Last Updated: December 13, 2017
The global markets have been rocked as Steinhoff International Holdings NV sees shares plunge on official investigations into “accounting irregularities” and the sudden resignation of its legendary CEO Markus Jooste—once praised as South Africa’s equivalent of Warren Buffet—after nearly two decades leading an M&A spree in the home & furnishings industry.
Since then, the story has developed continuously.
Here is a summary of the events so far:
Disclosure of possible “accounting irregularities”
- Possible prior year reinstatement.
- UNAUDITED financial results to be released.
- The accounting irregularities relates to the “off balance sheet accounting” which took place for the group of entities owned wholly or partially by Steinhoff, as a financial holding company.
- Markus Jooste resigns as Steinhoff CEO overnight.
- Steinhoff CFO Ben La Grange resigns as Steinhoff Africa Retail CEO.
- Markus Jooste steps off PSG Group board, with immediate effect.
- Jooste’s resignation email to employees:
Steinhoff stock price jumps off the cliff
- Share price falls by 62%.
Skeletons in the closet
- Viceroy Research publishes detailed 37-page report about “Steinhoff’s Skeletons”… If this is true, off balance-sheet entities were allegedly used to inflate earnings and obscure losses:
“We found their acquired businesses are struggling but net income has been artificially propped up by a massive web of undisclosed related party transactions.”
“Steinhoff’s confusing roll-up structure likely holds numerous other secrets which are yet to uncover. Viceroy believes incestuous managerial transactions; lack of transparency and entirely non-independent governance make Steinhoff borderline uninvestable.”
“Off balance-sheet entities were allegedly used to inflate earnings, obscure losses”
From investment-grade blue chip to penny stock overnight
- On Thursday night‚ Moody’s cuts Steinhoff’s credit rating from “lowest investment grade” Baa3 to “highly speculative” B1 as a junk bond.
- As recently as earlier in the week, Steinhoff was an investment-grade, blue chip heralded as a proud African success story on the global stage.
Key characters of the Steinhoff scandal
Some of the key people involved in the scandal:
- Christo Wiese (Chairman)
- Markus Jooste (Former CEO)
- Theodor Schmidt (Former CEO and CFO)
- Bruno Steinhoff (Founder)
- Cedric Schem (Former Emyee)
- Gunnar George (CEO of Steinhoff subsidiary)
- Jean-Noel Pasquier (Director of Campion Capital)
- George Evans (Director of Campion Capital)
- Johanes Van der Werde (Former CEO and CFO)
Byzantine transactions between related entities
The malpractice referred to above was achieved by Steinhoff using the following entities in a hidden and non-compliant way:
- GT Global Trademarks
- JD Finance
- Campion Capital
How this works:
You have a group of entities all ultimately owned by a holding company. These companies can be owned wholly or partially. IFRS (International Financial Reporting Standards) require that these companies publish consolidated financial statements so that role players like lenders and investors are able to see the bigger picture.
Liabilities such as finance agreements are structured in one company, say Company A. Company A then leases the assets to Company B on more favorable terms than would be found on the open market place. To confuse matters a bit more and to justify Companies A and B not being consolidated for financial statement reporting purposes complex shareholding structures via trusts and different classes of shares with different voting rights are developed.
But someone has to still pay the liabilities of Company A. This is easy when the directors who are also major shareholders in Company B can sell some shares at high prices and then invest the money as loans to Company A in order for Company A to meet its obligations. With the current low share prices this is going to be very difficult to achieve and one will find the cash flow of companies in the group under severe pressure.
The difference between an accounting irregularity and fraud is the scale on which selective interpretation of IFRS took place. Questions that will be answered in coming months include for how long has this been taking place and why did the auditors only now refused to sign off on the interim results.
Shock waves ripple through the market
Steinhoff-related market valuation carnage since Jooste resigned (not far off a quarter of a trillion Rand):
SNH -R170.9 bn
Star -R24.5 bn
Brait -R 2.9 bn
PSG -R11.1 bn
KAP -R 1.8 bn
SHP -R12.2 bn
IVT -R 0.5 bn
Total -R223.8 bn
“No way back” as Steinhoff share price plunge nears 90%
- The stock slumped a further 41% on the Frankfurt Stock Exchange after Moody’s Investors Service slashed the credit rating late Thursday.
- David Shapiro, deputy chairman of Sasfin Wealth in Johannesburg:
“There’s no way back. The worry is that there are a huge number of operating companies within the stable – if you were a supplier to these businesses would you sell goods on credit? I reckon they should file for Chapter 11 or business rescue and try and salvage what they can.”
Christo Wiese loses “Billionaire” status
- Within 48 hours, Wiese, who is Steinhoff’s main shareholder, spirals down from being one of the richest South Africans with a fortune of $5.8 billion down to $728 million.
- Christo returns to day-to-day operations, stepping in as interim CEO.
- Wiese seems a colorful character, who a few years ago was caught in London Airport with £674,920 in hard cash in his luggage:
Public pension funds at risk
- Steinhoff’s 2nd largest shareholder is the Public Investment Corporation, the state-owned investment firm that administers the pension funds of public servants.
- The PIC’s 8.56% stake is worth just R3.6-billion today. Two weeks ago it was worth R20-billion.
Steinhoff improves governance
- Steinhoff announces after the market closes that it’s appointed a new sub-committee to improve governance. The three-strong group are all existing board members.
“A board subcommittee, composed solely of independent non-executive directors and headed by Johan van Zyl has been constituted to bolster the independent governance of the group. The other members are Dr Steve Booysen and Ms Heather Sonn.”
London bank meeting delayed
- Steinhoff announces it is pushing back a meeting in London with its banks from Monday to Dec. 19. That meeting is to discuss financial results.
- The banks include Standard Bank, Commerzbank, Citigroup, Goldman Sachs, HSBC and FirstRand. They lent 1.6 billion euros to Wiese last year to buy additional stock in Steinhoff through a family trust. They hold part of his stake in Steinhoff as collateral.
European Central Bank left on the hook
- Steinhoff Europe AG issued €800 million of bonds in July 2017. The bonds, with a 1.875% coupon, mature in January 2025. Moody’s rates them Baa3, so one notch above junk. Hence they were eligible for ECB purchases.
- The ECB acquired the Steinhoff bonds under its corporate bond purchase program that is part of its Quantitative Easing (QE) program.
- To keep its bond operations opaque for the public, the ECB doesn’t disclose by name what it buys, how how much it buys, or when it buys those bonds. But it discloses a list of its current bond holdings.
- Those bonds were trading at over 100 cents on the euro shortly after they were issued in July, probably under the pressure from the ECB’s purchases. Today, they plunged 33% to 56.18 cents on the euro and are down 45% from mid-September.
Mattress Firm in the eye of the storm
- In 2016, Steinhoff paid $2.4 billion to acquire Mattress Firm, the United States’ biggest mattress chain, which now operates over 3,500 stores in 49 states including the recent acquisitions of Sleepy’s and Sleep Train.
- Recently, Steinhoff invested an additional $140 million, on top of its original $2.4 billion investment, in an attempt to revive Mattress Firm by rebranding 1,600 stores and shedding its key supplier Tempur-Sealy.
- Mattress Firm president and CEO Ken Murphy releases PR statement that the company has faith in Steinhoff’s board and the interim executive chairman, Christo Wiese, during the investigation.
“We have the full support of Steinhoff and our vendor partners, and our focus remains on continuing to do what we do best - help our customers get a better night’s sleep”
- Steve Stagner, Mattress Firm’s executive chairman, also serves on Steinhoff’s executive committee.
- Steinhoff had borrowed heavily to acquire a number of South African and European retailers, and its debt topped $6 billion when it finalized its acquisition of Mattress Firm, its first U.S. company.
Outside advising on lenders’ meeting
- Steinhoff appoints two advisory firms ahead of bank meeting, which has now been pushed to Dec. 19.
- U.S. investment bank Moelis & Co (MC.N) will advise Steinhoff on talks with its lenders.
- Management consultancy AlixPartners will “assist on liquidity management and operational measures”.
“The group is currently fully focused on safeguarding operational liquidity to continue funding existing operations throughout its various subsidiaries”
Market value teetering at $2.7B
- The stock market evidently sees value in the equity—about $2.7 billion worth.
- However, if bondholders aren’t getting repaid at par, then the stockholders would be getting nothing.
- Experts point out that the questions over potential accounting fraud make it almost impossible to value Steinhoff.
- Then there is the potential for writedowns on Steinhoff’s vast acquisition spree, and previously undisclosed liabilities:
The lack of transparency about what went wrong could spook potential buyers of Steinhoff units concerned about what lies behind the facade of a company that’s run from South Africa but has its main stock listing in Germany, with an official corporate registration in the Netherlands.
- Bloomberg reports, “But until the numbers are clarified, it’s brave to say either the equity or the bonds are cheap.”
Preparing to shop around retail assets
- Steinhoff faces a potential fire sale of its global retail holdings as it battles for survival. As of the end of March, it owes creditors more than $21 billion.
- Steinhoff puts out statement that it may sell assets worth at least 1 billion euros ($1.2 billion) and is reviewing the recoverability of non-South African assets worth a further 6 billion euros.
- Analyst at TCC Global identifies Steinhoff’s “crown jewels” that must be kept alive due to their high cash generation and profit margin, unlike the recent acquisitions such as Mattress Firm and Poundland: “Primary concern will be keeping the South African business alive, along with their Pepkor business in eastern Europe.”
- Houston-based Transwestern Director of Research on the business fundamentals of Mattress Firm: “It’s quite obvious [Mattress Firm] expanded too quickly. They pushed very hard for growth, so it made it easy to cover [the alleged fraud] up. A lot of these locations don’t make much sense. They’re deals just to get a deal done.”
- Steinhoff may sell its stakes in PSG Group and KAP Industrial:
Details of Steinhoff’s loans
The following are details of Steinhoff’s loans, the dates they are due to be repaid and some of the terms involved. All data is from IFR, which is part of Thomson Reuters:
- Steinhoff has $2 billion of term loans maturing between 2018 and 2020. This is the remainder of the loans used to purchase Mattress Firm. The interest rate paid on the loans was an initial 120-145 basis points (bp) over Libor. However, this will rise to 250-280 bp following the downgrading by Moody’s of Steinhoff’s credit rating from investment grade to “junk” status last week.
- The company agreed a 2.9 billion euro ($3.4 billion) revolving credit facility in July 2016. This matures in June 2021 and the interest paid is 90 bp over Euribor. This was in part used to replace the bridge loan Steinhoff took to fund its Poundland acquisition. 539 million euros of the facility had been drawn at the end of 2016.
- Steinhoff has a 650 million euro “Schuldschein” (a type of private placement widely used in Germany) which was placed in June 2015 with maturities of 2020, 2022 and 2025. It also has other smaller “Schuldscheindarlehen” (SSD) borrowings.
- Steinhoff has two 250 million euro bilateral revolving facilities with an international lender and a German bank, both maturing in 2018. ($1 = 0.8480 euros)
Markus Jooste: “The Seagull” and his “Stellenbosch Mafia”
- A Steinhoff subsidiary employee breaks the silence on the toxic culture surrounding CEO Markus Jooste: “The Steinhoff dream was unmistakably the maintenance of an anachronistic ‘old boys’ club’ where misogyny and racism were celebrated.”
- Behind closed doors, Markus Jooste had earned the badge of honor as “The Seagull”: “Markus was the seagull because he would fly in, shit all over his executives and then fly out.”
- Notoriously revered as the “Stellenbosch Afrikaner Mafia,” Markus Jooste’s closest group of trusted lieutenants were built around sophisticated accountants who had all studied at Stellenbosch University.
- It became common Steinhoff practice to deploy Stellenbosch-educated Afrikaner accountants to a newly acquired manufacturing business as the new defacto leader of the management team.
- After acquiring Mattress Firm in 2016, Steinhoff installed as CFO Hendre Ackermann, who had studied accounting and finance at Stellenbosch University from 1999 to 2003.
- The Steinhoff employee recounts how Jooste was able to acquire loss-making businesses and continually conglomerate them in order to obscure losses and inflate earnings:
The promised economies of scale were notoriously difficult to achieve and soon the logic changed from building economies of scale to vertical and horizontal integration. Starting with the Gomma-Gomma group of furniture manufacturers, acquiring other furniture manufactures along the way, Markus started to buy shares in transport companies and forestry companies promising to integrate the entire value chain, thus delivering super profits… When the promised returns failed to materialise, the quick fix was to acquire an even bigger company within which the losses could be absorbed or magically made to disappear.
Quote from Markus Jooste’ FinancialMail interview in October 2017 edition
Entire Steinhoff board on the hook
- Benguela Global Fund Managers sends note to clients that Steinhoff stock is “no longer investable,” and it does not believe Jooste could have acted alone in a vacuum.
“While Markus Jooste has resigned and made to look like the only person involved in the so called ‘mistakes’, we find it to be unbelievable that the board and particularly the chairman didn’t know a thing about them either. Our position is that the whole board is tainted either for complicity or incompetence and should accordingly be forced to resign. We thus currently no longer view the stock as ‘investable’, even if the potential for upside could be significant, it is the potential downside to zero that is becoming more real.”
- WSJ publishes “Steinhoff’s Sleepy Board Needs Clearing Out” related to the role of Christo Weise:
Steinhoff’s case is complicated by the presence of an anchor shareholder on the board. Chairman Christo Wiese owns 23% of Steinhoff’s stock, having sold his Pepkor clothing chain to the company for $5.7 billion in 2015 and having bought another big chunk of stock last year. He has stepped in as executive chairman.
But Mr. Wiese is no fresh set of eyes. He has known Mr. Jooste for decades and been on the Steinhoff board since 2013, shortly before the company paid a rich price for Pepkor, more than 30 times trailing earnings, according to S&P Global Intelligence.
Steinhoff shares and bonds have gyrated wildly over the past week as investors try to ascertain what value might be left. This is a fool’s errand until an outside pair of hands directs the clean up. Independent shareholders and creditors need a genuinely independent investigation. A major accounting scandal cannot be resolved by the regime that failed to spot it.
Those buying the dip
- Owen Nkomo, CEO of Johannesburg-based money manager Inkunzi Wealth Group:
“I doubt Steinhoff will collapse. I would much rather take a chance and buy Steinhoff than Bitcoin.”
Speculation continues on Mattress Firm’s fate
- Wedbush analyst writes to investors that Mattress Firm, which has for months seen same-store sales decline, will likely continue to struggle as Steinhoff conducts its investigation and looks to sell its assets.
“A ‘fire sale’ of Mattress Firm itself is not out of the question, but unlikely at this time.”
- Mattress Firm CEO Ken Murphy declines to comment on the speculation: “We remain steadfast and committed to what we do best.”
2016 consolidated financial statements “can no longer be relied upon”
- Steinhoff announces that “issues concerning the validity & recoverability of certain Steinhoff Europe assets in the 2017 audit work, are also relevant to the 2016 year,” meaning the 2016 AFS will also need to be restated and can no longer be relied upon.
“The 2016 consolidated financial statements will need to be restated and can no longer be relied upon. Shareholders and other investors in Steinhoff are advised to exercise caution when dealing in the securities of the group.”
Government Employees’ Pension Fund demands seat on Steinhoff’s board
- The Government Employees’ Pension Fund (GEPF) and its asset manager, the Public Investment Corporation (PIC), insists on having 2 representatives on Steinhoff’s board committee investigating the company, “to ensure that the process is transparent.”
- The GEPF and the PIC also plan to appoint two directors to the boards of both Steinhoff International Holdings and Steinhoff Africa Retail.