Valuing a Distressed Business. The Salient Point Volume Also in this issue: FRS 109 & Charities Malaysia: Transitioning from GST

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1 The Salient Point MCI 017/01/2018 Valuing a Distressed Business Also in this issue: FRS 109 & Charities Malaysia: Transitioning from GST An independent member of Baker Tilly International

FEATURE FEATURE Under FRS 39 Under FRS 109 New Financial Instruments standard Impact on Charities Susan FOONG Partner, Assurance Charities that hold their funds in investments rather

and Measurement from 1 January 2018. FRS 109 Financial Instruments is effective for all entities adopting Singapore Financial Reporting standards as their accounting framework.

There is potential impact on charities that place their funds in investments following the adoption of FRS 109.

In this article, we look at the potential impact of FRS 109 on charities that invest their funds in bonds.

credit loss model for impairment and the easing of hedge accounting rules.

entity. Under FRS 39, many charities may have categorised their investments in bonds currently as available for sale financial assets (AFS) or held to maturity (HTM).

HTM classification has also been merged with loans and receivables into a single category of amortised cost financial assets in FRS 109.

FRS 39 Classification of investments in bonds For charities that have been classifying their bonds as HTM under FRS 39, there are no major accounting differences between the

If the charity cannot satisfy the tests for amortised cost, the bonds are to be categorised as FVOCI.

than selling it to make use of any fair value gains). Either: Available for sale (AFS) Held to maturity (HTM) the FVOCI characteristic tests.

should be solely repayments of principal and interest).

Classification will depend on nature of the investment and how it is managed in the entity.

2 FEATURE FEATURE Under FRS 39 Under FRS 109 New Financial Instruments standard Impact on Charities Susan FOONG Partner, Assurance Charities that hold their funds in investments rather than fixed deposits would likely be affected by the changes in the accounting standards; with FRS 109 Financial Instruments having replaced FRS 39 Financial Instruments: Recognition and Measurement from 1 January FRS 109 Financial Instruments is effective for all entities adopting Singapore Financial Reporting standards as their accounting framework. Banks and financial institutions are most affected by the new standard but corporates and non-financial entities are also impacted. There is potential impact on charities that place their funds in investments following the adoption of FRS 109. This means that there will be assessments and decisions to be made upon transition to the new standard. In this article, we look at the potential impact of FRS 109 on charities that invest their funds in bonds. Classification of bonds under FRS 109 FRS 109 brings changes to three major areas: the impact of business model on accounting and classification of financial assets, the new expected credit loss model for impairment and the easing of hedge accounting rules. While the classification of financial liabilities will not normally change, FRS 109 the classification of financial assets will depend on their nature and how they are managed in the entity. Under FRS 39, many charities may have categorised their investments in bonds currently as available for sale financial assets (AFS) or held to maturity (HTM). What was categorised as AFS under FRS 39 is now termed as fair value through other comprehensive income (FVOCI) in FRS 109. HTM classification has also been merged with loans and receivables into a single category of amortised cost financial assets in FRS 109. With the adoption of FRS 109, a charity should categorise its investment in bonds either at amortised cost, FVOCI or FVTPL. FRS 39 Classification of investments in bonds For charities that have been classifying their bonds as HTM under FRS 39, there are no major accounting differences between the amortised cost category in FRS 109 as compared to classifying and measuring the bonds as HTM under FRS 39. If the charity cannot satisfy the tests for amortised cost, the bonds are to be categorised as FVOCI. Of course, this is subject to the bonds fulfilling the requirements of BONDS Business Model Test The charity must intend to hold the bond to collect the contractual cashflows (rather than selling it to make use of any fair value gains). Either: Available for sale (AFS) Held to maturity (HTM) the FVOCI characteristic tests. For categorisation as FVOCI, there is an important requirement in addition to meeting the contractual cash flow characteristics test (where the contractual cash flows of the bond should be solely repayments of principal and interest). The bonds should be held under a business model where they are managed to achieve a particular objective; collecting contractual cash So, when should a charity categorise its bonds as amortised cost? When it fulfils the following characteristic tests $ Contractual Cash The contractual cash flows within the instrument are solely repayments of the principal and the interest. Classification will depend on nature of the investment and how it is managed in the entity. Either: Amortised cost Fair value through other comprehensive income (FVOCI) Fair value through profit or loss (FVTPL) flows as well as sale of the bond. The charity could decide to sell the bond in order to meet its cash flow needs or when there is a gain in the market value. Bonds classified as FVOCI are carried at fair values at the balance sheet date and changes in fair value are taken to other comprehensive income (OCI) in reserve/fund account. Upon derecognition, the cumulative fair value change recognised in OCI is recycled to profit or loss. For charities that hold bonds for trading or if they manage the bonds with the main objective of realising cash flows through the sale of the bonds FRS 109 requires these bonds to be measured at fair value through profit or loss (FVTPL). Bonds categorised as FVTPL are measured at their fair values with fair value gains or losses taken to profit or loss. As FRS 109 is already effective, charities should start looking at their investments in bonds now and review the categorisation and measurement of its investments with the adoption of FRS 109. For charities with financial year end of 31 December, FRS 109 would need to be adopted in their 31 December 2018 financial statements.u For more information on FRS 109, please contact Baker Tilly TFW professionals at

FEATURE How Much is a Distressed Business Worth? MUN Siong Yoong Partner, Deal Advisory Valuing a business can be hard work. Valuing a distressed business even more so.

That s not really a joke, as stakeholders can have significantly different ideas about what a distressed business is worth.

91 billion in January 2014. This incredible variance in value was driven by the different assumptions underpinning business value. A business in financial distress is at a crossroads.

Let us first explore how we can identify a company in distress before we analyse which fork in the road the business is likely to take.

This model considers the value of a distressed business under both going concern and liquidation scenarios, as well as the relative probabilities of each occurring: Business Value = EQ going concern

is estimated using the discounted cash flow method. Since the risk of default is dealt with separately, i.e. P d, it is therefore not necessary to adjust for default risk in either the cash flow projections or discount rate.

It may be forced to sell its assets at bargain basement prices and use proceeds to pay off debt.

3 FEATURE How Much is a Distressed Business Worth? MUN Siong Yoong Partner, Deal Advisory Valuing a business can be hard work. Valuing a distressed business even more so. I was once asked about challenges associated with the valuation of distressed businesses. I replied Distressed clients. Distressed information. And very distressing fees for the valuer. That s not really a joke, as stakeholders can have significantly different ideas about what a distressed business is worth. Motorola Mobility famously reported USD$234 million losses in FY2011, yet Google paid USD$12.5 billion for the company just five months later. Google then sold the company to Lenovo for USD$2.91 billion in January This incredible variance in value was driven by the different assumptions underpinning business value. A business in financial distress is at a crossroads. It is uncertain if the business will either continue as a going concern or if it will close down. Let us first explore how we can identify a company in distress before we analyse which fork in the road the business is likely to take. Valuation Methodology for Distressed Firms FEATURE The fork in the road for a distressed business can be modelled using a Two-Scenario Model 1. This model considers the value of a distressed business under both going concern and liquidation scenarios, as well as the relative probabilities of each occurring: Business Value = EQ going concern x (1 P d ) + LV distress x P d Where: EQ going concern = Equity value of the business as a going concern LV distress = Liquidation value of the business P d = Probability of default EQ going concern is estimated using the discounted cash flow method. Since the risk of default is dealt with separately, i.e. P d, it is therefore not necessary to adjust for default risk in either the cash flow projections or discount rate. Characteristics of Distressed Firms Financial distress occurs when a business has difficulty paying off its financial obligations. It may be forced to sell its assets at bargain basement prices and use proceeds to pay off debt. Hyflux Ltd, one of Singapore s most successful business stories, fell into distress and applied for court protection to reorganise of its business and address its growing pool of debt. Its troubles can be traced back to its successful bid to build Singapore s second and largest seawater desalination project. The Tuaspring Integrated Water and Power Project, which cost S$1.05 billion to build, registered a FY2017 S$81.9 million net loss as wholesale electricity prices were sold at below fuel costs. A Singapore Court has given Hyflux a six month break from creditors as the company searches for S$200 million rescue financing, failing which it transforms from a distressed business to an insolvent one. The latter occurs when a business is unable to pay its debt and is liquidated. As a distressed business outlook is uncertain, we have to analyse if the business is likely to turn around and incorporate these estimates in its business value. Sometimes it is darkest before the dawn, but then again, other times it is always darkest before it is pitch-black. Peter Lynch, American investor My clients have asked for an increasing number of distressed business valuations over the last 10 years. Aggressive investors, awash with cheap capital and low interest rates, seek distressed assets with turnaround potential to supercharge their portfolio returns. Share Repurchase Counters a falling share price. Throws good money after bad if business fundamentals remain unchanged. Asset Sale One-off cash raise. Not a sustainable solution. Offer Sale Urgent Sale Sale D I S T R E S S E D B U S I N E S S D I S T R E S S E D B U S I N E S S Falling Revenues When customers stop buying, even in a good economy. Shrivelling Profit Margins High Debt Debt may not be repaid if customers don t return to buy. REVENUE Insufficient to pay overheads. 1 Master Thesis on the Valuation of Distressed Firms by Sebastian Afflerbach, August 2014 PROFIT BILLS BILLS SALARY Investing in Distressed Businesses: A Good Idea? Distressed business can make a great addition to an investment portfolio if bought at distressed prices. When buying a distressed business, we forecast a return of cash flow over time. When evaluating such a business, it is crucial to ascertain the quantum, timing and volatilities of these cash flows. The more uncertain the cash flow, the lower the business value and hence price we are willing to pay.u This article is an excerpt from Siong Yoong s presentation at Singapore Insolvency Conference 2018, organised by The Law Society of Singapore. 4 5

4 ASEAN Resource Centre ASEAN Resource Centre MALAYSIA GST FAQ Under the previous administration, Malaysia transitioned from the old Sales and Services Tax (SST) to the existing Goods and Services Tax (GST). Following the Malaysian General Election 2018, the new government decided to abolish the GST and revert to the SST regime. In line with this decision, the government imposed zero rated GST effective 1 June 2018 before transitioning into SST. We have compiled a list of frequently asked questions about this latest move and what companies should know about it. By Baker Tilly Malaysia Q1. I have applied for GST registration but have yet to receive approval, what should I do? Ans: Pursue the application by contacting the Royal Malaysian Customs Department ( RMCD ), who will continue to process the application. Q2. I have mistakenly charged and collected GST at a rate of 6% after 1 June Do I still have to account for the 6% tax collected? Ans: Yes, GST should be accounted for at the rate of 6%. However, the company may issue a credit note and make an adjustment via its GST-03 return. Q3. A tax invoice was issued before 1 June 2018 with 6% GST charged. However, the sale, payment and consumption of the goods took place after 1 June What is the GST treatment? Ans: GST should be accounted for at the rate of 0%. The company may issue a credit note and make an adjustment via its GST-03 return. Q4. If GST of 6% is imposed on the importation of goods into Malaysia in respect of taxable supply of goods set at zero rate, can I still claim input tax? Ans: Yes, the input tax claims are allowed. Q5. Do I need to submit GST-03 return? Ans: If you are registered under the GST system, yes. You are still required to submit GST-03 return until further notice. Q6. The goods were sold to the buyer when the GST rate was still 6%, with the tax invoice issued at the same rate. However, following the change of GST rate from 6% to 0%, payment was received at the rate of 0%. What should the course of action be? Ans: The buyer is required to pay the 6% GST as the goods were provided to them during the period when 6% GST rate was applicable. Q7. I have given free services to a connected person (i.e. an officer or director of my business and vice-versa) on or after 1 June What is the GST treatment and do I need to account for output tax on the free services given? Ans: In this case, the GST needs to be accounted for at a rate of 0%. Q8. What is the GST treatment of goods in excess of RM500 given away as gifts? Do I need to account for output tax? Ans: Output tax needs to be accounted for at a rate of 0%. Q9. Are tourists still entitled to claim tax refund? Ans: Tourists are still entitled to claim the refund of tax under Malaysia s Tourist Refund Scheme (TRS) on purchases which were subject to GST rate of 6%, subject to the condition prescribed. Q10. If the tourist makes a purchase when the GST rate charged was 6% and departs from Malaysia when the GST rate was changed to 0%, is the tourist still entitled to claim GST? Ans: Yes, if the purchase was made within 3 months before the tourist departs from Malaysia. Q11. Are the public/advance rulings, Director General s (DG) decisions, industry guidelines and/or policy papers from sectors in relation to GST treatment issued by RMCD still applicable? Ans: Rulings, decisions and guides are still applicable until further notice. Q12. I have received a Bill of Demand (BOD) from RMCD for a certain amount of tax to be paid. Do I have to pay the BOD? Ans: The BOD is still payable. Q13. What is the GST treatment for deposit payments for the supply of goods and services paid before 1 June 2018, and goods and services supplied after 1 June 2018? Ans: Deposit payments made before 1 June 2018 are subject to a GST rate of 6% while the balance payments made after 1 June 2018 are subject to zero rate.u For more GST-related information please refer to RMCD s website at or contact Baker Tilly Malaysia tax professionals, Anand Chelliah at anand.chelliah@bakertillymh.com.my or Marcus Tan at marcus.tan@bakertillymh.com.my. 6 7

5 ASEAN Resource Centre Transitioning from GST By Baker Tilly Malaysia Sweeping changes are being made in Malaysia under its new premier, Tun Dr. Mahathir Mohamad. Chief amongst these is the decision to repeal the Goods and Services Tax, or GST. GST had been zero rated with effect from 1 June 2018 with the intention of getting it repealed by September The newly installed government intends to replace it with the reintroduction of the Sales and Service Tax ( SST ) in September The current GST holiday has temporarily improved consumer sentiment, whilst also allowing GST input tax suffered to be repaid in the system during the zero-rating period. It is still being carefully observed whether actual prices of goods and services will show a reduction. GST 2018 SST During the transitional period, businesses are still required to submit their GST returns, continue issuing tax invoices, comply with all obligations under the GST Act 2014, provide all documents and maintain records as requested by the Royal Malaysian Customs Department ( RMCD ) for audit purposes. GST was a broad-based tax system that covered almost the entire supply and value chain, affecting every industry and sub-sector. On the other hand, SST is a single-stage tax. Sales Tax is charged and levied at the importers and manufacturers level. It has been proposed that the Sales Tax rate on goods imported and manufactured would generally be set at 10%. The proposed Service Tax rate is fixed at 6% on the proposed list of taxable services issued by RMCD which is generally applicable to companies that meet the RM500,000 annual revenue threshold requirement. The Sales Tax Bill 2018 and Service Tax Bill 2018 had been made available to the public on 1 August 2018 and was passed in the lower house of parliament on 7 and 8 August 2018 respectively. Included therein are the Savings and Transitional Provisions to cater for the transition from the GST Act 2014 to the SST enactments. The said SST Bills are expected to be passed in the upper house of parliament sometime in August It was proposed that the SST be implemented effective 1 September 2018.u [Ed note: FAQ on GST on page 6.] For more information on GST, Sales Tax and Services Tax in Malaysia, please contact Baker Tilly Malaysia tax professionals, Anand Chelliah at anand.chelliah@bakertillymh.com.my or Marcus Tan at marcus.tan@bakertillymh.com.my. Editor Susan Foong Sub Editor Jeffrey Tsang Design Asher Communications Strategic Printer Pixel Tech Pte Ltd DISCLAIMER: All opinions, conclusions, or recommendations in this newsletter are reasonably held by Baker Tilly TFW at the time of compilation but are subject to change without notice to you. Whilst every effort has been made to ensure accuracy of the contents in this newsletter, information in this newsletter is not designed to address any particular circumstance, individual or entity. Users should not act upon it without seeking professional advice relevant to the particular situation. We will not accept liability for any loss or damage suffered by any person directly or indirectly through reliance upon the information contained in this newsletter. 8

FREQUENTLY ASKED QUESTIONS (FAQ) TRANSITIONAL 6% - 0%

Without prejudice. FREQUENTLY ASKED QUESTIONS (FAQ) TRANSITIONAL 6% - 0% Note: The FAQ dated 17 May 2018 is cancelled. 1. STATUS OF GST 1.1. S : What does the MOF statement mean / What happens to GST?