Smiling and beguiling, CMC does some misfiling...
I couldn’t think of a better rhyme, to be honest.
Good evening everyone. I hope you all enjoyed the jubilee last week, we students didn’t really notice the extended weekend. All of us have been on bank holiday since the 30th, sort of.
Let’s take a look at a company I’ve been following and proposed a long recommendation for.
CMC Markets
On Thursday, all the gains over the past 5 months from my long recommendation were snatched away in a single trading day.
On Thursday management reported full-year results for 2022, and something caused the market to spook. The share price tanked over 20% in a single day. Take a look.
Of course, I’ve been going through (and still am) the results and they met the top end of management’s guidance and the divi payout (one of the most significant factors which I believe heavily affect the company’s valuation) modestly exceeded analyst consensus by 10%. So what gives?
An easy answer is - “well, the market simply expected more that day.” - this is usually the case. Part of the art of investment is working out what everyone else expects, then observing what you expect and if there’s a gap, then deciding who’s wrong or right.
However, I’m unconvinced that this is mostly the case. As I said, earnings were the top end of guidance and divis beat analyst expectations (granted there are only 6 of them covering the stock).
So let’s get more granular.
If you look at their results, scroll past the headline figures and highlights, and into the Chairman’s Statement you’ll come across a brushed-over section called "Financial Reporting Council”. In this section, the Chairman states:
“During the year to 31 March 2022 the Board received correspondence from the Financial Reporting Council ("FRC") concerning a potential unlawful dividend payment in respect of the payment of the 2021 interim dividend. On further investigation by the Company it was concluded that similar questions had arisen in some prior years. Details of this and the rectification process for addressing these issues are set out on page 101 in the Directors' Report in the Annual Report and Financial Statements. The Company has made certain changes to internal processes to ensure that these irregularities do not arise again.”
And that’s all there is to it in the results. I guess we won’t worry about it then?…
If you actually read about it on page 101 of the annual report, you’ll find out that management on three occasions failed to make the appropriate filings when they paid out interim dividends, namely the interim dividends on 23rd Dec 2016, 22nd Dec 2017, and 18 Dec 2020 (the payment of the 2021 interim divi mentioned in the quote above).
So, is the brushed-over Chairman’s comment actually talking about 3 potentially unlawful dividend payouts? Not quite.
Ok, I’m no lawyer by any stretch of the imagination, but when I endeavoured to understand this further, Begbies Traynor asserts that dividends are illegal if:
They’re paid out despite insufficient profits existing for management to do so.
The payout wasn’t signed off by management or appropriate authorisation wasn’t provided. For instance, the meeting wasn’t quorum when the divi payout was decided and approved.
“A dividend voucher has not been completed: this is a ‘receipt’ for tax purposes. It should show the dividend rate per share, dividend figure, and the amount of tax credit.” - No idea what this means.
Reading Begbies then the Director’s report again, it doesn’t seem that a misfiling on Company House would deem the dividend payouts as ‘unlawful’ - again, I’m no lawyer, this is all my own opinion and judgement, I don’t give legal counsel etc. There’s not much to go on in the director’s report, but nothing alluded to the first 2 points from Begbies above, so they might have gotten away with it.
Unlawful is a scary word. It definitely spooked me and I’m sure, many other stakeholders when we stumbled across the Financial Reporting Council section of the FY results, especially how brushed over it is. But is it material?
To answer this, the only proxy (and I’ve really had to stretch to use that word) I’ve come across so far is this.
In 2018 Sabre Insurance Group actually did pay an unlawful dividend due to some misfiling mishaps. The unlawful dividend was, again, an interim dividend (seems to be a theme running here) and management, unfortunately, referenced the statutory accounts which showed insufficient funds to pay the divi when filing for the interim dividend, where they should’ve referenced the interim accounts which did show sufficient funds.
Looking at the share price action around the relevant (this word is thrown about a lot when it comes to unlawful divis) regulatory news, the market seemed to not give a damn.
The reason could be down to what usually happens in these situations: management works with lawyers to prepare what is called a ‘Deed of Release’ which essentially waives all responsibility of the cock-up from the shareholders who received the unlawful dividends, since its management’s responsibility to protect their shareholders, and the shareholders didn’t make the filings in the first place. Management also proposes ways to rectify the issue. Then things just, well, carry on as usual.
So it looks like the potential unlawful dividends that CMC Markets paid to shareholders could be immaterial.
Or maybe I’ve missed something. I really don’t know. If anyone who’s much more clued up and seasoned than me could reach out, that would be grand.
Regardless, I thought it was an interesting learning process and something the FT and Morningstar completely missed. Though, they’re covering a lot more companies than me.
I leave you with a provocative graph from Goldman Sachs Global Investment Research:
No wonder all the risky equities have taken a hammering.