Criticism of regulators over Noble is misplaced

Frontline stockmarket regulator SGX (Singapore Exchange) and its supervisor MAS (Monetary Authority of Singapore) were criticised by research firm Iceberg Research last month for not acting over the past 30 months during which the shares of commodities firm Noble Group crashed by more than 90 per cent following publication of Iceberg's first attack on Noble's financials in early 2015.

The main point of contention is that Noble's alleged overly aggressive accounting should have been flagged earlier by SGX and MAS, with the implied suggestion that had this been done, the market's interests would have been better served

Could regulators have done more? Critics will say yes, but it certainly isn't clear that this is the case.

First, it has to be noted that SGX adopts an evidence-based regulatory approach, which means that it would intervene or take action only if the evidence warrants it.

As pointed out by Securities Investors Association of Singapore (SIAS) president David Gerald in his letter published in BT on Thursday ("Iceberg's criticism does not take note of improvements by Noble"), Noble received clean audit reports in 2015 and 2016 and it also adopted the practice of discussing "Key Audit Matters" (KAMs) a year before they were made standard practice.

The KAMs Noble featured were the topics of concern raised by Iceberg, namely accounting policies for marked-to-market commodity contracts, impairment assessments for various assets and the fair value of long-term contracts.

In other words, faced with unqualified audit opinions from professional accounting companies whose reputations were on the line and proactive efforts by the company to increase transparency in its disclosures, would it have made sense for SGX to have then intervened on the basis of accusations from an anonymous research firm?

Consider, for example, that the consequences of SGX or MAS action are always very serious - whenever major regulatory intervention occurs, not only does the stock involved crash but there is always spillover negative effects on the broader market as confidence is eroded and panic selling ensues.

Cause problems

Mindful of this, regulators also know that their actions can cause problems for target firms by the signal sent. For example, an announcement that a company is the subject of an official investigation will definitely drive up that company's cost of capital and simultaneously bring down its credit rating, and this could very well inadvertently bring about the very outcome that regulators might have sought to avoid in the first place, namely, financial difficulties, constrained cash flows, reduced profits and a stock price decline.

Regulators have therefore to be very sure of what they are doing when either issuing warnings or suspensions and in this case, with no evidence from independent third parties that any fraud had occurred, it would not have been prudent to have undertaken any major official actions.

Second, what of that other part of the regulatory eco-system that hardly ever gets mentioned - the research analysts who covered Noble?

The stock was an institutional favourite and was widely tracked by several brokers, many of whom regularly recommended a "buy". Surely these individuals and their houses should also come under increased scrutiny for the role they played in elevating Noble to the level it occupied in the years leading up to 2015?

Or are we to accept that policing the market is wholly the preserve of regulators and no one else?

This is not to say that Iceberg's assertions were mischievous or frivolous. The identities of the parties behind the firm may be unknown but its reports on Noble have brought to light various accounting issues that were likely glossed over by others - as noted earlier, the stock was among the market's favourites for many years.

So entities such as Iceberg, opaque though they may be, do serve a useful - sometimes whistle-blowing - function.

However, the fact that it correctly predicted Noble's share price collapse does not automatically mean that all its assertions should then be accepted as being valid.

There is an inconvenient truth about markets and that is that when stocks are rising, no one ever complains, but when the music stops and selling kicks in, the finger-pointing starts and the most common targets are regulators.

In some cases, criticism is justified; in others, it is not. For Noble, it might look like the former but closer examination suggests the latter.

R Sivanithy

11 August 2017