Hin Leong - A lesson learnt?
Hin Leong - A lesson learnt?
Yet again, we, as risk analysts, have to pick apart a major corporate failure and see what could have been done differently. How can lessons be learned, and models adjusted, in the future?
Hin Leong Trading Pte Ltd (HLT) has always been a black box, a very big box at that. Ever since we started covering the company in the 1990s, HLT has not filed accounts with Singapore’s ACRA, despite the company's circa USD 20bn annual revenues suggested by market sources. Management have always declined to provide specifics, or much detail at all, on its very significant oil trading and bunkering business. So far, so very "old school" shipping and commodities – what would you expect in this sector, right?
However, it’s too easy to make such generalisations nowadays. The last 20 years has seen a transformation in the level of transparency companies are willing to provide, even if their corporate structures are still designed to limit such disclosure (and liability). HLT and its bunkering subsidiary and Ocean Bunkering Services Pte Ltd also played a central (and in some ways, strategic) role in Singapore being the largest bunkering port in the world. This was no “frontier trader”, only interested in the margins of our sector - almost every oil products trader active in the Far East will have encountered the group in some form.
Despite this, HLT was able to maintain its low-disclosure policy; the fact that Infospectrum received not a single request for an updated due diligence report on HLT since 2016, when on average we receive two or three requests per year to assess all the other players, shows the level of confidence held in the group by our industry.
If we pick apart the allegations attributed to an affidavit allegedly filed on 17 April 2020, what could have been foreseen?
Banking facilities being withdrawn:
Banks have been feeling rather unsettled with the oil trading sector, and particular the bunkering sector, for some time (you could argue, since the collapse of OW Bunker A/S), with this only magnified by the current volatility and demand destruction caused by COVID-19. The need for traders to closely manage their liquidity is also nothing new, particularly in the run-up to IMO 2020 (this period prompting a liquidity build-up rendered somewhat unnecessary by the OPEC/COVID-19 “double whammy"). There’s a solid argument to be made that HLT's access to sources of liquidity, and relations with banking partners, would have been a key concern of any analyst looking at HLT over the last 12 months.
The collapse of oil price:
While the ongoing oil price collapse has been a very public event, the ability of oil trading companies to withstand this event has been far less clear. The dramatic liquidity impact of margin calls is likely to have been experienced by all companies active in the oil hedging and financing sector (including bunker traders, suppliers and ship owners/operators), and the cascade of liquidity “damage” in terms of banking covenants/trade finance facility agreements is also known. All of these impacts are "known knowns", which can be brought into any analysis. However, HLT’s ability to adjust to these changes has never been clear. As it turns out, HLT’s business model (understood to see the company hold onto inventory for some time before sale), combined with insufficient price risk management, left the company perhaps uniquely vulnerable to the OPEC+ event, with COVID-19 probably only adding to the unease of its financing banks. The impacts on demand, and operational complexity, brought about by COVID-19, appear to have prevented HLT trading out of this position by selling more bunkers. This element of the story was unknown. However, our model does discriminate against unknowns.
Allegations of accounting irregularity:
The real catastrophe here for the market are the allegations that HLT’s audited accounts presented a false picture of the health of the company, with circa USD 800m in futures losses not reflected in the financial statements. In addition, HLT is understood to have sold inventory to finance HLT’s operations, despite this inventory being secured by financiers. This is the kind of unknown unknown that keeps analysts like us awake at night. It’s not even the he said/she said accounting treatment argument which caused Noble Group Ltd so many issues, but seemingly straight-out deception on the part of HLT, with OK Lim alleged to have "instructed" his son, Evan Lim, and the group’s accounting teams, to prepare, and sign off, the misleading accounts.
The impact on Ocean Tankers Pte Ltd (OT):
Despite OT having reportedly circulated a note to trading partners last week stating that “it is a separate entity from Hin Leong and has not guaranteed the debts of Hin Leong. Kindly be assured that the company is able to and intends to carry on its business as usual”, OT's subsequent application for a six month moratorium relief under Section 211B of Singapore's Companies Act (filed on 17 April 2020, only two days after the aforementioned statement) shows how tenuous the company’s future was perceived to be. The seemingly significant profits available to the fleet in the current tanker markets appears to have been completely undermined by the hugely negative impact of the exposure OT had taken on behalf of its affiliate HLT.
HLT’s principals are understood to be confident that injections of cash and/or assets by strategic investors and the Lim family, plus the disposal of non core investments (given the integrated nature of the HLT group, it remains to be seen what constitutes “non-core”, although it could conceivably include Universal Terminal), and significant debt restructuring with the banks, would be sufficient to save the group. This remains to be seen.
There’ll be many questions asked as to how HLT's auditors managed to sign off the accounts of HLT despite the alleged "cover up" perpetrated by OK Lim, but it’s hard to tell whether the industry would have been able to spot the weakness of HLT had the “double black swan” of COVID-19 and the OPEC+ decision not occurred. What does that mean for how we rate less transparent counterparties, even with prominent reputations, going forward?
There will no doubt be intense focus on the “what now?”, both in terms of the regulation of its sector by Singapore's Maritime and Port Authority (MPA), and the aftereffects of HLT’s collapse. Direct trading partners, including buyers who bought product HLT did not have the right to sell, and those who sold to HLT, but now having to find a buyer in the currently exceptionally volatile pricing environment (which would seem to make washout transactions significantly more challenging), face a very uncertain period. The same may apply from those who bought cargoes from Ocean Bunkering Services Pte Ltd, as banks seek to exercise rights over receivables, or on those seeking to buy tanker assets from the group - how does one be sure these will not be impacted by claims emanating from HLT's creditors?
The banking sector will again have to reassess how it interacts with an industry which has, time and time again, come up short in terms of business ethics and transparency. At least in the short-term, the wider bunkering market will also have to adjust, as pricing and availability in the absence of a player that was directly the third largest supplier in Singapore in 2019 (via Ocean Bunkering Services Pte Ltd), and indirectly supported many other suppliers, becomes more difficult to judge.
This is not all bad news though. The OW Bunker A/S aftermath and IMO 2020 build up led many bunkering market participants to improve their transparency and financial strength (not least to meet the demands of a more selective series of financing banks). The failure of HLT may accelerate this process further, potentially leading to demands for even more meaningful transparency, improvements in auditing and more regular due diligence, even on existing counterparties. The move by key oil traders Vitol, Mercuria and Trafigura into the Singapore physical supply market certainly shows the MPA is moving towards market participants which, while not public, at least have large scale risk management activities (the abilities of which will no doubt be tested in the current environment) and release accounts.
Those experiencing something of a déjà vu here will know that the costs of developments in transparency has rarely been supported by industry participants through the payment of a risk premium. Perhaps the post-HLT period will prove to be the exception.
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