Teller: What do you prefer for your RM5000 withdrawal, 100 pieces of RM50, or RM1000 pieces of RM5 notes?

Uncle: No, 5000 pieces of RM1 note please. I want more money!

Of late, many companies in Bursa carry out corporate exercise such as bonus issues, share splits, and “free” warrants. Existing shareholders jumped up with joys when share prices spike while new investors scrambled to join in the party. Why not, they are like giving out free money for investors to use for whatever or whenever they like? Are you walking away from free money?

How do their share prices react before, during and after the announcements of the corporate exercises? More importantly, can the existing shareholders and new shareholders profit from these exercises? Let us forget about other exercises such as Rights Issues as they are not “free”.

What are these “free” gifts?

Bonus is fully paid-up new ordinary shares issued free to existing shareholders in proportion to their current stock/shareholdings. It capitalizes a part of distributable reserve in retained earnings to bring:

(1) share capital more in line with the assets employed; and

(2) a high share price back to a more manageable amount, thus seemingly enhancing its marketability.

In this case of bonus issues, at least the company has been making money and has substantial retained earnings over the years. Although the number of shares held by each shareholder increases, few investors realize that the value of the total shareholding remains the same as before the bonus issue. Where does the extra value comes from, the sky?

Share split is quite similar to bonus issues, but by splitting say a RM1 par value stock to five 20 sen par value stocks, with 5 times more shares outstanding. Unlike bonus issues, the company doesn’t even have to have retained earnings, or accumulated earnings from the past to split the shares, and woosh, one share becomes 5 shares, money falls from the sky and investors become 5 times “richer”!

Warrants are long-term instruments that also allow shareholders to purchase additional shares of stock at a discounted price, but they are typically issued with an exercise price above the current market price to provide opportunity for shareholders to convert the warrants to ordinary shares within a fixed period of time up to 10 years. Warrants are usually offered “free” in conjunction with right issues and act as a “sweetener” in Bursa. Often, they are offered for “free” (oh I love this “free” thingy so much), just to boast up share price and potential return to existing shareholders.

Bonus, and share split and warrants (when converted) will cause a company’s net profit to spread over a larger number of shares. In other words, a company’s earnings per share will decrease as earnings allocated to each ordinary share an investor has invested in will be diluted.

After the announcement on the Bonus and free warrant, the shares will be trading on a “cum” basis. As long as an investor purchases the shares while they are trading on “Cum” basis, the shareholder will be eligible to receive the Bonus Shares and extra shares from share split as declared by the company. Once the shares trade on “ex” basis, an investor who purchases the shares will no longer be eligible to receive the Bonus, and free Warrants as declared by the company. Rights of these issues are often renounceable and investors can sell off the Rights after the ex-date for a period of about 1-2 weeks before expiry of these Rights.

Why bonus issues and share split?

The primary reason is to infuse additional liquidity into the shares by making them more affordable by increasing the number of shares and hence reducing the price per share.

Berkshire Hathaway’s (BRK-A) share price closed at USD214660 per share on 13^th October 2016. If an ordinary investor intends to invest in BRK-A, can he afford it by coming out with USD217660? If BRK-A is split to 1000 shares from one, the price of each share will be reduced to around USD220 per share. By splitting its share, more investors can afford to buy it now and it is likely that its share price may move up above USD220 after splitting as demand increases.

Yet Warren Buffett has never, and has no intention to split it, or issue bonus. Why? Likely he sees no value in doing so by cutting a whole pizza into 12 pieces. Furthermore, BRK has to pay a lot of money to investment bankers to carry out such exercise for them. However, I do think Warren should split it so that he can sell each piece of pizza for a higher price than USD22 apiece, say maybe USD25. However, being a rich man like him, he doesn’t care much about it. He doesn’t care much about the corporate concept of shareholders maximizing by increasing the share price of his company. He merely sees no value created for the company. He “overlooks” the value created for the existing shareholders, I mean the short-term investors.

Let’s see how the management in Bursa maximizing shareholders value, which I think Warren Buffett should learn a thing or two. Let us look at two serial culprits in Bursa.

EAH

In a span of less than 5 years, EAH had carried out 5 corporate exercises in bonus issues, rights issues and free warrants as shown in Table 1 below. This is equivalent to one corporate exercise a year! I am pretty sure investment bankers love this company very much.

Table 1: Corporate exercises for EAH

Figure 1 below shows its 5-year share price performance.

Figure 1: Share price movement of EAH

Let us look at its latest corporate exercise carried out with the initial announcement on March 18 2015 when its adjusted share price was at about 10 sen as shown in Table 1 and Figure 1 above. Was the share price so illiquid that when buying 100 shares of it only requires RM10, that it has to issue a bonus issue to increase its liquidity? How much did they pay for the investment banks to carry out such exercise? Whose money was that?

Figure 2 below shows its share price movement before, at the time, and after the ex-date of the corporate exercise.

EAH share price ran up by 23% from 11 sen to 13.5 sen within a month from end of 2014 to end of January 2015 before the announcement of the bonus issues. Insiders must have been accumulating the stocks prior to its announcement on 18^th March 2015, when its share retreated to 12 sen. Its share price continued to retreat to 6.5 sen on the ex-date, and subsequently to its lowest at 6 sen after that, even way below its share price before the announcement.

Had shareholder value maximizing achieved in this corporate exercise? Of course yes, but my guess was only for the insiders, the existing major shareholders and the short-term speculators. They could sell their existing shares at higher adjusted prices of around 13 sen, before it retreated to just 6 sen.

Has any shareholder value maximizing created for the long-term investors of EAH?

As we have seen that no value has been created from the thin air for the company, and for any game, including this game of corporate exercise, who were the winners and losers?

The other corporate exercises of EAH in other years all have the same modus operandi and the same behaviour of share price movement.

Let’s look at another serial culprit in the game of bonus issues, share split and ‘free” warrants.

Vivocom

Vivocom is even more “terror” than EAH. It has changed its name three times, and carried out 6 corporate exercises within a shorter period of 4 years as shown in Table 2 below.

Table 2: Corporate exercises of Vivocom

Let us look at its latest bonus issues carried out just last 3 months.

When the bonus issues were announced, Vivocom was trading at less than 30 sen. You could buy 100 shares of Vivocom then at RM30. Can you see the bloody logic of increasing liquidity with more shares from the bonus issues? again how much the shareholders have to pay the investment bankers for this exercise?

Figure 3 below shows the share price movement before, at the time, and after the corporate exercise.

Again the share price moved up from the adjusted price of 23 sen prior to the announcement, continued to move up to the its peak of 31 sen one and a half month later before retreating back to 23 sen again ex-dated on 5^th September 2016. It closed at 19.5 sen today on 15^th October 2016.

Had shareholder value maximizing occurred for the shareholders? Of course, for the insiders and short-term speculators. But has any shareholder value created for the long-term shareholders? As a matter of fact, I am puzzled why anyone wants to be a long-term investor of Vivocom.

The other earlier corporate exercises of Vivocom, whether in the names of Vivocom, Instacom, or I-Powercom, all have the same modus operandi and the same behaviour of share price movement.

Again who were the gainers and who were those losers in this game?

Just look at the historical share price movement of Vivocom in the last 10 years with its numerous corporate exercises as shown in Figure 4 below. Does it appear to you there is shareholder value creation for Vivocom?

Figure 4: Historical share price movement of Vivocom

One may also look at other corporate exercises carried out by other companies; Bioalpha, Bonia, Solution Engineering, Fimma, etc. I am sure you could see the bloody logic of liquidity, and most of them exhibit the same behaviour in their share price movement before, at the time and after the corporate exercises.

Conclusions

Investors love freebies. In many of the AGM, many investors attend, just for the free lunch and free coupons for goods and souvenirs. There are also many attend the AGM and request, or even demand the management for bonus issues and free warrants, free money must be given to the loyal shareholders, so they said. Some management gave in to the demand and some management willingly work hand in hand with them. Some strong management asked them to go and fly kites.

These freebies did provide handsome returns for the short term speculators and insiders, but do they maximise shareholder value of the long term investors?

In my opinion, nothing can be created from the sky. In many cases investors chased the share price up sky high due to the exercises when nothing positive has been created. Eventually share price reverted to what its value is supposed to be and many new and naive investors lost big time as a result.

Focus on the performance and price of the business, not these corporate gimmicks and you will do better in your investment journey. Avoid all those useless noises in investing, and you will do satisfactory in your long term investing journey.

For those who wish to learn about what to and how to focus on the business, and how to avoid those noises for success in your investment to build long term wealth, you may contact this person below for a small fee. Remember, nothing is free in this world. Free things, or free advice, may not be good for your financial health.

ckc14training@gmail.com

K C Chong (15^th October 2016)