#corporategovernance

The Right has no problem with the Left’s free speech

The Left misses the point every time. Conservatives don’t wish for Clementine Ford’s free speech to be curtailed or reined in at all. On the contrary. We think her comments speak for themselves. This comment was far from her worst. She is proud of her “potty mouth” as her Twitter handle boasts.

We find it utterly contemptible that the City of Melbourne’s Lord Mayor Sally Capp didn’t stand up and send a message by cancelling the grant funded by ratepayers. Instead she said it couldn’t be undone and expressed it only as, “deliberately divisive and incredibly unhelpful.

While Ford walked back her comments with a ‘sorry, not sorry‘ tweet, had a man written “honestly, the corona virus isn’t killing women fast enough” the grant would have been rescinded immediately and the individual raked over coals for weeks.

The hypocrisy of the left is astounding. Recall soon to be retiring conservative radio personality Alan Jones who told NZ PM Ardern to “shove a sock down her throat“. We pointed out the sanctimony of brands like Koala who pulled advertising on the grounds that Jones didn’t reflect their values while at the same time had Clem Ford run a mattress campaign for them. It’s not the principle that matters but the side.

So please Clementine, tell us what you think always. Men aren’t triggered by such ridiculous empty rhetoric. They just find it appalling that the people entrusted to administer ratepayer funds can’t summon up the courage to practice the most basic level of governance and send a message that they have standards they hold ALL people to.

ABC tells Australians to “Shut the F*ck Up”

We continue to scoff at the ABC’s leadership. It regularly guarantees us that it has learnt from previous egregious mistakes but turns around and allocates some of its supposedly limited $1bn+ in taxpayer funds to make a sanctimonious video during COVID-19 lockdown using renowned figures of the intolerant left to lecture the audience to “Shut the F*ck Up!” These people are absolutely the last people to be lecturing anyone on anything.

If the ABC and its acolytes want to tell us how invaluable it has been through the bushfires and COVID-19 which justifies more funding to carry out its good work, perhaps it can lead by example and stop producing rubbish like this. It is bad enough using ABC Kids TV to indoctrinate them about white privilege. Or allowing a bunch of radical feminists to openly call for the murder of men. Or provide a platform to a convicted terrorist or happily release a tweet on Q&A which suggested former PM Abbott liked anal sex. Or calling conservative politicians “c@nts.” If the ABC is so tight on funds, why does it continue to misallocate like this?

Guess we’re just not open-minded enough.

On page 94 of the 2017/18 Annual Report, the ABC Staff Engagement Survey showed that less than half were satisfied, down 6 points on the previous survey. This moved the ABC from the median to the bottom quartile when benchmarked with other Australian and New Zealand organisations.

Money is not the problem. Management is.

Credit is normalising, but… excellent commentary from Narrow Road Capital

If you haven’t done so already, we strongly encourage people to sign up to Narrow Road Capital’s insights on high yield and distressed credit markets. Even better it is free. Jonathan really puts together his thoughts in a very digestible format.

Jonathan has penned this excellent summary of the state of debt markets and cautions us not to get too excited. We have highlighted the things that stood out for us.

Credit is Normalising, But…

Credit securities, both in Australia and globally are getting back on their feet. The bookbuilds this week of $1 billion of corporate debt by Woolworths, $1.25 billion of RMBS by La Trobe and the $500 million of hybrids by Macquarie are all positive signs. However, secondary trading in many debt sectors is light and a few sectors remain moribund. Whilst the signs are generally encouraging, three dark clouds on the horizon point to the possibility of worsening conditions.

The leverage fuelled, panic driven sell-off started on February 24 and ran until March 23 . The circuit breaker was the Federal Reserve’s announcement of “unlimited quantitative easing”. At that time, there were widespread reports of global investors struggling to sell even the highest quality government bonds. Given how dire it was, it has been a relatively quick journey back from the abyss.

In Australia, major bank senior bonds recovered first and are now trading at similar spreads to three months ago. Corporate and securitisation debt has had a far slower recovery with trading remaining patchy. The large issuance this week by Woolworths and La Trobe, as well as a smaller issue by Liberty showed that buyers were willing to return. But unlike major bank bonds, spreads on corporate and securitisation debt have been reset at much higher levels.

At the same time as credit markets are improving, the economic outlook is also brightening in some ways with the gradual easing of restrictions on business. There is a growing view that the worst of Covid-19 has past and that a vaccine or drug treatment might not be far away. The optimism of the human spirit seems boundless with some investors seeing the pandemic as just another opportunity to buy the dip.

Where many investors are seeing mostly positives, I’m seeing mostly negatives. Australia has gone nearly 30 years without a recession leaving our economy fat and lazy. Asset prices (notably housing) have been propped up by population growth, credit growth and interest rates cuts, all factors unlikely to repeat. We’ve had over a decade of Federal Government deficits, destroying the legacy of Peter Costello’s decade of fiscal discipline. The economic buffers we had before the last crisis have been frittered away, leaving Australia poorly placed to withstand and rebound from the current economic and financial crisis. Given this backdrop, there are three standout risks for investors to factor in.

Remember 2007 – Fundamentals Matter

The bounce back in the last two months reminds me a great deal of 2007. In July 2007 credit markets slammed into a brick wall with credit default swaps and CDOs taking substantial damage. Bank bonds sold off as the riskier European banks started to have their solvency questioned. Yet after an initial shock, some of the markdowns turned around offering a window to get out with limited losses.

At first, equities and property continued on their merry way oblivious to the damage in credit markets. Australian equities peaked in October 2007 but held near record levels until January 2008. In December 2007, the property sector was slammed as Centro disclosed it couldn’t roll over its debt. Both at the time and in hindsight, the second half of 2007 was a bizarre period where fundamentals and market prices were so divergent. Given the medium term outlook for Australia includes significant unemployment and business failures, it is hard not to conclude that most investors are ignoring the fundamentals, just like they did in 2007.

Quantitative Easing

If the global debt markets are likened to plumbing, then quantitative easing is the duct tape used to cover the cracks. Central bank buying of government debt has delivered liquidity to debt markets at a time when governments and corporates are going on record borrowing sprees. If investors weren’t able to sell assets to governments via quantitative easing programs, they wouldn’t have capacity to buy the new issuance and bond yields would soar. Quantitative easing is beating back the bond vigilantes temporarily.

Australia has been a late entrant to this charade but is making up for lost time with the RBA hoovering up 7% of Australian government bonds in two months. At this rate, they will own the entire government bond market by the end of 2022. Whilst the RBA buying government bonds is the main game, there’s also been cheap funding for banks and the securitisation market. It’s no longer a case of merely providing liquidity against super safe assets, the recent purchases of sub-investment grade securitisation tranches come with the meaningful possibility of capital losses.

Whilst quantitative easing has yet to hit its unknown limits in developed economies, emerging markets have shown what happens when citizens and investors lose confidence in a fiat currency. The widespread use of US dollars in Argentina, Ecuador, Lebanon, Venezuela and Zimbabwe is the practical outworking of a country adopting funny money practices. At some point, the duct tape stops working and the value of the currency goes down the drain.

Global High Yield and Emerging Market Debt

Whilst most credit sectors are recovering well, corporate high yield debt and emerging market debt are on life support. The US high debt market has recovered around half of the losses that occurred since mid-February. However, this has been a quality driven rally with BB rated companies able to issue whilst B- and CCC rated companies are stuck in the doghouse. Several failed transactions have been a clear warning that lenders have little appetite for companies that can’t demonstrate their solvency in the medium term. The weaker airlines, energy companies and tourism associated businesses are looking at their cash positions and making calls about when to enter bankruptcy.

It’s a similar outlook for the weaker sovereign borrowers, particularly in emerging markets. The years leading up to this crisis saw an explosion in lending to the lowest rated sovereigns. Many of these countries are now turning to the IMF for bailouts; at last count roughly half of the world’s countries had put their hands up for help. There’s a global wave of jobs that will be lost as the weakest companies and countries are forced to reign in their spending. Whilst investors are pricing in a solid probability of defaults, they are ignoring the wider economic impacts of defaulting borrowers on the global economy.

Written by Jonathan Rochford for Narrow Road Capital on 16 May 2020. Comments and criticisms are welcomed and can be sent to info@narrowroadcapital.com

Disclosure

This article has been prepared for educational purposes and is in no way meant to be a substitute for professional and tailored financial advice. It contains information derived and sourced from a broad list of third parties and has been prepared on the basis that this third party information is accurate. This article expresses the views of the author at a point in time, and such views may change in the future with no obligation on Narrow Road Capital or the author to publicly update these views. Narrow Road Capital advises on and invests in a wide range of securities, including securities linked to the performance of various companies and financial institutions.

APRA priorities are frightening

We wrote a while back that the Australian Prudential Regulatory Authority (APRA) had taken its finger OFF the pulse when assessing the risks facing our financial institutions. That was before COVID19. We think our banks are heavily leveraged and have little equity to offset a collapse in the property bubble.

Despite being faced with the prospect of a property meltdown thanks to an employment destroying pandemic, APRA thinks hiring a “Head of Climate Risk” is the way forward.

Why does APRA bother pursuing a field it has no expertise in much less look to create new green tape to extend its oversight?

It is not alone. The Australian Securities & Investments Commission (ASIC) is now seeking more oversight on corporates reporting on climate change.

ASIC’s own study found that fewer and fewer companies were reporting on climate change over the past decade. Shouldn’t we take that as corporates having a better pulse on the impact that climate change will have on their industries than a bunch of bureaucrats wanting to legislate an ideology?

With the COVID19 driven seismic economic shifts to come, it is frightening to see our government departments pursuing irrelevant regulation that companies are even less concerned about.

APRA should be focused on ensuring the coming property market implosion doesn’t cripple our banks. Instead of using the time to fine tune a wide variety of scenarios and stress tests to combat the troubling future, it is only proving it should have power taken away not granted.

Harley’s horrible huffing contains plenty of puffing

HDQ1US

When companies won’t give guidance, we must find ways to see where we were relative to history to get a picture of the future. Harley-Davidson (HOG) makes a good case study. Coronavirus may be one factor but the company has already produced results that have undercut the worst levels experienced during the GFC. We have long criticised HOG for fuzzy maths under the disastrous leadership of the recently ousted CEO Matt Levatich.

While there are strictly no direct apples for apples comparisons on the timing of coronavirus and the GFC (the latter requiring no lockdown), we note the weakness in Q1 2020 unit sales in the chart above.

This is what the trend of Q2 looks like.

HDUSQ2

If we assumed a similar slowdown for April and May then theoretically the company would comfortably breach the Q2 2009 unit sales level of 58,179 which is only 18.6% below the Q2 2019 level. Q1 2020 global sales fell by 17.7%, even though the company made a very misleading statement which we’ll get to in a moment.

One thing that struck us was the steadily rising value of quarterly inventory as a percentage of quarterly non-finance revenues since Q1 2014. While the former value is a balance sheet item and the latter P&L, Q1 is generally a period where new models are rolled out ahead of the busiest Q2 & Q3 seasons to ensure the distribution network can move metal.

HDQ1Inv

Shipments reflect this. The inventory metric drops off into Q2 although exhibits a similar type of trend to Q1. Given Q2 2009 was the beginning of the tough times post-GFC, will we see the high watermark breached or will the slowdown in production offset it? How badly are revenues affected such even flat inventories lead to a deterioration of this measure?

In Q4 2019, inventories to motorcycle revenues surged to 69.1%.

We note that Q1 2020 shipments equated to an inventory of 12,534 units (+29.0%YoY).

HDq2Inv

Here is where it gets interesting. By HOG’s own admission in the quarterly investor presentation pack (p.7), it noted that Q1 2020 US retail sales were on target to be one of ‘the strongest quarters in the last 6 years through to mid-March‘, until COVID. 6 years ago US Q1 unit sales hit 35,730 units. US sales in Q1 2020 ended up at 23,732.

By deduction,

In Q1 2014, over 90 days HOG shifted on average 397 bikes per day. (35,730/90 = 397)

In Q1 2020, over the 74 days to mid-March, HOG was moving on average 321 bikes per day. (23,732/74 = 320.7027).

If we assumed that HOG was to hit that magic target over the 16 days stolen by COVID19, it would have had to punch out 750 bikes a day. (11,998/16 = 749.875).

We would love to see the order book for these magical beasts that were waiting for a home…it would seem the sales and marketing department cherry-picked one strong day and multiplied it over the quarter to create such a questionable statement.

Here is a chart of motorcycle related revenue for Q1 since 2008. No wonder the shares have underperformed since 2014, even with a small fortune squandered on share buybacks.

HSQ1rev

The Q2 revenue book doesn’t look too flash either if April is wiped out. At present 50% of dealers are shut since late March. Is the market prepared for a sub Q2 2009 print? The share price has rebounded strongly after the Q1 results even though there is no guidance to speak of.

HDq2Rev

But it gets worse. So poor has the Q3 season become for HOG that its unit sales have missed the Q3 2009 post-GFC low for seven out of the last 10 years. Are we to believe if the world is out of lockdown by Q3 that there will be a miraculous surge in new bike sales when unemployment is likely to remain at troubling levels potentially above that of GFC?

HDq3US

HOG is a great example of a divine franchise. It wasted far too much money on share buybacks (now suspended) and sits with a credit rating just two notches above junk.

The annualised Q1 2020 loss experience for the finance business sit at 10-year highs even before it has been thumped by the coming turndown. People buy HOGs as a hobby, not transport. A purely discretionary purchase. We imagine that restoring household balance sheets will take precedence to stumping up serious coin for a Harley cruiser.

Sadly Levatich and his 2027 vision have not been consigned to the dustbin of history which is the only logical filing cabinet for it. Completely unrealistic, devoid of reality and totally in denial of the shifting sands in the global motorbike market.

The new “Rewire Plan” (p.5) while sketchy on detail (as it would with an interim CEO) is a reheat of Levatich’s plan. Sad.

In our view, the entire motorcycle industry needs a strong HOG. New management is a good start but it won’t help if they intend to convince investors that they were on course to shoot Q1 to its best level in 6 years with questionable math. How quickly can inventory be pared? What models will revive its fortunes?

HOG needs to get in touch with its core customer base the way Willie Davidson did after the dark days of AMF ownership. It needs to build products which hark back to its former glory rather answer questions in segments that no one is asking it to fill.

Indian, its rival of 100 years ago is killing it with the FTR1200. Indian’s parent company, Polaris Industries, posted a small single-digit increase for motorcycles in Q1 2020. Enough excuses HOG. You are running out of time and your retained earnings are 1/5th what they were 5 years ago!

Why is the market giving it the benefit of the doubt when the worst is still ahead?

HOG

Harley needs a crisis manager. Will the incoming CEO possess those skills?

Raelene hands back the keys to the Castle

The Giteau Law will be reviewed in 2019. Photo: Getty Images

Rugby Australia’s (RA) board losing faith in CEO Raelene Castle was inevitable. We have long held that RA’s leadership team had no rudder.

FNF Media has openly criticised the lack of performance as its biggest failing – from the ridiculous state of affairs where management had no relationship with the head coach of the core franchise to the focus on “woke” causes which alienated fans (aka core customers). Folau’s saga and broadcast rights could have been handled far more sensibly. They weren’t.

Let’s be clear. COVID19 was a catalyst, not the cause.

Any business must adapt to transitions in the marketplace but never for the sake of chasing popular causes which have little or nothing to do with core competencies. That is where RA went wrong.

Castle commented,

I love rugby on every level and I will always love the code and the people I have had the honour of working with since I took this role…I made it clear to the board that I would stand up and take the flack and do everything possible to serve everyone’s best interests…

“…In the last couple of hours, it has been made clear to me that the board believes my no longer being CEO would help give them the clear air they believe they need…

“…The game is bigger than any one individual – so this evening I told the Chair that I would resign from the role I will do whatever is needed to ensure an orderly handover. I wish the code and everyone who loves rugby nothing but the best and I would like to thank the people I work with and the broader rugby community for their enormous support.

We believe that a fish rots from the head. The lack of decisive crisis management talent has led to this situation. Ultimately the ‘customers’ deserted in droves. We tabulated the differences between the management of RA vs our rivals across the ditch.

RA needs a new leader who has grown up in the game. Who understands the customers. Who understands the investment required at the junior and club rugby level so the professional side can incubate talent. To get to a stage where the regular local competitions don’t lose players to overseas leagues that have ended up hollowing out the ability to run sustainable club competitions.

The new leadership team can start by removing/demoting any staff in positions of authority who laid down threats of walking if Castle was pushed. There is a distinct difference between issuing ultimatums and raising dissenting voices during crises. RA doesn’t need any more poison during a rebuild.

Produce the right product and the fans will return. It’s that simple.

Dr Tedros’ maiden WHO speech

WHOTWO

We attach a link to Director-General of the World Health Organization (WHO), Dr. Tedros Adhanom Ghebreyesus’ maiden speech on July 3rd, 2017. Here are some of the goals he outlined for this deeply compromised organisation:

Let me start with the moral centre of our work, with this simple but crucial statement: WHO’s work is about serving people, about serving humanity. It’s about serving people regardless of where they live, be it in developing or developed countries, small islands or big nations, urban or rural settings.”

His leadership has shown a blatant bias toward China, not only praising its leadership but its transparency.

Health emergencies will also be the litmus test for WHO. This topic is also closely related to universal health coverage because our goal is to prevent outbreaks from becoming epidemics at their roots. And this happens at the country level, based on strong health systems which robustly implement the International Health Regulations.

Coronavirus has exposed its complete amateur execution and dereliction of duty. Furthermore, an independent review highlighted that progress at the WHO wasn’t fast enough. It wasn’t prepared for COVID19.

If you read the report of the Independent Oversight and Advisory Committee prepared for the World Health Assembly, you will see that they think WHO has made progress in implementing reforms, but they also think that it’s not fast enough. We mustn’t let this happen. I have met with the leaders of the Health Emergencies Programme and I am committed to making sure the world is prepared for the next epidemic.

The culture of results has been self-evident. Any CEO in the corporate world with such a woeful track record would be sacked by their board if they hadn’t resigned already.

Value for money? Surely he jests. No direct confirmation and independent verification of the problem in Wuhan. Pure acceptance of Chinese propaganda at its word and ironically from a nation that ignores UN SDGs with no consequence. Although WHO mentioned a get out of jail free card in a later manual to cope with pandemics that “ethical considerations will be shaped by the local context and cultural values.

Dr Tedros mentioned WHO needed to be run like a performance-driven business.

WHO must deliver value for money. This requires first and foremost that we develop a culture of results. We are very fortunate to have the Sustainable Development Goals.

As to resource mobilization among donors, one could argue that countries like the US are paying according to the WHO chief’s mentality. No confidence. No money.

A key priority for me is to enhance our approach to resource mobilization among donors, old and new. And that has to start by building confidence among partners, that WHO will deliver results and impact. I want WHO to be synonymous with results.”

FNF Media has raised the extreme level of travel costs in a previous post which Dr Tedros admitted was out of line. To his credit, he has knocked that bill from $202 million to $191.7 million since taking the helm.

My second example from my engagement is, among a lot actually, the recent uproar over travel costs. I am reviewing the situation thoroughly and will ensure that our resources are used efficiently. We have to be good stewards of our resources.”

Note that travel is reported in the 2018 audited financials as “The cost of travel includes both WHO staff and non-staff participants in meetings, consultants and representatives of Member States paid by the Organization. Travel expenses include airfare, per diem and other travel-related costs.

That reads like a lot of fully-funded offsites in swank hotels and flying at the pointy end of aircraft.

He closed his speech with,

My friends, we have a historic opportunity to make transformational improvement in world health. Let’s do it. Let us do it for every woman and child who died when they didn’t have to die. And for every child who failed to reach her full potential. For every victim felled by an outbreak, for every small islander who is faced with the threat of climate change.

Do any UN bodies functions without mentioning climate change even though research shows that islanders are far less at threat of rising sea levels?

In conclusion, the most important remedy Dr Tedros made in his speech was:

“Candour is the best medicine for any organization.