Datapulse Technology 2018 AGM: Questions and Views on the Resolutions

By Mak Yuen Teen

On 16 November, Datapulse Technology (DT) will hold its 2018 AGM.

Immediately after the AGM, there will be a new board in place consisting of the three recently-appointed directors who are standing for election –  the current chairman and non-executive, non-independent director Aw Cheow Huat (ACH), Sin Boon Ann (SBA) and Loo Cheng Guan (LCG). Three directors who are currently on the board – Low Beng Tin (LBT), Ng Der Sian (NDS) and Rainer Teo Jia Kai (TJK) – will be retiring and not stand for re-election.

The retiring directors were responsible for the questionable acquisition of Wayco Manufacturing (Wayco)  and the diversification into the hair care business, and therefore I am pleased that they are stepping down.

However, has DT truly put its recent questionable past behind it, or could this to be a false dawn? For shareholders to be truly confident that it is the former, there are many questions that need to be answered.

Let me now go to the individual resolutions, questions that shareholders may wish to ask, and my personal view as to how I believe they should vote on each resolution.

RESOLUTION 1 – APPROVAL OF THE DIRECTORS’ STATEMENT, AUDITED FINANCIAL STATEMENTS AND AUDITORS’ REPORT.

1. Impairment and buyback

The company paid $3,433,760 to acquire Wayco – the acquisition was completed on 15 December 2017. The fair value of the identifiable net assets for Wayco is $2,290,873, with goodwill amounting to $1,142,887. The entire goodwill has now been written off as an impairment loss. The speed in writing off the entire amount of  the goodwill just 7.5 months after the acquisition reflects the haste in making the acquisition and indicates that company overpaid for Wayco.

From the acquisition date to reporting date, Wayco contributed revenues of $715,692 and a loss of $19,738 to the group’s results. The loss contrasts with Wayco’s unaudited net profit after tax of RM160,632, or RM321,268 on an annualised basis, disclosed by the company in its acquisition announcement of 12 December 2017. If we annualise the $715,692 revenues between the date of acquisition and reporting date, it comes to $1,145,107. Wayco’s audited accounts for the year ended 31 December 2016  show revenues of RM4,113,196. This comes to more than $1.3 million. (I do not have Wayco’s accounts for the year ended 31 December 2017).

The above points to a business that is declining, which is consistent with what I have written in my earlier commentaries. The company disputed my claims, repeatedly asserting that it was acquiring a profitable business, but the numbers now seem to suggest otherwise.

Wayco’s revenues for FY2015 were RM3,385,033 and there was a loss of RM5,286. In other words, FY2016 revenues were 21.5 percent higher compared to FY2015. FY2017 revenues on an annualised basis were close to the FY2015 revenues. Therefore, another explanation could be that the increased revenues for FY2016 were a result of sales that were building up inventories in other Way group companies (most of Wayco’s sales were to other Way group companies) – perhaps in advance of the pending sale to DT. In  any case, there is little evidence to support the company’s claims that Wayco is a profitable business.

Contrary to the board’s protestations about public comments regarding the lack of due diligence in the Wayco acquisition, the Lee & Lee report on the compliance review said that it was minuted that the board agreed to proceed “without due diligence” provided the vendor agreed to a buyback undertaking.

The report also confirmed that the supplemental agreement containing the buyback undertaking does not elaborate on or define what constitutes “material adverse effect” and “material extent” and therefore what constitutes as “material” is subject to interpretation. This would clearly make the buyback undertaking difficult to enforce.

Nevertheless, the annual report says: “The Board having reviewed the business operations of Wayco in conjunction with reports provided by consultants and management has formally engaged the Vendor to resolve issues that surfaced. If such issues are not satisfactorily resolved, the Company will review and consider all options, including but not limited to the exercise of the Company’s right to require the Vendor to buyback Wayco from the Company.”

Questions:

• Can the board update shareholders about the likelihood of enforcing the buyback and its opinion as to whether the company will be able to recoup the entire acquisition amount?
• Can the board let shareholders know if it intends to review whether there is any basis for legal action to recover from certain directors any losses from the acquisition, the costs of the compliance review, professional fees and legal costs (including costs of filing a defamation suit against Ascapia Capital), since all these are directly linked to the Wayco acquisition which was conducted without due diligence and with a difficult-to-enforce buyback undertaking?

2. Rental income 

It has now been confirmed that the freehold property at No. 12, Jalan Dewani 3, Kawasan Perindustrian Dewani, 81100 Johor Bahru, Johor Darul Takzim – which has the words “RW” prominently displayed on the building – has in fact been rented to Riverwalk Composite. Since the building only shows the name of the tenant, this would suggest that the tenant has rented a substantial part of the property.

The investment property in Kuala Lumpur has also been rented out as a shop office. Yet, Wayco only earned RM36,000 in total rental income for FY2016 and RM 27,750 for FY 2015.

In the annual report, there is no disclosure of any rental income earned by DT.

Questions:

• How long has the freehold property in Johor Bahru acquired in the Wayco acquisition been rented to Riverwalk Composite and how much rental income is the company receiving per year from this?
• Can the external auditors comment on the rental arrangements for the property in Johor Bahru? Are there formal rental agreements with the tenants of the properties?
• Was there any rental income earned by the company in FY2018 and, if not, why?

3. Book values of Wayco’s assets

In its response to SGX on 28 December 2017, the company provided a breakdown of the fixed assets of Wayco as at 30 June 2017. The book values for the freehold properties, investment property and other fixed assets disclosed were significantly higher than the book values in Wayco’s accounts as at the end of FY2016, after adjusting for any further depreciation. When questioned, the company claimed that it can use the revaluation model for freehold properties and the fair value model for its investment property.

The audited financial statements has now disclosed a change of accounting policy to the revaluation model for freehold properties and fair value model for the investment property. It would appear that this change in accounting policy was only introduced by DT after the acquisition, at which point the identifiable net assets would already have been recorded at fair values. This would explain the small revaluation surplus/reserve of $21,176 recorded in the financial statements.

Questions:

• Did Wayco already change its accounting policy to revaluation for the freehold properties and fair value for the investment property as at 30 June 2017, as the values as at that date disclosed to SGX were well above their book values? (Note that the book values of other PP&E were also significantly above the values in Wayco’s books, and the additional purchase amount mentioned by the company in its response to my questions is not sufficient to explain the difference).
• Can the external auditors comment as to whether Wayco had adopted revaluation/fair value prior to its acquisition by DT and whether, in its opinion, the values stated by the company as at 30 June 2017 are correct?

4. Possible acquisition of hotel in Seoul

On 3 October, the company announced the signing of a non-binding letter of intent (LOI) to acquire a hotel in Seoul. So far, no further information has been provided.

Questions:

• Is the board able to provide an update about this proposed acquisition, likely purchase price and further details about this hotel?
• Can the board give an assurance that there will be a proper valuation done by a reputable valuer appointed and paid for by the company, and that the identity of the sellers will be disclosed in due course?
• Can the board give a further assurance that all future acquisitions and disposals will be fully transparent in terms of proper valuations conducted by valuers appointed and paid for by the company and disclosure of the identity of the vendors or purchasers (if it is not possible to disclose publicly, that the identity is disclosed at least to the stock exchange).

5. Internal audit

In the corporate governance report, DT says that the internal audit function is outsourced to external audit professionals from an international accounting firm and includes the usual statements about the audit committee’s role in relation to this function, including an annual review of this function. These statements are similar to those that appeared in the 2017 annual report. The company did not disclose the identity of this firm.

Under the section on “Risk Management, Internal Controls and Internal Audit”, the company included the following statement: “Based on the external auditors’ report and management reviews, the Board, with the concurrence of the AC is of the opinion that the Group’s risk management systems and internal controls are adequate and effective in addressing the financial, operational, compliance and information technology risks of the Group as at 31 July 2018”.

In the FY2017 report, a similar statement was included except that it said: “Based on the internal and external auditors’ reports and management reviews…”

Questions:

• Does the company actually have an internal audit function, and if so, who is the internal auditor and was any internal audit work actually undertaken during the past financial year? 
• Can the external auditor comment on whether they had placed any reliance on the work of the internal auditor in the conduct of the external audit?
• Since the external auditors’ review of internal controls is largely in relation to internal controls relating to financial reporting, and management reviews do not provide independent assurance, do the external auditors’ review and management reviews provide a sufficient basis for the board and the AC to provide their opinion about the adequacy and effectiveness of the company’s internal controls and risk management?
• If there was in fact an internal audit function and internal audit work was carried out in FY2018, why did the internal auditors’ work not form part of the basis of this opinion? Or was this an “inadvertent omission”?
• If there was in fact no internal audit work done in FY2018, why did the annual report include all these statements about its internal audit function?

My personal view on how shareholders should vote:

I believe that shareholders should abstain for resolution 1 but vote against if the board is not open in answering shareholder questions.

 

RESOLUTION 2 – APPROVAL OF THE FINAL DIVIDEND OF 1 CENT PER SHARE

The company is declaring a final dividend of 1 cent per share, making the total dividend 2 cents per share for the year. The board should consider paying a significantly higher dividend given the cash available in the company following the termination of its previous manufacturing activities. If the new board wants to invest in new businesses, it can make a rights issue or placements and this will give a clear mandate  (or otherwise) to the new board to invest in such new businesses.

My personal view on how shareholders should vote:

While I believe that shareholders should make their views felt about the paltry dividend, given the cash in the company, they should vote for the dividend under resolution 2.

 

RESOLUTION 3 – APPROVAL OF DIRECTORS’ FEES OF $150,000 FOR THE YEAR ENDED 31 JULY 2018

The director fees are for the year ending 31 July 2018, which means they are intended largely for those directors who resigned in December 2017, and the directors who bought Wayco and who are not seeking re-election at this AGM. Prior to the resignation of the previous directors, there were several questionable disclosures made by the company,  including failing to disclose the termination of the option to buy the proposed replacement Toa Payoh property when shareholder approval to dispose of the Tai Seng property was sought, and also about the continuation of the then manufacturing activities. The directors who were appointed in December 2017 then proceeded to make the Wayco acquisition without due diligence. I do not believe that the payment of the fees to directors under such circumstances is warranted.

My personal view on how shareholders should vote:

I believe shareholders should vote against the payment of directors’ fees under resolution 3.

 

RESOLUTIONS 4,5 AND 6 – APPROVAL OF THE RE-ELECTION OF DIRECTORS

Following the re-election of ACH, SBA and LSG and the retirement of LBT, NDS and TJK, the board will have only 3 directors, consisting of ACH as non-independent chairman, and SBA and LSG as independent directors. Little information has been provided about the search and nominating process for ACH, SBA and LSG.

I believe that such a board is far too small for any listed company, unless the new board is planning to wind down the company and distribute cash to shareholders. If it remains at this size, all the committees, which are either required or recommended to have 3 members, will comprise the same people.

In addition to concerns about adequate independence and competencies to oversee the company and management, the independent oversight of the board will be further compromised if the board itself is actively involved in identifying business opportunities and in management (bearing in mind that the company only has an interim CEO who is also the CFO for some months now). There will be inadequate segregation of responsibilities and an increase in the threat of conflict of interests. This situation becomes worse if one or more of these directors takes a personal interest in a transaction.

I am surprised that only three directors have been proposed for re-election with the 3 retiring directors. However, I will also be concerned if additional directors are appointed immediately after this AGM, as shareholders would not have had the opportunity to review their backgrounds and ask questions of them at the AGM.

ACH acquired a 10 percent stake from Ng Siew Hong (NSH) on 17 July at 55 cents per share when the market price was just 28 cents, paying a premium of 96 percent. In November last year, NSH had bought her 29 percent stake from Ng Cheow Chye (NCC), LBT and others also at 55 cents per share. At that time, DT’s share price was around 36 cents, and therefore she paid a premium of about 53 percent.

ACH, with just a 10 percent stake, was able to gain control of the board by appointing himself as chairman and two other independent directors, while apparently being able to procure the retirement of the other 3 directors, who had resisted earlier attempts by a shareholder owning 16 percent and other minority shareholders to remove them.

The Lee & Lee report has indicated that NSH and Ang Kong Meng (AKM), the vendor of Wayco, had discussed the possible purchase of shares from NCC, before NSH bought her 29 percent stake. According to the latest 2018 annual report of ICP, where ACH is the chairman, AKM holds a 4.51 percent stake as at 18 September 2018 and is listed among the top 20 ICP shareholders. In the 2017 ICP annual report, AKM did not appear among the top 20 shareholders.

This raises questions about possible relationships between ACH, NSH and AKM. To my knowledge, ACH has not clearly explained the circumstances surrounding his acquisition of the 10 percent stake, how he was able to gain board control with such a stake, and whether there was any prior arrangement involving himself and the others at the time when NSH acquired her 29 percent stake. More importantly, did he have any involvement in the decision to acquire Wayco?

At ICP, both ACH and an independent director, Ong Kok Wah (OKW), had personal interest in a joint venture company (JVCo) which was 73.3% owned by ICP through one its wholly-owned subsidiaries. ACH initially had a 26.7% interest, and later transferred 17.4% to three other individuals in equal shares of 5.8% each, including to OKW. A wholly-owned subsidiary of JVCo acquired Geo Hotel and Geo Hotel Sdn Bhd. DT’s shareholders may recall that a non-binding letter of intent (LOI) was signed for the ICP subsidiary and the other JVCo’s shareholders to sell the entire paid-up capital of the JVCo to DT. However, this was terminated because, according to DT and ICP, due diligence was not completed in time.

The ICP transaction raises questions about directors having a personal interest in a transaction. It is true that under the law, this is not prohibited, provided the director discloses his interest (as required under the Companies Act). SGX rules also require the constitution of companies to include a provision for interested directors not to vote on any transaction in which he has an interest. The interested director should ideally go further than that and recuse from discussions about the transaction.

But all these steps do not fully address the possible conflicts faced by directors when they have personal interests in transactions. When a director has an interest in a transaction such as in the ICP case, shareholders may ask how this personal interest came about and how a director decides when to take or when not to take a personal interest in a transaction.

Questions:

• Can Mr Aw Cheow Huat explain his relationship with Ms Ng Siew Hong and Mr Ang Kong Meng (if any), when did his interest and involvement in Datapulse commence, why he was prepared to pay a 96 percent premium to acquire his 10 percent stake, and why he was able to gain control of the board with just a 10 percent stake?
• Can the directors let shareholders know if they intend to acquire or are likely to have personal stakes in significant transactions to be undertaken by the company?
• In the event that they have a personal stake, what steps do they intend to take to address the possible conflicts of interest?

My personal view on how shareholders should vote:

I believe that shareholders should vote against the election of ACH under resolution 4.

For the other two proposed independent directors, I believe shareholders should abstain from voting for their election under resolutions 5 and 6 given that there has been little information about how they were identified and appointed and about their prior relationships with ACH and NSH, who remains the largest shareholder. However, if no satisfactory answers are provided at the AGM, shareholders may also wish to consider voting against the election of these two directors.

(Note: LSG was proposed by Ms Intan Ng, the 16 percent shareholder, as one of the replacement directors at the April 2018 EGM convened to consider the removal of existing directors and appointment of new directors. At that time, I had written in support of the appointment of the new directors because what was most important then was to remove the existing directors. I had then said that under the circumstances, the proposed directors may not be the best directors and further board changes may be necessary. A proper search and nominating process for appointing of directors should now be expected.)

 

RESOLUTION 7 – RE-APPOINTMENT OF KPMG AS EXTERNAL AUDITORS AND AUTHORISATION TO DIRECTORS TO FIX THE AUDITORS’ REMUNERATION

My personal view on how shareholders should vote:

I believe that shareholders should vote for the re-appointment of KPMG under resolution 7 unless KPMG shows an unwillingness at the AGM to answer questions from shareholders about the conduct of the audit and the preparation of the auditors’ report.

 

RESOLUTION 8 – GENERAL SHARE ISSUE MANDATE

Given that there is $81.2 million in cash and bank balances, there is no need for a general mandate to issue up to 50 percent of new shares on a pro-rata basis and up to 20 percent on a non-pro-rata basis. In any event, such limits are much higher than those in some other stock exchanges. If there is a need, the company can call an EGM to seek shareholder approval.

My personal view on how shareholders should vote:

I believe that shareholders should vote against the general share issue mandate under resolution 8.

 

RESOLUTION 9 – SHARE BUYBACK MANDATE

My personal view on how shareholders should vote:

I believe that shareholders should vote for the share buyback mandate under resolution 9.