Hot on the heals of MTN Zakhele’s credit crunch comes another, this time from Grindrod.
The details are simple enough:
In 2014, Grindrod consolidated its B-BBEE ownership into its listed entity at a cost of R560m.
This R560m, along with a further R400m in vendor preference shares and R450m in senior preference shares from Absa assisted the B-BBEE shareholders in subscribing for R1.6bn in Grindrod shares.
In case you are doing the math, that’s R190m for 8.39% of upside exposure for the B-BBEE shareholders.
Since then, Grindrod has fallen 85% and R1.6bn has turned into R243m. Of course, the preference share funding remains outstanding with value as at the end of 2019 of R1.4bn.
Let us unpack what has really happened here:
Grindrod shareholders lent B-BBEE shareholders cash to buy shares in Grindrod. The shares fell, the debt was not repaid, the shares were returned and the shareholders 8.39% dilution was reversed.
So all square? Not even nearly.
Absa’s preference shares were repayable last year. Covenants in the agreements meant that Grindrod stood surety for Absa’s senior preference shares. Given that the principal was R450m and the shares worth less than R300m, Grindrod shareholders had to cough up the funding – again through the purchase of preference shares from the B-BBEE SPV. That is a real cost of R450m.
But there is more.
Depending on how the deal was structured, Withholding Tax of 15% and from 2017, 20% may have been levied on the preference dividends.
Preference shares stand first in line to receive dividends, so ordinary shareholders rights were eroded from 2014, first by a dilution of 8.39% and second by Absa’s senior preference shares that had to be covered by cash ultimately coming from shareholders.
There is the opportunity cost to Grindrod shareholders of R1bn that could have been productively employed for six years.
There is the downside after the B-BBEE SPV went insolvent that was wholly owned by the Grindrod shareholders.
There are the B-BBEE shareholders – who in this instance really are some of the good guys – who invested real black capital that was wiped out. Do not make the mistake of thinking that the B-BBEE shareholders got a free ride. They paid R190m and got no dividends like ordinary shareholders – these went in funding costs – but for potential upside. Effectively, they bought a call option that may not have been cheap.
Two familiar themes emerge from this:
The first is that traditional funded structures fail in adverse market conditions. Given the gearing, black capital is lost first. These structures are no good for B-BBEE shareholders.
The second is that, because of covenants in funding agreements, companies have to underwrite the banks loans if their share price falls past predetermined triggers. In other words, they have to provide capital at the very worst moment. Traditional funded structures are no good for ordinary shareholders either.
So, if everybody loses from these structures, who do they lose to? Who wins?
For the answer to that question, I suggest you ask the banks.
Quiver Tree Capital designs and implements empowerment related solutions that align the commercial interests of the existing shareholders and their empowerment partners.
To find out how, give us a call.