COMMENT:

Shareholders are entitled to be annoyed when they suffer large losses in a company while major shareholders in the same company seem to do particularly well.

This has been the situation at Veritas, where Michael Morton is a 35.5 per cent shareholder, and at CBL Corporation, where Peter Harris owns 22.8 per cent of the company.

The Morton story begins when Sir Peter Leitch establishes his first butcher shop in Mangere in 1971 under the name Rosella Meats. The shop was subsequently renamed the Mad Butcher.

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The brand expanded through Auckland's lower socio-economic areas in the 1980s and 1990s, with the first franchise model in 1998.

Morton, the partner of Sir Peter's daughter Julie, acquired 15 per cent of Mad Butcher Holdings in 2001. He purchased a further 15 per cent in 2003 and acquired full ownership from Sir Peter in 2007. Morton's purchase price hasn't been disclosed.

In May 2013, the NZX-listed company Veritas Investments purchased the Mad Butcher from Morton for $40 million. This comprised $20m cash and $20m worth of Veritas shares. The share component consisted of 15,384,615 new Veritas shares at $1.30 each, giving Morton a 40.2 per cent stake in the listed company.

The Mad Butcher had 36 stores throughout New Zealand at the time, 34 of which were independently owned franchises with the remaining two owned by Mad Butcher Holdings.

Mad Butcher Holdings had total assets of just $1.9m, total liabilities of $2.6m and negative net assets of $0.7m as at the company's previous balance date.

The Grant Samuel Independent Appraisal Report included Mad Butcher EBITDA (earnings before interest, tax, depreciation and amortisation) forecasts for the June 2013 and June 2014 years of $6.3m and $6.8m respectively.

The new acquisition was a major disappointment as carcass sales to franchisees were well below forecasts for the 2012/13 and 2013/14 years. The company's EBITDA was $6.4m for the 2015 year, $4.6m for 2016 and $3.7m for 2017.

Meanwhile, Morton, who continued to run the Mad Butcher and was appointed to the Veritas board, received remuneration of $180,000 in the years to 2013 and 2014, $271,961 for the following two years and $420,277 in the 2017 year.

At the end of the June 2017 year, the Mad Butcher had 31 stores — 28 franchised and three company owned. Five of the 28 franchised stores were owned by Morton.

Early this year, Veritas shareholders approved the sale of the Mad Butcher back to Morton for just $8m.

The Simmons Appraisal Report revealed that the Mad Butcher had 30 stores, four of which were company owned, while five of the 26 franchisees were owned by Morton. Simmons also disclosed that the Mad Butcher had a forecast EBITDA of only $2.4m for the June 2018 year.

Veritas chairman Tim Cook wrote: "The proposed sale of the Mad Butcher franchisor business is the result of a competitive sales process undertaken by Bancorp. Bancorp attracted interest from a number of parties for the Mad Butcher business, and all appropriate steps were taken to exclude Mr Morton from discussions concerning the sale once he declared his interest in acquiring the Mad Butcher.

"The independent directors agree with Simmons' opinion that the consideration and the terms and conditions of the Mad Butcher sale are fair to the shareholders. The purchase price offered by Mr Morton was the highest offer received for the business, and Mr Morton's role as the CEO of Mad Butcher has meant that minimal warranties were required to be given for the business under the sale and purchase agreement."

Thus, Morton sold the Mad Butcher for $40m and bought it back for $8m, although the $20m worth of shares he received five years ago are now worth only $2.4m.

Morton looks like an astute businessman, but this columnist's view is that he was extremely lucky. He sold to Veritas when the investment company was desperate to acquire assets and bought back when Veritas was sinking in a sea of debt and needed to raise funds.

Veritas shareholders are furious because Morton was the Mad Butcher's CEO when its value plunged from $40m to $8m while Veritas' share price nosedived from $1.30 to just 15.5c over the same period.

Peter Harris and several other investors gained control of CBL Insurance in 1996.
In September 2015, CBL issued a Product Disclosure Statement (PDS) for its initial public offering of ordinary shares. Unfortunately, these PDSs have far less financial information than prospectuses used to have.

Peter Harris realised $16.3m selling CBL shares in 2017, on top of an earlier sale. Photo / Dean Purcell
Peter Harris realised $16.3m selling CBL shares in 2017, on top of an earlier sale. Photo / Dean Purcell

Just before the IPO, CBL had a six-for-one share split with 26 million existing shares converting into 156 million shares. It appears from the financial accounts that the average cost of these shares, post the six-for-one split, was 11.5c.

Prior to the IPO, Peter Harris had 66.8 million shares, or 42.8 per cent of the company, at an estimated total cost of $7.7m.

As part of the IPO, Harris sold 7.9 million shares for $12.3m at the IPO price of $1.55 a share. This left him with 58.85 million shares, or 26.8 per cent of the company.

Harris and the original major shareholders had an embargo from selling any further shares until February 2017, when CBL would announce its result for the December 2016 year.

On February 24, 2017, CBL announced a pre-tax profit of $76.2m for the December 2016 year, well ahead of the $63.6m CBL had forecast before its October 2015 listing.

Chairman Sir John Wells wrote in the annual report, which was released on March 31, 2017, that CBL had "a commitment to the highest level of corporate governance", with the report also boldly announcing that the company had exceeded its regulatory and solvency requirements.

Five days later CBL revealed — under the eye-catching headline "CBL announces sell-down to increase share market liquidity" — that directors and management had sold 20 million shares at $3.26 each shortly following the end of the embargo period.

Harris sold just over 5 million shares to reduce his shareholding from 25.0 per cent to 22.8 per cent. He realised $16.3m from this sale plus $12.3m from the IPO. This gave him a total realisation of $28.6m compared with an estimated cost of $7.7m for his total shareholding. Harris was totally entitled to sell these shares.

At the May 3 annual meeting, Wells told shareholders he expected to see the company continuing to build momentum across the business. He said he expected this momentum to translate into further profitable growth and add to overall shareholder value.

Wells also successfully asked shareholders to approve an increase in directors' fees from $750,000 plus €30,000, to $1,500,000 because "being on the board of CBL requires a significant commitment and an understanding of the many jurisdictions in which the company operates".

On August 18, the company issued a profit downgrade for the six months to June 2017 and six days later, on August 24, it released full financial results for this period. The latter announcement was relatively upbeat with the company announcing "CBL expects to be highly cash flow positive in 2H17 and current liquidity levels are expected to continue to rise".

The Reserve Bank subsequently revealed that on July 27, 2017, it had told CBL Insurance it needed to raise its solvency ratio to 170 per cent.

A High Court affidavit by the Reserve Bank's head of supervision revealed: "The bank's own internal review concluded in August 2017 ... that CBL Insurance had significantly under-reserved its French business to such an extent that its adjusted capital for solvency purposes (i.e. excluding inadmissible components) was most likely to be less than zero, and that there was a material likelihood that the wider CBL group had insufficient resources to meet the shortfall. There was also uncertainty about the CBL group's ability to raise sufficient further capital".

CBL shares last traded on February 2 this year, leaving shareholders with a very uncertain future.

But this columnist is clear about one thing: neither Michael Morton nor Peter Harris should ever win the Shareholders' Association Beacon Award for corporate governance excellence.

- Brian Gaynor is an executive director of Milford Asset Management.