Now that a have a bit more clarity on what happened, I thought it might be a good time to revisit the blog posts I wrote more than a year ago, when we were working on myths and assumptions. Many of my predictions turned out to be right. The company as a whole was not deceitful, but fraud was committed by a few insiders. I also still think that it is ludicrous for most shareholders to sue for their losses, as I explained in the posts.
If I was the defense lawyer of Steinhoff, I would question the logic of investing into Steinhoff in the first place. Fund managers are being paid handsomely to do due diligence on potential investments and use their superior intellectual skills to flag any potential pitfalls in the investment case. They have failed miserably.
There are a few points Steinhoff’s legal team should focus on.
- Why was none “overweight” Steinhoff prior to Christo Wiese buying a stake in Steinhoff? Steinhoff was very acquisitive before then, and there could have been lots of reasons to buy it. It was however off the radar of the big fund managers, because the financial statements were always very messy and not transparent and better left alone. That sentiment changed rapidly when Christo Wiese took a stake.
- What due diligence did the fund managers do? There were numerous indicators which failed to highlight Steinhoff as an attractive investment. Take return on capital. It was far below that of its competitors, even though the return on equity seemed in line, indicating that the return was generated by a highly leveraged balance sheet, another warning sign.
- I assume that the leverage was created partly by loans against over-inflated property values. What due diligence did the debt investors do? They should be thorough with their investigations and normally have industry experts on hand to confirm any variables. Surely they should have picked up the abnormalities?
- What synergies did the investors expect to come from diverse businesses such as Poundland, Conforama and Tekkie Town? They would not be able to share a marketing or buyers team or even a distribution network. Before Steinhoff started diversifying horizontally, they focused on vertical integration, which makes a bit more sense. But even then, it takes time to integrate any new acquisitions. What enhanced earnings growth did the fund managers expect from these acquisitions, which in hindsight don’t appear to be there at all.
- Why was the purchase of Matrass Firm in the USA not a big warning flag? Steinhoff paid almost double the price the shares were trading at, for a company that was on the edge of bankruptcy. More importantly, how did the fund mangers expect Steinhoff do add so much more value to the purchase? Should they sell cheap cloths or shoes through the chain of bed stores? Any decent fund manager would at that time have sold their holdings, because clearly Steinhoff was taking advantage of their expensive shares to buy anything that moves, and anything that doesn’t, in case it moves.
- Why did no fund manager exit their positions when it was announced that the German Tax authorities raided some of Steinhoff’s German offices 2 years before the eventual crash? And why did they compare reports in the reputable and serious “Der Manager” Magazine to reports in “Noseweek”, and lough them off as sensationalistic journalism?
I think that most invested in Steinhoff purely on the belief that Christo Wiese, the retail magnet with the Midas touch would have done his thorough research before investing. That was a mistake. It is unclear how much research he did, but as the biggest looser from the fallout he would have probably liked to have done more. He might have been sweet-talked into the deal. Once inside, he was not only handsomely rewarded as a highly paid chairman, but also with all sorts of deals on the sideline, from renting out his planes to Steinhoff to purchasing debtors books. No wonder his focus was not on the integrity of the business, but rather on the added benefits of being the biggest shareholder, chairman and direct access to the fraudster-in-charge. Does he deserve to get compensated for his losses? It is a bit trickier, but I would think not, purely because he was the chairman and as thus is the ultimate person in charge of protecting the shareholders investments.
Lastly, the size of the claims is insane. Like I said in previous blog posts, it is absurd to claim losses for investments if you paid R60 per share that, even with the misstated figures of the financials could arguably be only worth R20. The only thing that the lawsuits do now is hinder the company to get back onto its feet, and by clouding the future prospects and therefore limiting their access to capital.