CORPORATE SCANDALS ARE BAD FOR EVERYBODY

When we have high-profile corporate scandals like Steinhoff and the associated frenzy that affected companies like Capitec and Aspen, every person in the country is affected. Shareholders and bondholders lose billions while pensioners and unit trust investors also take losses.

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These losses and increased speculation unsettled the entire stock market. These are just the short-term effects; the longer-term damage will only be felt in the months and years ahead.

Investor confidence

In the aftermath of a corporate scandal, private investors who are not that familiar with stock markets and the risks of investing will start to question why they have money in shares. They will be wondering if their money would not be safer in cash deposits, residential property or under the mattress. In a country with shocking savings rates, this is a real blow to economic growth. If we had a better savings rate, there would be more money to be invested in companies that could employ more people. This would place less strain on social grants etc. Anything that damages investor confidence and reduces the willingness of people to save for the long-term is destructive to our economy.

Auditors questioned

The audit profession has taken a series of blows over the last two years. Fundamental questions need to be asked about the role of the profession and the ability of auditors to monitor large entities. In 2008, we became familiar with the phrase “too big to fail” as justification for the United States Government bailing out large financial companies like the American International Group (AIG). One must ask if multi-nationals are becoming too big to monitor? Is it possible for the directors of these companies to know what is happening within the business and can they trust the information provided by the internal finance department, internal audit and external auditors? The example of Steinhoff would indicate that size is the enemy of transparent financials.

In addition, the role of accounting standards (not my area of expertise) must be questioned. This quote is taken from www.ifrs.org, “And IFRS Standards contribute to economic efficiency by helping investors to identify opportunities and risks across the world, thus improving capital allocation. For businesses, the use of a single trusted accounting language lowers the cost of capital and reduces international reporting costs”. I must admit I laughed out loud when reading this, I would love to see the person who wrote this drivel explain how IFRS helped Steinhoff investors identify the risks of their investment.

Furthermore, we have yet to see a high-profile sanction of an accountant for the corruption that has taken place within SOEs over the last eight years. I cannot recall any disciplinary action taken by the Independent Regulatory Board for Auditors (IRBA) where people have been barred or sanctioned for the corruption within SOEs. It seems that they are only investigating now, what have they been doing for the last eight years?

A bloody nose for asset management

Steinhoff has also given the asset management industry a bloody nose. It is only natural for investors to ask the highly paid fund managers who bought Steinhoff how they missed the lies told by management. I have sympathy for asset managers because their mistakes will always seem obvious with hindsight, but it does show how difficult it is to be a stock picker. Private investors who don’t feel capable of choosing specific shares themselves will naturally wonder if there is any benefit in paying fees to asset managers after this type of incident.

Excess regulation that stifles business

It is nearly inevitable that regulators will look at the Steinhoff debacle and try to determine how they can tighten and increase regulation to prevent this incident from happening again. This will lead to increased compliance costs, higher audit fees, more complexity in reporting and even less clarity to investors. Ultimately, investors carry the cost of the regulation as they bear the brunt of increased regulatory costs. As we have seen in the case of Steinhoff, increased regulation is not always the answer. Perhaps it is time to consider how to simplify auditing and accounting so that more people can understand what is going on.

Beware the short seller baring gifts

Late in 2017, just after Steinhoff’s auditors announced they would not sign off their financials, a little-known group, called Viceroy, published a research report on Steinhoff. In summary, it claimed to expose Steinhoff’s accounting practices as fraudulent and this caused the share price to collapse. One of the big criticisms levelled at Viceroy was that they were anonymous and never spoke to management and, therefore, some of their opinions were inaccurate. The critics were largely ignored after the Steinhoff CEO resigned, which seemed to validate Viceroy’s research and methods. However, Viceroy’s subsequent actions have raised suspicions about their methods. It is difficult to determine what good was done by them telling the markets that they were researching another company in South Africa after their Steinhoff report went public. This announcement only raised anxiety levels and made our market fertile ground for short sellers to create panic by publishing half-truths and unresearched opinions on any company that superficially compared with Steinhoff.

Share prices of a few companies collapsed as they were targeted by ruthless speculators who created panic by claiming they had identified Viceroy’s next target. When Viceroy eventually published their report (on Capitec), it was filled with very poor research, highly emotive language and showed a limited understanding of the South African banking environment. It has been speculated that Viceroy has close links to well-funded hedge funds that might be using Viceroy to manipulate markets in their favour.

Keep calm and carry on

When markets become frantic, it is always best to remain calm, keep saving and investing your money. Try to ignore the media hype that causes us to make bad financial decisions. It is important to remember that patient investors have profited handsomely from their investments, despite market crashes, corporate scandals and lousy politicians. 

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