Friday, July 31, 2009

Signs of a troubled company

Part of investment is avoiding trouble. Therefore, I decided to investigate the worst companies in Singapore Stock Exchange to find the red flags. People tend to forget about survivorship bias in the Stock Exchange. For every company listed on the exchange, there can be hundreds that was delisted, bankrupt or liquidated. Most research tend to only focus on the 'surviving' companies that remained listed, therefore bias on those better companies.

Starting with the NUS Governance & Transparency Index Scorecard, I shall slowly find more possible red flags of a troubled companies. Since the list is long and confusing, I will summaries the main signs:

  1. Auditor raising issues
  2. Directors/senior management resigining
  3. Insiders are especially selling
  4. Earnings restated

(note: the number indicates the penalties assigned by the scorecard)

Corporate Goverance:

  • -10 to -15, External auditors unable to issue an opinion or raises red flag, 
    allegations of fraud reported, unauthorized trading, etc. -15 if allegation involves directors/senior mgmt/controlling shareholder
  • -10, Directors  or  senior  management  resigning  and  raising corporate governance‐related concerns
  • -10, Retention/appointment of directors or senior management convicted
    corporate governance‐related concerns (ie, not enough info to complete duties)

  • -8, Earnings of more than one year are to be restated

  • -6, >10% of NTA involving insider trading

  • -5, Executive directors or the chief financial officer and the
    independent  directors  sit together  on  boards  of  listed companies outside the group 
  • -5 for each company, 2 or more directors (the same persons) sit together on 3 or more board
  • -5, Issues profit warning within 30 days after the IPO or after a results announcement 
  • -5, Earnings for one year are to be restated 
  • -5, Retention/appointment of directors or senior management who is charged
  • -5, Late announcement of stock option grants 
  • -5, Issue  of  share  options  to  directors and  senior executives when the share price is at or near one year lows (unless regular/scheduled)

  • -3 for each, Resignation of senior management  (CEO, executive directors and  CFO)  without  adequate  disclosure  of  information regarding  the  circumstances,  search  for  replacement and expected time frame for appointing a new person 
  • -3 for each, Other directors resigning without disclosure of reasons 
  • -3, > 1 change  of  senior  management  (CEO,  executive directors and CFO) 
  • -3, Chief Executive Officer and/or Executive Directors  are not subject to re‐election at least once every three years 
  • -3 for each company, Tenure of independent directors > 9 years.
    Too long for an independent director and shall be considered as non-independent instead for rest of the evaluation
  • -3, Number  of  directorships  concurrently  held  by  independent directors > 4
  • -3, Number  of  external  directorships  in  other  listed  companies 
    (outside  group)  concurrently  held  by  CEO  or  executive 
    directors is more than 2
  • -3 (0 if company performing poorly), Appointments  of  independent  directors  who  are  closely 
    linked to controlling shareholders 
  • -3, Retention/appointment of directors or senior management who is being investigated
  • -3, issue of share options to independent directors 
  • -3, >5% NTA involving insider tradings

  • -2, The same independent directors  sit on all the nominating, remuneration and audit committees in the company 

References:

  1. Survivorship bias - Wikipedia, the free encyclopedia
  2. Governance & Transparency Index Scorecard

This post shall be constantly updated as I investigates the weakest companies on Singapore Stock Exchange

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