GFH Treasury Shares – More Shareholder Value Destruction on the Horizon

It’s hard to understand the “logic” being applied by GFH’s board and management with respect to Treasury Shares, particularly given GFH's weak state.

On 16 February 2021 GFH announced two proposals:

1. The cancellation of 141,335,000 in Treasury Shares.
2. The issue of 94,339,623 in new “bonus” shares.

I’ve written before that the cancellation of Treasury Shares is a direct waste of shareholder funds. One buys shares from the market paying cash and then one cancels them and receives nothing. A dead loss.

The first proposal will result in the cancellation of 45% of GFH’s Treasury Shares (total value of USD 69 million). So USD 29 million. 

A large amount for a bank like GFH that has reported net income of USD 50 million the past two years.

If approved, the first proposal will bring the total of shareholders money “whistled” away in Treasury Share transactions to some USD 161 million before 2021's TS trading losses:

1. USD 3 million in losses on 2017 TS sales
2. USD 27 million in losses on 2018 TS sales
3. USD 28 million in losses on 2019 TS sales
4. USD 51 million in losses on 2019 cancellation of TS shares
5. USD 23 million in losses of 2020 TS sales
6. USD 29 million loss on the proposed 2021 cancellation of TS shares

As I noted in my most recent post on this “strategy” it does not make sense nor does it appear to have resulted in any benefit to shareholders in general.

Imagine instead that GFH had not “spent” (or more appropriately mis-spent) shareholder money on TS. 

Instead of borrowing USD 300 million at 7.5% per annum, it would only have needed to borrow USD 140 million resulting in an annual saving on interest of some USD 12 million a year. 

An amount equal to 24% of reported FY 2020 net income!

I’ve argued that cancellation of TS is unlikely to have a material impact on GFH’s share price given the relatively small percent canceled.  And that there are other less costly ways to increase the per share price of GFH. 

But note those would not increase the value of GFH.

Once again via the second proposal GFH will undo what little effect there is by issuing 94 million new bonus shares.

GFH is a weak institution.

Low quality of earnings. Subpar ROAE. Concentration in illiquid assets. A sub investment grade debt rating. 

Poor market performance of its stock, now trading at a P/BV ratio of 0.6X

All this would seem to argue for a more careful stewardship by the Board and management of the bank.

Given all that, it is also hard to understand how the CBB allowed these proposals to be put forward.

That leaves the decision in the hands of the shareholders.

Based on the past the probability of shareholder action to reject these proposals seems low. 

Creditor on Creditor Violence

Annual Leveraged Loan Investors Conference

Over the millennia our ancestors have passed down important life lessons to us in the forms of proverbs and other sayings.

Sometimes the author’s name is known. Most often not.

“Measure twice cut once”. Or in one country measure seven times before cutting.

“Don’t run with scissors” (ascribed, I believe, to Plato by Aristotle).

“Tie your camel first, then trust in God. (اعقلها وتوكّل)” ascribed to the Prophet Muhammad (SAWS) by Anas Ibn Malik via Al-Tirmidhi. (2517)

A recent article by Alicia McElhaney in Institutional Investor under the above title reminded me these and other similar sayings.

She describes how some members of leveraged loan syndicates are suing other syndicate members charging that when the obligor became distressed those lenders converted their “old” loans (those under the syndicate agreement) to “new” loans (outside the syndicate). 

In the process making the old loans subordinate to the new ones.

What those lenders did was take advantage of apparent deficiencies in the loan agreements.

AA finds it hard to have much sympathy for lenders stupid enough to sign syndicated loan agreements with inadequate protective covenants.

In the case at hand failing to insist that the loan agreement contain what were once standard covenants requiring:

1. 100% lender agreement to allow material changes to the loan conditions (rate, repayment, maturity, collateral)
2. pro-rata sharing of any repayments received by one or more syndicate member among all syndicate creditors 
3. limitations on market purchases of debt, along with a careful definition of what constitutes a “market purchase” etc.

While not the case here, this failure to “tie one’s camel” is similar to covenant lite loans that impose no real controls on the borrower. That is, no real triggers for creditors to call a default and accelerate the loan.

Both are “sins” in every kind of loan.

But more so for much riskier leveraged loans.

This asset class is supposedly where sophisticated investors—those able to analyze and bear the risks--”play”.

One might forgive a retail investor on the Robin Hood platform a “wise” investment in Tesla as a rookie mistake.

But “sophisticated” institutional investors with access to high-priced “elite strike force” legal teams?

I think not.

This is yet another cautionary tale--like that of Golden Belt Sukuk, Bernie Madoff, Abraaj, Wirecard, etc--for those who cling to unfounded myths about the innate wisdom of markets.

Update on GFH Treasury Share Trading – Another USD 40 Million to USD 69 Millon of Equity Up in Smoke

This is what I suppose one might from a shareholder’s perspective call adding insult to injury.  Or more accurately “insults” to “injuries”.  For details of the "original" insult look here.

At its FY 2018 EGM, GFH shareholders accepted the Board of Directors’ proposal to cancel some 207,547,170 of Treasury Shares. According to the published minutes, there was no discussion on this topic.  A fool and his money … 

Now you may be wondering why AA thinks this is an “insult” to shareholders.  

After all, the Treasury Shares have already been deducted from shareholders’ equity and so canceling them will not affect shareholders’ equity.  

There will just be a set of accounting entries within shareholders’ equity to remove these shares from the Treasury Shares account in shareholders equity to other accounts within shareholders’ equity.  The net accounting effect is zero.  

AA agrees. 

But, and there’s always a “but” with AA.  It will also involve the legal cancellation of these shares.  They will no longer exist. 

GFH did not conjure these shares out of air.  It paid hard cash—shareholder cash—to acquire them.  

And, thus, there is a real economic effect to canceling them.  

One thing AA learned in business school was that if you have to choose between economic and accounting effects, choose the former.  Unless, of course, you’re part of management and your bonus depends on the accounting.   “If you can’t fix the business, fix the accounting”.  

If GFH retained the shares, it could sell them in the market or use them as compensation in a transaction with a third party in lieu of cash or other assets sometime in the future.  

So by cancelling the shares what are GFH’s shareholders “losing”?  They’re losing those future potential uses of Treasury Shares. 

But you object GFH’s Board are prudent stewards of shareholders’ interests.  It’s probably a de minims amount.  

At FYE 2018 GFH held 255,455,953 in Treasury Shares valued at USD 85.424 million, giving an average cost of a T/S at roughly USD 0.33.  

GFH and through SICO its market maker have been busily buying and selling Treasury Shares since then, but we don’t have the data to compute an average price per share for a more recent date.  So we’ll use the USD 0.33 FYE 2018 average price per Treasury Share with the knowledge that the average price may be lower, particularly as GFH shares are now in the USD 0.20 range.  

The 207,547,170 in T/S--that GFH most likely canceled in May or June this year—are (or more precisely “were”) therefore worth some USD 68.5 million using USD 0.33 per share.   

At USD 0.20 per share average price the pain is less but still a considerable USD 41.5 million.   

Think of either of these amounts as a percent of reported net income  

Unless we assume that GFH could have only sold these shares for zero in the future and that no one would have assigned them any value in a transaction, GFH has just thrown as much as USD 68.5 million down the proverbial drain.   

Suppose, for example, that it could have sold the shares for roughly one-third of their FYE 2018 price.  That would be very roughly USD 23 million for the shareholders.  If it sold them at current prices, somewhere in the USD0.20 range, that would be USD 46 million. It would have incurred a loss on the transaction but nothing near the loss from cancelling the shares. 

You’ll remember that GFH’s excellent 2018 and 1Q19 misadventure in share trading cost its shareholders some USD 37.4 million. And if you don't, here's the link to an earlier post.  Add the cost of cancellation and that number together and you have an amount almost equal to FY 2018 reported income.  USD 68.5+USD37.4= USD 105.9 million.  Or, if we assume the average price per Treasury Share in May this year was around USD 0.22, a total of USD 78.9 million. 

But there’s more.  

GFH appears to have continued its Treasury Share transactions in 2019 past 1Q19.  Here are the links to the disclosures for April and May.   

There’s little need for AA to  detail this topic.  

Dr. Sabah Al Binali has already done so with an excellent analysis in Zawaya on this activity.  He notes that the activity is not consistent with “making a market”.    A market maker provides temporary liquidity to bridge gaps between supply and demand in the market.  Thus, a real market maker should be running a roughly balanced position with some inventory on hand in case there is excess “buy” demand.  

AA thinks it is highly likely that in the case of GFH such inventory need be only minimal.  It seems from the trading numbers that “supply” far outweighs "demand".   To add another insult, despite all this spending, GFH’s price has continued to drift downward. 

Now having incurred the losses of FY2018 and 1Q19 what business logic would then decide cancelling Treasury Shares with a value of USD 68.5 million was a good idea?  

And having proposed the cancellation of these Treasury Shares, what sort of logic (if we may use that term in this connection) would have continued Treasury Share transactions? 

It’s hard for AA to think of a sound business reason.  

Those more suspicious than AA might surmise that GFH is desperately trying to maintain its share price because someone important to it has used GFH stock as security for a loan or has created a fund which contains GFH stock.  And GFH needs to clear out the “old” Treasury Shares so it can continue buying its shares and still remain within the 7% limit in what appears to be losing effort to prop up its share price. 

Those same people would probably think that only something like that could persuade the Board that piling more losses on top of USD 105.9 million was an “idea” much less one that should be considered.  There is a logic here because according to the CBB approval SICO, GFH’s “market maker”, is limited to holding not more than 3% of GFH stock.  And GFH restricted to holding 7%.  

One other point.  In its FY18 annual report, GFH touted the use of its Treasury Shares as follows:  

“To manage the liquidity risk arising from financial liabilities, the Group aims to hold liquid assets comprising cash and cash equivalents, investment in managed funds and treasury shares for which there is an active and liquid market.” 

Some observations:  

1. GFH Treasury Share transactions in 4Q18 which were roughly 39.7% of all transactions in its shares on the Kuwait, Bahrain, and DFM during that period and ended the period holding more of its shares. That’s clearly not an “active and liquid” market, but rather an artificial market.  
2. Investors are generally advised to carefully consider the liquidity of the securities they purchase before they purchase.  Getting in to an investment is generally remarkably easy.  Getting out may be another matter entirely. Also investing in securities whose price is being artificially supported is a recipe for losses.   
3. On a positive note GFH’s liquidity position apparently has remarkably improved as it no longer needs to use its Treasury Shares to provide liquidity.  It can therefore cancel some 207 million of them.  
4. Not only that but GFH’s liquidity allowed it to spend between USD 78.9 million (USD0.20 per share) to USD 105.9 million (USD 0.33 per share) on the cancellation and Treasury Shares trading during FY 2018 and 1Q19.   
5. Kudos to GFH’s management for strengthening GFH’s liquidity!  
6. Based on just these two achievements, I’m certain that very few will argue with AA’s assertion that USD 3. 5 million in 2018 compensation for GFH’s Board just isn’t fair when all they have done for (or is that “to”)  shareholders is considered.  

Amidst this gloom, there is perhaps hope on the regulatory front.

Sometime in 2019, the Central Bank of Bahrain mandated that market making transactions be disclosed. 

AA thinks, but doesn’t know, that his was likely the CBB’s reaction to GFH’s 2018 Treasury Share transactions.  If AA’s conjecture is correct, then hopefully the CBB is aware of the situation and taking whatever action it deems appropriate.  

As for GFH’s poor and as each day passes apparently poorer shareholders,   الله يوفقهم

Though as AA learned in school, it’s best to tie one’s camel first ….

Gulf Finance House –2018 and 1Q19 Treasury Share Transactions Cost GFH Shareholders More than USD 37 Million

Satellite View of GFH Statement of Changes in Shareholders' Equity 

Update  12 June below in red.

The sad story of wasted shareholder money continues here.

First, a technical note to ground the analysis that follows.  In line with accounting standards, gains and losses on sales of treasury shares don’t pass through GFH’s income statement so technically they are not “income”.   But since this decline in value is the result of deliberate actions by GFH, it’s hard for AA not to consider this the equivalent of an income statement “loss”.  And I shall use the term “loss” in that sense in this post.  

Now to the analysis.  

In his Shareholders Report in the 2018 audited consolidated financial statements, GFH’s Chairman stated: “Also of note during the year, GFH took active steps to support its share price and market capitalisation, acquiring treasury shares up to 7% of the Group’s total issued shares.”  

Indeed, it did!  

But perhaps the results weren’t so good for GFH’s shareholders.  

In short (1) a lot of money was spent and lost and (2) the impact seems to have been minimal.  

As per AA’s analysis, it appears that the net result of GFH’s buying and selling of its own shares in FY 2018 was a reduction in equity of some USD 27.9 million.   If you’ll look at Statement of Changes in Shareholders’ Equity in GFH’s 1Q19 interim unaudited report, you see that GFH admits to losses of USD 24. 8 million on treasury share transactions in 2018.  

AA believes the roughly USD 3 million difference between AA and GFH relates to the USD 3,058 million 2018 charge to the share premium account which zeroed it out.  It appears that GFH considers that “loss” to be covered by earlier years’ gains.   

You will also note in the 1Q19 report that GFH has continued its treasury share transactions in 1Q19 for an additional USD 9.6 million “loss”.  And three more quarters left this year.  That's a time reference not a monetary one.

So a total of USD 34 million by GFH’s accounting and USD 37 million by AA’s.  

But you might ask AA:  Yes, but what about the impact on the share price? Surely, this was a small price to pay for “supporting GFH’s share price and capitalization”.  

GFH’s closing share price on 2 January 2018 was AED 1.520 and on 31 December 2018 was AED 0.902, according to investing.com.  Looking at share price performance only, that’s a decline of approximately 41%.  The share price at the end of March and May this year was in a similar range to the FYE 2018 price. 

I suppose in defense of GFH one might argue that absent their efforts the price would be even lower.  AA will not.  

The central question is why GFH is spending shareholders’ money to prop up the stock price?   

And perhaps whether regulators think that the method employed is “sound practice”?  

We don’t really know what is motivating GFH’s board and management. 

But what we can do is take a detailed look at their actions and try to guess (note that word) what is going on.  

In the recent past, GFH had minimal treasury share transactions.  It was only in FY 2017 that break was made with past moderate efforts.  FY 2018 saw a real break with the past as this chart demonstrates.  

GFH Financial Group Holding of Treasury Shares
FYE		Number of TS		Total Issued Shares		TS as % TIS
2013		5,283,272		3,161,889,967		0.17%
2014		5,204,536		4,730,665,467		0.11%
2015		24,503,697		2,256,583,403		1.09%
2016		2,211,891		2,256,583,403		0.10%
2017		106,467,804		3,681,450,441		2.89%
2018		255,455,953		3,681,450,441		6.94%

Source:  GFH Annual Reports  

1. Clearly, FY 2017 was a transitional year from the pattern of the previous four years.  
2. FY 2018 saw an “explosion” of Treasury Share transactions.  

Let’s look a bit closer at FY 2018.   

GFH Financial Group Treasury Share Transactions
by Quarter for FY 2018 -Millions of US Dollars
		TS BOP		Buy	Sell	Net = B-S	TS EOP	G/(L)
Q1		$58.4		$5.4	$3.2	$2.2	$60.6	($0.9)
Q2		$60.6		$10.8	$20.6	($9.8)	$50.8	($5.2)
Q3		$50.8		$56.1	$17.9	$38.2	$89.0	$0.0
Q4		$89.0		$88.7	$92.3	($3.6)	$85.4	($21.8)
FY TOTAL				$161.0	$134.0	$27.0		($27.9)

 Source:  GFH 2018 Quarterly Financials, Amounts in Thousands of US Dollars

1. TS= Treasury Shares BOP = Beginning of Period, EOP End of Period.  G/(L) = Gains/Losses.  
2. Buys in 4Q18 were 55% of the FY’s total and 69% of sales.  
3. It appears that these (4Q) sales were undertaken to either fund new purchases or because of imposed limits on the amount of Treasury Shares GFH was allowed to hold either from its regulator (CBB) or the GFH Board itself.  Or perhaps some combination of both.  
4. 78% of FY 2018’s loss on Treasury Share transactions occurred in 4Q.  
5. That suggests, but does not prove, that GFH was frantically trying to stave off a decline in share price for the “all-important” FYE 31 December reporting date.  

Just how frantic that activity was can be seen from the next two charts.  

First, let’s look at 4Q18 transactions in GFH shares on the BSE, KSE, and DFM.

Trading in GFH Financial Group Shares 4Q2018
		Local Currency		USD Equivalent
BSE		BHD 6,379,970		USD 16,906,921
KSE
Oct		KWD 1,013,881.569		USD 3,335,137
Nov		KWD 311,267.257		USD 1,023,905
Dec		KWD 4,119,336.652		USD 13,550,450
DFM		AED 1,363,936,328.99		USD 371,644,776
TOTAL				USD 406,461,188

Sources:  BSE, KSE October, KSE November, KSE December, and DFM.

1. With the DFM, you’ll have to do a bit of manual tinkering to select the time period.  Click on the orange box on the upper left hand side of the Bulletins Page.  Select 2018 and then Q4.  
2. What emphasizes the “frantic” nature of GFH’s efforts is the percentage of their Treasury Share transactions of the above total as detailed in the chart below.

GFH Financial Group Treasury Share Transactions 4Q18
	Amount		% Total 4Q18 Transactions
Buys	$88,662,000		22%
Sales	$92,267,000
Loss on Sales	-$21,780,000
Net Sales	$70,487,000		17%
Total Transactions	$159,149,000		39%

Sources:  Previous Two Charts.

1. Percentages are calculated using the Total Transaction from the previous chart, i.e., USD 406,461,188.  
2. Net sales transactions are estimates of cash proceeds = Cost – Loss = Cash.  
3. Chart is based on the assumption that all of GFH’s Treasury Share transactions took place on a stock exchange.  
4. If the above analysis is correct—and AA invites readers to point out any mistakes—then GFH had an outsized share of transactions.   Does AA dare use the phrase “حوت الخليج“ ?   

What are we to make of all of this? 

Here are some thoughts of what might be going on.  Not proofs, but rather conjectures.  

Some of you out there may have other thoughts.  Please post a comment. Share your views.   Point out AA's mistakes.

If we assume limits on GFH’s holding of Treasury Shares (as a percentage of shares rather than a USD amount), then it would seem likely that GFH’s management would be aware that attempting to continue to prop up the share price in 4Q18 would require selling some of the existing Treasury Shares to make room for new purchases.     

And that selling those shares would lead to losses.  

If one looks at the average Buy/Sell ratio by quarter (adjusted for the cash losses on existing Treasury Shares), it’s 1.7 in Q1, 0.7 in Q2, 3.1 in Q3, and 1.3 in Q4. 

Clearly, the “bang for the buck” in Q4 is rather limited.  Each USD 1 of existing Treasury Shares sold only increases demand by USD 1.3.   Hard to see that having a material effect on the price.  

Perhaps that explains GFH’s whale-sized share of total trades in 4Q.  Trying to use volume to move the price in a favorable direction.

But taking on that volume of transaction caused substantial losses. 

AA is at a loss to understand why GFH did not stop trading in its shares when the losses began to mount.  If this were FX or other trading, a stop loss limit would have been triggered.  

GFH’s shareholders were bleeding substantial cash.  And consequences of continuing in 4Q18 are highly likely responsible for some of the pain in 1Q19. Overall a loss to the tune of USD 37 million for FY 2018 and 1Q19.  

We don’t know what GFH’s reason for continuing Treasury Share transaction but they certainly evidenced determination to proceed David Farragut style at a level that AA interprets as “frantic”.  

All this leads AA to conjecture that there seems more to this behavior than merely propping up the share price because it appears management accepted the large amount of losses incurred.  

What could motivate this behavior?  

As noted above we don’t know. 

But if we want to conjecture, what could be possible motives?  

Was GFH propping up the shares to “help” those investors who financed their share purchases using the shares as collateral?  And were exposed to lenders calling in the loans or asking for more collateral?  If so, who might those shareholders be?  

If Homer can nod, surely AA can.   In early August 2018 as reported by Gulf News, GFH advised the market "that on Thursday that its shareholders Abu Dhabi Financial Company (ADFG) and Integrated Capital (IC) have transferred 102,094,573 and 79,905,427 of GFH’s shares respectively from their NINs to Al Hilal Bank for a financing facility."   Coincidence?

Or perhaps to help investment funds who bought GFH’s shares “high” and would have to report a loss to their investors based on FYE 2018’s much lower price?  Who might those funds be?

Well, according to press accounts, Goldilocks acquired a 4.9% stake in GFH in January 2018.  At that time shares were trading around AED 1.5 per share.   As noted above with the share price at AED 0.902 at year end, Goldilocks would have to have reported a 41% loss on the investment considering only movement in the stock price over the year. 

AA in the Press Again as Usual with Similar Effects, Sadly

Reporting “Rant” Questions 

In previous years, GFH’s Statement of Changes in Consolidated Equity clearly labeled the results of Treasury Sales transactions which resulted in a Loss or a Gain by using those exact words.  That changed with the 2018 FYE report.  The loss amounts appear but there is no descriptor.  

Those who know their IAS/IFRS would understand that there was a loss in 2018.  But AA believes that certainly not all of GFH’s shareholders are accounting experts.  And it’s highly likely that only a handful are.   And how many of the accounting experts are reading GFH's financials?  

2018 was coincidentally a year in which the loss was quite large.  

Questions for GFH:

1. Was this change designed to avoid drawing attention to the loss?  
2. Or a simple oversight?  If this is the case, what caused the change in the existing template?  Or in other words, why change the tried and true? 

Interestingly, the term “loss” to describe 2018 was used in a footnote to the 1Q19 interim financial Statement of Changes to Consolidated Equity.  But in the same note on page 4 in the 1Q19 financials, the 1Q19 "loss" was again not used as it had been in past as part of the main text?   Why is this?  

Questions for external auditors,

1. Did they “miss” this rather important change in 2018 AR?   
2. Or did they approve it?  
3. Additionally, when a bank loses an amount this size (some 20% of net income) is this not a material piece of information that needs to be highlighted?  And not buried in a note?  Which is unclear except to accountants? 
4. Would auditors consider this level of "trading" in a firm's Treasury Shares as constituting "material information" as well? 

More posts to come on GFH’s 2018 results.