Amid the recent string of profit downgrades and equity issues, companies have sheeted home the blame to external factors such as the weather, cost pressures, the debt crisis in Europe, structural changes and the slowing economy. None have mentioned the role of poor management, weak boards or deficient strategy.
While there is no doubt that external factors have played a role in the disastrous profit results corporate Australia is about to spoon out, many of these downgrades and capital raisings can be blamed on senior management and boards for a failure to buckle down like some of their international counterparts.
As Warren Buffett once said: ”Only when the tide goes out do you discover who is swimming naked.” Over the past 20 years a strong economy that navigated its way through the global financial crisis became a fig leaf for Australian executives and boards. But as the economy slows, investors are starting to get flashes of many naked men – and a few women – desperately swimming to shore.
To put it into perspective, a year ago earnings per share growth was expected to be 20 per cent. It is now close to zero. An equities report by the Deutsche Bank equity strategist Tim Baker says the resources sector is now expected to post no growth in 2012 but a bounce is expected in 2013, predicated on commodity prices rising. However, given recent commodity price movements, a blowout in costs and some questionable strategic decisions by some of the bigger resource houses, this bounce may turn into a dead cat bounce.
A tell-tale sign that good managers can navigate their way through challenging conditions is that in each sector a few companies have not had to make big profit downgrades or raise equity at a hefty discount to shore up their balance sheet or use for working capital. In the case of AGL, its equity raising was to fund an acquisition that was going cheap, but in most cases the equity raising is to reduce debt ahead of a tough refinancing market or to use for day-to-day business.
Examples of well-run companies operating in tough sectors include luxury retailer Oroton Group, construction and engineering group United, Amcor, WorleyParsons, Chris Corrigan’s Qube Logistics and the big four banks.
The howlers include Leighton Holdings, which has stumbled from one disaster to the next over the past 18 months and is still suffering from high gearing, unresolved issues in the Middle East and the Victorian desalination plant project; Qantas, which is trading at near-record lows; Billabong, which has seen its share price plunge from $17 five years ago, to $4.70 a year ago, and $1.07 on Friday due to an ill-judged strategy, profit downgrades, a capital raising, liquidity and debt fears, a dysfunctional board and low staff morale; Myer, which has never traded above its issue price; and engineering group Hastie, which went belly up last month after poor acquisitions, revelations of accounting irregularities and a culture of hiding bad news.
But there are many more, including Boral, which has had three profit downgrades in the past year, and Metcash, which is raising $325 million to partly cover acquisitions and also fund a business model that the Merrill Lynch analyst David Errington describes as ”broken” because it is financially supporting uncompetitive retailers.
Deutsche Bank estimates that in the past month earnings forecasts were cut for 123 ASX 200 companies, and lifted for only 50 companies. As companies close the ruler on the 2012 financial year, there will undoubtedly be a few more nasty surprises in the coming weeks.
Some of the problems appear to be a lack of quality systems and forecasting skills, poor financial disciplines and an overall lack of rigor. Proper systems should be fundamental to the running of any company to enable shareholders to trade with confidence and promote the integrity of the sharemarket.
When times are good, poor management and weak boards can fly under the radar because everything is growing. It is when things turn bad, as they are now, that poor systems result in a mis-estimation of costs and a weak management team is unable to identify the problem until it is too late.
It seems companies that compete best generally run without disasters. But the rest will be in for some embarrassing and difficult times as challenging conditions persist and tighter credit conditions globally will put pressure on companies to shore up their balance sheets. Given the $100 billion that was raised during the global financial crisis, company gearing is relatively low, but there are still some companies with relatively high gearing and/or a skinny net interest cover. Potential equity raising candidates include Alumina, Leighton, Myer, OneSteel and Seven West Media.
In the months ahead there will also be an uptick in takeover activity as share prices fall so far that they become a break-up opportunity for a trade buyer or private equity operator. It is understood that a wealthy Melbourne family operation is hunkered down looking at retail opportunities. There is also strong talk that Billabong will be taken over in the next few weeks.
In the meantime, all eyes will be on the next development in the David Jones takeover announcement on the last day of the financial year. Whether it turns out to be bogus or legitimate, it is likely to flush out other interested parties to break up the department store chain and extract value from its properties. The company can’t do this itself as it would get a whopping capital gains tax bill.
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