Saturday, August 21, 2010

Gulf Finance House - 1H10 Financials: Reports of a Turnaround Greatly Exaggerated


On Friday I was quite excited to see that GFH had posted its 1H10 financials and press release thereon.  That is until I printed out the 2Q10 report and found it was actually that for 1Q10.  While the First Quarter was much much better than the Second, I'm assuming this is just a technical glitch, and not a desire to focus on relatively happier days of 1Q.  Hopefully by the time you use the link  above to the financials  all will have been corrected.

In the interim, here are some preliminary observations on the summary 1H10 financials printed in the newspaper, sans as is customary the all important notes thereto.  More detailed comments will follow when the full report is released. 

Income Statement

Revenues
  1. GFH doesn't really have much to report for 2Q.  Like Global, GFH's first quarter was much better.  The second for both is rather disappointing to use a charitable term.  
  2. GFH had US$7.4 million in revenues during 2Q10 (28.5% of 1H10's US$25.9 million).  In 1H09 the comparable revenues were US$68 million.  A decline of 61% for 2010.
  3. 77% of 2Q's revenue was due to FX earnings. I don't believe that GFH has an active Treasury function and so this is probably FX translation gains - a non cash non business revenue. 
  4. The US$5.2 million in revenue from "Investment Banking Services" was earned entirely in 1Q10 and as per that Quarter's report US$5.0 million was earned from related parties (Note #11).  That's  96%.  You can tell the economy's bad when when your own "relatives" have no business for you.
  5. US$5.1 million in placement, arrangement and management fees, of which 79% was earned in 1Q10.  From the Cashflow Statement it seems that GFH has only collected US$0.2 million during 1H10.
Expenses
  1. Staff costs at US$8.8 million are 34% of 1H09's!  Though there is an interesting spike in staff costs in 2010.  In 1Q10 staff costs were US$3.6 million and in 2Q10 US$5.2 million.
  2. GFH took a US$20 million impairment provision in 2Q10 as opposed to zero in 1Q10.  This is down from 1H09's US$80 million.
  3. The bottom line is that GFH's remarkable improvement in 1H10 versus 1H09 is due primarily to the reduction in expenses from 1H09's US$160.1 million to 1H10's US$73.6 million.  Chiefly reductions in impairment provisions and staff expenses.
  4. You'll recall AA's test for a real turnaround in a business is the revenue line.  There is no evidence of any turnaround in the Company's core business. In fact compared to 1H09 core businesses are doing worse.  
Balance Sheet
  1. Cash Positions -  Cash increased US$7.8 million largely it seems (though money is indeed fungible) from the sale of US$29.1 million of Treasury Stock for US$7.6 million.  That's a loss of US$21.4 million.  You'll see these numbers reflected in the changes in Treasury Stock and Statutory Reserve in the Equity Account.  An interesting transaction.  I wonder if this was through the market (presumably on the KSE) or a private placement to a wise investor?  Or to a related party?
  2. Placements with Banks are down to US$121.1 million at 1H10 from US$156.7 million at 1Q10 and US$455 million at FYE09.  The large drop between FYE 09 and 1Q10 is due to  largely to debt repayments during the first three months of 2010.  In any case, as noted earlier the bulk of the remaining funds are pledged to secure GFH's commitments to make investments.  And so should (unless the 1H10 financials reveal otherwise) not be considered as part of the Bank's liquidity.
  3. There was an approximate US$45 million decrease in the Receivable for Investment Banking Services from 1Q10, which I cannot find in the Cashflow Statement.  This may be responsible for the increase in Other Assets by a similar amount?
  4. An intriguing new category "Assets Held for Sale" ("AHAS") with a balance of US$260 million makes an appearance in 2Q10.  Apparently a shift of assets from "Investment in Associates".  It will be very interesting to see the basis on which these are carried on the balance sheet versus Investment in Associates ("IIA").  If I remember correctly, IIA are carried at Fair Value Through Profit and Loss.  A change to a different basis for AHAS could have income statement implications., e.g. fair value through equity for one.  As well if they are no longer fair valued but carried at cost, that could potentially - but not necessarily - provide some relief on the recognition of changes in value as "impairments" have a different set of rules than "fair value changes".   The reason my antennae are up on this is because GFH chose 2Q to make this change at about the same time it has signalled that it wants to slow asset sales down.  So I'll be taking a close look at the note on this category in the 2Q10 report  when it is available to see if there is any potential Accounting Magic at work here.
  5. Other Liabilities have dramatically increased from 1Q10 and from FYE09.   By US$124 million!!  Hopefully, unlike 1Q10, GFH will provide a note with a breakdown of this category for 2Q10.
  6. 1H10 Equity was at US$416.5 million uncomfortably close to the US$400 million net worth trigger in GFH's Sukuk.  Without the 1Q10 remarkable conversion of the Deutsche Bank Murabaha which added US$25 million to Equity, GFH would have breached the covenant.  I use the term "remarkable" because I find it hard to understand why a rational investor would be converting debt in GFH to shares at this point.  Or why there would be a market to purchase GFH's Treasury Shares for that matter.  As I've written before, this transaction's structure allows capital to be infused into the firm without the time consuming process of an Ordinary General Meeting of Shareholders, a Rights Issue, etc.   With the selection of the amount and timing discretionary.  Then again perhaps a wise investor saw and continues to see something here that I don't.
As usual, GFH's Chairman and Group CEO have many favourable things to say about their  imagined turnaround.  And I suppose one would expect them to make these statements.  

However, to attempt to blame GFH's predicament on factors outside its control or to portray GFH as being in the same condition as every other "global investment bank" is a bit much.

First, GFH is not a global investment bank.  It was and is a regional investment bank.  Just as TID, Global, or Shuaa were and are.  In the grand scheme of things looking across the world, rather modest sized shops all of them.  

Second, the list of global investment banks in serious trouble is rather shorter than the list of all global investment banks.   Even if we were to grant GFH temporary hypthetical membership in the ranks of global investment banks, the Goldmine, Morgan Stanley, JP Morgan, Deutsche Bank et al may have tinkered with their strategies.  But they are not fighting for their lives.   Make no mistake GFH is in serious trouble.  Its rating, its share price and its financial condition clearly indicate that.

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