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Less than half a month ago, Ramon S. Ang culminated his four-decade journey from trading pre-owned Japanese cars to chief operating officer of San Miguel Corporation, and finally to becoming a major shareholder of one of the country's biggest conglomerates. It was the finishing move since Ang took over in 2007 as the company’s day-to-day manager, and default corporate strategist since it appears that the company’s chairman and chief executive, the 77-year-old Eduardo “Danding” Cojuangco, Jr., had largely abdicated the running of the business to his protégé.
Formalizing this arrangement, Cojuangco on June 29 sold his 125,234,667 SMC common shares to Ang for P75.00 per share, or a total value of P9.392 billion. The transaction, equivalent to an 11.03% ownership interest, raised Top Frontier Investment Holdings Inc., the main investment vehicle of Ang, to 36.6%, according to the company’s amended 2011 annual report to the SEC. The deal, in the words of a local daily, cemented Ang’s control of the conglomerate.
That may be so, but it also raised a number of questions. The questions raised in media, for starters, included: Was it a good deal for Danding Cojuangco? Then why the low price for a stake that, while non-controlling by itself, would provide the buyer the necessary boost to gain such control? Is the company itself headed in the right direction under Ang’s tutelage or is he driving the company headlong over the cliff?
“When we started to diversify, people said I was crazy,” the local daily quoted the 57-year-old Ang. “But when you look at how far we’ve come today, do you think we made the right move or not?”
For the most direct answer, there is no need to look further than the market’s consensus verdict. Over the past 52 weeks, or since July last year, the overall market index has surged around 23%, making it among the best performing in the region and the rest of the world. Over the same period, the price of SMC common shares has lost almost 13% in value.
That huge 36-point underperformance says a lot. It represents an epic failing grade for Ang and his self-admired diversification strategy. It must be the loneliest feeling in the world to lose money in a bullish market, to be a loser while the rest of the market is winning. SMC shareholders, therefore, must be among the loneliest investors in the world right now.
To begin with, Ang and his flock of clueless advisers and admirers appear to be using the wrong metrics to measure success and the company’s size itself.
For one, one often reads or hears so-called pundits say matter-of-factly that SMC sales account for 10% or more of the country’s gross domestic product. Wrong. The company’s true size actually is much smaller than that. Look at the 2011 annual numbers.
People, mainly non-economists, would erroneously compare SMC’s total sales of P535.78 billion in 2011 with constant GDP of P5.924 trillion, which translates to a 9% share. The real starting point should be GDP at current prices (which includes inflation effects) since SMC sales are similarly not adjusted for inflation. Against current GDP of P9.736 trillion, SMC sales would only account for 5.5%.
The mis-measurement error does not end there, however. The country’s GDP and all its components are measured by gross value added (GVA), which may be defined as the difference between the selling price of a product or service and the cost of producing that product or service. GVA, in short, is analogous to corporate gross profit. Further correcting for this mistake, take SMC’s 2011 gross profit of P103.45 billion in 2011 and divide it by current GDP and the true size or economic weight of SMC would be a mere 1.1%.
Why would this be important? It had been argued that SMC is just too big, with its large share of the Philippines’ GDP, to grow in any significant fashion. Based on this thinking, its management decided to diversify away from its traditional business of food and beverages. It would appear, however, that if the company’s management had used the right measure of their size then they would have tried to do more to enhance the middle-line and the bottom-line rather than gallivanting around, looking for the mythical pot of gold.
Today, after buying and selling businesses since 2007, the company reports in its annual report that its core businesses include beverages, food, packaging, properties, power generation and distribution, fuel and oil, infrastructure, and telecommunications. More recently, it added an airline to the mishmash.
To any casual observer, this miscellany of “core business” lacks any focus, and possesses no rhyme and no reason (“synergies” in management-speak). The new individual businesses themselves may be characterized as either an also-ran in the industry they operate in, or are among the leaders in a declining or unprofitable industry.
Another area where SMC management uses the wrong metrics and consequently mismanages the business is in the manner by which it measures success. Whenever he gets the chance, Ang would tout the steep growth in annual sales of the company. Over the most recent three years, for instance, total sales grew from P174.2 billion in 2009 to P246.16 billion in 2010 and to P536 billion in the most recent fiscal yearend. However, over the same period, the “net income attributable to equity holders of the parent company,” which is the more important measure of success to investors, steadily dropped from P58 billion in 2009 to P20 billion in 2010 and finally to just P17.5 billion in 2011. Net margins suffered as acquisitions of poor-performing companies came in.
Again, the poor results of the company may be attributed to management’s choice of poor metrics to measure growth and success. It comes as no surprise then that Danding Cojuangco opted to unload his strategic SMC shares at a steep 36% discount to prevailing market price.
This Ang-Cojuangco SMC deal, with its deep Danding discount, epitomizes the underdevelopment of the Philippines’ equities market as well as its governance structure. The separation of ownership and control between shareholders and management creates what is called the agency problem. The problem is that managers do not always act, in terms of policymaking and strategy making, in the best interests of the company’s owners. Most of the time, in fact, they would make decisions based on their own vested interests and to the detriment of the owners’ interests.
This agency problem has been offset in the US by several means. One, companies provide management incentives that are tied to earnings and share price. Second, provide the legal environment where managers and directors must act in the owners’ interests, monitored by auditors, lenders, security analysts, and large institutional investors. Lastly, managers are kept honest by the threat of a hostile takeover.
It would be easy to say that if SMC had been a US publicly listed company, its management would have been kicked out either by pro-active institutional investors or taken over by another investor-management group who could have done better than waste time pointlessly chasing after sales growth through acquisition.
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