Saturday August 18, 2012

Listed companies can be faulted for being too conservative

OPTIMISTICALLY CAUTIOUS By ERROL OH

PROGRESSIVE Impact Corp Bhd (Picorp) has made the same mistake two years in a row reporting an unaudited full-year net profit that, in fact, should have been higher.

This is unusual. Most cases of material variances between listed companies' audited and unaudited financial results are due to the overstatement of profits, which suggests that the management hasn't been prudent enough when preparing the unaudited accounts.

On the other hand, Picorp, an environmental solutions provider, has gone in the opposite direction. Twice.

This has earned it a public reprimand from Bursa Malaysia on Wednesday. There are certainly worse things that a listed company can be penalised for, but here's an interesting case study on the importance of understanding the accounting standards.

It began in February 2011, when Picorp released its results for its fourth quarter ended December 2010 (Q410). That quarterly report showed an unaudited net profit after taxation and minority interest of RM546,000 for the financial year ended December 2010 (FY10).

However, when the company released its annual audited accounts for FY10 two months later, the net profit after taxation and minority interest had ballooned by 250% to RM1.912mil.

This was mostly because Picorp had earlier not taken into account the net gain of RM1.248mil arising from the revaluation of an investment property. According to the company, the valuation was done in November 2010 “pursuant to the group's accounting policy and is in compliance with the Financial Reporting Standard (FRS) 140 on investment property”.

When announcing the reprimand in a media release, Bursa Malaysia says: “The omission (of the net gain) by the company was unreasonable particularly as the company had recognised the gain arising from changes in the fair value of its investment properties in the FY06 and FY08.”

But bear in mind that Picorp was only reprimanded this week. It's possible that if the company had no issues with its FY11 unaudited figures, there would have been no such action by the stock exchange. Unfortunately, that wasn't the case.

In February this year, Picorp disclosed that its unaudited net profit after taxation and minority for FY11 was RM9.234mil. It was a huge jump from the previous year's performance. But wait, that wasn't all.

The audited accounts issued in April showed that the profit was actually RM11.392mil, reflecting a 23% deviation from the unaudited figure. This time, the understatement was largely because the management had provided too much for the impairment of investment in an associate.

In an announcement in May to explain the variance between the audited and unaudited results, Picorp says: “For the fourth-quarter unaudited results, on prudence ground, the directors of Picorp have made a full provision for its investment in PJBumi Bhd (a listed waste management service provider).

“The auditors, in reviewing the accounts of Picorp, are of the view that the full provision is not according to the accounting standards and have recommended to the audit committee and the board the write-back of RM1.5mil, which was accepted by the board.”

The Bursa Malaysia statement on Wednesday shed a little bit more light on the matter. “The deviation was mainly due to the full impairment in respect of the company's investment in an associate instead of impairment up to the market value of the investment or the recoverable amount in accordance with the accounting standards,” says the stock exchange.

The reprimand is based on Bursa Malaysia's conclusion that Picorp had breached paragraph 9.16(1)(a) of the Main Market Listing Requirements, which require a listed company to ensure that “each announcement is factual, clear, unambiguous, accurate, succinct and contains sufficient information to enable investors to make informed investment decisions”.

The stock exchange adds that it has not found any of Picorp's directors to have caused or permitted the breach by the company. Nevertheless, Bursa Malaysia points out that the directors are duty-bound to “maintain appropriate standards of responsibility and accountability in ensuring compliance of the Listing Requirements”.

The reprimand doesn't end there. Says the exchange: “Picorp is also required to carry out a limited review of its quarterly report submissions. The limited review must be performed by external auditors for four quarterly reports commencing from the quarterly report for the financial period ended Sept 30, 2012.

“In addition, Picorp must ensure all its directors and the relevant personnel attend a training programme on compliance with the Main Market Listing Requirements pertaining to financial statements and assess the competency, adequacy and effectiveness of its financial reporting function.”

These measures clearly address the perception that the variances for FY10 and FY11 would not have happened if the Picorp management had a better grasp of the accounting standards. Instead, the big adjustments in the profits were only put through after the external auditors had done their work.

In a world of increasingly complex accounting rules and high investor expectations, merely taking care that the profits are not overstated is no longer sufficient. Being prudent is good, but having sound knowledge and judgement is better.

Executive editor Errol Oh has always wanted to write a column that will have a Beatles song title as its heading.

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Saturday August 18, 2012

Listed companies can be faulted for being too conservative

OPTIMISTICALLY CAUTIOUS By ERROL OH