The report of the judicial inquiry into allegations of impropriety at the PIC (Mpati report) was finally released to the public late last week. It’s not a report for beginners – it is 995 pages long and somewhat repetitive. I read most of report over the past two days. I am not overly surprised by some of its contents and I think the rot goes back further than Dr Matjila’s appointment as CEO in 2014. Matjila was both Chief Investment Officer and CEO until his resignation in late 2018. We should remember that the infamous Brian Molefe, aka the Saxonworld shebeen dweller, was the PIC CEO from 2003 to early 2010. We know what damage he subsequently did to Transnet and Eskom!

I will let you into a little secret. The year was 2007 and I was approached to advise a consortium who wished to obtain funding from the PIC to purchase a rather large South African based company. I was quite excited to assist until I reviewed the proposed purchase price for the aforementioned company (I cannot divulge its name). The valuation was absolutely ridiculous. It was even higher than Elon Musk on his chilled days, if you know what I mean. I declined to provide my services on moral grounds – we are talking about using pensioners funds to purchase a grossly overpriced asset. The PIC funded the deal and I have watched the value destruction over the years. Sadly, my predictions proved more than accurate.

 

The Mpati report provided some insight into the acquisition by Lancaster 101 (Pty) Ltd (L101) of 2.75% stake in Steinhoff in September 2016 costing R9.35 billion at the time. The PIC funded the entire amount granting L101 a loan to acquire 60 million Steinhoff shares. At the time it must have seemed like a deal of a lifetime! L101 was 50% owned by the Lancaster Group and 50% owned by the PIC. The Lancaster Group in turn is owned by the infamous Mr. Jayendra Naidoo. Naidoo was supposed to invest R50 million of his own money in the deal but this failed to happen. The Lancaster Group was given the opportunity to share in 50% of the upside of the Steinhoff share price above R76 (being the subscription price in September 2016) without investing a cent of its own money. Remarkable isn’t it?

The deal gets even stranger. The Lancaster Group used some of the PIC loan proceeds to pay itself a R23 million advisory fee and also to pay its advisers, Symphony Capital, a fee of R77 million for services rendered. My goodness, I want to advise on deals like these when I grow up!

L101 subscribed for 60 million new shares in Steinhoff as opposed to buying shares from existing shareholders. Steinhoff paid the Lancaster Group, not L101, an underwriting fee of R114 million for subscribing for the shares. Underwriting fees are common in the investment industry where banks or asset managers underwrite a rights issue. What this means in layman’s terms is that when listed company wishes to raise fresh capital from its shareholders through a rights issue (offering shareholders the right to subscribe for new shares in proportion to existing shareholding), the company may wish to obtain comfort that it will raise the full amount from shareholders. Shareholders are not obliged to follow their rights and hence, there is a risk that the company may not raise the targeted amount. Banks etc. can elect to underwrite the rights offer by agreeing to subscribe for a fixed amount of capital if all shareholders do not follow their rights. In return for underwriting, banks will charge a negotiated underwriting fee for putting themselves at risk.

It beggars belief that the Lancaster Group received an underwriting fee. Firstly, it did not subscribe for shares in Steinhoff, L101 did. Secondly, L101 did not underwrite anything since there was no rights issue. Rather there was a specific agreement to subscribe for 60 million shares at ±R76 per share. Imagine going to your bank asking for a loan to buy shares in a listed company without providing any security besides the shares being acquired. Banks are generally reluctant to lend against the security of shares since share prices are very volatile, think Sasol, think Steinhoff. If you then asked the bank for more money to pay yourself an advisory fee for structuring such an innovative deal, the bank manager may refer you to a healthcare practitioner. Then asking the listed company in question for an underwriting fee for purchasing their shares may get you into an asylum quicker than you can say COVID-19.

You may ask why the  PIC would enter into such a ludicrous transaction? Where was the oversight of the PIC board of directors? What return would the PIC reasonably achieve for the government pensioners’ money that they were investing? Was this potential return attractive enough given the risks of the deal? Well, we know the answers to most of these questions. According to the Mpati report, the outstanding loan amount owed by L101 to the PIC was R11.6 billion at February 2019 which means that interest on the loan has not been serviced. The value of the underlying Steinhoff shares acquired by L101 is currently around R52 million. That is a spectacular destruction of value.

The Mpati report highlights some other disturbing issues at the PIC. It refers to the victimization by Matjila and the then CFO, Ms Matshepo More, of senior executives at the PIC. I quote

“…the modus operandi followed by the alleged perpetrators, in most cases, was to make use of a so-called whistleblower report accusing the employee of some or other impropriety. This would inevitably be followed by a disciplinary hearing and eventual dismissal…The victimization was direct and/or indirect. The victim would be told that he/she was not wanted in the organization or indirectly by excluding him/her from meetings or by way of manipulating remuneration…The other method used was to promote a more junior employee over the head of his/her senior, to whom he/she was reporting. The promotion method was used in the risk and legal departments with devastating effect on the morale in the two departments…”

Referring to the remuneration practices at the PIC, the Mpati report refers to a salary increase granted to a general manager in the finance department of R1 957 975 in one particular financial year. Imagine opening that envelope and reading that you, as a mid-level manager, was granted a salary increase of R1.9 million. I think I would faint with excitement.

Take care out there amidst the COVID-19 pandemic and the bears in the stock market. All the best from BeechieB.