One takeaway from Hyflux saga: Investors must be educated on risks

IN a post-Lehman Brothers world and a disclosure-based market that relies mainly on caveat emptor or "buyer beware", the importance of investor education cannot be overstated.

Investors who are knowledgeable and well-versed in how markets operate and the features of offered products would be much better able to gauge risks versus returns; conversely, lack of knowledge and understanding could well result in people investing in products not suited to their individual risk profiles.

Nowhere is this more apparent than in the case of Hyflux Ltd, whose spectacular collapse must surely rank among the local market's greatest shocks given the company's once-lofty status in the eyes of local investors as a premier water treatment firm. Many questions are now being asked of what went wrong; how it is that a company that was profitable just a few years ago can now be virtually insolvent, whether the management had properly discharged its fiduciary duties and why there were no warning signs earlier.

Irrespective of whether Hyflux's ongoing restructuring battle succeeds, those questions must eventually be answered. Yet apart from the regulatory and corporate governance issues that have been raised, what has also emerged is that the majority of the 34,000 investors in Hyflux's perpetual securities and preference shares ("perps'') who stand to lose all their investments if the restructuring is not approved, did not properly understand the true nature of the instruments they were buying.

Many are reported to have bought on the basis of the high headline returns without truly understanding that perps are hybrid securities that combine equity and debt characteristics, or that their equity "status" in the balance sheets simply enabled the companies to avoid inflating their leverage ratios and therefore to borrow more.

In the case of Hyflux, the default coupon was 6 per cent with a step-up to 8 per cent after about six years - numbers that would have caught the eye of many yield-hungry investors while diverting attention away from the risks, among which are being stuck with the perps forever and the possibility that distributions might be deferred while not accruing any interest.

You would have to wonder: How many investors would have ploughed in the sums they did if they fully understood those risks, or if they knew that their ranking in the event of a winding up is below every other class of stakeholder except for ordinary shareholders who lie at the bottom of the pecking order?

Anecdotal evidence is that many did not know exactly what they were investing in, and assumed that since subscription was via ATMs to the public at large that the perps were approved by regulators and therefore relatively safe.

Adding to the false sense of security was that investors could employ Central Provident Fund savings, the impression being that an instrument deemed suitable for retirement funds must surely have been properly vetted.

When the dust settles on the Hyflux saga, the authorities should look into all issues relating to the offer of the failed instruments, including whether proper risk disclosures were made.

In the meantime, investors must live by the maxim that "knowledge is power'', invest time and effort in learning, and recognise that there is no better protection from losses than being properly educated and informed.

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