They say you learn something every day. Today I’ve witnessed my longest trading halt yet for a company on the ASX that wasn’t considering a takeover offer. Forge Group (ASX: FGE) enters its fourth week of a trading halt whilst waiting for an investigation into underperformance on two of its power station projects to finish.
Recently I wrote an article discussing whether or not it was time to buy Forge Group, and I came to the conclusion that the answer was yes – contingent on the outcome of its trading halt, the magnitude of its losses, and the ability of Forge to continue to pay its debt with income from its contracts.
Now I feel grateful that I included that final caveat, because Forge Group has flagged an emergency capital raising to cover a shortfall in its debt payments resulting from a pending profit downgrade. However, the Australian Securities and Investment Commission (ASIC) has declined to allow Forge to conduct an emergency ‘low-doc’ capital raising, forcing the company to instead issue a regular prospectus to investors.
While I have no doubt that this is royally inconvenient to Forge Group, it is a strong lesson that companies who operate under debts of three to four times their total annual profit must ensure their forward estimates for profit are correct and that they are going to be able to continue to pay their debt.
When such companies cannot pay their debt, they cannot be allowed to rush through a capital raising without fully indicating to investors (through a prospectus) what the potential risks of buying into such a company are. It would be preferable to see a reduction in dividends or renegotiation with financiers rather than the dilution of shareholder’s interests through a capital raising.
I have previously been impressed with the astuteness of Forge’s management team and the way they have expanded the business, but this incident is a black mark beside their name. Even though the losses are not specifically a result of the actions of senior management, a board remains responsible for everything that occurs below them; this is why they get paid the big bucks. It is a further disappointment that any financial hiccup such as this one may have to be met with a capital raising and dilution of shareholder equity. One hopes this is not the beginning of a trend for any future mishaps.
Investors should watch and wait from the sidelines while this saga plays out. Depending on the final outcome, it may be an opportunity to purchase shares cheaply, or a sign to steer clear. Depending on the impact to earnings, I remain prepared to purchase more shares as I believe in the business, and any capital raising will mostly likely be at a discount to the previous ASX price (an already low $4.18), offering an opportunity to increase my holdings on the cheap. For now, Forge is still in trading halt despite being supposed to release an announcement yesterday. Only time will tell.
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Motley Fool contributor Sean O’Neill owns shares in Forge.