Important for KPS to revaluate the water asset, so KPS share will fly to the SKY???
Splash replies to allegations made by former Selangor MB Khalid
Monday, 5 January 2015
SPLASH refers to several allegations made by Khalid which warrant some clarifications.
Allegation No.1: Various offers (for 100% stake) made on Feb 20, 2013; Nov 21, 2013; Feb 26, 2014; and Sept 12, 2014 on behalf of the Selangor administration were unchanged to all four concession water companies.
It is not true that the various offers made by the previous state administration were unchanged.
Splash has actually accepted in principle the offer made on Feb 20, 2013 and had also accepted an earlier offer from the state dated July 15, 2009.
In both of these offers, the Selangor administration had offered 1x book value in principle.
However, the offers which we had accepted were later much reduced by 90% due to the omission of surplus assets value (ref: Item 2.1 (vi) of Kumpulan Darul Ehsan Bhd’s letter of offer dated Feb 20, 2013) starting from November 2013.
Essentially the latter offers were thus so drastically changed and so vastly different that they were deemed unacceptable.
Allegation No. 2: The RM2.8bil is appalling valuation, and any amount beyond RM1.83bil granted to Splash would be tantamount to gross injustice.
Discounted Cash Flow (DCF) is the universally accepted method of valuation for concession assets.
DCF valuation was used by Puncak Niaga Holdings Bhd’s (Puncak) independent valuer Moore Stephens as stated in an independent advice circular issued to the shareholders of Puncak by KAF Investment Bank dated Dec 19, 2014.
Moore Stephens had also valued Splash at RM3.9bil using the DCF method.
The state’s offer to Splash as stated is RM1.83bil.
However netting off Splash loans of RM1.56bil, the offer is worth only RM250.6mil, whereas the book value of Splash after netting off loans is RM2.8bil.
The book value of Splash would give a lower figure than its DCF value as it would mean foregoing all future earnings.
Book value valuation offers the following:
a) No gain to the exiting shareholders
b) No divestment loss
c) Exiting shareholders to forego all future profits from the remaining years of the concession contract – for Splash, they shall forego approximately RM1.1bil of future profits from the remaining 16 years of concession based on DCF valuation (RM3.9bil)
As a matter of fact, six other state water industry consolidations have already been successfully concluded at 1x book value.
The states involved are Malacca, Negri Sembilan, Johor, Perlis, Penang and Perak. The water companies in these states were acquired at 1x of their book value and therefore at a no gain/no loss to the exiting shareholders.
The takeovers were also voluntarily agreed by shareholders, without invocation of Section 114 of WSIA (the Water Services Industry Act).
In the past, takeovers have been normally completed at a multiple of the book value.
For example, the Federal Government (through EPF and Khazanah) had privatised PLUS in October 2010.
The offer made to shareholders was RM4.60 per share, which was a premium of 42% to the market price then of RM3.25. The book value was only RM1.18 per share. Therefore, offer made is simply much higher than 1x book value, and was actually at 3.9x.
Even at 1x book value, the shareholders of Splash will give up ALL the future profits from the remaining 16 years of concession despite taking on 100% of all the construction, financial and market risk at the onset of the concession 14 years ago, which was just after the 1998 financial crisis.
Allegation No.3: The previous state administration’s offer formula is fair (the 12% return on equity minus historical dividend payouts) and any value below RM2.8bil will NOT result in a divestment loss.
This statement is not true as any offer below an entity’s book value will indeed result in divestment losses according the following accounting principle: Offer – Book Value = Divestment gain/(loss).
If we apply the previous state administration’s offer of RM250.6mil for Splash, the loss would be calculated to be a staggering RM2.55bil as follows: i.e. 0.25bil - 2.8bil = (2.55) bil
To demonstrate the flaw of the previous state administration’s offer, we examine the formula used: Equity Value = Share Capital Invested at 12% p.a. return (not compounded) minus Dividends Distributed.
This offer formula is flawed because of the key reasons below:
a) Pays no heed to company’s current financial position e.g. gearing
b) Does not consider actual operational efficiency
c) Does not value remaining concession term (Splash has 16 years of remaining concession, while Puncak only has six years)
d) Favours companies in operation longer (and thus with older assets)
e) Takes only cash dividends into account (and exclude other capital repayments)
That is why all experts use the DCF method of valuation and no one ever uses the state’s equity value method of valuation.
To elaborate further on point e) above, the state’s formula leads to an unfair outcome as it excludes Puncak’s capital repayment of RM1.27bil from 2007 to 2011, thus overpaying Puncak by that amount. There was no capital repayment made by Splash.
Unfair Outcome No. 2 :Inconsistent Valuation on Price-to-Book basis
The state’s offer formula also results in inconsistent valuation, when valued against the respective book value (see Table 1).
Splash is only valued at price-to-book value (P/B) of 0.09x, while Puncak Niaga Sdn Bhd’s valuation is almost 1x book value (0.9x).
Being offered less than 10% of its book value will result in a staggering loss of RM2.55bil for Splash’s shareholders.
Therefore the state’s offer formula is highly discriminatory and punitive to Splash.
This is unacceptable, especially for the shareholders of a public listed company such as Gamuda Bhd.
Allegation No. 4: Claims that the water industry consolidation exercises for all six other states were successfully completed on the book value basis are inaccurate and deceitful since the book value-based valuation was only in application for Perlis, Malacca and Johor while the valuation method for Penang, Perak and Negri Sembilan was simply based on water-related assets minus liabilities.
It is a known fact that the water industry consolidations in the six other states were all completed at 1x book value (see Table 2).
As can be seen from the table, in all cases, the offers were based on assets minus liabilities at 1x book value.
In four of the six states, the assets acquired by Pengurusan Aset Air Bhd (PAAB) were the same in value as their liabilities.
The obvious result of the 1x book value principle of asset acquisition is that in all the six states’ consolidation exercises, there were no gains or losses reported by the exiting shareholders.
Our claims were based on fact. There is thus no conceivable reason why the shareholders of Splash should not be allowed to exit at the same “no gain no loss” principle as was used in all the six previous water consolidations.
Allegation No. 5: It would not be too drastic to push the Federal Government to invoke WSIA 2006 to put an end to any further delays in long-drawn out restructuring exercise.
WSIA 2006 is invoked to take over the operations of a water operator where there is either non-performance by the water operator or on account of national interest.
Splash has never, from its inception until now, been cited by the authorities or the state government for default in its performance in accordance with the terms of its privatisation agreement.
There is also no compelling reason for a forced takeover on account of “national interest”.
In the case of Splash, the Government has taken the route of negotiation to take over Splash.
Splash had accepted in principle the previous offers made until the offer was significantly reduced by 90% from earlier offers starting from November 2013.
Looking at the totality of the events and the manner of these events unfolding, to invoke “national interest” to take over Splash due to pricing could be construed asmala fide (bad faith).
In any case, invoking section 114 would not resolve the impasse as it does not have the effect of transferring ownership of the licensee to the Commission.
Section 117(4) of the Water Services Industry Act 2006 provides that “an order under section 114 shall not have the effect of conferring on or vesting in the Commission, or the appointed person, as the case may be, any title or beneficial interest in any property of the licensee to which the order relates.”
The Commission would be merely operating the water treatment plants on behalf of the operator.
If we are unable to reach an agreement because of this drastic change in offer, and then are told that we are being taken over on the ground of “national interest”, clearly such action cannot be supported or justified. Neither will it serve the purpose of resolving the impasse.
In fact, the state government’s offer has been deemed unreasonable by market analysts.
To quote just a few of the many analysts’ reports:
“Any forced takeover due to disagreement in pricing and not due operational failure by the concessionaire puts in question the sanctity of contracts where Government is the counterparty. We still hold the view that negotiations should continue until a willing buyer, willing seller price is reached.” - MayBank Investment Bank, April 9, 2014
“A consistent methodology (of 1x net book value) has been applied throughout the other states. This, we believe, may be the winning formula. We therefore opine that the Government would be successful in resolving the deadlock if the same method is applied to Selangor. Implicitly, the 1x NBV method is seen as fair, consistent and importantly, appears to abide to the spirit of ‘willing buyer, willing seller’ principle.” – Affin Research, April 9, 2014
“The implied price-to-book value varies greatly among the water co with Splash only receiving a 0.1x book value... Such large variation in valuation multiple also highlights the shortcoming of the state’s offer methodology.“- Deustche Bank, April 24, 2014.
The delay to the long drawn affair lay clearly on the drastic change of offer terms from what we had accepted already and what we have thought would have already been closed via our acceptances in July 2009 and February 2013.
In short, inconsistency on the part of the State has led to the prolonged delay.
Allegation No. 6: Concessionaire companies are less willing to bring the case for arbitration because they will be required to disclose to the public all the terms and conditions of the privatisation agreement, which are by and large in favour of concessionaires.
Splash welcomes full disclosure to the public of the terms of the privatisation agreement and a fair and independent valuation exercise on a commercial, willing buyer willing seller basis by expert valuers.
The previous state administration wants the scope of arbitration to be only restricted to the quantum of return on equity value.
This narrow scope will prevent arbitrators from questioning the flaw in the equity value method adopted.
Splash is agreeable to arbitration if the scope of the arbitration is not merely restricted to the flawed equity value method of valuation but includes universally accepted methods of valuation.
Issued on behalf of Splash management by general manager (finance) Lee Chin Ban.