Is It Game Over For Midas Holdings?

Foreword from ShareInvestor

This article “Is It Game Over For Midas Holdings?” by Cai HaoXiang was first published in The Business Times on 19 Feb 2018 and is reproduced in this blog in its entirety.

There were warning signs since 2017 after sell-offs caused shares to slump to all-time lows. Now, investors can only hope for clarity.

The script is all too familiar. A company makes grandiose promises to expand its business. Large sums are spent on new facilities. Unfortunately, the investments don’t seem to lead to better cash flows or profitability. Debt grows.

One fine day, shares are suddenly halted, then suspended. Irregularities have been found. Analysts cease coverage.

Is it game over now for investors in Midas Holdings?

In the worst case scenario of lenders pulling the plug, minority shareholders might not have much. Equity stakes in Midas’ subsidiaries and associates are either pledged away or embroiled in lawsuits.

Even if the company remains a going concern, there is uncertainty over the damage caused by potential fraudulent transactions. We now know that there are other corporations in China in which Midas subsidiaries have invested, which apparently have not been disclosed before.

So there is uncertainty over whether company assets can still be saved. The board is getting a China-based independent director (ID) to become the legal representative for all its China companies.

Seals for a number of key subsidiaries were originally held by Midas chief executive officer Patrick Chew and executive chairman Chen Wei Ping. The rights were then transferred to trusted lieutenants Ma Mingzhang and Sun Qixiang in the course of 2017. The stated reason was to reduce the need for the CEO and executive chairman to travel so much.

One can’t say that shareholders haven’t been warned. In 2017, Midas replied to Singapore Exchange (SGX) queries six times. Queries had escalated after a sell-off last November and December caused shares to slump to historic lows.

The Business Times also weighed in during a column published on Dec 4, 2017 (“Diversification, the Midas curse”). We pointed out, among other things, that a recent acquisition might be at too high a price. We also asked why it was taking so long for the company’s diversification efforts to pay off.

In the new year, it was also clear that, price-wise, something odd was happening to Midas shares traded in Hong Kong.

What Is Going On?

Midas Holdings main subsidiary Jilin Midas is being sued to the tune of 30 million yuan. Another 12 million yuan for Midas’ China subsidiaries were also frozen by court orders. Pictured on the left is a 2011 file photo of a Jilin facility belonging to Midas. PHOTO: MIDAS HOLDINGS

To recap, Midas shapes aluminium pieces. Its customers include train manufacturers around the world, but especially in China where its key subsidiary is called Jilin Midas Aluminium Industries Co.

Midas also owns a 32.5 per cent stake in one such train maker, CRRC Nanjing Puzhen Rail Transport, otherwise known as NPRT.

In recent years, Midas spent billions of yuan to add new capacity to diversify its revenue sources. There were three initiatives.

First, for its existing train business, new capacity was added in a Luoyang plant as early as 2011. The relevant subsidiary is Luoyang Midas Aluminium Industries Co. It commenced commercial production in Q2 2015.

Second, new investments went into capacity to make aluminium plates and sheets for the car, shipbuilding and aviation industries. Again, investments were made as early as 2011. The relevant subsidiary is Jilin Midas Light Alloy Co.

Commercial production was initially meant to begin in 2015, was pushed back to 2016, and then 2017. Apparently, extensive technical checks had to be done to certify the products for commercial use. Maybe market conditions were weak.

Third, shareholders were significantly diluted as a result of a 2016 deal to acquire the Huicheng Group, a business making aluminium stretched plates for various industries.

Huicheng was an existing business of the executive chairman, who received a chunk of new Midasshares as payment. The relevant company is Dalian Huicheng Aluminium Co.

As Midas diversified, it received funding from a medium-term note programme established in 2013. In November 2016, it borrowed US$60 million. The lenders were its major customers, all linked to Hong Kong and Shanghai-listed CRRC Corporation, the main railway group in China.

Terms Of Agreement

With the benefit of hindsight, what triggered the latest sell-off might be the terms of an agreement entered into with the medium-term note lenders on Nov 21, 2017, terms only revealed on Dec 12, 2017.

As part of the deal, Mr Chen, the executive chairman, appeared to have been anxious to reassure the lenders.

For one thing, Midas pledged its equity stakes in Dalian Huicheng and NPRT. These two companies alone contributed more than half of the group’s profit before tax for the nine months to Sept 30, 2017.

In addition, certain Midas subsidiaries had to provide a performance deposit, and also factor receivables. Mr Chen, as guarantor, undertook to pay an extension fee, and even roped in a personal friend to enter into a pledge.

Such nervousness points to a lack of confidence from CRRC in Midas’s balance sheet. That’s not a good sign.

What triggered the recent share suspension was something even more serious. On Feb 8, 2018, an announcement late at night revealed that freezing orders were discovered for shares in Dalian Huicheng, NPRT and Luoyang Midas. Jilin Midas, the main subsidiary, is also being sued to the tune of 30 million yuan (S$6.2 million). Another 12 million yuan for Midas’s China subsidiaries were also frozen by court orders.

One can only speculate on what is happening here. Perhaps Midas was unhappy with the quality of goods from its suppliers, and refused to pay them. Suppliers sued. Such disputes can drag on.

If that were all to the story, and the sums above were all that Midas had at stake, it might yet survive.

But now, with previously undisclosed Midas-linked corporations in the picture, fraud is a concern.

Looking ahead, one big question is whether it will be business as usual at Midas. Will its customers and suppliers still have confidence in the firm?

Midas’s debt and cashflow situation, already not in the best shape in 2017, might be worse than previously thought. Its negotiating power with customers might not be that strong, hence its high receivables.

Stories similar to Midas abound. Most do not end well.

The conclusion to this one has yet to be written, and the trading suspension might yet be a false alarm.

But all said, minority shareholders might want to take a prudent write-down on what has, at best, been a speculative China play.