YuuZoo needs to show it can make money alongside governance gains

Yuuzoo Corp seems to be taking steps in the right direction when it comes to raising its corporate governance, but operational execution remains a persistent challenge at the social commerce business.

Without demonstrating any meaningful improvement in its core business, either in terms of actual usage or in terms of revenues, YuuZoo may have to incur significant impairments again this year when it reassesses the value of its franchisees.

YuuZoo made a number of moves over the past several months in an attempt to address criticism about its accounting practices and corporate governance.

The most significant was in June, when the company finally completed its annual audit for the year ended December 2016. That audit marked YuuZoo's adoption of more conservative accounting principles, especially in the way it recorded its revenues and valued the stakes that it held in its franchisees.

YuuZoo has since revealed plans to appoint an independent third party to investigate claims surrounding its accounting practices and the exit of its former financial controller. The company has also appointed an internal auditor.

On Monday, YuuZoo added two new independent directors, raising the number of independent members on its six-person board to five. Just as importantly, YuuZoo appointed a new chief financial officer, its seventh in about three years.

On the face of it, those developments offer hope that the quality of governance at YuuZoo will improve. The challenge now is to leverage any gains in governance into YuuZoo's business.

That business, a combination of online social commerce, electronic payments and gaming, has not done well since the company's backdoor listing on the Singapore Exchange in 2014.

From a purely financial perspec-tive, the company is not making any money, and is surviving by constantly raising additional capital.

In the first half of 2017, the company burned through S$3.1 million from operating and investing activities, which was almost all of the S$3.8 million in cash that it had on hand at the start of the period. But YuuZoo raised S$7.1 million from issuing shares during the six-month period, giving it a S$7.1 million cushion as at end-June.

Declining revenue

The cash burn is not simply about profit margins; YuuZoo's revenue is declining as well. The company's topline fell 17 per cent year-on-year in the second quarter of 2017, and 50 per cent in the first quarter of 2017. YuuZoo initially attributed the decline to its change to a more conservative revenue recognition mo-del. SGX, however, pointed out that accounting policy could not be the reason for the decline if 2016 and 2017 numbers followed the same policy. The company then put the decline squarely on the shoulders of lower revenue from payment streams.

Revenues, in any case, are not strictly cash in YuuZoo's case. A good S$30.7 million, or 83 per cent, of YuuZoo's first-half revenue was non-cash. That non-cash income included S$24.2 million of equity in franchisees, which YuuZoo collects instead of a cash-based franchise fee, and which the company intends to sell eventually.

The carrying value of those available-for-sale assets will eventually hinge on whether and for how much YuuZoo can eventually sell those shares.

The company's independent auditor raised this as a matter of emphasis in the latest audit report, noting that the value of these assets need to be reassessed periodically. YuuZoo argued that its franchisees could not be revalued within two years because they needed time to establish themselves in the market.

Those two years end in 2017 for many of those franchisees. About S$33.3 million of YuuZoo's available- for-sale assets come from nine entities formed in 2015 and two entities formed in 2016. By YuuZoo's own timeline, the franchisees set up in 2015 may need to be revalued this year. If YuuZoo has nothing to show for those two years, the value of those franchisees' equity may have to be impaired.

Online-based businesses sometimes require a long gestation period to turn a profit. That is understandable, but one would expect at least some kind of progress in the meantime, in terms of adoption and usage rates, to justify the wait.

YuuZoo has provided little assurance to investors on that front. The company shares little information about its franchisees, an unfortunate opacity when most of its revenue comes from franchise sales and most of its assets are in the equity it holds in those franchisees. Key metrics like how many active users they are reaching, how many users they are retaining, how often those users consume YuuZoo's services, and how much money YuuZoo's franchisees are actually making remain mysteries to shareholders. YuuZoo's attempt to blame accounting policies on its revenue decline, rather than take full responsibility for its poor business, does not instil confidence.

Attempts to estimate YuuZoo's reach through imperfect services such as Alexa or SimilarWeb also suggest that YuuZoo's popularity is dismal for a business that relies on social networks. Granted, Alexa and SimilarWeb are far from perfect measurements, but it is clear that YuuZoo does not have the heft to overcome the inaccuracies inherent in those systems.

Dearth of vibrant activity

For all the users that YuuZoo claims to reach with every acquisition or partnership that it signs, a look at YuuZoo's product websites also reveals a dearth of vibrant activity, which is worrying for a social commerce company.

YuuZoo may be debt free, but its inability to make money has it constantly raising rather expensive capital. Every time it issues new shares - under an equity facility provided by alternative investor GEM Global - it does so at a 10 per cent discount to prevailing market prices.

Improving corporate governance is a good first step to turning around a business. But YuuZoo needs a sharp trajectory change if it is to avoid further impairments and if it is to start making some actual money.

Kenneth Lim

04 October 2017