06 April 2009

Getting on the right side of shareholders


Since the outbreak of the financial crisis in the US, we have witnessed numerous global financial institutions needing to raise funds to shore up their capital base as they write down the toxic assets in their books. Those financial institutions that do not get bailouts from their governments have no choice but to turn to their shareholders for cash injection.

The systemic spread of the financial crisis has caused a credit crunch globally. Businesses are finding it difficult to get funding, as banks pull back on lending. Of late, not only financial institutions but also companies in other sectors have resorted to raising funds through their shareholders.

Suddenly we see many public listed companies competing to obtain capital from their shareholders through rights issues. More companies now see the importance of their shareholders and are hastily ramping up their investor communication to get shareholder buy-in.

The success of any rights issue is very much dependent on whether the listed company has substantial support from its shareholders and how strong its major shareholders are.

For instance, in the case of Malayan Banking Bhd’s (Maybank) proposed RM6 billion rights issue, Permodalan Nasional Bhd and its subsidiaries, which collectively hold a 55.7% stake, have undertaken to subscribe for their entitlements in full and apply for an excess allocation of 20% of the issue. Together with the Employees Provident Fund’s (EPF) undertaking to subscribe for its 13.7% entitlement, Maybank has effectively secured significant support from its substantial shareholders, with 89.4% of the rights issue taken up.

Similarly, in the case of TM International Bhd’s (soon to be known as Axiata) proposed RM5.25 billion rights issue, Khazanah Nasional Bhd has provided an undertaking to subscribe for its 44.5% entitlement plus another 20%, should the minority shareholders renounce their entitlements. Assuming the EPF and Skim Amanah Saham Bumiputera (with 16% and 8.5% stakes respectively) are willing to pick up their entitlements, TMI would secure an 89% take up of its rights issue.

Across the Causeway, Singapore-listed Chartered Semiconductor Manufacturing, which plans to raise US$300 million through its rights issue, has received an undertaking from its 59.4% owner, Temasek Holdings to subscribe for up to 90% of the issue.

With the backing of major shareholders who have the resources to support the rights issue, the exercise is sure to succeed, regardless of negative market commentaries, adverse analyst calls or declining share prices and in spite of any dissenting voices among the minority shareholders.

In contrast, if a listed company has a fragmented shareholding or if its shareholders do not have deep pockets, it will have a harder time with its rights issue.

First, the company will face an uphill task to convince its shareholders at the emergency general meeting (EGM) to approve the rights issue resolution.

Shareholders, who may have become accustomed to receiving constant dividends from the company, now have to consider the prospect of their stake being diluted if they choose to renounce their rights entitlement. Obviously, shareholders will thoroughly examine the rationale for the cash call.

Are the proceeds from the rights issue to be used to repair the balance sheet due to depleting shareholders’ funds arising from mounting losses? Did the continuous erosion of cash resources require additional working capital to be injected? Did mismanagement of the capital structure lead to a possible cross-default of debt covenants, necessitating a cash injection to pare down debt and improve the gearing ratio?

Whatever the reasons, the company now recognises that there is a lot to explain in terms of scenario and strategy in campaigning for support of its rights issue.

Second, even if the listed company garners enough proxy votes at the EGM to pass the rights issue resolution, it still does not mean the shareholders will dutifully put their money on the table.

If they cannot visualise the prospects for the company post-cash call, they are likely to walk away rather than invest further despite being offered a hefty discount on the rights issue price. Smaller shareholders who would rather conserve their cash in this economic downturn would be hard-pressed to fork out money to supplement their stake in the company. Moreover, there are many buying opportunities available at bargain-basement prices in today’s market.

Third, the rights issue exercise may fail altogether if there is insufficient shareholder interest or if there is a massive selldown and the share price falls below the rights issue price. This would not only derail the company’s recovery plan, but also further damage its reputation and confidence in its prospects.

Hence, if the listed company has had consistent investor communication over the years, it would probably be much easier to gain the support of its shareholders. Assuming that its long-term outlook is indeed favourable, if it had been vigilant in maintaining investor communication, the company would find its efforts paying off when it comes to fundraising exercises. The listed company’s investment in investor relations may not be explicitly reflected in its accounting books, but its invisible benefits begin to emerge once the company’s cash call receives the right response from shareholders.

This article was published in The Edge Malaysia on 6 April 2009.

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