EPIC management fee - Why was the $8.8m paid?

Bryan Mogridge

The announcement by Bryan Mogridge on 14 February passed as a non event in the New Zealand press. A few articles only repeated the press release.

The structure relevant to the discussion can be seen below with the directors’ names in brackets. 

George Kerr

When AEP (George Kerr and Baker Street Capital) started its takeover approach EPIC announced on 4 November 2011 that a “change of control clause” will be triggered and that EPIM “sought the consent” of EPIC to any change of control. At that time the independent directors of EPIC (Harrison and Devlin) refused consent on the basis that “a Change of Control of EPIM could constitute a "change in control" for the purposes of the shareholders' agreement for its Moto investment, which would trigger pre-emptive rights (meaning that EPIC's Moto shareholding would then need to be offered for sale to other Moto shareholders).” 

EPIC then continues to say “Consequently, EPIC has also given notice that the Management Agreement will be terminated immediately prior to any Change of Control occurring (which EPIC considers would occur if AEP received acceptances under its takeover offer which will result in AEP holding or controlling greater than 50% of the voting rights in PGC, and declaring the offer unconditional)”

Then on 15 February 2012 Pyne Gould/EPIC informs the market that EPIC is from now on managing itself by internalising the management agreement, because a) it will provide greater access to capital, and b) it will save on future management contract costs of 1% of gross assets. This comes at a cost of $8.8m. EPIC now only has the Moto investment with a current book value of $45m according to the latest annual report and the PWC valuation report on EPIC (page 13). First, we fail to see how you can now get better access to capital; the statement makes no sense and we welcome anyone that can offer an explanation. Second, 1% of $45m is $450,000.00 and to spend $8.8m to save $450,000.00 means you will wait 20 years to make up your savings. You have to wonder why did EPIC not manage itself all along and save all that money from the start. 

Margaret Devlin

When we realised that what Devlin, Duncan and Harrison (the EPIC board) are saying makes no sense to us, we thought we would dust off the EPIC management agreement with EPIM. The prospectus, including the management agreement, can be downloaded here

 

Clause 9 on page 190 of the prospectus deals with fees. 

1. The management fee (clause 9.1) is 1% of gross assets, which in this case is 1% of $45m or $450,000.00 per annum. 
2. Clause 9.5 sets out an additional transaction fee of 1% of the price and according to PWC valuation report on EPIC (page 13) the initial cost of the Moto investment was $67.66m of which 1% is $676,600.00 
3. Clause 9.6 deals with the performance fee, but we turn to note 20 of EPIC’s 2011 annual report for a better explanation (page 38), which read as follows, “The agreement prescribes that a performance fee will be paid to EPIM based on the internal rate of return (IRR) accomplished by the Moto investment on the occurrence of a Realisation Date. The Realisation Date is the earlier of 20 June 2019, or the date on which the Company sells its investment in Moto, Moto is sold or listed on a stock exchange, a change of control occurs in the Company, or the Company manager changes. EPIM shall be entitled to be paid a performance fee subject to the Moto IRR on the realisation date exceeding 9% per annum, at a rate of 20% of the calculated IRR above the required 9% threshold. As at 31 March 2010 a provision was included in the accounts for $3,530,998, and this remains outstanding at 31 March 2011. There are no other related party receivables (2010: $10,583) or payables (2010: nil) at 31 March 2011.”

 

Turning back to the PWC valuation report on EPIC (page 13) we can clearly see that the Moto investments performance is -34%, since inception and nowhere close to generating any kind of IRR, so KPMG only knows how $3.5m was accrued. It is not something that we can figure out, maybe you can.

In light of the management agreement EPIC investors should want to know how Devlin, Duncan and Harrison got to $8.8m fee.

In spite of how interesting the above might be, it is not why we are blogging about this. Our attention was grabbed by clause 13, which deals with the termination of the manager. We wish to remind you that EPIC announced on 4 November 2011 and Margaret Devlin on 16 February 2012 that a change of control clause at Moto would be triggered by the takeover of PGC by AEP, which ultimately led to the above payments. We were then somewhat surprised to find that clause 13.1 (g) clearly allows for a change of control of the “persons that control the manager” to be ground for termination of the manager (EPAM) by EPIC. The paragraph following 13.1 (g) also clearly states that “no compensation shall be payable to the Manager” in such cases. 

The way we read the management agreement between EPIC and EPIM, AEP's change of control triggered 13.1 (g). Why did the EPIC board not rely on this clause? If we were EPIC investors we would want to know, it might save you $8.8m

We will leave you with this final thought. It would also be interesting to know why the EPIC prospectus makes no mention of the claw back agreement between George Kerr and EPAM, which we mentioned here The way we understand the situation all related party transactions should be disclosed in a prospectus. George Kerr was a director of EPIM at the time of the prospectus and a signatory to that prospectus, together with John Darby, Margaret Devlin, Richard Hanson, etc. EPIM is wholly owned by EPAM and EPIM has an investment in EPIC and putting it all together would indicate to us that he is a related party and the claw back agreement is a related party transaction that needs to be disclosed. We do not know whether we are right, but it is the way it looks to us. 

Cheerio,

jA

Anderson Cooper once said, I think it's a good thing that there are bloggers out there watching very closely and holding people accountable. Everyone in the news should be able to hold up to that kind of scrutiny. I'm for as much transparency in the newsgathering process as possible.