This article first appeared in The Edge Malaysia Weekly on April 25, 2022 - May 1, 2022

INVESTORS seeking dividends are likely to find independent water and power producer Malakoff Corp Bhd an attractive choice, given its generous dividend payouts. While the group has a dividend policy of distributing more than 70% of its profit after tax (PAT) to shareholders, its dividend payout ratio has been in the range of 87% to 104% in the last five years.

Notably, the group’s earnings have seen a declining trend over the last three financial years, with earnings per share (EPS) falling from 6.62 sen in the financial year ended Dec 31, 2019 (FY2019) to 5.86 sen in FY2020 and further down to 5.33 sen in FY2021.

As for its dividend payout, it declined from 98.9% of earnings, with the total dividend at 6.55 sen per share in FY2019 to 87% (total dividend at 5.1 sen per share) in FY2020 — still above its dividend policy of 70% PAT. It bounced back up to 95.6% dividend payout in FY2021 with a total dividend of 5.1 sen per share.

It is also worth noting that the group had accumulated losses of RM399.17 million in FY2021, a substantial increase from accumulated losses of RM19.01 million in FY2017.

While a large part of the increase in consolidated accumulated losses stems from the group’s dividend payments, another part of it comes from the group’s profit distribution of perpetual sukuk since FY2017.

Malakoff’s wholly-owned subsidiary Tanjung Bin Energy Sdn Bhd (TBE) issued an unrated perpetual sukuk of RM800 million in 2017. The perpetual sukuk has no fixed redemption date, but TBE has an option to redeem all or part of the perpetual sukuk at the end of the seventh year from the date of issuance. This means that it could take place in 2024.

The perpetual sukuk is unsecured and has a distribution rate of 5.9% per year until the seventh year. After Year 7, there is a 1% “step up” on the distribution rate. At 5.9% per year, it works out to about RM47 million per year in distribution.

Perpetual bond is classified as equity, hence the accounting treatment on coupon payment to such bond papers is similar to that of a cash dividend.  

However, while classified as equity, it may not mean that perpetual sukuk holders are owners of the company.

“Owners of the company are usually holders of ordinary shares of a company and those ordinary shares entitle them to a residual interest in the assets of an entity after deducting all of its liabilities,” says Ernst & Young PLT assurance partner Yeah Seok Luan.

“Perpetual bonds, on the other hand, provide the holder with the contractual right to receive payments on account of interest at fixed dates, extending into the indefinite future, either with no right to receive a return of principal or a right to a return of principal under terms that make it very unlikely or very far in the future. They are usually also not entitled to a pro rata share of the net assets of the entity on liquidation,” she adds.

The nature of perpetual bonds where there is a right to receive payments on a fixed date has led to several discussions on whether the payments paid to perpetual bondholders should be deducted from the net profit before making the earnings per share calculation.

The argument for it is that it would provide a better reflection of the dividend payout for ordinary shareholders given that dividend payouts are calculated based on profit attributable to the company. Simply put, a part of a company’s profits are “distributed” to perpetual bondholders, similar to that of a dividend, but bondholders are not taken into account in the number of shares outstanding in the EPS calculation.

Accounting standards in Malaysia are principles-based, says Deloitte Malaysia audit quality leader Edwin Tan.

He explains that according to the MFRS-133 earnings per share accounting standard that governs the determination and disclosure of EPS, it provides a working foundation to determine the components of the EPS calculation.

“The disclosure requirements of the standard allow companies the flexibility to achieve transparency and understandability for their investors,” he says.

In the case of Malakoff, the perpetual sukuk payments are excluded from net profit prior to the EPS calculation. If it were to be included in net profit, the company’s EPS would be lower, meaning less profit available for dividend. Malakoff’s dividend payout ratio would have been more than 100% over the past five years.

While the consolidated financial statements of Malakoff show a growing accumulated loss, it should be noted that Malakoff’s financial statements at company level reflect retained earnings of some RM2 billion as at end-FY2021 — where the dividends have been paid out.

Given the large retained earnings at the company level, Malakoff could afford generous dividend, ceteris paribus.

At end-FY2021, Malakoff’s net gearing ratio stood at 1.54 times, with cash and cash equivalents totalling RM1.57 billion while borrowings amounted to RM9.85 billion. It is worth highlighting that the group’s gearing has declined over the last five years from 2.3 times in FY2017.

However, this would still raise the question of whether dividends may be reduced in the future, given that dishing out dividends of more than what a company earns is generally viewed as unsustainable.

One safeguard to ensure that a company is not overpaying dividends at the expense of the company’s going concern status is outlined in the Companies Act 2016. Tan says that the Act provides that distributions may only be made to shareholders out of the profits of the company, provided the company is solvent. This would require the directors to consider if the company can pay its debts as and when they become due within 12 months immediately after the distribution is made.

“Even before making the payment of the distribution, the director must revisit their solvency assessment and take all necessary steps to prevent a distribution if the director ceases to be satisfied on reasonable grounds that the company is solvent,” he adds.

Malakoff’s share price has fallen 10.42% year to date to close at 64.5 sen last Thusday, valuing the group at RM3.22 billion.

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