IHH announced that its external auditors (KPMG) have issued a qualified opinion and disclosed a key audit matter in its independent auditors’ report in respect to FYE 31 December 2018’s audited report. Our concerns mainly centres upon the potential financial impact to the goodwill on the Fortis acquisition and less on Acibadem given management has clarified that the impairment won’t affect IHH’s consolidated accounts. We are putting our HOLD call and TP of RM6.03 under review, pending the release of the audited accounts and further clarity from management on the Fortis goodwill. Nonetheless, we expect short term selling pressure in view of these uncertainties.

NEWSBREAK

IHH announced that its external auditors (KPMG) have issued a qualified opinion and disclosed a key audit matter in its independent auditors’ report in respect of the Audited Financial Statements of IHH for FYE 31 Dec 2018. The Qualified opinion pertains to Fortis and the key audit matter relates to Acibadem.

Basis for qualified opinion. IHH completed its acquisition of Fortis Healthcare Limited and its subsidiaries on 13 Nov 2018. Prior to the acquisition, an investigation report by an independent external legal firm submitted to the former Fortis board, relating to systematic lapses/override of internal controls. Significant findings highlighted the placement of inter-corporate deposits (c.RM261m) and existence of related parties connected with former controlling shareholders of Fortis. Furthermore, there are ongoing investigations by the Securities and Exchange Board of India and the Serious Fraud Investigation Office, Ministry of Corporate Affairs of India; coupled with contingent liabilities of RM149m from a civil suit (from whom the intercorporate deposits were assigned) that was not provided for as Fortis’s external legal advice opined that the claims are baseless.

Qualified opinion. Due to the ongoing process of the various inquiries/investigations the external auditors of Fortis are unable to determine if there are any regulatory non compliances and additional adjustments/disclosures which may be necessary as a result of further findings of ongoing or future regulatory/internal investigations and the consequential impact on the consolidated financial statements of Fortis. Any consequential adjustments may be recorded either as adjustments to the assets acquired and liabilities assumed in the acquisition which will have an impact to the provisional goodwill recognised (RM1.54bn- FY18 unaudited) by IHH on acquisition of Fortis

Acibadem. During 2018, IHH continued to face challenges in its investment Turkey, in particular the continuing depreciation of Turkish Lira currency over the years (-25% YTD YoY). This has increased the risk that the Company’s RM5.5 billion cost of investment in Turkey exceeds its recoverable amount. It was disclosed that based on the impairment assessment performed by management using the recoverable amount as the greater of value in use or fair value less costs to sell, an impairment loss of RM2.3 billion was charged to the profit or loss of the “Company- IHTYL” for the current year (FY18).

HLIB’s VIEW

Fortis. Whilst we are concerned on the qualified opinion, we are not completely shocked given the drama associated with the Fortis acquisition. The base case to highlight here is that c.RM261m could be recouped at the Fortis level (although we discount this completely-given the expected protracted legal case). But more importantly, given the many moving variables that could potentially affect Fortis as a going concern, the external auditors are clearly concerned on the goodwill on acquisition (RM1.54bn) that IHH has booked in FY18. A full impairment of this goodwill sum would move FY19 into a loss of RM337m and shrink proforma FY18 shareholder’s equity by 7% to RM20.5bn. Note that Fortis has not been included into our SOP valuation.

Acibadem. Our channel check with management highlights that the impairment of RM2.3bn will not be reflected at the consolidated IHH level. Note that Acibadem’s debt repayment of USD250m is ongoing and is pending regulatory approvals (Acibadem has c.USD670m equivalent in borrowings on its balance sheet as at FY18).

Concerns. Our concerns mainly centres upon the potential financial impact arising from Fortis as discussed above and less on Acibadem given management has clarified that the impairment won’t affect IHH’s consolidated accounts.

Call and TP: Under Review. We are putting our HOLD call and TP of RM6.03 under review, pending the release of the audited accounts and further clarity from management on the Fortis goodwill. Nonetheless, we expect short term selling pressure in view of these uncertainties. Whilst we like IHH for its exposure to key gateway markets and astute management; earnings delivery in FY19-20 will be highly dependent on the velocity of them improving their increased exposures to India and Turkey.

Source: Hong Leong Investment Bank Research - 2 Apr 2019