The timeline on 25 April 2018 has already passed us for more than a month. By now, the holders of the preference share, entitled Hyflux 6% CPS, have resigned to the fact that the preference shares would not be redeemed. According to its prospectus, the coupon rate would be stepped up to 8% if the preference shares were not redeemed. This clause seemed to have relegated in importance as the primary concern of the preference shareholders was whether their capital was at risk. The market, in fact, has already reflected this in early 2018, when the preference share was trading at around 75 cents, giving a yield of about 8%.
And just about two years ago, when Hyflux issued another tranche of unsecured debts at 6% for retail and institutional investors. It was so heavily oversubscribed that the company decided to upsize its offer from $300m to $500m. That was also the time when many companies were making their utmost, and probably, the last-ditch effort at the lowest possible cost to get their hands into investors’ pocket amidst talks of impending rate hikes. Before Hyflux’s issue of its 2nd tranche of its perpetual bonds in the first half of 2016, four companies had already issued perpetual securities to investors at rate between 3.85 and 5.25 per cent. It was a situation of “strike while the iron is hot”. There was no lack of investors at that time.
By now, the truth has set in that investors are not likely get capital back without a deep haircut. While the top executives and the lawyers of the company and the banks are busy working on the re-structuring plans, the likely scenario for the unsecured creditors is that they are forced to become equity shareholders marked at a high conversion share price such that conversion is “out-of-money” against the share price before the suspension. The end result is the float in the system becomes overly large causing the already miserable share price to plunge even further.
What lessons do we draw from the Hyflux saga?
- Water is essential but no all waters come from Hyflux
I remember asking a student why she bought Hyflux when at the time, the share price was about $1.00 to $1.20. The answer given to me was everyone needs water. True, everyone needs water but not all the waters that we consume come from Hyflux. In fact, most of our drinking waters do not come from Hyflux.
- We are buying a business, not a star
In the same occasion, another lady told me that she had bought Hyflux at more than $2 (can’t remember the exact purchase price that she had tabled). Based on the price chart, she must have bought the shares around 2010. That was the time when the stock was trading at its historical high. In a situation when the share price was already trading at 50% of her purchase price, it was a situation of between the devil and the deep blue sea. She did not divulge why she bought the stocks, but I believe it was probably due to one of the two reasons. Either she thought that the product was essential, or because she idolized a lady chairman. After all, at that time, a lot of attention have been placed on female entrepreneurs, businesswomen and female politicians. The point here is that gender should not be seen as the determining factor to decide if a business is going to be successful. A postal man or woman could also still end up in hard times at one point or another.
- Debt-laden companies usually end up miserably – There may be exceptions but they are rare and far in-between. Throughout my years in the stock market, I cannot find anything more true than this. The irony is heavy debts often breeds even heavier future debts causing the interest cover to get thinner in each passing year. A quick review showed that the interest cover for 2016 was around 0.08 and the net profit was negative for FY 2017. The operational cash flow has also been negative for the past few years. In fact, the continual negative cash flow is usually the leading indicator of the worst yet to come. Many fundamentally-deteriorating companies often face negative cash flow even though the P&L statement may still show positive net profit for a number of years. To enable the company to continue operation, it has to get into more debts and there would come to a breaking point that results in bond defaults and share price falling off the cliff. Actually, this observation is not new. There have been quite a number of precedents in the recent years.
There may be one or two more considerations. They are not necessary related to the above stock in particular. I believe investors could identify them as they become more experience in their investing journey. Happy investing!
Disclaimer – The above arguments are the personal opinions of the writer. They do not serve as recommendations to buy or sell the mentioned securities or the indices or ETFs or unit trusts related to it.
Brennen has been investing in the stock market for 28 years. He trains occasionally and is a managing partner for BP Wealth Learning Centre. He is the instructor for two online courses on InvestingNote – Value Investing: The Essential Guide and Value Investing: The Ultimate Guide. He is also the author of the book – “Building Wealth Together Through Stocks” which is available in both soft and hardcopy.