like these  usually work within a short window  to provide some false optimism, but slowly and surely, the optimism will wear off and reality will set in.

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The key point to remember is that the same structural issues that have plagued a company for years will remain in the future, if no systemic changes are made. The only way that these types of companies will  learn their lesson is  if investors reject their restructuring plans until a new management team is brought in and the previous owners or senior executives are no longer able to dip their sticky fingers into the company till.

From the information that was released regarding the company above, it seemed clear that the badly-managed company was being advised to retain their ownership. 

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If these owners are the ones who have driven this company into the drain, should they be allowed to remain in the company and be given further options to increase their ownership stake in the restructuring plans? Perhaps it is time for a new and experienced management team to take over, while the owners take a back seat in this company by stepping  away from the Board and relinquishing any executive role. This is the only way forward if we are to rebuild corporate Malaysia.