Sunday 14 Apr 2024
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This article first appeared in The Edge Malaysia Weekly on May 29, 2023 - June 4, 2023

The following questions were sent to Star Media Group last Tuesday (May 23) ahead of its EGM on the proposed disposal of land/buildings to Matang for RM33 million:

  • Why did Star agree to the disposal consideration to be satisfied primarily in Matang shares (RM28.9 million, or 87.5% of total disposal consideration) and only RM4.1 million in cash (receivable upon delivery of vacant possession) instead of an all-cash deal?

    The Malaysian Chinese Association (MCA) already owns direct stakes in both Star and Matang. What is the intention of this complicated arrangement, which will result in cross-holdings, with Star also owning 13% of Matang?
  • Star can only classify its 13% stake in Matang as “investments”. The only future income stream is from dividends, to be declared at Matang’s discretion, that will most likely earn less than if the disposal consideration was to be all cash and placed in fixed deposits. Alternatively, why not receive cash and use the proceeds to undertake a share buyback that will enhance shareholder value?
  • Is Star providing financial assistance to Matang? Star has to finance the construction of two factory-warehouses in Star Business Hub in Bukit Jelutong, Shah Alam, since the disposal consideration shares are non-cash. As a result, the proposed disposal will result in net cash outflow of RM11.1 million for Star upon completion. It also creates a possible loss to the company if, for any reason, it fails to deliver the buildings. Star has given an unconditional and irrevocable guarantee to Matang for a full refund in cash;
  • If Star’s intention is to monetise its land, why not just dispose of the land for cash, through an open tender to get the best price? Why build the factory-warehouses, only to sell the buildings for less than development cost (and even then, receive Matang shares, not cash)? Star would make more profit by simply selling the land than it would after developing the property. This project makes no financial sense for Star; and
  • Three independent non-executive directors were subject to retirement this year, two of whom decided against seeking re-election. Why?

As a reminder to Star’s board of directors: The fiduciary duty of all directors of Star is to protect the interests of Star, and not those of Matang or its common shareholders.

The above are questions I have sent to Star Media Group, ahead of its extraordinary general meeting (EGM) scheduled for May 31. I intend to vote against the resolution on the proposed disposal of two units of double-storey, semi-detached factory and warehouse annexed with a 1½-storey office building plus other ancillary buildings to plantation group Matang for RM33 million. Here are my reasons.

Why accept Matang shares instead of all-cash as the disposal consideration?

The disposal consideration of RM33 million is to be satisfied by the issuance of 357 million new Matang shares at 8.09 sen each (equivalent to 87.5% of the total disposal consideration) plus RM4.1 million in deferred cash (held in escrow, to be released upon delivery of vacant possession).

Why is Star selling the properties for mostly Matang shares instead of via an all-cash deal?

For starters, this would create a messy cross-holdings situation. The disposal consideration shares will give Star a 13% stake in Matang (based on its enlarged share capital) — and the Malaysian Chinese Association (MCA) already owns direct and indirect stakes in both Star (43.2%) and Matang (17.2%). Why the need to complicate matters?

Also, it is not that Matang does not have the money. According to its latest financial statements as at end-December 2022, the company had net cash of RM108 million (with barely any borrowings).

More importantly, 13% equity interest means Star can only account for the disposal consideration shares as “investments” in its book. Its only future income stream will be dividends, the payments and amounts that are wholly discretionary. Even if Matang pays out all of its profit (based on the last 12 months), the dividend yield is about 2.5% — lower than the prevailing fixed deposit rates of 2.85% to 3.1% for Maybank, Public Bank and CIMB.

In other words, Star can earn more interest income simply by placing cash in the bank, with none of the risks that come with holding Matang shares.

Better yet, Star could use cash proceeds from the disposals to buy back its own shares and/or pay out bumper dividends — and enhance value for all of its shareholders. As an investment, Star is trading at a far more attractive valuation than Matang — its shares are priced at only 0.4 times book value and has negative enterprise value (its market capitalisation is less than net cash) (see Table 1).

Matang is, on the other hand, one of the most expensively priced plantation stocks on the Bursa Malaysia — based on price-earnings (PE), return on equity (ROE), EV/Ebitda (enterprise value-to-earnings before interest, taxes, depreciation and amortisation) as well as market cap-to-planted acreage (see Table 2). It is a very small plantation company with only 1,094ha of plantation estates, located primarily in Ledang and Segamat, Johor. It simply does not have the scale to be an efficient producer. If Star wants an exposure to plantation, it would be far better off buying Sime Darby Plantation, United Plantations and a dozen others.

Is Star providing financial assistance to Matang?

To briefly recap, Star — through its wholly-owned subsidiary SMG Land — is undertaking its maiden property development called Star Business Hub in Bukit Jelutong, Shah Alam. SMG Land will build four units of semi-detached factory-warehouse-office plus ancillary buildings and one unit of detached factory. All five buildings will be erected on a 5.05ha parcel owned by Star.

This particular related-party transaction being proposed involves two of the four semi-detached buildings, to be developed at an estimated cost of RM14.8 million. Star will get no cash inflow from the Matang shares it receives as the disposal consideration. As such, the disposal will actually result in net cash OUTFLOW for Star — totalling RM11.1 million (after taking into account expenses and release of the balance proceeds of RM4.1 million upon handover of vacant possession). Yes, you read right — Star has to fork out money to build the semi-detached buildings for Matang and will end up with LESS cash than it started with (see Table 3).

Worse, the disposal also creates a possible loss for the company, if for any reason SMG Land fails to deliver the buildings. SMG Land must then compensate Matang and the terms of compensation are already spelt out — the RM4.1 million held in escrow will be released to Matang and it has to refund the RM28.9 million (that Star received in Matang shares) in cash, no less (Matang does not even want its own shares back!). Star has further provided an unconditional and irrevocable guarantee to Matang for the delivery of vacant possession or full refund in cash.

Why build the properties at all, only to sell for less than construction cost?

According to the independent valuers appointed by Star, the fair value of the land is RM380 psf. Based on this figure, the fair valuation for the entire 5.05ha parcel (being developed as Star Business Hub) is worth RM83.6 million.

In its circular to shareholders, Star estimates the total development cost of all five buildings at RM73 million and a gross development value (GDV) of RM130 million. If the land itself is worth RM83.6 million, then Star is selling the buildings (to be constructed) for only RM46.4 million (GDV of RM130 million minus land value of RM83.6 million) — less than its estimated RM73 million development cost! And this is before taking into account marketing costs, salaries/labour expenses and other compulsory contributions to authorities. In addition, it will assume all the associated development risks.

If Star’s intention is to monetise the land, why not just sell the land — through a public auction to obtain the best possible price? Assuming the selling price is the fair valuation as determined by the independent valuers, Star will report a net profit of RM74.8 million, after deducting the book cost of the land (RM8.8 million) (see Scenario 1 in Table 4).

Based on its own estimates on the sales value and development cost for Star Business Hub, its net profit will be only RM48.2 million (see Scenario 2 in Table 3) — or RM26.6 million less than simply auctioning off the land. Surely something is amiss here. Is Star under-pricing the properties or are their costs too high?

Based on the independent valuation performed for the disposal to Matang as well as public listings for the other units, we believe the pricing for the properties is in line with the market. Does this then mean their develop­ment costs are excessive?

Table 5 is an extract of the expected construction costs for industrial properties in Kuala Lumpur, taken from the Arcadis Construction Cost Handbook Malaysia 2022 (which is also used by the independent valuers appointed by Star). Arcadis is a leading design, engineering and consultancy firm with a presence in more than 70 countries.

Star Business Hub falls under the “owner-ope­rated factories, low-rise” category — where the average construction cost is RM170 psf to RM219 psf. By comparison, Star’s develop­ment cost is more than RM302 psf — total development cost of RM73 million divided by total built-up area of 241,556 sq ft (for all five units as detailed in its marketing brochure). Why is Star’s development cost so much higher than the market norm?

Two independent non-executive directors did not seek re-election

As mentioned above, MCA is an interested major shareholder in the proposed transaction — with direct and indirect stakes in both Star and Matang. Tan Sri Kuan Peng Ching, deputy chairman and non-independent non-executive director of Star, also has a direct/indirect interest (4.1%) in Matang.

Such an unreasonable deal raises many questions and destroys the value of Star by poor use of its cash. There is also the danger that this serves as a precedent to interpret certain actions as “not financial assistance”. This may be seen by some as a form of financial assistance provided by Star to Matang — in funding the development on behalf of Matang and the fact that, upon completion, Star will be net negative in cash flow (see Chart 1).

Incidentally, three independent non-executive directors were subject to retirement this year, as per the company’s constitution. Two did not seek re-election at the annual general meeting held on May 22, including a director who was just appointed in October 2022. Why? Is it because they could not agree or were not comfortable with the transaction? According to the circular to shareholders, Choong Tuck Oon, an independent non-executive director, “is unable to state a recommendation due to the provision of the guarantee by our company and the risk exposures associated with the holding of the consideration shares”. In addition, Star announced on Jan 6, 2023, that its chief financial officer had resigned, with effect from Jan 31, less than two weeks before the transaction was announced.

Furthermore, there are certain board members who may not hold any direct/indirect shares in Matang like Kuan, but have links to MCA. Case in point: One director is in fact the sitting chairperson on the MCA Wanita wing — a very senior party post — and central committee member. She did not abstain from voting for the transaction at the board meeting. If MCA is an interested party in the transaction — and therefore not allowed to vote in the upcoming EGM — surely its key party officials-members should also be deemed to be interested parties. The fact that they did not abstain from the vote raises more questions on governance. Indeed, we are shocked Star has designated the MCA Wanita chief as an independent director, when the party is the controlling shareholder with a 43% stake! We hope such interested or related parties, those closely associated with MCA, do not vote at the EGM.

A good example of good corporate governance and responsibility is the restructuring exercise undertaken by Singapore Press Holdings (SPH) — the company successfully monetised its assets AND enhanced value for all its shareholders. Its media business, like that of Star, had been suffering from falling print advertising and subscription revenue, made worse by the Covid-19 pandemic. The company reported a loss for the first time in FY2020, and the outlook for the print media industry remains difficult, at best, from the continuing tech disruption.

Yet, SPH’s media business plays a critical function in providing news and information in Singapore. Thus, on May 6, 2021, it was decided that the media unit would be privatised into a non-profit company limited by guarantee. The rest of SPH’s assets (mainly real estate) were to be sold to Keppel Corp, for S$2.099 per share, including cash and shares. A bidding war ensued, however, and the assets were ultimately sold to Cuscaden Peak (a consortium backed by tycoon Ong Beng Seng and portfolio companies of Temasek) for a higher pricing.

The entire restructuring exercise resulted in SPH’s share price appreciating by 57% — its valuation rose from 0.67 times book value (pre-restructuring) to 1.13 times book value (post-restructuring) (see Table 6).

Conclusion

As a reminder to Star’s board of directors, they have a fiduciary duty — and legal obligation — to protect the interests of Star (not Matang or any other party) and ALL its shareholders, not just the interested shareholders-directors.

Star should monetise its assets and unlock value, but it has to be done in a way that enhances value for ALL shareholders, not only its major controlling shareholder. And as we wrote previously in this column, the occurrence of such governance issues is one reason that Bursa is performing badly in comparison with other bourses.

The Star Business Hub project makes no financial sense for Star — it would make MORE profit by simply selling the land than it would developing it. It is a poor use of its cash. The company should instead focus on more effective ways to raise its stock valuation. As a first step, Star should consider distributing all of its cash as dividends and/or to buy back its own undervalued shares — this would boost its stock price and reward all shareholders.

The Global Portfolio fell 4.3% for the week ended May 24. BYD Co (+3.5%) was the only gainer in our portfolio; Star (-13.4%), Alibaba Group Holding (-5.1%) and Insas (-3.8%) were the big losers. Total portfolio returns since inception now stand at 20.7%, trailing the MSCI World Net Return Index’s 45.6% returns over the same period.

The Malaysian Portfolio also ended lower last week, down 4.4%, led by losses at Star (-10.1%) and KUB Malaysia (-6.1%). Last week’s losses pared total portfolio returns to 148.4% since inception. Nevertheless, this portfolio is still outperforming the benchmark FBM KLCI, which is down 23%, by a long, long way.


Disclaimer: This is a personal portfolio for information purposes only and does not constitute a recommendation or solicitation or expression of views to influence readers to buy/sell stocks. Our shareholders, directors and employees may have positions in or may be materially interested in any of the stocks. We may also have or have had dealings with or may provide or have provided content services to the companies mentioned in the reports.

Leave the central bank to do what it must

Interest rates are a key factor in determining the value of a currency. We have written about this many times before. An increase in interest rates would cause the value of a currency to rise, all else being equal.

Removing interest rates, as a tool, from the central bank — as some would like to, by capping the level of interest rates — would lead to a “one-sided” bet (when one outcome is significantly more likely than the other, resulting in unbalanced odds) against the currency. Is this what is happening to the ringgit? While such a move may be politically popular, the cost for Malaysians to bear could be great (as it is now).

And to those who claim the current weakness of the ringgit is due to higher risk aversion, as a result of uncertainties over a possible US default if its debt ceiling is not raised, take a look at the charts. The ringgit is falling sharply against not only the US dollar but also against regional currencies such as the Singapore dollar, Thai baht and Indonesian rupiah.

The solution to strengthen the ringgit is to raise productivity in the economy, lower inflation, improve the current account (more exports, less imports) and reduce government debts — not popular rhetoric. — By Tong Kooi Ong + Asia Analytica

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