PGW - PGG Wrightson

[nztx]

Here's another : The Warehouse

http://nzx-prod-s7fsd7f98s.s3-websit...034/318878.pdf


http://nzx-prod-s7fsd7f98s.s3-websit...034/318878.pdf

Equity ratio pre NZFRS 16 48.9%

Equity ratio post NZFRS 16 22.5%

Implications are worth thinking carefully about.

The real consideration should be - is an 'Accountant's concoction in front of a Dart Board' of a Lease / Right to Occupy/Use etc $ value really an Asset ?

Similarly on Liability side an actual quantifiable Liability - or just a Contingent one (as in the past before this nonsense landed) ?

On the Asset side - is there some right to own the asset on conclusion or at some point written into the Lease Contract(s) ?

Try selling / realising the Leases at Beancounter's Assessment of Value & what will the answer be ?

If the Outfit has no dough in kitty to pay a periodic lease - what happens to the liability ?

Looking at things overall - how close to the mark can Company Auditors get in still stating that
Lease Asset / Right to Use etc values in balance sheets equate a fair or market value at Balance Date ?

Many will have already guessed the likely answer on that one

[Balance]

The real consideration should be - is it really an Asset ?

Similarly on Liability side an actual quantifiable Liability - or just a Contingent one (as in the past before this nonsense landed) ?

On the Asset side - is there some right to own the asset on conclusion or at some point written into the Lease Contract(s) ?

Try selling / realising the Leases at Beancounter's Assessment of Value & what will the answer be ?

If the Outfit has no dough in kitty to pay a periodic lease - what happens to the liability ?

Looking at things overall - how close to the mark can Company Auditors get in still stating that
Lease Asset values in balance sheets equate with fair or market value at Balance Date ?

Many will have already guessed the likely answer on that one

Accounting sleight of hand?

[nztx]

Accounting sleight of hand?

Is the current practice by listed Rest Home Operators to include internal property development margins above the Line in their P&L accounts & reported as part of their profits not more of the same sort of thing ?

Probably the reason why most of them pay little tax & have little imputation credits available ..

Is this sort of thing (not being a sale to a third party) just generating a revaluation gain or loss instead
which previously was taken direct to Revaluation Reserve in Shareholders Funds ?

[nztx]

Accounting sleight of hand?

Try telling your local Dairy or Car Repair Workshop that they have 5 years forward Property Leases reported
as a Liability and just to balance things out a corresponding asset (just because it can't go anywhere else
if the same yardstick was applied to the range of other SME's the same Beancounters probably look after
& the response back could be interesting

The point is Accounting Reports fit for purpose & Reporting Usability

Listed Company Reports are widely used - why for larger ones have this sort of confusing standards prevailing ?

Perhaps the Top Shelf was open well before the "Accounting Creativity Committee" had finished what they were looking at ?

[Snoopy]

Perhaps the Top Shelf was open well before the "Accounting Creativity Committee" had finished what they were looking at ?

For those that came in late, there was some historical logic in bringing in IFRS19

https://www.pwc.com/gx/en/audit-serv...s-industry.pdf

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The initiative to develop a new leases standard goes back to the time when Sir David Tweedie was the chairman of the International Accounting Standards Board. He joked that he wanted to fly in an aircraft that actually existed on an airline's balance sheet. For decades, financing aircraft through off-balance lease models has been a well-established practice in the Airline industry. In addition, airport facilities which are essential to run airline operations are typically rented from the respective airport owner.

Under IFRS 16 substantially all lease contracts will be on the balance sheet of the lessee. Estimates suggest this change will mean that trillions of additional lease obligations will be added to the balance sheets of Airlines world-wide. As most lease obligations are denominated in US-Dollar, many airlines will also be exposed to additional foreign currency volatility into their profit or loss.The recently published PwC study on the impact of lease capitalisation concludes that the Airline industry will be the second most impacted sector after the Retail industry. The median increase in on-balance debt is projected to be +47%.

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In the case of PGW, the debt went up by: $107.330m / $195.421m = +55%

Compare that to what happened with debt at 'The Warehouse' as referenced by Balance below: $990,213m / $568,788m = +174%

By this comparative measure, PGW is doing a great job transitioning to IFRS19, albeit a job not as good as a 'median airline'! PGW sold off their retail premises back in the Mark Dewdney days. I remember thinking it was a bit of a croc at the time, effectively cashing up assets now, with a sum that would largely be paid out again to new premises owners in future years, with interest. It may be that Mark was being foresighted and cashing up assets today in full realisation that down the track, with more remote selling of product, these 'prime rural sites' would crash in value when PGW exited their lease at rent contract end. But I suspect raising cash to pay a larger dividend to shareholders, and in particular one large controlling shareholder, was the real reason for these asset sales. I think this new IFRS standard does indeed shed light on the somewhat shonky practice of cashing up today and leaving no trace of any future consequential downside on the balance sheet.

Another positive consequence of IFRS19 is that shareholders get a good picture of how 'locked in' a company is to the assets it uses today. A very low equity ratio might mean the company is intransigent and unable to adapt to changing market conditions, because of fixed lease terms (not sure if that is what Balance meant when he brought up WHS in this PGW context). But is this any worse than a company not selling assets, and then being stuck with 'stranded assets'? IIRC PGW has stakes in some secondary centre sale yards which may not survive. But these assets are probably not worth serious money on the books today anyway (in PGW corporate terms). Even if such surplus sale yard assets were written down to zero, it might not affect the PGW balance sheet that much.

On the whole, I am starting to think that Percy's advice of "just getting used to the new picture" is the way to go. Shopping may have changed. But I can't see courier vans dispatched from a warehouse in Auckland to deliver bags of fertilizer to a farm in rural central Otago. I get the impression that, despite their lonely lifestyle, most farmers quite enjoy the occasion of 'firing up the ute' to collect their supplies from the big smoke of Middlemarch. That means I don't see too many changes in the PGW rural network going forwards and I am not concerned by any intransigence in the balance sheet that the adoption of IFRS16 has highlighted.

SNOOPY

[Snoopy]

In note 18 of AR2019, we learn of another capital loss shuffled into non-operating earnings.

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Onerous lease

The Group has recognised a provision in respect of property leases entered into that are now considered onerous. An onerous provision of $1.88 million has been expensed within non-operating items and represents the Directors’ best estimate of the expected excess of costs over benefits for the remaining term of the lease contracts.

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This doesn't seem consistent with the treatment of lack of holiday pay. Workers are employed to operate the company and building's are leased so that workers can operate out of them. I would have thought that both should be operating expenses or alternatively, because both adjustments are in theory one offs, both should be non-operating expenses. I don't see the logic in having different treatments for both. But let's carry on.

$1.88m is not a huge loss on its own. Yet this loss comes in the context of PGW owning a huge swag of their retail premises, and selling them off to raise capital, while consummately entering lease back arrangements to reduce debt. Of course, the net effect of all this will be undone by the new IFRS accounting rules for leases in the next accounting period. The new rules means that operating leases will now appear on the balance sheet as capitalised debt. The point I am making is that this particular lease loss looks like it could be a back flip on a very recent lease deal. And that doesn't inspire confidence in the short to medium term planning from the company.

All the leases now appear on the balance sheet as debt, as forecast last year, and as discussed above in my last post

More write off of onerous leases has occurred (p14 FY2020 stand alone accounts):

"The Group reviewed its right-of-use assets for indicators of impairment and has recognised an impairment of $2.25 million in respect of three leased properties. Most of the impairment relates to the Water Force business following the Group’s decision to restructure that business. The Group also recorded an impairment reversal of $1.40 million on a leased property previously treated as an onerous lease, as there is no longer an indication that site is impaired. The net impairment loss recognised in the profit or loss is $0.85 million."

The net effect is a capital loss of: $0.85m for the year.

SNOOPY

[Snoopy]

I am not quite sure why our savvy farmers are keen to outlay cash for goods or services that they have not received. But it looks like they have woken up as over the last two years these deposits are down. From the 'Trade and Other Payables' (Note 18 AR2019) sections of the respective annual reports.

	FY2017	FY2018	FY2019
Deposits Received in Advance	$3.589m	$3.196m	$1.042m

This drop off could be related to the sale of the seed division. It is possible that farmers would be OK with putting up money for seeds in advance, in return for a guarantee of supply on the dates they want. Or perhaps the other retailers of wholesale seeds were the ones putting up the cash in advance? This is just a theory of mine. Perhaps someone who is closer to the farm community on the ground could confirm or deny. Yet the figures in the accounts do not lie If deposits are down by:

$3.589m - $1.042m = $2.547m

and that capital is needed. Then it must be borrowed. A $2.547m reduction in deposits is another brick in the PGW debt wall.

Deposits from farmers up a bit, albeit half what they were two years ago. From the 'Trade and Other Payables' (Note 17 AR2020) sections of the respective annual reports.

	FY2017	FY2018	FY2019	FY2020
Deposits Received in Advance	$3.589m	$3.196m	$1.042m	$1.474m

I am still undecided if this drop off is related to the sale of the seed division. It is true that 'PGW Seeds' has something unique (there is a lot of IP tied up in the NZ cultivars at least), so farmers might be prepared to stump up some money in advance to secure supply. OTOH there shouldn't be too much of a problem with supply. Even in a bad growing year, stored seed from the previous year should still be viable. Furthermore although PGW Seeds has spent a lot of money developing cultivars, the incremental creation cost of seed stock, once a cultivar has been developed, should be low. This means there is no 'holding capital pressure' at the PGW seeds division that would require them to demand advance payments from farmers and so allow the seed division to continue to operate.

Now that PGW Seeds is no longer owned by PGW Rural Rump, PGW Seeds might be in a position to demand an upfront payment from PGWRR? I still think it curious that the deposits in advance figure has gone down so much. Because although the seed division itself has been sold, those same seeds are still being sold through PGWRR outlets. IOW the turnover between supplier (PGWRR) and end user (farmer) has not changed, despite the change in ownership of the PGW Seed Division.

One thing we can rule out now is other retailers of wholesale seeds paying a deposit and that deposit money ending up on the books of PGWRR.

The figures in the accounts do not lie and deposits in advance are assets on the PGW books and those are down from three years ago by:

$3.589m - $1.474m = $2.115m

This is a reduction in capital that is needed by PGWRR. If farmers are not supplying this capital then it must be borrowed. A $2.115m reduction in deposits is another brick in the PGW debt wall.

SNOOPY

[Snoopy]

PGW was making much needed capital by selling their company owned premises to third parties and leasing them back. So what is all this about PGW losing money on property? PGW have certainly been vocal around the sell down of their property portfolio, but rather less forthcoming about their 'IMPAIRMENT AND FAIR VALUE ADJUSTMENTS' (Note 4 AR2019):

	FY2017	FY2018	FY2019
Impairment Property Plant & Equipment	$0.0m	$1.070m	$2.260m

A clue to what is going on is that the referenced FY2018 comparative figure is unchanged from when it was reported in the FY2018. Since the FY2019 reports are prepared from the point of view of a wholly owned New Zealand perspective, this indicates the 2018 write downs also solely relate to the New Zealand business. The only thing I can find in the verbal commentary of each year which even hints at NZ based property losses is the continued rationalisation of surplus stock sales yards. This rationalisation is not quantified in the text. The impairment figures quoted are not explained further in the annual report notes. I think it is reasonable to link the two (the missing quantification of the losses in the text with the unexplained effect of dollar losses in AR2019 Note 4.)

All up capital losses from property plant and equipment in the last couple of years come to:

$1.070m + $2.260m = $3.330m

PGW have released some commentary about the 'IMPAIRMENT AND FAIR VALUE ADJUSTMENTS' this year (Note 4 AR2020):

	FY2017	FY2018	FY2019	FY2020
Impairment Property Plant & Equipment	$0.0m	$1.070m	$2.260m	($0.253m)
Impairment Right of Use Assets				$0.852m

"During the year, the Group reviewed the status of each saleyard as strategic or non-strategic, and tested them for impairment. The Group recognised impairments of $0.41 million on two saleyards which management no longer considers strategic. The Group also reversed $0.66 million of previously recognised impairment losses on five saleyards based on updated valuations. The net impairment reversal recognised in the profit or loss is $0.25 million."

The net effect is a 'capital gain' of $0.25m for the year (that's good). A negative impairment 'write down' is actually a 'write back'. Good news for shareholders.

A $0.253m 'write back' is a result of a net change in the collective value of stockyards (two dropped in value and five improved). I had speculated about changes in stockyard value being at least a substantial contributor to the equivalent impairment figure the previous year, so it was nice to have my last year's speculation confirmed.

All up capital losses from property plant and equipment in the last three years come to:

$1.070m + $2.260m - $0.253m = $3.095m

(Note that the impairment of underused assets of $0.852m has already been dealt with under Point 5, my post 4986).

SNOOPY

[Snoopy]

PGW has on the accounts a 'Bad Debt Provision' in which management judgement is used to provide for debts that are unlikely to be fully repaid. The treatment of bad debts was changed over FY2019 with the adoption of IFRS9. From p50 in AR2019.

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NZ IFRS 9 Financial Instruments

The Group has applied NZ IFRS 9 from 1 July 2018. The new standard changes how the impairment of financial assets are calculated from an ‘incurred credit loss’ model to an ‘expected credit loss’ model. Based on the Group’s assessment of historical provision rates and forward looking analysis, the Group has recognised an additional provision of $0.45 million as at 30 June 2018 which is expensed directly to Retained Earnings upon adoption of NZ IFRS 9.

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In non accounting terms:

'expensed directly to Retained Earnings upon adoption of NZ IFRS 9'

means they have taken shareholder capital without telling them. Or at least they have excised this loss from the company's 'Profit & Loss' statement, which takes it away from plain view. That doesn't make the loss any less real though!

An increase in bad debts caused by this accounting rule change in consistent with what other NZ companies have experienced on adoption of IFRS9. There is nothing unique to PGW here.

Each year, whatever the particular standard is in place, a doubtful debt expense is used to add to the bad debt provision and there is an additional expense of bad debts actually written off. This information can be found under note 3 and note 11 of AR2019:

	FY2019	FY2018
Increase in Provision for Doubtful Debts	$1.072m	$0.529m
Bad Debts Written Off	$0.485m	($0.543m)
IFRS 9 Standard Adjustment	$0.450m	$0m
Total	$2.007m	($0.014m)

Sometimes bad debts are unexpectedly are recovered. Evidence of that was the 'negative expense' (i.e. a net debt recovery) that took place in FY2018. Yet even if we exclude that the doubling of the bad debt provision expense and the extra capital loss adjustment means an extra:

($1.072m - $0.529m) + $0.450m = $0.993m

or nearly $1m of extra hard earned shareholder capital has gone down the drain mitigating bad debts in FY2019 compared to the previous year.

Each year, whatever the particular standard is in place, a doubtful debt expense is used to add to the bad debt provision and there is an additional expense of bad debts actually written off. This information can be found under note 3 of AR2020. I present a table of these losses for the last three years:

	FY2020	FY2019	FY2018
Increase in Provision for Doubtful Debts	$0.343m	$1.305m	$0.529m
Bad Debts Written Off	$0.147m	$0.298m	($0.543m)
IFRS 9 Standard Adjustment	$0m	$0.450m	$0m
Total	$0.490m	$2.053m	($0.014m)

Sometimes bad debts are unexpectedly are recovered. Evidence of that was the 'negative expense' (i.e. a net debt recovery) that took place in FY2018.

This is equivalent to a capital loss adjustment over three years of capital loss adjustment of:

(($0.343m+$1.305m)-$0.529m) + $0.450m = $1.569m

or over $1.5m of extra hard earned shareholder capital has gone down the drain mitigating bad debts in FY2019 and FY2020 compared to the reference year.

SNOOPY

[Balance]

Bought more last week - thanks Snoopy! 👍