Recent troubles in the real estate industry also spell trouble for Cytonn’s regulated clients in its Money Markets Fund and Pensions products. We recommend caution.
Author: Analyst at Large
Trouble is brewing for Cytonn’s clients. While the risk is centred in its real estate development arm; we find that Cytonn’s regulated clients (in the Cytonn Money Market Fund and Cytonn Pensions products) are as equally exposed to loss as Cytonn’s High Yield Solutions LLP clients. Additionally, we find that State Bank of Mauritius (SBM) Kenya Limited and Taaleri Oyj face losses to varying extents. Does the recent concealment of Cytonn’s historical financial statements also mean that the company is hiding the troubles apparent in its business?
CIC reports that it is selling 712 acres of land and exiting the property development business. Britam PLC is also exiting the real estate development business with plans to auction properties in Upper Hill and beyond to avoid write-downs/ losses across its portfolio. Additionally, a second developer in Athi River’s Sunset Boulevard estate is in the red as I&M Bank plans to auction 204 units to recover a KSh 2 Billion debt.
Accordingly, the banking industry reports Non Performing Loans (NPLs) to real estate developers amount to KSh 43 Billion. Cytonn has bet boldly on real estate. Since the firm offers clients, through Cytonn High Yield Solutions LLP, rates of up to 18% p.a based on loans made to its own projects, Cytonn is itself a a giant bet that property values will continue to rise by 18% p.a. The company, in its filings, has admitted that CHYS rates are based on loan pricing. Is Cytonn really a better real estate risk manager than banking and insurance firms with more established track records?
Since Cytonn PLC is a bank offering loans to its own real estate projects at 18% p.a; is it any better than local banks? Is it reasonable for Cytonn’s property values to continue to rise at 18% p.a in this environment?
We find that Cytonn’s claims are unreasonable. Similar to the banks, Cytonn is a portfolio of non-performing real estate loans. Trouble is brewing at Cytonn. This is for the following reasons:
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CIC, Britam PLC and I&M Bank PLC are selling properties where Cytonn also has property- the Nairobi satellite towns in Kiambu and Kajiado counties. According to the notes in Cytonn’s 2017 financial statements- Cytonn has properties in Kiambu County (The Alma, Taraji Heights, RiverRun Estates etc) where the greatest possibility for loss is. Banks have already moved to auction properties in these areas, fearing that lowering prices would lead to write offs and losses.
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Since Cytonn’s residential properties are also located in these areas and have the same fundamentals; then its properties are also going to lose value. Recall that through the corporate guarantee given by Cytonn PLC , these
properties underwrite the KSh 10.5 Billion in loans owed to Cytonn High Yield Solutions LLP clients
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Since, by some balance sheet estimates, Cytonn owes KSh 40 for every KSh 1 invested, even a small decline in property values (such as the 2.6% decline reported by Hass Consult in Q1 2019); would mean that CHYS clients are already losing money.
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Because properties sold at auction often sell for lower than their market value, CHYS clients are further exposed to loss. We find that in the present situation, selling Cytonn PLC’s properties would not yield enough money to compensate all CHYS clients. The properties are not as valuable.
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Cytonn’s Investor Relations page now conceals the 2017 and 2016 financial statements. It is also worth noting that Cytonn’s financial statements for FY 2018 have not yet been published yet it is 7 months into the year.
Through Cytonn Asset Managers Limited (CAML), Cytonn’s regulated clients- in the Cytonn Money Markets Fund (CMMF) and Cytonn Pensions space- are equally at risk of loss for the following reasons:
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CAML clients are still invested in the same manager (Cytonn PLC) that’s already extremely indebted to CHYS clients.
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The strategy and manager are still the same. Regulation has not changed how risky the funds are. Cytonn’s Money Market Fund claims an annual return of 10.7% p.a. Since a portion of its fund is likely invested in treasury bonds and bills earning a maximum rate of ~10% p.a; the increase in performance is because a portion of CMMF funds is invested in CHYS at 18% and consequently, Cytonn’s declining property portfolio.
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According to the Global Credit Ratings co. rating of Cytonn for FY 2018, Investment Managers at Cytonn’s B/BB ratings are judged to have a poor management and control environment
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Ratings Downgrade: Remember that Chase Bank Kenya Limited went under receivership shortly after GCR issued a corporate downgrade. Cytonn PLC’s current GCR rating implies an 83% chance of bankruptcy in 3-5 years. While we hope and wish the best for Cytonn in this regard, we advise pensions clients to avoid the company due to its riskiness.
Which of Cytonn PLC’s stakeholders have the most to lose in this environment (in order, from most at risk to least)?
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Cytonn High Yield Solutions LLP clients bear the greatest risk of loss. As at writing, they are KSh 5.8 Billion short of their principal and interest owed. The danger for CHYS clients is that the amounts reported on their books don’t tally with the amounts reported in Cytonn PLC’s financials as debts owed to them. While CHYS clients have a separate board of directors, they do not have representation in Cytonn PLC’s main board of directors where the decisions to invest their money are made.
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SBM Kenya Limited, which has loaned Cytonn KSh 650 million against The Alma is equally at risk. The property owned by The Alma is under covenants protecting the interests of TT-Africa, the project’s first lender. We do not see how SBM is protected as, according to our sources, some units have been pledged as collateral to high value CHYS clients. Who wins the tussle between SBM, Taaleri and Cytonn High Yield LLP clients? Taaleri wins; SBM next and CHYS clients last.
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Taaleri Oyj has the least to lose. While their investment in Cytonn has come in the form of property loans at 21% p.a (Cytonn’s 2017 financial statements); their status as the first lender with board representation protects them from loss. It is common for international private equity firms such as Taaleri to insist on restrictive covenants that protect their investment from loss. Such covenants would give them priority in the sale of assets (such as Cytonn’s land). Taaleri also owns the option to purchase 20% of Cytonn (which this author believes is more PR stunt than bonafide transaction as Cytonn’s reports of the transaction provided no consideration. It is uncommon for private equity transactions to close without reporting transaction values. Reporting the transaction value would also value Cytonn PLC)
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Cytonn Asset Managers Limited (CAML) clients are also at risk of loss. Given last year’s GCR downgrade and the delayed release and concealment of the 2018 and 2017 financial statements respectively; the management culture and risk management processes are still the same. Recall that Chase Bank Kenya Ltd’s receivership was preceded by a GCR ratings downgrade/ withdrawal. While there is certainly more hope for Cytonn at this point, it is unwise to recommend CAML’s services as a pensions manager due to the riskiness of Cytonn PLC, the parent company. Pensions trustees and consultants should evaluate Cytonn PLC’s financial statements
(currently unavailable on their website) before deciding whether to engage the services of CAML.
We believe that the markets have not adequately understood the risk inherent in investing with Cytonn and urge caution. While the Cytonn brand represents a youthful freshness not seen in the staid financial services industry to date; we recommend that market participants remain cautious.
Sources (in order of appearance):
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CIC sells 712 acre plots of land as bond matures: https://www.businessdailyafrica.com/corporate/companies/CIC– sells-712-acre-land-as-Sh5bn-bond-matures/4003102-5189656- 7w1vtoz/index.html
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Athi River estate homebuyers face auction: https://www.businessdailyafrica.com/news/Sh2bn-Athi–River-estate- home-buyers-face-auction/539546-5197688-i5744bz/index.html
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Britam at the brink of exiting the real estate market https://www.kahawatungu.com/2019/06/09/britam-brink-exiting-real-estate- market/
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Cytonn article on High Yield Products: https://www.cytonn.com/topicals/structured–high–yield- investment-products
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The Hass Property Index Q1 2019
http://hassconsult.co.ke/images/Q12019Residential.pdf
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Cytonn seals deal for Sh 650m loan with SBM Bank Kenya
Limited https://www.businessdailyafrica.com/markets/marketnews/Cytonn– seals-deal-for-Sh650m-loan-with-SBM-Bank/3815534-5020200- e5671wz/index.html
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Cytonn earns ratings downgrade https://www.businessdailyafrica.com/markets/marketnews/Cyton n-earns-rating-downgrade/3815534-4836374-14bcp1p/index.html
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Chase Bank Kenya Limited ratings withdrawal https://gcrratings.com/announcements/global-credit-ratings- withdraws-chase-bank-kenya-limited-ratings/
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