The Sime Darby Financial Fiasco Case Overview In May 2010, Sime Darby Berhad announced that its earnings may be cut by up to RM964 million due to losses in its Energy & Utilities Divisior from cost overruns in four projects. Following the announcement, its share price plunged to RM7.47 on 27 May 2010, a 10-month low. In this case, we look at some of the events leading to the loss as well as the actions taken by the board of directors in response. The objective of this case is to allow a discussion of issues such as board composition, the board's role in oversight, and responsibilities of the board versus management. Where It All Began In September 2002, the Malaysia-China Hydro JV consortium, led by ‘Sime Engineering, was awarded a contract to construct the Bakun Hydroelectric dam'. During the course of the project, plans for the construction of an undersea high voltage direct current (HVDC) cable was also initiated for the dam to relay power to Peninsular Malaysia. Although the project was scheduled for completion in the third quarter of 2007, delays in impoundment, as well as changes to the plans and disagreements over the cost of the dam, caused a significant setback to the date of completion?. “This isthe abridged version ofa cass preparedby Goh Ming ng, Muhammed Amosr S/© Moh Noor, Muhammad 1 idaham, and Kesrons oh 2x Peng unde he supervson of Professor Mak Yvon Teon and Dr Vincot Chen ‘f-Shen. Ts ave was developed rom publ sowrees sel for lass discussion ands ntintended io serve Zs ustraton of etoctve or neecive management. Cneequonty, fhe norretatons and perepoctves inthis aso are net necessary thoes ofthe ergansaone samed nthe caso, or any of ther crecors or employees ‘Tis abiyod version was prepsred by nant No Yi ulunder the superision of Professor Mak Yuen Teen Copyright © 2012 Mak Yuen Teen and CPA Australia 142The Sime Darby Fianancial Fiasco Towards the end of 2005, the management of Sime Engineering decided to bid for an engineering, procurement, construction, installation and commissioning (EPCIC) contract, commissioned by Qatar Petroleum AS (QP) for its Bulhanine Project. It was the first time that Sime Engineering had attempted to undertake a project of such scale and magnitude. The project required substantial Transportation and Installation (T&l) work, which Sime Engineering neither had the expertise nor the resources to handle. Hence, the company invited tenders from T&l subcontractors*. However, several issues plagued the company during the tender. Only one T&l subcontractor offered to carry out the full scope of work for the T&l project and the contractor was rejected by QP due to political implications. OP gave Sime Engineering time to source for new subcontractors and issued the letter of acceptance to Sime Engineering for the project in April 2006, The amounts to be received would be paid upon completion and the project was scheduled for completion in August 2008. A month later, Sime Engineering submitted a bid for another EPCIC project, commissioned by Maersk Oil Qatar AS (MOQ) and QP. Similar to the EPCIC works that they had just signed with QP, Sime Engineering had very little know-how or the resources to deal with the colossal MOQ project. Nonetheless, MOQ awarded the project to Sime Engineering in February 2007, with completion scheduled for October 2009*. With these two projects in the works, Sime Darby's Energy & Utilities {E&U) division, which included Sime Engineering after the merger, undertook a strategic decision to become a full service provider for EPCIC projects in the future. The first keystone in the plan was for Sime Marine, a subsidiary of Sime Energy & Utilities, to construct or acquire several vessels to allow for T&l capabilities within the division. Management proposed building the vessels as that would entail 27.5 per cent lower cost compared to buying the vessels at market price. On the flip side, the time taken to build the vessels would span a number of years while immediate purchase of the vessels would enable Sime Marine to provide Sime Engineering with the T&l capabilities required for the MOQ Project®. 143‘The Sime Darby Fianancial Fiasco The Sime Darby Board The board of directors had 13 members in 2009. Of the group, 12 including the chairman were non-executive. The lone executive director was the Group's CEO. Six of those directors were independent directors. The percentage of independent directors was higher than the one-third required under Bursa Malaysia's Main Board Listing Requirements. The non-executive directors included many big names. The independent Chairman, Tun Musa Hitam, had held several ministerial positions, including deputy prime minister of Malaysia, before his appointment. He was also chairman of several other listed companies. The Deputy Chairman, Tun Ahmad Sarji Abdul Hamid, was considered a non- independent non-executive director because he was a nominee of Permodalan Nasional Berhad, the Malaysian government's investment arm. He was also a chairman and director of several other listed companies. Another high-profile director was Datuk Seri Panglima Sheng Len Tao, who was an independent non-executive director. Also known as ‘Andrew Sheng, he is a chartered accountant by training, and had served as Chairman of the Securities and Futures Commission of Hong Kong, Deputy Chief Executive at the Hong Kong Monetary Authority and held various other positions at the World Bank and Bank Negara Malaysia. Trouble Looms for the Company In April 2008, potential cost overruns exceeding RM150 million on Sime Engineering's MOQ project was reported in The Edge*. Sime Darby Berhad responded by issuing a statement denying the allegations’. In August 2008, Sime Darby's internal auditor issued a report on losses in the Oil and Gas Segment (0&G) of the E&U division, which was then brought to the attention of the Audit Committee at the board level®. The group chief financial officer then, Tong Poh Keow, together with the external auditors, PricewaterhouseCoopers, had wanted a higher provision for losses than was reflected in the accounts, but did not pursue the issue as management said the losses could be recovered. 148‘The Sime Darby Fianancial In addition, the external auditors had supposedly delayed signing off the audited accounts of the division for FY2008°. In May 2010, Sime Darby announced that its second half earnings might take a big hit amounting to RM964 million’? due to losses in its E&U division. The losses were mainly due to cost overruns on projects. Of the RM964 million, RM200 million was due to a reversal of revenue recognised in the 2009 financial statements for the QP project which had already incurred losses exceeding RM500 million, RM159 million was due to the MOQ project which had already recorded a loss of RM367 million in the first half of the fiscal year, RM450 million was due to the Bakun hydroelectric dam project, and RM155 million was due to losses from the construction of some vessels in a third Qatar project". Sime Darby's shares hit a 10-month low at RM7.47 per share ahead of its earnings report on 27 May 2010". The Board’s Response “No one would criticise or point out mistakes, which proved to be Ahmad Zubir's downfall. For some top people, their loyalty was to the CEO of the day, not the company.” — Sime Darby Official’? Faced with the report from the internal auditor, the board queried the E&U division on the issue. The management team, led by Datuk Seri ‘Ahmad Zubir Murshid, explained that the company need not make full provisions as the client had agreed to reimburse some of the cost ‘overruns in due time". Since it was normal industry practice in Malaysia to have cost overruns, especially in large contracts, and this method of reimbursement had worked well for other contracts within Malaysia, the board accepted the explanation and did not pursue the matter. In August 2009, after the internal auditor issued a second report that voiced grave concems about the E&U division’, a work group was set up to review the operations of the division. Nine months later, a special board meeting was called to review the findings of the work group.‘The Sime Darby Fianancial Fiasco After the 13-hour meeting, the board asked Datuk Seri Ahmad Zubir Murshid to take a leave of absence. Sime Darby Berhad then called a news conference, two weeks before the scheduled announcement of its second quarter results, to announce the losses and Datuk Seri Ahmad Zubir Murshid’s leave of absence’. In the Wake of the Aftermath After the announcement, many ministers and concerned investors petitioned Sime Darby to take more action. Faced with mounting pressure, Sime Darby called in KPMG and Deloitte to conduct forensic audits in June 2010”. The audit investigations were concluded in November 2010. Following the investigations, Sime Darby released a statement on its website stating that the forensic audits revealed breaches of duties and misconduct within the E&U division”. However, on the advice of the Group's legal counsel, Sime Darby declined to disclose more information on the matter. In December 2010, the group filed a civil suit against its former CEO and four executives in relation to the cost overruns, seeking damages and relief totalling at least RM340 million over three loss-making projects'®. The damages sought included US$30.81 million for consultancy fees wrongly paid in the MOQ Project, RM80.51 milion for consultancy fees wrongly paid in the QP Project and US$48 million for losses arising from the failure to deliver the three marine vessels®. The four executives in the civil suit were Datuk Mohamad Shukri Baharom (former executive vice-president of the group's E&U division), Abdul Rahim Ismail (former chief financial officer of the group's E&U division), Abdul Kadir Alias (former head of the oil & gas business unit of the E&U division), and Mohd Zaki bin Othman (former senior general manager of Sime Darby Engineering)". 46‘The Sime Darby Fianancial Fiasco A Twisted Tale “The decision-making process went through many levels of detailed discussion and approval which culminated in the approval by the main board of Sime Group,” — Datuk Seri Ahmad Zubir Murshid In response to the civil suit filed by Sime Darby, Datuk Seri Anmad Zubir Murshid served third party notices to 22 other directors on the grounds that they had breached their duty as directors to exercise due skill, care and diligence and that the other directors should be held responsible as they were the highest and ultimate decision making authority’, Into a New Beginning “All announcements made by the group are being implemented, particularly in the way Sime Darby is reorganised. Each one of the divisions will have an independent board but not listed."* — Datuk Mohd Bakke Salleh Following the termination of Datuk Seri Ahmad Zubir Murshid, Datuk Mohd Bakke Salleh was appointed as the President and Group Chief Executive of Sime Darby. He was quick to implement changes. Under his leadership, Sime Darby emerged with a reorganised new look. The divisions of Sime Darby were separated and a chairman was appointed for each of the respective divisions. An amicable settlement with Maersk Oil Qatar AS regarding a dispute over claims and payment issues related to a 2007 contract was also reached. In addition, a pending lawsuit with Maersk Oil Qatar was settled with a payment of M100 million®®, The board of directors at Sime Darby also underwent many changes, with only four out of the previous 13 members keeping their positions, namely the Chairman Tun Musa Hitam, Tan Sri Samsudin Osman, Tan Sri Dato Dr Wan Mohd Zahid Mohd Noordin, and Dato Henry Sackville Barlow. New names on the Sime Darby Board included Tan Sri Dato’ Sri “7The Sime Darby Flanancial Fiasco Hamad Kama Piah bin Che Othman, currently the President and Chief Executive of Permodalan Nasional Berhad, as well as Tan Sri Datuk Dr. Yusof Basiran, currently CEO of the Malaysian Palm Oil Council (MPOC), Discussion Questions 1. The board of Sime Darby includes very experienced and high profile directors. How can such a board fail so spectacularly to safeguard the interests of the company? 2. What are the critical attributes of an effective board? To what extent does the Sime Darby board possess such attributes? 3. Should the board members also be held accountable and not just Datuk Seri Anmad Zubir Murshid? 4. On hindsight, if you were one of the directors on the main board of e Darby, what would you have done back in 2005? 148‘The Sime Darby Flanancial Fiasco Endnotes: + "Sime Darby-led consortium awarded Bakum contract”, N.D. accessed on 16 December 2011. 2 Yap, Leng Kuen. “What are the problems at Bakun Dam?”. 11 August 2010. The Star Online. 16 December 2011. 3 Sime Darby. "Material Litigation - Civil Suit in the High Court of Malaya at Kuala Lumpur against Dato’ Seri Ahmad Zubair @ Ahmad Zubir bin Haji Murshid, Dato’ Mohamad Shukri bin Baharom, Abdul Rahim bin Ismail, Abdul Kadir Alias and Mohd. Zaki bin Othman - Suit No.: D-22- NCO-2379-2010", 23 December 2010. Bursa Malaysia. accessed on 14 December 2011. * Ibid ® Ibid © ‘The Edge Financial Daily, “Major events leading to Sime Darby's energy division cost overruns’, 15 June 2010. The Edge Online. 16 December 7 Sime Darby. “Response to articles on cost overruns in Maersk Oil Qatar Oil & Gas project’, 18 April 2008. , accessed on 20 April 2011. © Francis, Isabelle. “Story of The Year: Sime's juicy fiasco takes the cake", 27 December 2010. The Edge Malaysia. 12 December 2011. “Sime plans legal action to recover $875 million losses”,17 November 2010. The Star/Asia News Network. 15 April 2011. *® Sime Darby. “Statement by Sime Darby on forensic audits", 20 September 2010. orensic_Audits.aspx>, accessed on 14 December 2017 '® "Sime Darby sues ex-CEO and 4 executives”, 24 December 2010. The Star/ Asia News Network. 20 April 2011. ® Sime Darby. "Material Litigation - Civil Suit in the High Court of Malaya at Kuala Lumpur against Dato’ Seri Anmad Zubair @ Ahmad Zubir bin Haji Murshid, Dato’ Mohamad Shukri bin Baharom, Abdul Rahim bin Ismail, Abdul Kadir Alias and Mohd. Zaki bin Othman - Suit No. D-2ANCG-2576 2010: 28 December 2010, Bursa Malays. , eeelotid 21 “Sime Darby sues ex-CEO and 4 executives”, 24 December 2010. The Star/ Asia News Network. 20 April 2011, 150‘The Sime Darby Fianancial Fiasco % "Zubir wants 22 Sime directors in lawsuit, 20 March 2011. newsedge. 16 December 2011. ® Ibid % Sime Darby forms independent board for each division, says Musa’ 31 January 2011. Bemama, 14 December 2011 ® “Sime settles Qatar oil project dispute", 26 March 2011. Business Times. 14 December 2011.